Contents:
Page:
Historical
Background…………………………………………………………………….…….... 1
Compatibility
of our CFC taxation rules with the EU Treaty…………………………………. 3
Cadbury Schweppes and the “business purpose”
test……………………..…………………… 5
The
concept of “business purpose” in Swedish tax
law……………………………………….... 6
Relationship
between Member State anti-avoidance measures and
Community
Law……………………………………………………………………………………………….... 8
Disregard
of legal entities for tax purposes……………………………………………………... 9
Permanent
establishment of a wholly artificial
CFC…..…………..………………................... 10
Swedish
held CFCs in the European Community…………………………………………...…. 11
Cadbury
Schweppes and the future………………………………………………………..…… 11
The “Columbus Container”
case………………………………………………………………... 13
Conclusions………………………………………………………………………………………... 14
Historical background
With flags flying and proud declarations to
protect the Swedish tax base, Sweden launched its first CFC taxation
regime in 1991. Very soon, however, it was discovered that, instead
of counteracting abusive international tax planning, the new regime
actually developed into a very efficient and lucrative instrument
for such purposes! The main reason herefor was that, whereas
the rules took indirect holdings into consideration for the purpose
of determining control over the foreign company, they only applied as
such to first tier investments in non-treaty states.
Therefore, in order to avoid CFC taxation, low tax and tax haven
companies, which would have been subject to CFC taxation if held
directly by a Swedish shareholder, would simply be set up as
subsidiaries to holding companies in tax treaty states! Also, which
gave rise to further and quite substantial tax base erosion due to
the idea that foreign CFCs should be taxed as foreign partnerships,
losses of CFCs were fully deductible against the income of the
Swedish controlling company. Only after a number of years was the
embarrassment of this legislative “mistake” corrected. By that
time, according to Tax Administration estimates, treasury losses had
risen to about 8 billion SEK.
In the early 2000s a new round of CFC
legislation, effective January 1, 2004, took place, mainly in order
to coordinate it with our new participation exemption regime.
The main features of these new CFC taxation rules
which are still in force are as follows:
They kick in at a
level of ownership or voting power of 25% or more of the foreign
corporation. Most important is that also second and third tier etc.
foreign companies now fall under CFC treatment.
The income of the
CFC, assessed under Swedish rules for business income (with some
minor exceptions), is taxed in Sweden in the hands of the
shareholder if the tax levied in the foreign jurisdiction is less
than 15.4% (corresponding to the Swedish corporate tax of 28% on
55% of the income).
The (underlying)
tax levied in the foreign jurisdiction on the CFC is creditable
against the Swedish tax payable by the shareholder.
There is a comprehensive list
covering
every country in the world under which CFCs are either
subjected to tax assessment in Sweden according to section 2 above
or, and most importantly, completely exempted from CFC treatment
regardless of any low taxation.
[1]
The lists mentioned above (under 4) have the
advantage of providing almost absolute predictability. In most
cases, with a map of the world in one hand and the CFC list in the
other, it is thus immediately possible to foresee if a foreign
company will be targeted for CFC taxation in Sweden or not.
[2]
The white list is
very extensive, comprising no less than 153
countries. And there are
numerous companies in these
countries that are taxed at rates
far below 15.4%. The
blacklist covers only 54 countries, almost all of them notorious tax
havens. The grey list which targets only low-taxed CFCs
engaging in inter-company financial services, banking or insurance
activities but excludes all other types of businesses, covers 21
countries out of which 7 are EES-countries.
Therefore ,
in effect, the number of CFCs
affected by our CFC tax regime, except those that have been set up
in pure tax havens, is extremely small.
[3]
There seems to be very little ongoing litigation on CFC tax matters.
Probably it is thus fair to say that Sweden’s CFC taxation regime
is among the most lenient in the world. My own experience of Swedish
controlling shareholders that have effectively been subjected to CFC
tax treatment is nil. But I have advised a number of clients of how
to avoid CFC taxation. And this is maybe the only economic result of
our CFC tax regimes - they keep lining the pockets of us tax
practitioners!
[4]
It also appears that the approach by the finance
department and the tax administration to CFC taxation is quite
lackadaisical. The Government bill from 2004 devoted no less than a
full page to the requirement that the tax administration should
carefully follow up the practical experiences of the new CFC
legislation and report back to the finance department no later than
June 30 2007. A recent request (by me) for a copy of this report
gave rise to quite some consternation at The National Tax
Administration (Skatteverket) which finally declared that no such
report existed! They blamed the finance department for not having
followed up their intention in the Government Bill with a formal
request for the report. And the present finance minister blames the
Government of the former and ousted social democratic party for the
negligence. So the contrast between the high-flying declarations to
protect the Swedish tax base and the indifference in practice to do
so is stark.
