On May 4, 2009, the Obama administration published a plan to curb tax avoidance that included the following statements:
- In 2004, the most recent year for which data is available, U.S. multinational corporations paid about $16 billion of U.S. tax on approximately $700 billion of foreign active earnings – an effective U.S. tax rate of about 2.3 percent.
- A January 2009 GAO report found that of the 100 largest U.S. corporations, 83 have subsidiaries in tax havens.
- Nearly one-third of all foreign profits reported by U.S. corporations in 2003 came from just three small, low-tax countries: Bermuda, the Netherlands and Ireland.
Being accused of being a tax haven prompted outrage from the Dutch government and the U.S. government withdrew the accusation. But the question remains: Is the Netherlands a tax haven? To answer this question, we shall use Wikipedia’s definition: “A tax haven is a jurisdiction that offers favorable tax or other conditions to its taxpayers as relative to other jurisdictions.” In this article, we shall show that in this particular case Obama was right: The Netherlands was and still is a tax haven, not for the ordinary Dutchman, but most certainly for internationally operating companies. Trillions flow through the Netherlands each year thanks to its favorable tax climate. There is a good reason why 80 of the 100 largest companies in the world have a holding company here.
The following figures are from 2009, the year Obama published his paper. The Netherlands headed the IMF’s world rankings for direct foreign investment. Its total incoming investments amounted to no less than $3,000 billion, while its outgoing investments totaled $3,700 billion. These figures represent 377 percent and 465 percent respectively of Dutch gross national product (GNP). By comparison, the United States, a country with a national income of over $14,000 billion, occupied second place on the IMF rankings with incoming investments of $2,300 billion dollars and outgoing investments of $3,500 billion (16 and 25 percent of GNP respectively). In other words, the ratio of GNP to foreign investment was 20 times higher in the Netherlands than it was in the U.S.
Below, we shall briefly describe a few of the tax benefits the Netherlands has to offer.
The Dutch participation exemption
Subject to meeting the conditions for the participation exemption, a Dutch company or branch of a foreign company is exempt from Dutch tax on all benefits connected with a qualifying shareholding, including capital gains, cash dividends, dividends in kind, bonus shares, hidden profit distributions, and currency exchange results. Under certain conditions, some categories of profit participating loans may qualify as well.
The participation exemption will apply to a shareholding in a company if the holding is at least 5 percent of the investee’s capital, provided the conditions are met. As a general rule, the participation exemption is applicable as long as the participation is not held as a portfolio investment. The intention of the parent company, which can be based on particular facts and circumstances, is decisive. Regardless of the company’s intention, the participation exemption also is applicable if the sufficient tax test (i.e. the income is subject to a real profit tax of at least 10 percent) or the asset test (i.e. the subsidiary’s assets do not usually consist of more than 50 percent of portfolio investments) is met.
Dutch dividend withholding tax
Dividends paid by a Dutch BV to its shareholder(s) are generally subject to a 15 percent dividend withholding tax. The withholding tax rate can, however, in most cases be reduced, often to zero, by virtue of tax treaties, the EU Parent-Subsidiary Directive, or other forms of tax planning.
Tax treaty benefits
The Netherlands has concluded tax treaties with more than 80 countries. These tax treaties:
- Reduce, often to zero, the rate of (withholding) tax on interest, dividends, and royalties paid by a resident of one country to residents of the other country.
- Avoid capital gains tax in the country where a subsidiary is located when a shareholder in the other country sells its shares.
- Avoid dual residency issues.
- Limit tax of one country on business income of a resident of the other country to that income from a permanent establishment in the first country.
- Define circumstances in which income of individuals resident in one country will be taxed in the other country, including salary, self-employment, pension, and other income.
- Provide procedural frameworks for enforcement and dispute resolution.
- Encourage cross-border trade efficiency.
- Provide certainty for taxpayers in their international dealings.
The EU tax exemption for dividends
The EU Parent-Subsidiary Directive (PSD) provides for tax exemption for cross-border dividends paid between related companies located in different EU member states. Member states are obliged to put the PSD into practice through their national laws, so that companies based in the EU’s single market of 28 member states can operate on an equal footing, regardless of where they are established.
The PSD provides for a zero percent withholding tax rate for qualifying dividends paid by a subsidiary in one EU member state to a parent company in another EU member state.
Therefore, dividends paid to a Dutch holding company by EU subsidiaries can qualify for a zero percent withholding tax rate in the country where the subsidiary is located.
Furthermore, the PSD in principle prohibits the levying of any corporate income tax on the dividend income of the parent company. For interest and royalties a similar directive applies.
