The anti-base erosion rule (art.10a CIT) denies deduction of interest on debt, directly or indirectly, owed to related entities or related individuals, if such debt is legally or de facto, directly or indirectly, connected with a ’tainted’ transaction (such as certain dividend distributions, capital transactions and/or (external) acquisitions).
Exceptions to the denial may apply if the taxpayer demonstrates:
- That both the intra-group debt financing and connected the underlying “tainted” transaction are predominantly motivated by sound business reasons (Business Test); or – in principle –
- That the interest on the loan received by the creditor is sufficiently taxed (i.e. effective tax rate of at least 10%) and determined under Dutch tax rules in the hands of the recipient (which does not have loss carry forwards at its disposal).
Unless the tax inspector substantiates that despite the 10% tax the debt or related transaction is not driven by business motives (“subject to tax test”).
The Dutch Supreme Court ruled on 21 April 2017 that a taxpayer meets the Sound Business Test if the taxpayer has demonstrated that the intra-group debt owed to a related party is de facto owed to a third unrelated party (i.e. the internal debt is funded by external debt under equal so-called ‘parallel’ loan conditions), irrespective of whether the taxpayer is able to demonstrate that the transaction for which the debt was incurred is driven by sound business reasons. In other words, the double test was effectively reduced to a single test.
It is now proposed that a taxpayer should demonstrate that both the debt and the tainted transaction are predominantly entered into for business reasons (“Double Sound Business Test”). The amendment will have effect per January 1, 2018, if adopted by the Dutch Parliament.
The interpretation by the Supreme Court of the double business motive test of article 10a CITA differs from the application by the Dutch tax authorities of the test in practice. The Dutch Tax Authorities examine the sound business motive of the underlying transaction separately from the sound business motive of the intra-group debt financing.