Consequently, our CFC regime so far has probably
been of more interest to fiscal law professors, scholars and other
tax analysts in general than to tax payers.
Compatibility of our CFC taxation rules
with the EU Treaty.
Our rules on CFC taxation have never made any
exception as such for CFCs in the Member States of the European
Community.
[5]
This, in the run-up to the 2004 legislation, gave
rise to a very vociferous and uncompromising reaction from academic
circles and strong corporate tax payer lobbies as being in
conflict with basic Community rules of free establishment under
articles 43 and 48 of the EU Treaty. See articles by professor Nils
Mattssons published in Svensk Skattetidning in Skattenytt no 4/2004,
Jur.Dr. Lars-Erik Wenehed in IUR/INFO, no 1/2004 and Gunnar Rabe of
the Federation of Swedish Enterprise in Skattenytt nr
1-2/2004.
I, on the other hand, like a Don Quijote,
defended the Swedish Government’s position that the Swedish CFC
rules did not violate the Treaty. The article that I produced hereon
was, however, and to my great disappointment, denied publication in
the Swedish tax periodicals. (It was subsequently published in my
own Webb-journal on International Taxation in Sweden no 1/2004, in
Swedish only). More hereinafter.
Interesting to note in this context was that the
Government Bill actually devoted no less than sixteen pages
to the CFC regime’s relation to Sweden’s international commitments.
This is quite extraordinary because it is always taken for granted
that the Government never proposes legislation which violates such
commitments!
At a seminar in late 2003 arranged by the Swedish
IFA Branch to discuss the new CFC legislation and professor Nils
Mattsson’s aforementioned (draft) article , Sweden’s no doubt most influential
authority on international taxation, Professor Emeritus Leif Mutén, even went so far as dismissing the Government’s opinion as
representing nothing but “pure pettifoggery” (ren
brännvinsadvokatyr)! Further, at a meeting with The Tax Law Club
(Skatterättsliga Klubben) in early 2004 professor Sven Olof Lodin,
former Head of the Tax Department of the Federation of Swedish
Industries and ex-president of the International Fiscal Association,
sharply criticized the Government for having presented the new CFC
regime without considering the expertise that had rejected it as
being non-compatible with the EU Treaty. Mr. Krister Andersson , who
is present Head of the taxes at the Confederation of Swedish
Enterprise, also slated the legislator for its CFC policies in an
article in Svensk Skattetidning (2004 page 72), mockingly titled
“CFC-rules as a means for reducing prosperity”.
With the advent in 2006 of the Cadbury Schweppes
plc. ruling (C-196/04) by the ECJ, the matter has now been resolved
in favor of the opinion professed by Professor Mutén et consortes.
And I (slightly tipsy from too much brännvin) have found that the
“lance I drew” for compatibility of our CFC regime with EC law
is broken!
The ECJ has thus concluded that taking advantage
of a low tax rate in a Member State in itself cannot be qualified as
an abuse of Community law. It also found that the UK’s CFC
regulations were indeed in violation of the principles of free
establishment within the community according to articles 43 and 48
of the Treaty unless, however – and this is what has attracted
everybody’s attention - the legislation is limited to apply only
to “wholly artificial arrangements” designed to avoid the
national tax which is normally due. The ECJ emphasized that an
actual business of the CFC must be performed in the host Member
State for an indefinite period. The Court described this as an
endeavor to assist in the economic and social interpenetration
within the Community by means of establishing a subsidiary in the
host Member State. That finding had to be based on objective factors
that are ascertainable by third parties, in particular with regard
to the extent to which the CFC physically existed in terms of
premises, staff and equipment.
In compliance with the Cadbury Schweppes ruling a
third round of CFC legislation (Government Bill, Prop. 2007/08:16)
has taken place and become effective as of January 1, 2008.
[6]
These new rules will probably clear most low-taxed CFCs established
in the seven EES-countries on our grey-list from CFC taxation in
Sweden. The new legislation also brings with it very interesting
aspects of Community law and possibly also anti-tax avoidance
matters in general. The remainder of this report will provide some
thoughts hereon.
The main feature of the new rules is that the
income of a CFC which has been set up by a Swedish shareholder
within the European Economic Space (EES) – the Member States plus
Iceland, Norway and Liechtenstein - shall not be considered to be
taxed at a low rate of tax (for the purposes of our CFC legislation)
if the shareholder can prove that the CFC represents a “real
establishment engaged in genuine business operations” (en
verklig etablering från vilken en affärsmässigt motiverad
verksamhet bedrivs). The purpose of the establishment of the
CFC must be to participate and assist for an indefinite period and
for economic gain in the commercial and economic environment of the
Community and not just for the purpose of achieving tax benefits.
