A step closer to withholding tax refunds for Investment funds? The ECJ General Advocate opinion in Aberdeen SICAV

The Finnish Supreme Administrative Court (“Korkein Hallinto-Oikeus”, “KHO”) decided on 27 June 2007 to stay the proceedings in a case concerning the potential discriminatory features of the Finnish withholding tax regime in a situation involving a Luxembourg SICAV.

Facts & Procedure

The Finnish tax law provides for a domestic withholding tax on all outbound dividends, expect on those falling under the EC Parent-Subsidiary Directive.

Since Luxembourg SICAVs do not qualify for the Parent-Subsidiary Directive 90/435/EEC (“Parent-Subsidiary Directive”) as they are not subject to corporate income tax, the Finnish authorities apply a withholding tax of 5 or 15% (as the case may be based on the double tax treaty, “DTT”) on dividend distributions from Finland to Luxembourg SICAVs.

On the other hand, the Finnish authorities do not levy withholding tax on distributions made to Finnish undertakings, including Finnish investment funds. The aim of this exemption is to avoid economic double taxation.

Given these obviously discriminatory features of the Finnish law in terms of domestic and cross-border situations, Aberdeen SICAV, applied for an advance ruling from the Finnish Central Tax Board (Keskusverolautakunta, KVL), asking whether this Finnish withholding tax regime is compliant with the fundamental freedoms of the European Community Treaty.

The KVL considered in its decision of January 25th, 2006 (KVL 2/2006) that since a SICAV is not listed in the Appendix to the EC Parent-Subsidiary Directive (90/435/EEC) and since it does not pay corporate tax in Luxemburg, it does not qualify for the Parent-Subsidiary Directive and is therefore not exempt from Finnish withholding tax.

Aberdeen SICAV appealed to the Finnish KHO and the KHO decided to refer the matter to the European Court of Justice (“ECJ”).

Position of the AG

Having acknowledged that Aberdeen SICAV had a controlling influence in Alpha SA (given its 100% shareholding), the AG assessed the case from the viewpoint of Art. 43 of the EC Treaty dealing with the freedom of establishment. The AG emphasized however that whether the case was assessed on the basis of the freedom of establishment or on the basis of the free movement of capital was of little relevance as regards the outcome of the decision.

Based on the ECJ case-law, discrimination exists when:

• different rules are applied to comparable situations or
• the same rule is applied to different situations.

Referring to the ECJ judgment in Amurta (C-379/05), the AG concluded that, as long as a Member State taxes not only resident shareholders, but also non-resident shareholders on dividends received from resident companies, the situation of resident and non-resident shareholders is to be considered as comparable.

The AG noted furthermore that under the ECJ case law (Metallgesellschaft (C-397/98), Oy AA (C-231/05), etc.) the purpose of the national legislation must be taken into consideration when assessing whether or not it is discriminatory. Here, the AG noted that the purpose of the Finnish legislation at issue was to eliminate the economic double taxation of dividends. The AG opined that if Finland chooses to relieve economic double taxation of dividends for its own tax residents by way of exemption, this measure should be extended to non-residents.

Thus, the AG concluded that the freedom of establishment precludes national legislation, under which dividends paid by a resident subsidiary to a resident parent company are not taxable, irrespective of the parent company’s legal form, whereas dividends paid to a non-resident parent company, whose legal form is not recognized by the Member State of the subsidiary and which is not covered by the Parent-Subsidiary Directive, are subject to a withholding tax, regardless of whether or not the non-resident parent company is exempt from income tax in its Member State of residence.

The AG concluded that the Finnish withholding tax regime violates the freedom of establishment.

Next steps and potential implications for Luxembourg SICAVs

The AG opinion is not binding on the ECJ. Thus it will be necessary to await the decision of the ECJ in order to asses whether this case-law will or not have positive tax implications for investments by Luxembourg SICAVs and similar investment funds.

Should the ECJ follow AG’s opinion, the case would be another major step ahead towards the elimination of dividend withholding tax on distributions to entities which do not qualify for the Parent-Subsidiary Directive, such as Luxembourg SICAVs. In this case, dividends distributed to Luxembourg SICAVs would be exempt from withholding tax in the foreign country, but only to the extent the foreign country’s legislation exempts from withholding tax dividends distributed to similar tax exempt local entities. An outcome along these lines seems likely based on previous case law including Orange European Smallcap Fund NV (Case C-194/06), Amurta (C-379/05), Denkavit International (C-175/05) or Fokus Bank at (EFTA, E-1/04).

The tax treatment of dividend distributions to investment funds is already an important topic under review at OECD level: the Informal Consultative Group on the Taxation of Collective Investment Vehicles and Procedures for Tax Relief for Cross-Border Investors has recently released a Report on the Granting of Treaty Benefits with respect to the Income of Collective Investment Vehicles. Thus, while a major objective at international level is to have DTT-reduced withholding tax rates applied to distributions made to all types of collective investment vehicles, the ECJ case law could even go a step further in an EU context, exempting this income under certain conditions