Supreme Court clarifies conditions for dividend withholding tax credit

Introduction

On 19 January 2024, the Supreme Court pronounced an important judgement on the right to credit dividend withholding tax against corporate income tax due. The judgment dealt with the question who qualifies as the beneficiary to the income (opbrengstgerechtigde) and the beneficial owner (uiteindelijk gerechtigde) of dividends received for tax law purposes. The person who included the dividend income in their taxable profit must have both capacities to be eligible for crediting dividend withholding tax withheld.

Facts

The case concerned a private limited company that was incorporated in 2006 and was part of a group that carried on banking business (hereinafter: the interested party). Its sole shareholder was a UK-based company (hereinafter: the parent company). The shares in this company were held by another UK company (hereinafter: the grandparent company).

The grandparent company acted as the group’s European stock exchange dealer. The interested party bought shares in Dutch stock exchange funds (AEX shares) and sold futures contracts with the AEX shares as underlying value. It also lent out its acquired AEX shares to the grandparent company. This trading strategy was terminated in FY 2012/2013.

The interested party had a securities deposit account registered in its name with a French bank, which acted as the depositary. After the AEX shares were lent out, they were transferred to the grandparent company's securities deposit account at the same bank. In return, the interested party among other things received a ‘stock lending fee’.

The grandparent company recorded the redemption of these share loans just before dividend was paid on the lent AEX shares. The dividend was subsequently paid to the interested party. Shortly after the dividend payment was made, the shares were transferred back to the grandparent company's securities deposit. An amount of EUR 39,249,246 in Dutch dividend withholding tax was withheld from the dividends received in FY 2007/2008.

The dispute is whether the interested party is entitled to credit this amount against the corporate income tax it owes for that financial year under article 25 of the Dutch 1969 Corporate Income Tax Act (hereinafter: the CITA). The interested party argued that it is entitled to do so. But following a tax audit, the Tax Inspector took the position that the interested party did not qualify as the beneficiary to the income and the beneficial owner of the dividends, and was therefore not entitled to credit the dividend withholding tax withheld. Hence, an additional corporate income tax assessment for FY 2007/2008 was imposed in 2014. The Tax Inspector also issued a decision requesting information (informatiebeschikking) in 2015, arguing that the duty to keep and retain records had been violated.

Appeal

On appeal, the Amsterdam Court of Appeal ruled in favour of the Tax Inspector. The Court of Appeal argued that the interested party was no longer the legal owner of the AEX shares after they were lent out. According to the Court of Appeal, the repeated redemption of lent AEX shares by transferring them back to the interested party’s securities deposit prior to the dividend payment date is not based on a legal basis for transfer of property.

In case the interested party does qualify as the legal owner, the Court of Appeal considered that it is not the beneficial owner of the dividend proceeds. The Court argued that, in this case, interposing a party without any economic interest created a greater right to dividend withholding tax credit. The actual involvement of the interested party in the course of events would be minimal.

During the court hearing, the interested party also expressed the view that it had a permanent establishment in the UK, to which its profits should be attributed. However, the Court of Appeal found this argument out of time, arguing that adopting a new position at the hearing would be contrary to due process. Moreover, the Court of Appeal did not consider it plausible that such a permanent establishment existed either. The court held that the additional assessment had been rightly imposed.

The Court of Appeal also found the decision requesting information to be justified. According to the Court of Appeal, the interested party’s accounting records do not provide sufficient evidence of which legal acts were performed on behalf of which parties with regard to the AEX shares. These deficiencies are so serious that reversal and aggravation of the burden of proof is justified. The interested party lodged an appeal in cassation against these judgments and the State Secretary lodged a conditional cross-appeal in cassation.

Supreme Court

Beneficiary to the income
The Supreme Court ruled that the words “on whose behalf the dividend withholding tax is withheld" (art. 25 CITA) refer to the beneficiary to the income. The starting point is that only the person who is entitled to the proceeds of shares under civil law can qualify as the beneficiary to the income. If the right to the proceeds of a share is not split off, as a rule, the holder of the shares will be regarded as the beneficiary to the income. If the Tax Inspector disputes that a taxpayer has that status, it is up to that taxpayer to establish facts and make a plausible case that it is the beneficiary to the income.