This corresponds broadly, it is suggested, with
the so called “business purpose” doctrine developed mainly in
common law countries, which requires that a tax payer have a reason
other than the avoidance of taxes for undertaking a
transaction or a series of transactions.
[7]
Only if the investor furnishes proof to this effect will he escape
the CFC tax treatment of the Member State.
Cadbury Schweppes and the business
purpose test
This is the first time, at least as far as
international taxation is concerned, that a business purpose test
has been introduced and some of its criteria carefully chiseled out
in Swedish tax legislation (Chapter 39 a, paragraph 7a of the Income
Tax Law).
The purpose hereof is thus (page 21 of the
Government Bill) to determine whether the foreign company
constitutes such a “wholly artificial arrangement” as mentioned
in the Cadbury Schweppes case. All relevant circumstances are to be
taken into account. Some of these, however, have been considered
typically indicative of whether the establishment is of such a
“true” or “real” economic nature required. Thus, the new
Swedish rules, emulating the ECJ ruling, prescribe that the CFC have
its own premises in order to distinguish it from so called letterbox
companies in which the company only has a postal address and that it
have requisite equipment for carrying out its responsibilities. (The
reference to letterbox companies seemingly gives rise to the
presumption that such companies are always wholly artificial!) As
further evidence of the existence of a “real” establishment,
attention is focused on the presence of sufficient and suitably
competent personnel of the foreign corporation and that the day to
day operations thereof shall be carried out independently by them
without the influence or involvement of staff from the CFC’s
parent company or any other company within the business group.
During the legislative process there has been an
impassioned discussion within tax practitioner circles as to whether
the Swedish text “a real establishment engaged in genuine business
operations” (
en verklig etablering från vilken en
affärsmässigt motiverad verksamhet bedrivs) actually conforms
to the meaning of a “wholly artificial arrangement” used by the
ECJ in Cadbury Schweppes. Several commentators have thus argued that
the latter expression is much narrower than the text of the Swedish
law.
[8]
The Swedish government, however, has dismissed this criticism and
stressed that a wholly artificial arrangement is indeed
characterized by its absence of business purpose. The Swedish
expression thus serves to elucidate the meaning of a “wholly
artificial arrangement”. The Government admits that the
terminology of the Swedish text to a certain degree differs from
that of the ECJ in Cadbury Schweppes but concludes that its business
purpose/motivation test does not impose further demands than those
of the ECJ in Cadbury Schweppes. Moreover, a Member State when
adapting its legislation to ECJ rulings is not obliged to use the
exact terminology in its domestic legislation as that used by the
ECJ. The important thing is that the principles of its rulings are
appropriately reflected in the national laws of a Member State.
[9]
The Government further emphasizes that later judgments by the ECJ,
indeed, with special reference to Cadbury Schweppes, have used the
term “business reasons”. One such ruling is C-524/04 (Test
Claimants in Thin Cap Group Litigation versus Commissioners of
Inland Revenue, REG 2007 I-0000) concerning the UK thin
capitalization rules. In this judgment the ECJ concluded that the
tax payer in all situations where a fictitious arrangement cannot be
ruled out shall be given the opportunity to provide information
regarding all business reasons that have justified the arrangement.
Also, in ruling C-231/05 (OY AA, REG 2007 I-0000) regarding the
Finnish group contribution rules, the ECJ expressed its views
regarding the creation of fictitious arrangements that lack business
purpose. In these two rulings the ECJ thus establishes the
connection between fictitious or artificial arrangements and the
absence of business motivation. An analysis of these arguments thus
leads to the conclusion that the liberties within the Common Market
on free establishment, free movement etc. are available for tax
purposes only so long as the underlying behavior of the EU citizen
is justified by other than tax considerations. The repeated
reference hereto by the ECJ, it must further be understood, reveals
the existence of a general principle in this regard always to be
considered by the judge regardless of whether or not it is expressly
postulated as such in the pertinent legislation.
The concept of business purpose in
Swedish tax law.
In contrast to the tradition of many common law
countries, the experience we have from legal practice in Sweden of
such doctrines as “business purpose”, “commercial motive”
and “economic substance” all of which according to Anders
Hultqvist
[10]
can be considered synonymous with the more general term “non-tax
purpose” as anti-avoidance measures in tax matters is quite
limited. It is therefore very interesting to observe how these
principles are now “nestling” their way into our tax system by
“command” of the ECJ!
