Executive summary

On 22 November 2018, the Court of Justice of the European Union (CJEU) held that it is contrary to the free movement of capital to levy a withholding tax on dividends paid to loss-making nonresident companies, whereas a loss-making resident shareholder company would have not been taxed on such dividends until the year when, if at all, they return to profitability (CJEU, 22 November 2018, C-575/17, Sofina SA and others).

Detailed discussion

Facts

For several years, the claiming companies, tax resident in Belgium, received dividends from portfolio investments in French companies. Since the participation exemption provided by the Parent-Subsidiary Directive and transposed in Article 119 ter of the French Tax Code did not apply, the dividends were subject to a 25% withholding tax, reduced to 15% pursuant to Article 15(2) of the France-Belgium Tax Convention.

The companies, which were in a tax loss position during the years the dividends were paid, claimed before the French tax authorities the refund of the French withholding tax on the grounds of its infringement to the free movement of capital (Article 63 of the Treaty on the Functioning of the European Union – TFEU). They argued that such dividends received by French resident companies, which were in a tax loss position, would not have been taxed in the fiscal years during which they were received: the dividends would have been included in their corporate income tax basis and, due to their tax loss position, no corporate tax income would have been paid for these years, the taxation being reported until profits would occur, if they occur one day.

In previous cases, the French Administrative Supreme Court held that this difference in treatment between the immediate taxation resulting from the withholding tax mechanism which applies to nonresident shareholders and the mechanism of the corporate income tax which applies to resident shareholders was not contrary to European Union (EU) law since it results in a cash-flow disadvantage recognized by the CJEU (Conseil d’Etat, 9 May 2012, nr. 342221 et 342222, GBL Energy; Conseil d’Etat, 29 October 2012, nr. 352209, SA Kermadec).

This time, considering the evolution CJEU case law, the French Administrative Supreme Court decided to refer several questions, as set forth below, to the CJEU.

• Does the cash-flow disadvantage resulting from the application of withholding tax to dividends paid to loss-making nonresident companies, while loss-making resident companies are not taxed on the amount of the dividends they receive until the year when, if at all, they return to profitability, constitute in itself a difference in treatment characterizing a restriction on the free movement of capital?
• If so, is this restriction justified by the need to ensure the effective collection of tax, since nonresident companies are not subject to the supervision of the French tax authorities, or by the need to safeguard the allocation of the power to impose taxes between the EU Member States?
• If the application of the withholding tax at issue may in principle be accepted with regard to the free movement of capital, do those provisions preclude the collection of withholding tax on dividends paid by a resident company to a loss-making nonresident company of another Member State where the latter ceases to trade without returning to profitability, while a resident company placed in that situation is not in fact taxed on such dividends?

CJEU decision

The Court ruled that the French tax legislation procures an advantage for loss-making resident companies since it gives rise to a cash-flow advantage, or even an exemption in the event of that company ceasing trading, whereas nonresident companies are subject to immediate and definitive taxation irrespective of their results.

According to the Court, it is irrelevant that resident companies might be taxed later on the dividends received since the less favorable treatment of the dividends paid to nonresident companies must be undertaken for each tax year, taken individually.

Furthermore, the Court rejected the argument that applying a withholding tax to dividends paid to nonresident companies is justified by a difference in the objective situation of resident and nonresident companies in respect of the French capacity to collect the taxation on dividends paid to these respective companies. According to the Court, it cannot be claimed that the difference in treatment is restricted to the arrangements for the collection of tax since the national legislation procures a substantial tax advantage for loss-making resident companies which is not granted to loss-making nonresident companies.

The Court also rejected the justifications based on the balanced allocation of powers of taxation between the Member States and the effective collection of tax.

Regarding the former, the Court held that providing a deferral of taxation for dividends received by a loss-making nonresident company would not deprive France from its taxing rights; the French sourced dividends would, in fact, be subject to taxation once the nonresident company became profitable during a subsequent tax year, similarly to a resident company.

Regarding the latter, the Court held that providing a deferral of taxation to nonresident companies, would not undermine the achievement of the aim of the effective collection of the tax owed by those companies when they receive dividends:

• It would be the duty of nonresident companies to provide the relevant evidence to allow the tax authorities of the Member State of source to determine that the conditions, laid down in the legislation, for benefiting from such a deferral have been met.
• Existing mutual assistance mechanisms (Directive 2011/16/EU on administrative cooperation in the field of taxation and Directive 2010/24/EU on mutual assistance for the recovery of claims relating to taxes, duties and other measures) are sufficient to enable the Member State of source to check the accuracy of the evidence put forward by non-resident companies wishing to claim a deferral of taxation of dividends which they have received.

The Court thus concluded that Articles 63 and 65 TFEU must be interpreted as precluding the legislation of a Member State, such as that at issue in the main proceedings, pursuant to which the dividends paid by a resident company are subject to a withholding tax when they are received by a nonresident company, whereas, when such dividends are received by a resident company, under the general corporation tax rules they are subject to taxation at the end of the financial year in which they were received only if the latter company was profitable in that financial year, and such taxation may, where applicable, never be levied if that company ceases trading without becoming profitable after receiving those dividends.

Implications

For future years, it remains to be seen how France and other Member States will amend their withholding tax regimes in order to comply with the CJEU decision. While the decision is not to be interpreted as condemning the withholding tax mechanism as such, it seems to require Member States to “defer” this taxation if the nonresident company receiving the dividends is loss making.

For past years, loss-making companies resident in EU Members States which received French source dividends on which withholding taxes were paid (i.e., dividends excluded from the participation exemption regime) might claim for the refund of these withholding taxes. In practice, it is usually advised to file such claims before 31 December of the year following the one during which the withholding tax was levied.

For loss-making companies resident in non-EU countries, the opportunity to file a claim should be assessed on a case by case basis:

• First, the standstill clause (Article 64 TFEU) might justify the restriction to the free movement of capital if the participation is a direct investment (i.e., the participation enables the shareholder to participate effectively in the management of that company or in its control).
• Second, the CJEU rejected the justification based on the effective collection of tax on the grounds of existing EU Directive mechanisms so that the restriction might be justified if no similar mechanisms exist between France and the non-EU country.

For loss-making companies resident in EU Member States, claiming opportunities might also exist with regards to other type of income, such as royalties¹ or capital gains, on which withholding taxes were levied (there is no French withholding tax on interest).

For companies resident in non-EU countries, the opportunity should be assessed on a case by case basis with regards to the EU freedom applicable,² possible justification based on the effective collection of tax and the previously mentioned standstill clause.

Finally, for past years, claiming opportunities might also exist in other Member States.

Endnotes

1. In practice, it should only concern royalties which do not benefit from a withholding tax exemption provided by Article 182 B of the French Tax Code or the applicable tax treaty.

2. For instance, royalties should fall within the scope of the freedom to provide services, which may not be invoked by companies resident in non-EU countries.

For additional information with respect to this Alert, please contact the following:

Ernst & Young, Société d’Avocats, Paris

• Claire Acard | claire.acard@ey-avocats.com
• Charles Ménard | charles.menard@ey-avocats.com
• Jerome Ardouin | jerome.ardouin@ey-avocats.com

Ernst & Young Belastingadviseurs LLP, Amsterdam

• Daniel Smit | daniel.smit@nl.ey.com

Ernst & Young LLP, French Tax Desk, New York

• Frédéric Vallat | frederic.vallat@ey.com
• Mathieu Pinon | mathieu.pinon1@ey.com
• Viviane Boissard | viviane.boissard@ey.com

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