Doing business in The Netherlands - How to finance your Dutch business ?

The optimal finance structure for your Dutch business will in first instance depend on the operational needs of your business.

The solvability of your company is an important factor in the market place. The parties with who you are going to do business (banks, suppliers, clients and partners) are likely to prefer a party furnished with high equity.

Once you have decided on the permitable amount of financing from an operational perspective, you may want to look into an optimal tax strategy for the financing of your business.

In general there are three different ways to finance transactions and investments:

1. by using net equity
2. by using loan capital
3. utilising hybrid instruments

Each of these three forms of financing has its owns fiscal implications. Companies also have their own particular reasons - either fiscal driven or not - to prefer one or another form of financing, which may be for example a limitation of liability, maximum flexibility or a profit depending remuneration.

In general terms, loan financing is from a Dutch tax perspective more beneficial than equity financing, because under normal circumstances:

1. the issuance of a loan and the repayment of a loan has no Dutch tax implications (provided at arm's length conditions are met)  
2. interest payments are tax deductible, whereas dividend payments are not 
3. outbound interest payments are not subject to a withholding tax, whereas dividends are in essence subject to a 15% withholding tax at source

It is noted that that if the foreign lender is a qualifying substantial shareholder in the Dutch company, or it is directly or indirectly related to such a party, the interest may become subject to Dutch corporate or personal income tax if this substantial shareholding does not belong to the equity of an enterprise. We note that in most cases, tax treaties prevent the Netherlands to exercise this right on taxation.

If the shareholder of the company is a Dutch resident company, the second and third point become les relevant. Normally speaking a Dutch resident company is subject to tax for interest received against the same rate as the company which pays the interest, and normally the dividend withholding tax rate is 0% if the Dutch parent can claim the participation exemption.

For foreign shareholders the financing with loans is in most cases more favourable than the financing with equity. Under certain circumstances however, the equity financing of a Dutch company can still be a preferred option for foreign shareholders. This could for instance occur in the following situations:

• the Dutch tax rate is lower than the tax rate in the country of the shareholder so that interest expenses are preferable allocated at shareholders level
• the Dutch business is not expected to become profitable in the direct future (interest expense would only increase the loss and not result in a direct tax benefit) 
• the shareholder has no efficient structure in place to shelter interest income from taxation 
• the Dutch company can allocate the equity to a foreign branch as a consequence of which it is eligible for an exemption from Dutch taxation

When a Dutch company is funded with loans certain limitations apply. The most important limitations for loan financing are:

1. to the extent loans are to be qualified as capital according to the Dutch criteria they will be treated as capital for Dutch tax purposes (substance over form and capital resemblance test) 
2. interest paid on loans which fall under the definition of profit sharing loans is not tax deductible and is subject to Dutch dividend withholding tax 
3. interest paid on certain categories of loans (usually resulting from inter-company transactions) can only under stringent conditions be tax deductible 
4. interest paid on intra-group loans which exceed the maximum allowed 75% loan funding are in general not tax deductible (thin capitalisation rule)
5. interest paid on loans provided by qualifying group companies will only be tax deductible to the extent the conditions of the loan are at arm’s length and certain documentation requirements are met (transfer pricing)

Net equity financing requires a legal entity with a capital divided into shares, like a Dutch BV. A branch can also be funded with equity, but this will then in legal terms relate to the funding of the foreign head office. For Dutch tax purposes the equity of a Dutch branch is determined through allocation of assets and liabilities.

Capital contributions into a BV, for example in exchange for new shares or as share premium by meaning of cash or in kind, or equity allocation to a Dutch branch are not subject to Dutch capital registration tax (has been abolished).

The return on equity in the form of dividend may attract 25% Dutch dividend tax at source. By virtue of applicable tax treaties (many countries concluded bilateral agreements to prevent double taxation) in many case the dividend tax is reduced to even nil. For an overview of the Dutch treaty rates we refer to the page Withholding taxes on outbound payments. Within the EU a directive is in force, binding for all EU member States, which conditionally forbids the levy of withholding taxes on dividend payments to major corporate shareholders.