This, however, is a development which is to be
welcomed considering the ever increasing aggressiveness of tax
planning which, in my experience, so often is completely denuded of
any business purpose considerations. In both domestic and
international
corporate tax planning it is especially common
that, in order to achieve the intended avoidance of tax, various
(and sometimes quite many) companies are set up for these purposes.
Only very seldom are other than the tax avoidance purposes
considered in these situations. A quite provocative example of such
an arrangement occurred in the mid 90s when the family members and
(controlling) shareholders of the large Spendrup company, which is
listed on the Swedish stock exchange, in a lightning series of transactions
transferred their shares to a personal Liechtenstein trust, setting
up in the process and, as it appeared, immediately closing down no
less than sixteen companies in various tax haven and other suitable
tax jurisdictions.
[11]
A further arrangement involving the setting up of
a company which has been stirring up a lot of controversy in Sweden
is the so called “interest spinner”. Apart from the tax
advantages derived from the company’s receipt of a group
contribution from a Swedish company being offset by a deduction for
an interest payment to a tax haven group company the further
economic substance of the company formation can be quite obscure.
Thus, the Tax Administration concluded that the formation of the
interest spinning company, apart from its tax advantages, was
completely meaningless from a business purpose point of view.
The trend of encouraging business purpose
considerations in tax matters seems to be growing with regard also
to general anti-avoidance rules (GAAR) and other look-through or
similar anti-avoidance approaches. In the summing up of her recent
(and quite brilliant) doctoral thesis on our GAAR
[12]
Ulrika Rosander, at the Jönköping International Business School,
has strongly recommended (page 248) that Sweden should emulate the
Canadian experience of allowing the adoption of “economic
substance” as a supplementary means for the understanding of our
GAAR. She recognizes the difficulties involved herein but
nevertheless concludes that it is possible and indeed easier to
determine the criteria for “economic substance” than those for
establishing the elusive meaning of “the purpose of the
legislation” which presently is the defining element of our GAAR.
She rejects the problems of the reversed burden of proof (page 249)
and its impact on the legal security of the tax payer, convincingly
arguing that this will affect only transactions where there is no
economic substance. Quite boldly she even suggests that taxpayers
engaging in transactions that lack economic substance should not be
entitled to the same degree of legal security!
Another influential and strong supporter of
“economic substance” in tax avoidance matters is (the Tax
Commission of) the International Chamber of Commerce (ICC) in Paris
that “speaks for the whole international business community in
dialogue with governments and intergovernmental organizations on
developments in international tax policy and legislation”. In a
policy statement of June 27, 2000 on “The Application of
Anti-Avoidance Rules in the field of taxation”, the Commission (of
which I at the time was a member), in what was generally a very
critical review and rejection of the growing tendency of tax
authorities in many countries to re-characterize or disregard
transactions in tax assessments based on interpretations of their
Anti-Avoidance Rules, nevertheless concluded, that to the extent
that such rules (or abuse of law or its equivalent) are adopted,
the application thereof “should be limited to exceptional
cases in which there is no economic substance and no
substantive business reason for a transaction (emphasis
added). Economic substance is a business test based on all facts and
circumstances of a transaction and mechanical tests should be
avoided”.
An important development is currently also taking
place in Germany regarding “business purpose” in tax avoidance
matters. The German Government is thus presenting a tax bill in
which it, with regard to the anti-avoidance clause in section 42 of
the German General Tax Code (Abgabenordnung), is incorporating a
definition of “abuse”. This term will be defined as an unusual
legal arrangement that results in a tax benefit for which no valid
non-tax reason exists. As a result, if the tax authorities can prove
that a legal arrangement is unusual, the tax payer will have to
demonstrate the existence of non-tax reasons for the approach taken.
An arrangement or structure will be considered “unusual” if it
is inconsistent with what the legislature, in applying generally
accepted views, assumed would be employed to achieve certain
economic aims.
It will be very interesting to see to what extent
the principles of “business purpose” and “economic substance”
will have an impact on our tax courts in the future.
Relationship between Member State
anti-avoidance measures and “abus de droit” under Community Law.
In the Bill to the Swedish CFC legislation which
has now been put in place the Government has been engaged in a
discussion about the relationship between the CFC legislation and
our GAAR. It agrees in principle with the opinion of the Swedish Bar
Association that the latter rule is consistent with the views of the
ECJ of what is possible for the national legislator regarding the
prevention of tax avoidance and that nothing should thus prevent the
GAAR from being applied to cross-border situations within the
Community. Nevertheless, concludes the Government, the specific CFC
rules are necessary to address the special situation that occurs in
these regards.