Withholding tax on interest and royalties
The Netherlands does not levy a withholding tax on interest payments or royalty payments. However, interest payments to a foreign corporate or individual shareholder may become subject to Dutch income tax under limited circumstances. Interest on hybrid loans can be subject to Dutch dividend withholding tax. However, in most cases double tax treaties or the EU Interest and Royalties Directive will limit this right to tax or, more often, prevent the Netherlands from exercising this right to tax altogether. On the basis of the EU Interest and Royalties Directive, a zero percent withholding tax rate applies for qualifying royalties and interest payments between qualifying associated corporations established in the EU. A corporation is considered associated if it has cross holdings of at least 25 percent or a third corporation has a direct minimum holding of 25 percent in two other EU corporations.
Another interesting feature of the Dutch tax system is the special tax treatment of intellectual property or intangibles. Under the so-called Innovation Box regime, profits derived from intangibles that qualify for the Innovation Box regime are taxed at an effective rate of 5 percent, instead of the marginal rate of 25 percent. The Innovation Box applies to intangibles that are developed by a Dutch taxpayer and are new to that taxpayer.
The regime distinguishes between “small” and “large” taxpayers. For the small taxpayers (consolidated group turnover of a maximum of 50 million euros and a gross income from intangible assets of less than 7.5 million euros per year) an R&D certificate gives access to the Innovation Box, as well as entitlement to a payroll tax subsidy for technical innovation performed by company employees working in the Netherlands. R&D certificates are issued by the Netherlands Enterprise Agency (RVO). Large taxpayers only have access to the Innovation Box if, in addition to an R&D certificate, they also own (an exclusive license for) the intangibles.
The scheme involves administrative obligations. The taxpayer has to keep records which show the technical innovations that have been produced. Following approval by the European Code of Conduct group, the Organization for Economic Cooperation and Development (OECD) also concluded that the Dutch innovation box regime does not produce any harmful tax competition.
Tax rulings APA/ATR practice
In the Netherlands, it is possible to obtain certainty on the tax consequences of activities in advance. Depending on the intended activities and/or intended structure, you can either obtain an Advance Pricing Agreement (APA) or an Advance Tax Ruling (ATR).
An APA provides certainty in advance regarding transfer pricing issues. Typical issues to be governed by APA agreements are the prices which are charged within a group of related companies for services rendered or goods delivered.
An ATR provides certainty in advance regarding the tax consequences of certain international structures and/ or transactions. An ATR can be requested for:
- The existence of a permanent establishment in the Netherlands.
- The application of the participation exemption for intermediate holding companies or top holding companies.
- International structures in which hybrid financing forms or hybrid legal forms are involved.
The European Court of Justice habitually strikes down anti-avoidance rules
By setting up a (holding) company in the Netherlands, an EU member state, one can benefit from a great many favorable tax decisions of the European Court of Justice (ECJ). The ECJ has created a doctrine limiting the ability of EU member states to police tax avoidance, effectively making Europe more open to tax avoidance. The effect of the doctrine can best be understood by considering President Obama’s 2009 proposal to curb international tax avoidance. In its press release announcing international tax reforms, the White House stated with disapproval that “nearly one-third of all foreign profits reported by U.S. corporations in 2003 came from just three small, low-tax countries: Bermuda, the Netherlands, and Ireland.” The rules that the White House proposes strengthening are just the types of anti-avoidance rules that the European Court of Justice is striking down. Because of the ECJ’s anti-avoidance doctrine, EU member states cannot pass rules that would prevent tax avoidance in the Netherlands and Ireland – both EU member states themselves – unless they apply only to “wholly artificial arrangements.” The ECJ has made clear that far fewer transactions can be prohibited in the EU than member states would like.
A famous example of the use of Netherlands in international tax structures is the Rolling Stones. Records released in the Netherlands show that the band’s tax bill on their earnings of $450 million was $7.2 million dollars or approximately 1.6 percent. The Stones have used a structure in the Netherlands for all their royalties since 1972. A simplified example of such a structure looks as follows:
In this example, royalties paid by the Dutch Royalty Company to the foreign shareholders are not subject to any Dutch withholding tax on royalties. The paid royalties are tax deductible in the Netherlands from the royalty income received from subsidiaries. Any profits from subsidiaries can be paid out as dividends to the Dutch parent, usually at a zero percent rate, due to the participation exemption, the EU parent subsidiary directive or a tax treaty.
The foreign shareholder of the Dutch Royalty Company can be a company or foundation in a tax haven which will therefore not be taxed on its royalty income. Alternatively, it can be situated in a jurisdiction with a preferential treatment for royalty income, a jurisdiction which has concluded a tax treaty with the Netherlands, or a member state of the EU, in which case the Parent Subsidiary Directive reduces the Dutch withholding tax on dividends to zero.
The above example shows that the Netherlands can provide a valuable role in international structures, especially those involving intellectual property.
This article only provides a very basic description of Dutch tax laws. Always consult a qualified tax advisor before implementing any strategy discussed herein.