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Hybrids: Weighing the Options

Peter Kavelaars

For decades, the use of hybrids has been a common practice. On one hand, this involves hybrid financing, which combines characteristics of both equity and debt. From a tax perspective, it becomes crucial to determine whether it is treated as equity or debt, considering that dividends are generally not tax-deductible, while interest is. Additionally, there are hybrid entities—entities that are fiscally transparent in one country andindependently taxable in another. These entities can lead to double non-taxation or, conversely, double taxation. In recent years, the EU and the OECD have focused on preventing double non-taxation, resulting in complex tax rules in many countries.

Characteristic of these rules is that they don't fundamentally solve the issue of hybrids. They often ensure that practical taxation occurs somewhere, but a more fundamental solution would involve all countries applying the same criteria for hybrid financing and entities. However, this is challenging due to each country's desire to maintain its own legal and tax systems. Yet, a partial and more principled solution is conceivable, particularly regarding hybrid entities. While the Netherlands has addressed this to some extent, there is now legislation ready to regulate it more effectively and systematically. This could be a valuable approach for the legislator in Curaçao to consider.

Several qualification methods exist, with the Netherlands traditionally using the legal form comparison method. This method compares a foreign legal form with a Dutch legal form, determining transparency based on the similarity to a Dutch (transparent) partnership or a non-transparent capital company. Although this method is now being legally codified as the basic method, other methods may be applied depending on circumstances.

a. The fixed method: Applicable to a foreign entity fiscally located in the Netherlands, assumed to be similar to a capital company and therefore treated as non-transparent.

b. The symmetric method: Applicable to a foreign entity located in another country earning Dutch income or a foreign entity in which a Dutch entity participates. The qualification follows the legislation of the entity's country of residence.

If a foreign entity cannot be qualified based on these methods, it is considered transparent. This creates a comprehensive system for classifying foreign entities operating in the Netherlands. While a simpler system, applying the symmetric method universally, could eliminate qualification differences between countries, potential issues of dependency on other countries' legislatures and unequal treatment may arise.

In the context of this Dutch legislative initiative, it's noteworthy that the corporate income tax liability for the so-called open limited partnership is terminated. This means that limited partnerships, whether open or closed, will now be transparent for corporate income tax purposes. This change aims to simplify the system. In Curaçao, a similar distinction exists, making it worthwhile to consider whether such an adjustment would be beneficial for profit tax purposes.


Peter Kavelaars is a Professor of Tax Economics at Erasmus University Rotterdam and of counsel at Deloitte Dutch Caribbean.

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