Stig von Bahr, a former judge of both the Swedish
Supreme Administrative Court and the ECJ, in a recent article
regarding tax avoidance and Community law
[13]
including also an analysis of Cadbury Schweppes, has demonstrated
that the ECJ maintains a strong aversion to the acceptance of
artificial arrangements on formal grounds. He further concludes with
regard to non-harmonized legislation such as direct tax legislation
that, if a transaction/arrangement within the Community constitutes
“pratique abusive” or “abus de droit”
(förfarandemissbruk/rättsmissbruk) under Community law, the
liberties provided under the EU Treaty such as for instance the
right to free establishment are not available. The Member
State is thus free to impose whatever measures it sees fit to
counteract tax avoidance of whatever kind. If, however, with regard
to inter-community transactions/arrangements, the tax payer can
convincingly demonstrate that he has sound business or other non-tax
motivations for his behavior and that there is no “abus de droit”
under Community law the Member State cannot enforce its domestic
anti-avoidance legislation or other measures of such nature.
An even more interesting question is, if an
inter-community transaction is considered “wholly artificial”
under Community law and thus not entitled to Community privileges
but is not caught by any domestic Member State anti-avoidance
measure, can then the Swedish court invoke the EU’s “abus de
droit” to declare the transaction as tax avoidance? Under all
circumstances it would seem quite unsatisfactory if a wholly
artificial arrangement preventing the tax payer to invoke EC Treaty
privileges would escape domestic Member State anti-avoidance
intervention. If so, it would be appropriate that Member States
adapt their anti-avoidance regimes so that they comply with the ECJ.
Disregard of legal entities for tax
purposes
Also to be taken into account, generally, as far
as CFCs are concerned and demonstrating, too, that our courts are
not completely unaffected by business purpose considerations in anti
tax-avoidance matters, is the principle of “disregard of a legal
entity for tax purposes”. This was a topic to which a ‘full’
IFA congress was devoted in 1989 in Rio de Janeiro.
[14]
The relevance of this principle with regard to CFC taxation is of
course that the very nature of such taxation embodies a disregard
for tax purposes of a legal entity! CFC taxation represents a
“look-through rule” imposing tax upon the shareholder as if the
CFC did not exist.
As emphasized in the 1989 Swedish national report
the principle itself of disregard of a legal entity has been widely
accepted by the Swedish Supreme Administrative Court. In an
international tax context two specific rulings RÅ 1969 fi. not
1084-1087 and RÅ 1969 not 1591 were quoted where such disregard
occurred. In both cases the Court, for reasons that can be assumed
as adopted for nothing but the total absence of business purpose,
disregarded (looked through) an arrangement where a Swedish company,
dealing under arm’s length requirements with a foreign subsidiary,
had set up an intermediate Swiss re-invoicing company in Switzerland
for the sole purpose of stepping up the acquisition cost of certain
equipment delivered by the first mentioned subsidiary, denied the
Swedish company a deduction of the marked-up price of the Swiss
company. The interesting point about these cases is that the Court
did not apply the normal rules for adjusting non arm’s length
prices but went so far as disregarding the Swiss company completely
for tax purposes. The Court did not even bother to consider whether
the price determined by the Swiss company was at arm’s length! The
explanation hereto, it must be assumed, was that the establishment
of the Swiss company was indeed “wholly artificial”, the only
purpose of it being to re-invoice and jack up the price to be paid
and deducted by the Swedish company. It demonstrates that the Court
does certainly not ignore business purpose as a means to combat tax
avoidance. Therefore, possibly, the “disregard principle” could
be applied to a wholly artificial foreign (controlled) company where
ever it may be established regardless of any CFC tax law!
The discussion in Sweden has been quite intense –
Ulrika Rosander’s work is a good example hereof – as to whether,
beside the GAAR, other legal practice methods such as “look-through”
etc. for repressing tax avoidance are recognized in Sweden
[15].
Apart from the national report thereon from the 1989 IFA congress, the principle of disregard of legal entities for tax purposes has,
however, attracted little attention. Maybe it is time for a
revival hereof.
Permanent establishment of a wholly
artificial CFC
If a foreign CFC is considered “wholly
artificial” because it has neither premises nor personnel nor
equipment etc. in the pertinent Member State consideration should
also be given to the question whether such a CFC has a permanent
establishment in the state where it has been set up. Where, one must
ask oneself, is the business by such a CFC carried on. Because it
must be assumed that a CFC even if it is wholly artificial in its
host state must nevertheless have a permanent establishment
somewhere! In many such cases one may conclude that the CFC,
to quote article 5 of most tax treaties, has “a fixed place of
business through which its business is wholly or partly carried on”
in the country of the controlling shareholder because it has its
“place of management” or “office” located there.
