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The new (2014) substance requirements for Dutch Group Financing and Licensing companies in the Netherlands

Last updated: 11-06-2014

As from 1 January 2014, qualifying Group Financing and Licensing Companies established in the Netherlands must comply to certain specific substance requirements in order to avoid the automatic exchange of information with other states. 

This new legislation aims to avoid the improper use of Dutch Financing and Licensing Companies for treaty shopping by offering the involved Treaty Partners/EU Partners full transparency about Dutch Group Financing and/or Licensing Companies which have no or only little substance in the Netherlands. 

The new rules have direct effect and are applicable to all existing and new companies in the Netherlands. There is no grandfather rule.  
 
Below we will summarize the scope of the new substance requirements and the impact which these new rules can have on existing and new structures in the Netherlands.
 
Every Dutch company is unique and it should be judged on a case by case basis if and to what extent the new substance requirements are applicable.  
 
Please feel free to contact us for more information or if you wish us to assist you with reviewing your Dutch structure and advice on appropriate action.

Under which circumstances will the automatic exchange of information occur?
What is a qualifying Group Financing or Licensing Company?
The new Dutch substance requirements
The reduction of a foreign withholding tax
What is the risk of not complying to the substance requirements?
When need the substance requirements be met?
What can you expect from the Dutch tax office?
Appropriate action to avoid the automatic exchange of information
What we can do for you

Under which circumstances will the automatic exchange of information occur?  

For the automatic exchange of information to occur, the following conditions must be met:

  1. the Dutch company qualifies as a Group Financing and/or Group Licensing Company, and
  2. the Dutch company does not meet the substance requirements, and 
  3. the Dutch company received income for which treaty benefits or benefits under the EU Royalty/Interest Directive (i.e. the reduction of a foreign withholding tax on interest and/or royalties) are claimed   

What is a qualifying Group Financing or Licensing Company?     
 
Dutch based companies whose activities in a given year consist primarily of group financing and/or licensing activities (activity test) and who have received or accrued interest and/or royalty income (or similar income) from related parties.
 
For this activity test the holding of shares in subsidiaries should be ignored. Typically a holding company which also provides loans to foreign subsidiaries, will thus be covered by the new rules, even if the providing of loans is sub-ordinate to the holding activity. 
 
A company will not qualify as Group Financing or Licensing Company in the context of this new legislation, if it conducts other activities in the Netherlands, like trading, manufacturing, or the providing of services, which considering the allocable asset value, time spent and other relevant factors make the financing and/or licensing activity a subordinate activity (<50%). 
 
A pure holding company (i.e. a Dutch company which only holds shares in subsidiaries and which does not receive any interest or royalty income from related parties) in essence falls outside the scope of the new substance rules. 
 
The new Dutch substance requirements  

  1. At least half of the total number of statutory board members of the company with decision-making authority resides or is actually established in the Netherlands.
  2. The board members residing or established in the Netherlands have sufficient professional capabilities to adequately perform their tasks. The responsibilities of the board include, as a minimum, making decisions – on the basis of the legal entity’s own responsibility and within the scope of usual group business – regarding transactions to be closed by the legal entity and an adequate processing of transactions concluded.  
  3. The company has qualified personnel at its disposal for an adequate implementation and registration of the transactions to be closed by the company;
  4. The (important) executive decisions are taken in the Netherlands;
  5. The principal bank account of the company is kept the Netherlands;
  6. The books of the company are kept in the Netherlands;
  7. The business address of the company is in the Netherlands;
  8. The company must comply with all its tax obligations;
  9. The company is a resident of the Netherlands. To the best of the company’s knowledge, the company is not considered a fiscal resident by another state;
  10. The company runs real risks with respect to its financing, licensing or leasing activities.
  11. The company has at minimum an appropriate equity that corresponds to its functions performed. 

The conditions 1 to 10 relate to the operational substance. The conditions 10 and 11 constitute economical substance requirements.
 
Some of these (operational and economical) substance requirements have been clarified in published (ruling) policy statements. For example the ruling policy explicitly includes the possibility that the company can use employees of a third party for proper implementation and registration of the transactions entered into by the company. Moreover, the main bank account should not necessarily be held at a Dutch bank, but the company should have full authority over its bank accounts. It is assumed that these clarifications are still valid. 
 