Beneficial owner
The exception included in article 25(2) CITA, as a result of which crediting of dividend withholding tax withheld is not possible after all, refers to the situation in which the recipient of the dividends qualifies as the beneficiary to the income but not as the beneficial owner. The basic principle here is that a beneficiary to the income who has free and personal power of disposal over the income received, and does not act in an agency or fiduciary capacity, qualifies as the beneficial owner. However, if the beneficiary to the income performs a quid pro quo in connection with the proceeds, as part of a series of transactions, they are not regarded as the beneficial owner by operation of law. What is to be understood by a ‘series of transactions’ is detailed in article 25(3) CITA.

Limited interpretation of dividend stripping measure
The legislative history of article 25(2) and (3) CITA shows that the legislator intended to leave it to the courts to interpret the concept of ‘beneficial owner’. But it cannot be deduced from that legislative history what conditions, requirements and circumstances the legislator had in mind. Nor have any examples been included that could indicate in which cases a beneficiary to the income qualifies as the beneficial owner and what factors play a role in this. The examples given relate only to cases where there is a series of transactions, and precisely where the beneficiary to the income does not qualify as the beneficial owner. The Supreme Court therefore concludes that in article 25(2) and (3) CITA, the legislator aimed to exhaustively regulate the cases in which a beneficiary to the income cannot be regarded as the beneficial owner. It is up to the Tax Inspector to argue, and in the event of a dispute to make it plausible, that this exception applies.

Discussion of grounds for cassation
The Supreme Court then addressed the grounds of cassation raised by the parties. In cassation, the AEX shares must be assumed to be book-entry securities. Since the Supreme Court considers the holding of these shares to be decisive in respect of qualifying the recipient as the beneficiary to the income and this is a property law issue, under the Dutch regulations on international private law the legal system of the country in which the depositary is established is leading. Consequently, French statutory provisions on book entry securities must be used to assess who qualified as the holder of the AEX shares when the dividend payments were received in FY 2007/2008. The Court of Appeal erred in failing to do so.

Furthermore, the Court of Appeal assigned too broad a scope to the dividend stripping measure (article 25(2) and (3) CITA). As stated before, this is an exhaustive statutory provision. In other cases, a beneficiary to the income who can freely dispose of the income and who does not act as an agent or fiduciary qualifies as the beneficial owner.

The Court of Appeal declaring the argument of the assumed presence of a permanent establishment in the UK to be out of time does not stand up to scrutiny either. After all, the report of the hearing shows that the Court of Appeal had raised this point itself. The interested party then responded by raising the presence of a permanent establishment as an alternative position. The Supreme Court argued that the Court of Appeal should have considered this circumstance when assessing whether due process of law was violated. Substantively, the Supreme Court ruled that in respect of the application of article 5(6) of the NL-UK Convention, the Court of Appeal should have placed the burden of proof on the Tax Inspector. After all, the latter had invoked this provision, under which no permanent establishment is present if a Dutch company does business in the United Kingdom through an independent representative acting in the ordinary course of business.

Referral and settlement
The Supreme Court referred the case to the The Hague Court of Appeal to re-examine whether the interested party can be considered to be the beneficiary to the income and beneficial owner of the dividends received, taking into account the Supreme Court’s interpretation of these concepts. The Court of Appeal to which the case is referred must also assess the parties’ statements that have not been dealt with so far, including the Tax Inspector’s reliance on fraus legis.

The Supreme Court itself decided on the case regarding the decision requiring information. This decision cannot be upheld because the missing records are irrelevant for tax purposes and, hence, are not part of the accounting records as referred to in article 52 of the State Taxes Act. The interested party’s stock lending system shows the share loans outstanding at any given time and the related payments. The accounting records thus meet the legal requirements.

Source: HR 19 January 2024, 20/01884, ECLI:NL:HR:2024:49