In these cases one would of course not need any
CFC rules. One would simply subject the foreign CFC to taxation in
the state of the shareholder because it has a permanent
establishment there, effectively attaining the same tax result as a
CFC taxation! The only difference is that the tax is borne by the
foreign CFC and not the shareholder. Interesting to note is indeed
the fact that the criteria for determining whether or not the
foreign CFC is a “real” establishment according to the ECJ are
very similar to those for determining the meaning of “permanent”
establishment according to the OECD (Model Treaty), i.e. that the
enterprise shall have an office or other fixed base of business, a
place of management etc. at its disposal in the pertinent country.
A consequence of such a solution would mean that
one would not run into any problems caused by the EU rules on free
establishment etc. and it would also absolve the taxing (permanent
establishment) state of giving credit for any foreign taxes!
Worth noting, however, is that in these cases the
tax administration will have the burden of proof for securing
the primary taxing right of the permanent establishment state.
Swedish held CFCs in the European
Community.
The CFCs in the Cadbury Schweppes case were two
subsidiaries in Ireland that took care of the group’s financing
activities, the profits of which were geared to be favorably taxed
under the so called “International Financial Services” tax
regime in Dublin. It is understood that these specific Irish
subsidiaries were finally cleared by the UK court of reference as
genuine/real investments and were thus not considered wholly
artificial. This is not surprising as the kinds of activities
performed by these types of finance companies are generally, it is
suggested, of such a nature that they indeed require physical
presence by a qualified staff, offices and business equipment etc.
As already mentioned Sweden’s CFC taxation of
Member State companies applies only vis-à-vis seven EU and
EES states (Belgium, Cyprus, Estonia, Iceland, Ireland, Luxembourg
and the Netherlands). In addition, and which has also been noted,
such taxation comes into play only with regard to banking, finance,
insurance etc. activities, but not with regard to companies involved
in “normal” business operations nor foreign holding or passive
investment companies owned by Swedish investors. Such companies are
white-listed regardless of how little tax they pay.
A Swedish held CFC engaging in such (financial)
activities as just mentioned is thus likely to be considered as such
a real establishment engaged in genuine business operations required
by Cadbury Schweppes and our new CFC taxation rules. Therefore it
can be anticipated that the number of cases where Swedish CFC
taxation with regard to European CFCs will finally take place will
be extremely small. Considering, however, the inexperience in Sweden
regarding the meaning of such expressions as “wholly artificial”,
“business purpose” etc. it can also be expected that many of
those investors that are affected will nevertheless seek advance
ruling guidance in these matters. A reason herefor is of course
that the types of activities in which these low-taxed companies are
engaged will invariably involve very large amounts of money.
Cadbury Schweppes and the future.
As already explained above, the bottom line of the
Cadbury Schweppes ruling is that a tax payer where ever resident in
the Community may freely enjoy a low taxation of his foreign income
derived in the Community without that income being subjected to a
higher level of taxation in his home jurisdiction by way of a CFC
taxation regime. Professor Mattsson in his article in Skattenytt was
also quite clear on this point: “If a Member State were permitted
to frustrate the tax payer’s right to enjoy an advantageous tax
climate in another Community State by adding on a higher tax in the
state of his residence, the principle of free establishment in my
opinion would lose all reasonable credibility.”
The only condition for a Member State to enforce
a CFC tax is that the transactions or activities giving rise to the
income are based on wholly artificial arrangements or, as determined
in the framing of our new Swedish CFC rules, that the CFC does not
represent a “real establishment engaged in genuine business
operations”. If therefore the investment in the CFC is based on
sound business or commercial reasons the imposition of an
(additional) and higher tax in the home country of the investor
constitutes a violation of his liberties of free establishment and
free movement etc. which is guaranteed under the EU Treaty.
If so - and this was the argument I high-lighted
at the 2003 IFA Branch meeting and wrote in my subsequent
Webb-journal article in 2004 - what would happen if a Swedish
company or a Swedish resident individual instead of setting up a CFC
in a low tax EU jurisdiction were to use a permanent establishment
or a partnership in that same jurisdiction for his investment? The
income of such a permanent establishment or foreign partnership,
with very few exceptions in certain tax treaties applying the
exemption method, is subject to tax in Sweden and a credit is
provided for the foreign tax.
For all practical purposes such a permanent
establishment or partnership would consequently be subjected to
exactly the same taxation as a CFC. A significant difference
is of course that the taxation of a foreign permanent establishment
or a partnership is even more severe in that it applies regardless
of the level of tax in the host country or the level of
participation in the investment.