From an economical perspective (conditions 10 and 11), a company must run real business risks in relation to its financing/licensing activities. In general the company must run more than pure operational risks and it must have sufficient equity to absorb these risks in case they materialize. For financing companies, guidelines are given in the ruling policy (Advance Pricing Agreement or APA) and the Dutch Tax Act. Relevant risks explicitly mentioned in the APA ruling policy are the credit risk (bad debt risk and currency risk) and market risk. At least one of these risks must be born by the company. This requirement typically disqualifies the fully matching back-to-back loan agreements, whereby a company runs (virtually) no business risks.  
 
With regard to the level of risk required a safe haven is provided, in fact a minimum requirement for the equity at risk. The equity requirement is supposed to be met, if the company has a (realistic) equity at risk of at least 1% of the amount of outstanding receivables or, if this is lower, € 2,000,000. For licensing activities also a minimum equity requirement applies which can be used as a safe haven. 
 
The reduction of a foreign withholding tax
 
The exchange of information will only occur if the Dutch company indeed benefits from reduced foreign withholding tax rates on the basis of applicable Dutch tax treaties or the EU Royalty and Interest Directive, or foreign domestic legislation based thereon.
 
This means that the automatic exchange of information will not occur if typically

  • a foreign state does not levy a withholding tax, or if 
  • the Dutch company does not claim such benefits. 

The latter could typically occur if a Dutch finance/licensing company does not incur sufficient risk with its financing/licensing activity (minimum equity requirement) and for this reason alone it does according to the Dutch tax laws not qualify for foreign treaty/ EU benefits. 
 
When need the substance requirements be met?
 
The new substance requirements apply from 1 January 2014 and will then continuously apply.
 
What can you expect from the Dutch tax office?
 
In most cases the substance issue will materialize when the Dutch tax office processes an annual corporate income tax return, or sooner, when the Dutch company makes an application with the Dutch tax office for a residence certificate (generally required to effectuate a reduction of foreign withholding tax on the basis of applicable tax treaties).
 
However, the tax office currently also spontaneously investigates individual companies. We have already received standard questionnaires for various clients. 
 
Under the new legislation it is not possible for the Dutch company to object against the exchange of information and the Dutch tax office has (no longer) the obligation to notify the Dutch company about an (intended) exchange of information.
 
In theory the exchange of information could thus occur without the Dutch company having any knowledge about it, albeit in practise we see that the Dutch tax office first approaches the Dutch company for gathering the required information and for determining whether or not the new substance requirements are applicable and if this is the case, to what extent these substance requirements are actually met.  
 
What is the risk of not complying to the substance requirements?
 
If a Dutch company falls within the scope of the new legislation and it does not meet the substance requirements, the company must

  1. indicate which requirements are not met, 
  2. provide all necessary information for the tax authorities to determine which of the substance requirements are met, and 
  3. provide an overview of all interest, royalty and similar payments for which a reduction of (withholding) tax has or could be claimed under any tax treaty or the EU Interest & Royalty Directive. 

This information can then be exchanged by the Dutch tax office with the tax authorities of relevant other states, enabling them to assess whether the benefits of the Tax Treaty or EU Directive have been applied correctly, and possibly to refuse to grant these benefits (the reduction of the WHT rate on interest/royalties) in the future or even to recoup such benefits already granted in the past.
 
It cannot be excluded that the exchange of information will result in other actions from the tax authorities in the other state, like a refusal to deduct the interest/royalty expenses for the levy of corporate tax from the payee, or an attack of the structure as a whole.    
 
Appropriate action to avoid the automatic exchange of information
 
Virtually every Dutch company which is involved with providing loans or licenses to related parties for which it claims a reduced withholding tax rate in another state, should take notice of the new substance requirements. 
 
The non-compliance to the substance requirements is likely to result in an automatic exchange of information, even if the improper use of tax treaties or EU Directive was not intended.
 
We recommend that every Dutch company which falls under the scope of the new rules, reviews its own situation to determine whether or not it currently meets the substance requirements. In many cases, the substance requirements will be met, or can easily be met by upgrading internal procedures for board meetings, etc.      
 
For situations where this is not the case, it is recommendable to considerer a restructuring of the Dutch operations in such a way that either the Dutch company will fall outside the scope of the new substance rules or that it will be capable to meet the new substance requirements.
 
We advise that you consult your Dutch tax advisor for guidance on this topic. Alternatively we are gladly prepared to assist you with a review of your current Dutch structure and advice on solid solutions.
 
What we can do for you
 
We can assist you with reviewing your Dutch structure and advise you on solid solutions for avoiding the automatic exchange of information. 
 
Please feel free to contact Ton Smit (Ton.Smit@taxci.nl) or Edwin Veele (Edwin.Veele@taxci.nl) at our Amsterdam or Rotterdam office respectively: