Revised policy concerning (1) fixed establishments in VAT groups and (2) transfer pricing

On 1 July 2022, the Dutch State Secretary of Finance published a new transfer pricing decree replacing the prior version from 2018, but also replacing the decree covering questions and answers on financial services companies, known as financial intermediaries (Dienstverleningslichamen or DVLs), from 2014.

In paragraph 1 of this Tax Alert, we will 1 briefly elaborate on the current policy on fixed establishments and VAT groups, the published amendment to the Decree and the impact of the new policy. In paragraph 2, we will briefly discuss some of the relevant changes to the transfer pricing decree.

1. The Decree on the Dutch VAT treatment of fixed establishments

Background and current policy on fixed establishments and VAT groups

In general, a head office and a fixed establishment are deemed to be treated as one VAT taxable person and consequently (cross-border) supplies between a head office and a fixed establishment fall outside the scope of Dutch VAT (ECJ FCE Bank case – C-210/04). However, an exception to this principle follows from the ECJ Skandia case of 17 September 2014 (C-7/13). It follows from the Skandia case that cross-border supplies between a head office and a foreign fixed establishment whereby the foreign fixed establishment is included in a foreign VAT group are subject to VAT (unless a VAT exemption applies).

Before the ECJ issued its ruling in the Skandia case, the Dutch Supreme Court decided in 2002 that a Dutch VAT group absorbs any foreign head office or foreign fixed establishment. In other words, if a Dutch VAT group is in place, the foreign head office or the foreign fixed establishment, respectively, is also included in the Dutch VAT group. As a result of the Dutch case law, cross-border supplies between a head office and its fixed establishment fall outside the scope of Dutch VAT.

Given the ambivalence between the Skandia case and Dutch case law, the question arose whether and to what extent the exception from the Skandia case applies in the Netherlands. The Decree provided clarity in this regard and the Dutch State Secretary of Finance confirmed that the Skandia case does not apply in Dutch practice: cross-border transactions between head offices included in a Dutch VAT group and their foreign fixed establishments were therefore (to date) deemed to fall outside the scope of Dutch VAT.

New policy as of 1 January 2024

On 11 March 2021, the ECJ ruled in Danske Bank that a head office situated in an EU member state and forming part of a VAT group must be regarded as a separate VAT taxable person from its fixed establishment situated in another EU member state (also known as the 'reversed Skandia' case). The ECJ clarified in the Danske Bank case that the VAT Directive contains a certain territorial limitation for VAT groups and that it is not possible to include foreign fixed establishments of a member state in a VAT group of another member state.

After the ECJ judgement in the Danske Bank case, the tenability of the Dutch practice and Dutch case law has been argued in literature and the Dutch State Secretary of Finance has now published an amendment to the current Dutch policy. As of 1 January 2024, foreign head offices and foreign fixed establishments may no longer be included in a Dutch VAT group. This effectively means that supplies between head offices and fixed establishments will fall within the scope of Dutch VAT if one of these establishments is included in a VAT group in another member state. The amendment to the Decree mentions that the Dutch Supreme Court case law of 2002 has lost its relevance for the assessment of the scope of the VAT group in the Netherlands. The amendment also stipulates that it concerns only VAT groups within the EU. To allow the affected VAT entrepreneurs to prepare for the amendment, the revised policy will enter into effect on 1 January 2024.

Impact of the new policy

As stated above, a head office that is part of a Dutch VAT group and a foreign fixed establishment (or a foreign head office and a fixed establishment that is part of a Dutch VAT group) will become separate VAT taxable persons as of 1 January 2024. As a consequence, cross-border supplies between the Dutch VAT group and the foreign head office or the foreign fixed establishment will fall within the scope of VAT. Being regarded as separate taxable persons for VAT purposes could, for example, have a negative impact on the deductibility of VAT and it should be assessed whether a VAT exemption would apply to the supplies between a head office and its fixed establishment that fall within the scope of VAT. Every group structure that includes fixed establishments and VAT groups in the EU will be affected by the new policy, but the precise impact for each group structure should be assessed on a case by case basis.

2. The transfer pricing decree

This updated decree provides further guidance on the application of the arm's length principle and the Dutch State Secretary of Finance’s view where the OECD guidelines leave room for interpretation, but also reflects a fundamental change to the way transfer pricing is dealt with for financial intermediaries.

Previously, guidance on financial intermediaries was always covered in a separate decree (which has now been revoked). The new transfer pricing decree now includes very specific guidance on financial intermediaries and deviates from the old guidance, which stated that comparable independent parties are remunerated based on the underlying transaction amounts, which was the basis for the typical ‘spread’ approach between the receivable and payable for financial intermediaries. In the new decree, three types of financial intermediaries are being identified based on their level of control over the underlying risks and their financial capacity to bear these risks (e.g., their level of equity): (i) full control, (ii) no control and (iii) the financial intermediary shares control with the rest of the group. Each situation is dealt with differently:

Full control and financial capacity: in this case the requirement is to price each inter-company transaction on its own merits. It is stated that if the financial intermediaries' borrowings would not have been possible without a corporate guarantee, these borrowings would be recharacterized as a capital contribution. In this respect, according to the decree, there may be tension between the OECD guidelines and Dutch case law here and it is mentioned that the OECD guidelines are leading in cases where a taxpayer seeks advance certainty to ensure that this position can also be defended internationally.

No control or lack of financial capacity: in this case the financial intermediary is only entitled to a fee based on its own operational expenses. This situation may imply that the financial intermediary cannot be considered the beneficial owner of the incoming cashflow.

Share of control over risks: in this situation any risks that may materialize should also be shared and it is suggested that it is not common in practice to contractually limit the risks for the financial intermediary.

The new decree lacks any specific guidance on possible manners in which it can be determined that a financial intermediary has sufficient capital to safeguard the financial capacity required for a transaction, or what substance is required to be fully in control as a financial intermediary. Given the material change in approach, it would have been welcomed if more clarity had been provided, including on the transition from past practices (especially as there are no grandfathering rules).

Also in view of group guarantees, the approach in the new decree has been substantially revised, the largest changes being the statement that implicit support should be reflected in any guarantee fee analysis, but also the possibility for the Dutch tax authorities to consider all or part of a third-party loan with a corporate guarantee as a loan to the guarantor followed by a capital contribution in the borrower, when the guarantee allows for increased borrowing capacity. The new decree emphasizes the importance of a debt capacity analysis when external borrowings are covered by a corporate guarantee, as it is recognized that a (partial) recharacterization is not fully in line with Dutch case law and as such creates uncertainty for taxpayers in the Netherlands.