The Netherlands - Tax Developments in the Year 2003
By the Amsterdam Tax Department
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Thin capitalization rules introduced as per fiscal year 2004
By far the most interesting event in 2003 for the Dutch tax practice
was the ruling of the European Court of Justice (ECJ) in the case Bosal
Holding BV v. State Secretary of Finance on 18 September 2003. In this
ruling the ECJ held that the provision in the Dutch Corporate Income Tax
Act (CITA), denying the deduction of interest expenses incurred by a Dutch
corporate taxpayer in connection with its EU resident subsidiaries was incompatible
with the principle of freedom of establishment as laid down in the EC Treaty.
|"Following the ECJ ruling, the
Dutch legislator abolished the general rule denying the deduction
of interest expenses incurred in connection with foreign subsidiaries
and introduced thin capitalization rules."
Following the ECJ ruling, the Dutch legislator abolished the general
rule denying the deduction of interest expenses incurred in connection with
foreign subsidiaries and introduced thin capitalization rules and rules
relating to loss compensation by pure holding companies. This legislation
was adopted on 18 December 2003 and entered into force on 1 January 2004.
Under the new thin capitalization rules, a taxpayer cannot deduct any
interest expenses incurred with respect to so-called “excess debt.” Whether
a taxpayer is considered to have excess debt is determined on the basis
of the statutory debt-to-equity ratio of 3:1 or the group ratio, if the
latter is more beneficial to the taxpayer. An important relaxation of the
rules is that the amount of non-deductible interest is limited to the balance
of the interest received and the interest due from related entities.
The GT Amsterdam Tax Department has developed a calculation model
to instantly establish the excess debt position of Dutch corporate taxpayers.
Furthermore, it is noted that the loss compensation rules are restricted
with respect to “pure” holding companies. Detailed rules determine when
a company qualifies as a “pure” holding company.
Proposed changes affecting the Dutch participation exemption and the
tax treatment of conversion of distressed debt
In December 2003 a proposal of law was submitted to the Dutch Parliament,
which limits the deductibility of acquisition costs in respect of participations
and sharpens the conditions under which a temporary write-off of newly acquired
participations can be claimed. Furthermore, it is proposed to change the
tax treatment of a conversion of distressed debt into share capital.
Acquisition costs of participations
The Dutch legislator has proposed new rules in connection with the deductibility
of acquisition costs. Under the proposed rules the deduction of expenses
related to the acquisition of shareholdings qualifying for the Dutch participation
exemption is denied. As a result, the acquisition costs should be included
in the cost price of the relevant participation.
By introducing these rules with retroactive effect, the State Secretary
intends to reverse the effects of an earlier Supreme Court ruling. Tax practitioners
are heavily criticizing this retroactive effect, arguing that it is in conflict
with the European Convention on Human Rights.
Temporary write-off on newly acquired participations
Under the Dutch CITA a write-off on a shareholding qualifying for the
participation exemption is not tax deductible. However, under certain conditions
a temporary write-off on a participation is allowed during the first
five years after its acquisition. The participation can be written off to
the extent the fair market value of that participation falls below the acquisition
price. The write-off is however recaptured by disallowing the benefits of
the participation exemption during the first five years after the acquisition.
If at the beginning of the sixth year after the acquisition the write-off
has not yet been fully recaptured, the remainder is recaptured in equal
installments in that year and the following four years.
In practice, schemes aiming at the avoidance or postponement of said
recapture were widely set up. To counteract these schemes it has been proposed
to sharpen the conditions to be met for applying this provision. The proposed
measures will, in cases where this facility has been misused, have a retroactive
Conversion of distressed debt
The Dutch CITA currently contains a provision which requires a Dutch
debtor to report a taxable profit in the event of amongst others a conversion
of distressed debt into share capital. The debtor is deemed to realize a
profit to the extent that the book value of the debt exceeds the fair market
value of the corresponding receivable of the creditor.
Following extensive criticism it has now been proposed to abolish this
provision and to tax only the creditor upon the conversion of debt into
share capital. The proposed new provision applies where a creditor has taken
a bad debt deduction with respect to a receivable to a qualifying participation.
In the event of a conversion or forgiveness of distressed debt, the creditor
should include in its taxable income the amount of the bad debt deduction.
The profits realized as a result of the conversion are not immediately taxed,
but should be added to a special reserve. The reserve needs to be released
to the taxpayer’s taxable income to the extent the value of the participation
increases after the conversion.
© 2004 Greenberg Traurig
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This GT ALERT is issued for informational purposes only and is not intended
to be construed or used as general legal advice. Greenberg Traurig attorneys
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