Transfer pricing mismatches
The government has presented a bill that aims to combat avoidance of (Dutch) corporate income tax through international interpretation differences on the arms length principle; also called transfer pricing mismatches. The intention is to introduce new provisions in the Dutch corporate income tax act effective for financial years starting on or after 1 January 2022, that no longer allow a downward adjustments in situations where another state does not impose a corresponding upward adjustment. The proposal is to a large extent in line with the consultation document published in March but is more elaborate in its provisions and contains some welcome clarifications.
No corresponding upward adjustment
If a foreign entity grants an interest free loan to a Dutch BV, under current law, the Dutch BV would be entitled to deduct an arms length interest expense on the loan, irrespective of whether a corresponding interest revenue is taken into account at the level of the foreign entity. Under the proposal, BV is only allowed to deduct the interest to the extent that the foreign entity includes an arms length interest revenue in its tax base. The interest income must be subject to a tax on profits. This is the case if the other country levies profit tax and the amount of the corresponding upward adjustment would be included in the tax base for profit tax there. Similar rules apply if a loan would be provided to a foreign entity, agreeing on an interest rate that is higher than an arms length rate. The proposal includes details and explanatory examples on how to determine the relevant related party for the purpose of the new rules.
Situations of a transfer pricing mismatch under the proposal may also arise in situations of double deduction. Such situations could exist where costs are incurred and deducted at the level of an entity, where according to local transfer pricing rules the costs would belong at the level of another associated entity (as well). If the Dutch BV would be this other group entity, the deduction would be denied based on the proposed rules.
Basis for depreciation
In case an asset is transferred by a group entity to a Dutch BV, the Dutch BV would in principle be entitled to value the asset at fair market value for Dutch corporate income tax purposes. If, however, the transferring entity would only take into account a lower value than the fair market value of the asset in its tax base, the new provision would require the Dutch BV to take into account that lower value as the appropriate value for corporate income tax purposes. For the purpose of this rule, assets may include both operational business assets as well as receivables. A similar rule is provided for debts.
The proposal includes specific rules to address structures with (reverse) hybrid entities. In short, two situations involving a hybrid entity can arise:
- a transaction between a Dutch BV and a reverse hybrid entity (i.e., an entity that is transparent for Dutch tax purposes and non-transparent for local tax purposes): from a Dutch tax perspective, the participants in the reverse hybrid entity should in principle make a corresponding adjustment to allow a downward adjustment at the level of the Dutch BV. The reverse hybrid entity is the relevant related entity for the purpose of the proposed rules. Hence, only to the extent that a corresponding upward adjustment is made at that level, a downward adjustment may be made at the level of the Dutch BV; and
- a transaction between a Dutch BV and a hybrid entity (i.e., an entity that is transparent for local tax purposes and non-transparent for Dutch tax purposes): under the proposal, a corresponding upward adjustment at the level of the participants in the hybrid entity may be taken into account provided the hybrid entity is treated as tax transparent locally. This also applies if the ownership chain consists of multiple hybrid entities.
Contributions and distributions
Compared to the consultation document, an additional rule was introduced to cover situations in which an asset is transferred to a Dutch taxpayer via a formal capital contribution or dividend distribution (including liquidation proceeds and repayments of share capital). Under the proposed rule, assets that are transferred to the Dutch taxpayer via such a transaction are treated similar to asset transfers that are subject to the new rules for depreciation basis (see above). This means that for assets that are transferred in a financial year starting on or after 1 January 2022, the carrying value for Dutch corporate income tax purposes is in principle limited to the value that is taken into account at the level of the transferor.
Entry into force and transitional law
As mentioned, it is intended to introduce the new legal provisions for financial years starting on or after 1 January 2022. Only in relation to the limitation of the depreciation/amortization base, the rules can have retroactive effect under the following conditions:
- the Dutch taxpayer received an asset from an associated entity in a financial year that started in the period from 1 July 2019 and 1 January 2022 (the consultation document included a look-back period of 5 years);
- there is still a basis for depreciation at the beginning of that first financial year starting on or after 1 January 2022; and
- the asset would have been valued at a lower amount had the new rules been applied.
If those conditions are met, the depreciations on the asset will be calculated as of the first financial year starting on or after 1 January 2022, based on the lowest of the following amounts:
- the value the asset would have been accounted for at the time of the transfer if the proposed new article would have been applicable at that time; or
- the carrying value of the asset at the time immediately before the first financial year starting on or after 1 January 2022.
The transitional rule only relates to the amount that is allowed for depreciation. This applies to regular asset transfers as well as transfers via a contribution or distribution.