Limitations to be introduced on application of EU Parent-Subsidiary Directive to counter tax avoidance

The purpose of the Parent-Subsidiary Directive 2011/96/EU is to prevent companies group companies, based in different EU Member States, from being taxed twice on the same income.



It does this by eliminating the withholding tax that wouldotherwise be imposed on certain cross border dividends and other profitdistributions, and by requiring the territory of the recipient to providerelief through exemption or credit. Thescope of the directive is wider than implied by its title as it applies toshareholdings of 10% or more.

As a result of concerns that the directive is beingexploited to create instances of double non-taxation, the European Commissionhas proposedamendments to limit the directive’s application by 31 December 2014. The proposed amendments are:

·  The introduction of a common anti-abuse rule;and

·  Removal of the tax exemption for dividendsconnected with hybrid instruments.

A summary of the proposals is provided in an EC pressrelease.

The proposals are subject to approval by the EuropeanParliament and the Council of Ministers. 

Under the anti-abuse rule, where a company is interposedbetween an EU resident dividend paying company and a non-EU based parent, andthere is no purpose for the intermediate company other than to obtain benefitsof the directive, the dividend will be treated as if paid directly to thenon-EU resident company. This will denythe withholding tax exemption under the Directive.

Exemption from tax of the dividend receipt will require thepayment to not be deductible in computing the profits of the subsidiary. Thus a hybrid instrument that is structuredto produce an expense in the nature of interest in the payer but a dividend inthe recipient will no longer be covered by the directive. A further provision will be added to thedirective to state that anti-avoidance provisions in domestic law or intreaties cannot be overridden by the directive. 

This change may have limited impact on theUK. The withholding tax change will onlyaffect dividends to the UK (the UK has not had dividend withholding since 1972)and even then in many instances a DTA between the UK and the territory willprovide for a nil rate of withholding. As regards dividends received by UKcompanies on shares or other instruments held in companies resident in other EUmember states, the change will affectreceipts that are not be covered by the UK dividends received exemption (CTA2009 Part 9A).  Groups with tax drivenstructures using this EU directive need to review their structures as changesmay be required. The BEPS project isalso targeting hybrid instruments, so further action at international level isforthcoming.