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Tax avoidance: ECJ rules on the Dutch Zwijnenburg case


The ECJ ruled on the Dutch Zwijnenburg case that the benefits of the Merger Directive cannot be withheld if the principal objective of a transaction is avoidance of a tax other than the taxes directly covered by the Merger Directive. Taxand Netherlands reviews the Dutch Zwijnenburg case, the Merger Directive, the ECJ ruling and discusses the scope and interpretation of the anti-abuse clause.

Some relevant facts of the case
The case concerns a Dutch family owned fashion business which is housed in two adjacent properties. Each of the premises was held by a separate Dutch company. Property 1 was held by a company ("P BV") owned by two individuals ("the parents"). Property 2 was held by a Dutch company ("S BV") indirectly owned by another individual ("the son"). S BV also owned the fashion business. As a final step in the transfer of the fashion business from the parents to the son, S BV contributed its entire business (including property 2) to P BV in exchange for shares in P BV. Subsequently the son was to acquire the remaining shares in P BV completing the overall transfer of the fashion store business (i.e. P BV indirectly for 100% owned by the son). The contribution of property 2 to P BV was exempt from Dutch real estate transfer tax ("RETT").

The reason for using a business merger was to accomplish a transfer of property 1 to the son without Dutch real estate transfer tax being due. In addition, as a result of the business merger no capital gains tax was triggered on any difference between the fair market value and the book value of property 1. It is noted that a direct transfer of property 1 as well as a transfer of the shares in P BV would have been subject to RETT.

Merger Directive
In summary Council Directive 90/434/EEC ("Merger Directive") concludes that mergers may be necessary to achieve an effectively functioning common European market and it is therefore the Merger Directive that introduces tax rules which are neutral from the point of view of competition. In short, these rules ensure that companies can merge without being taxed on (latent) capital gains. The Merger Directive contains an anti-abuse clause which allows Member States to refuse or withdraw the benefits of the Directive when (one of) the principal objective(s) of the transaction is avoidance of tax.

The Court case
As the Directive has been fully implemented in Dutch tax law, covering both Dutch domestic as EU cross border mergers, an exemption from corporate taxation in principle applies to the merger in the Zwijnenburg case.

The Dutch tax authorities however denied the benefits of the merger facility stating that the anti-abuse rule applied in this specific case, the principal reason for the transaction being the avoidance of RETT. The lower court confirmed the view of the tax authorities. In the subsequent appeal the Dutch Supreme Court asked for a prejudicial ruling from the European Court of Justice ("ECJ") on the scope of the anti-abuse clause in the Merger Directive. The ECJ first confirmed it being competent to issue such ruling. After all, even though this is a Dutch national case the ECJ has jurisdiction since the Netherlands directly implemented the Directive into the Dutch tax code as a result of which national and cross-border restructuring operations are subject to the same merger taxation system.

ECJ Ruling
The ECJ rules that the Directive applies to mergers irrespective of the reasons - including tax reasons. Only in the context of the anti-abuse provision the reasons for the merger become relevant. It is therefore only by way of exception that the benefits of the Directive may be denied. Consequently, the anti-abuse provision must be subject to a strict interpretation. It is furthermore reasoned that the Directive only applies to capital gains taxation levied from companies or their shareholders, and only in relation to the taxes as expressly mentioned in the Directive. RETT is not covered and the Directive does not provide for any indication that it is meant to also cover any other taxes, such as RETT. The ECJ considered the aim of anti-abuse rules to protect the financial interests of member states taxes as covered by the Directive. Therefore the anti-abuse provision cannot be applied.

In summary the Directive's anti-abuse rule cannot be used by Member States to deny the benefits of the Merger Directive (as implemented in local law) if the principal objective of a transaction is aimed at avoidance of a tax, and that does not come within the scope of the Directive.

Taxand's Take

This Dutch case has turned out to be of international importance as it clarifies the scope and interpretation of the anti-abuse clause in the Merger Directive. The ECJ clearly rules that anti-abuse clauses need to be interpreted in a controlled fashion functioning as an exception to the main rule only. Anti-abuse clauses should only be applied to safeguard the financial interest of member states in relation to taxes that fall within the scope of the Directive.

The question is whether the ruling can be applied in a broader context, for instance to other European Directives. Looking at the anti-abuse clause in the Parent Subsidiary Directive, one can conclude that it is worded quite differently than the clause in the Merger Directive. This clause states that the Parent Subsidiary Directive shall not preclude application of domestic or agreement based provisions required for the prevention of abuse. This wording provides more room for Member States to act against what they deem to be abusive situations. Depending on the domestic rules this arguably could also include transactions aimed at avoiding taxes outside of the scope of the Parent Subsidiary Directive.

The ruling that an anti-abuse clause, considering its nature as an exception to the rules of a Directive, should be interpreted restrictively confirms previous ECJ rulings in this respect and in our view is not limited to the Merger Directive.

This ruling provides for certain flexibility in terms of tax planning, especially in respect of direct taxation, both in a national and an international context. In light of the above, another interesting case is pending with the ECJ (Case C-487/09) which is expected to provide more clarity on the role of the intention of a tax payer to avoid or evade taxation to allow member states to levy tax irrespective of available European Directive benefits. This case may also be quite relevant for the levy of RETT on shares in a number of EU member states. Taxand's Take will obviously inform you on any further developments in this respect.

Your Taxand contacts for more information are:
Henk de Graaf
T. +31 20 301 66 33

Jean-Baptiste Garcia
T. +31 20 301 66 33

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