Consequently, if the setting up of the permanent
establishment or a partnership in the EU is not wholly artificial,
should not Sweden’s rules of subjecting the income of the
permanent establishment or partnership to taxation in Sweden
according to its normal credit of foreign tax rules for relieving
double taxation also be considered to be a violation of the
Treaty? What is the difference between this situation and Cadbury
Schweppes? Why should not the investor be allowed to enjoy a lower
tax in the (EU) of a permanent establishment or a partnership just
like the investor using a CFC in that same country? Surely they must
enjoy the same liberties as a limited liability CFC.
And why stop at company taxation! Consider for
instance a Swedish resident board member of a company in another EU
state collecting a director’s fee for his services in that company
or a Swedish golf professional earning prize money from a tournament
in another Member State. Such incomes are invariably subject to
primary taxation in the state of the company and in the state of the
golf tournament respectively, usually at a much lower rate of tax
than that in Sweden. Could then such a director or golf professional
invoke Cadbury Schweppes to prevent such taxation in Sweden?
In this light Cadbury Schweppes casts a shadow on
the very foundations of basic principles of international taxation!
Thus, it brings into doubt the applicability of the capital export
neutrality principle as such and indeed also the credit of foreign
tax method as a means for relieving double taxation. Professor
Wolfgang Schön of the Max Planck Institute in Germany in his
British Tax Review article (2001, no 4) on “CFC Legislation and
European Community Law” expressed this opinion very unequivocally:
“It is submitted that those who take the view that capital export
neutrality cannot be reconciled with the basic ideas of the Common
Market should ask themselves whether they also consider the credit
method contrary to the Treaty”.
The “Columbus Container” case.
It
is unfortunate that the capital export neutrality problem was not
even addressed in Cadbury Schweppes. Everyone just concentrated on
the "abuse" topic so a more systematic approach was
missed.
In the recently adjudicated ECJ case regarding
Columbus Container Services BVBA & Co (C-298/05) this issue has
now been resolved. In this case the German Tax Authorities had
applied a domestic anti-avoidance provision in its
Aussensteuergesetz whereby the exemption system, even when a tax
treaty was applicable, may be exchanged for a credit of foreign tax
and imputation system if a foreign investment, which in this case
was a partnership in Belgium to be taxed in Germany as a permanent
establishment, had obtained a Coordination Centre Tax Regime ruling
and was subject to a low tax (30 percent or less) in Belgium.
According to information submitted by the Columbus company the
replacement of the exemption method by the credit method had
increased the tax burden of Columbus’ partners by 53%.
In the
view of the Advocate General Paolo Mengozzi, in his opinion on March
29 2007, dovetailing the conclusions reached in Cadbury Schweppes,
the enforcement of such a rule by Germany was considered contrary to
the freedom of establishment principle in the Community, unless it
was demonstrated that the investment in Belgium was wholly
artificial and intended to get around Germany’s national
legislation.
The ECJ, however, rejecting this opinion
completely, came to the conclusion that article 43 EC “must be
interpreted as not precluding tax legislation of a Member State
under which the income of a resident national derived from capital
invested in an establishment which has its registered office in
another Member State is, notwithstanding the existence of a double
taxation convention concluded with the Member State in which the
establishment has its registered office, not exempted from national
income tax but is subject to national taxation against which the tax
levied in the other Member State is set off”.
An important
argument in the ECJ’s reasoning (paragraphs 40 and 54) was that
since partnerships such as Columbus did not suffer any tax
disadvantage in comparison with partnerships established in Germany,
there is no discrimination resulting from a difference in treatment
between those two categories of partnerships. In this regard the
Court affirms its position regarding the so called
“migrant/non-migrant test” in e.g
Terhoeve, Eurowings and
Baars[16]
Columbus
had declared that the provisions of the Aussensteuergesetz in issue
lead to a distortion of the choice between different types of
establishments. Accordingly, Columbus would have avoided application
of those provisions if it had chosen to pursue its activities in
Belgium through a subsidiary which was a company with share capital,
and not through an establishment such as that in issue. In this
respect, the ECJ responded, that it must be recalled that the fiscal
autonomy embodied in double taxation conventions are designed to
eliminate or mitigate the negative effects of the functioning of the
internal market resulting from the coexistence of national tax
systems.
Conclusions
As noted above our new rules on CFC taxation are
likely to be useful for avoiding such taxation because the low-taxed
companies in Europe targeted under our legislation in most cases
will be able to prove that they are not wholly artificial. Taking
into account too that the so called Code of Conduct between the
Member States of the EU will completely eliminate the problems of
low taxed corporations in Europe in the near future, it could be
worth while considering, as several commentators (including myself)
have suggested in the past, to completely abolish CFC taxation in
Sweden with regard to the Community.
As far as taxation of foreign permanent
establishments is concerned,Sweden, with the exception of a few tax
treaty countries, adopts the credit of foreign tax method.
Consequently the income of a foreign permanent establishment of a
Swedish company is always subjected to tax in Sweden regardless of
the level of tax imposed in the host country. Considering the quite
favorable CFC tax rules in Sweden and the consequences of, on the one
hand of Cadbury Schweppes and on the other hand the Container
Columbus cases, the number of investments in foreign permanent
establishments and partnerships in low-tax countries are likely to
become quite negligible.
From a tax analyst’s viewpoint it will,
however, be interesting to see, regarding Swedish CFCs in Europe,
how the new “business purpose” and “economic substance”
concepts will be applied by our tax courts and to what extent these
principles in general will take further root in Swedish legislation
and tax practice in the future. As discussed above it also paves the
way for wider considerations regarding e.g. disregard of legal
entities, permanent establishments etc.
Stockholm March 2008
peter.sundgren@gmail.com
[1]
For more extensive information (in English) on Sweden’s
participation exemption rules and the 2004 CFC taxation regime
together with a comprehensive CFC black and white list of all
countries in the world, see article by this author at www.skatter.se
“Participation exemption and Controlled Foreign Corporation (CFC)
taxation in Sweden – new instruments for international tax
planning”.
[2]
It should be noted that this is a
statutory list and that
amendments thereto consequently can only be carried out by the
Swedish Parliament. Foreign corporate tax changes that justify
additions to or deletions from our CFC black or white lists thus
give rise to a very complex legislative procedure (which will mean
that changes will occur very seldom). Together with the new round of
CFC legislation the Government has, however, taken the opportunity
to call for CFC list changes regarding, (if I may be allowed to say
so), the rather obscure countries of Bulgaria, Cyprus, Iceland,
Morocco, Serbia-Montenegro and Hungary. Instead one should entrust
the Tax Administration with the task of adjusting the CFC lists more
informally on a current basis.
[3]
It is possible, however, that there is a sizeable number of
non-reported low-taxed CFCs in non-treaty countries which do not
exchange tax information that should be subjected to CFC taxation,
especially among such companies that were established before 2004.
[4]
A further valuable tax planning point regarding Swedish individual
shareholders of foreign CFCs is the possibility to defer the second
level of the double taxation of company profits by borrowing the
funds of the company. This is also widely exploited by Swedish
shareholders of Swedish companies who, in the absence of any
exit-tax rules, have expatriated their companies to foreign holding
companies. Sweden has a rigorous criminal law forbidding
shareholder/company loans but it applies only to Swedish companies.
The tax authorities have demanded that similar rules be introduced
for tax purposes regarding also foreign companies but this has so
far been ignored by the tax legislator.
[5]
In contrast, the 1991 CFC regime excluded all tax treaty countries
which, at the time, also encompassed all of the Member States of the
EU except Portugal. Today, however, Sweden and Portugal are tax
treaty partners.
[6]
It should be noted that there is no constitutional obligation for a
Member State to formally implement ECJ rulings in its national
legislation. Considering, however, the difficulties frequently
involved in analyzing and interpreting such rulings and their
practical consequences it is wise to do so.
[7]
See US national report page 607 by William P. Streng and Lowell D.
Yoder to the 2002 IFA congress on “”Form and substance in tax
law”, Cahiers de Droit Fiscal International Volume LXXXVIIa.
[8]
Cecilia Gunne, in a newsbrief from Burenstam & Partners
(September 2007), even went so far as labeling the new legislation
as a general amplification instead of a limitation of the Swedish
CFC-regime!
[9]
Germany is also in the process of adapting its Foreign Transaction
Tax Law (Aussensteuergesetz) section 8 (2) to Cadbury Schweppes.
Thus an income of a CFC will not be regarded and taxed as income of
the German parent company if the CFC has its registered office or
place of management in the EES and the tax payer can prove that the
CFC carries on a genuine economic activity in the country in which
it is resident.
[10]
“Legalitetsprincipen vid inkomstbeskattningen”, Juristförlaget
1995.
[11]
See articles hereon by this author in IUR/INFO no 1-2/2001 (in
Swedish).
[12]
”Generalklausul mot skatteflykt”, JIBS Dissertation Series
No.040
[13]
Skattenytt nr 11/2007 sid 644- 651
[14]
Cahiers de Droit Fiscal International, Volume 74b. 1989
[15]
See also her national report to IFA’s 2002 congress in Oslo on
”Form and Substance in Tax Law”, (Cahiers de Droit Fiscal
International 2002, Vol.87a.)
[16]
C-294/97 (1997) ECR I-7447, C-18/95 (1999) ECR I-345 and C-251/98
(2000) ECR I-2787
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