Spanish dividend exemption: anti-abuse burden of proof

The Spanish Supreme Court has, in several decisions published in June 2023 (SCJ 771/2023, of 8 June 2023; SCJ 827/2023, of 21 June 2023; SCJ 851/2023, of 22 June 2023) held that the Spanish Tax Authorities must prove abuse by the taxpayer to reject the application of the domestic exemption on dividends distributed by Spanish companies to their EU shareholders.

Background

The three decisions relate to the application of the anti-abuse provision included in the domestic exemption for dividends distributed to EU/EEA shareholders, which implements the EU Parent Subsidiary Directive (PSD). The anti-abuse provision requires valid business reasons for the incorporation of an EU/EEA intermediate shareholder where such entity is controlled by a non-EU/EEA entity. This is currently one of the hot topics in structuring investments in Spain.

In the three cases under analysis, the ultimate investors were all public entities (two Canadian pension funds and the Qatar sovereign fund respectively) with an indirect participation in Spanish listed entities that paid dividends to an intermediate shareholder based in Luxembourg, free of withholding tax pursuant to the exemption.    

The Spanish Tax Authorities considered that the taxpayer did not evidence valid economic reasons for the incorporation of the Luxembourg entities. According to the Spanish Tax Authorities, the entities did not have any human and material means and they did not carry out any business activity. Consequently, on the basis of such lack of substance and business rationale for the use of Luxembourg holding companies, the Spanish Tax Authorities applied the anti-abuse provision and rejected the application of the exemption in relation to the dividends distributed.

Criteria of the Supreme Court

The discussion before the Supreme Court focused on determining who bears the obligation to prove the (lack of) existence of valid business reasons for the incorporation of the Luxembourg shareholder entities. The Spanish Tax Authorities, based on the literal wording of the anti-abuse provision and the criteria issued in the so-called Danish cases, considered that it was the taxpayer who must evidence the valid business reasons for the application of the tax exemption. In contrast, the taxpayers argued that the application of the anti-abuse provision requires an exercise from the Spanish Tax Authorities to evidence that such anti-abuse rule applies.

The decision of the Supreme Court on this issue could not be more clear: the exemption cannot be denied simply on the basis of general presumptions of fraud which would automatically deprive certain categories of structures (related with non-EU/EEA investors) the benefit of the exemption. The Spanish Tax Authorities must prove the existence of elements triggering the anti-abuse provision based on objective facts on which the abuse is based.  

Comments

These three decisions are very welcome as they re-instate the equilibrium between taxpayers and tax administration on the burden of the proof to apply the anti-abuse provision. It should be noted that the ruling refers to the wording of the anti-abuse provision as it was in 2015. The current version of the Spanish law does not explicitly state that the taxpayer must evidence valid business reasons, but it maintains the original presumption of fraud that has been held illegal by the Supreme Court. As such, these cases provide significant  progress on legal certainty for taxpayers.   

However, the structuring of investments through intermediate EU holding entities is still a hot topic subject to a significant level of scrutiny by the Spanish Tax Authorities. These rulings will not stop the current campaign against tax structuring, such as those used in the private equity sector, but they require the Spanish Tax Authorities to be more diligent in gathering objective evidence for the application of the anti-abuse provision. Taxpayers still need to be able to resist such challenges and support with sound arguments the structure chosen and its business reasons.

It should also be noticed that, at EU level, a new regulatory framework may put more pressure on economic substance of intermediate holding entities. The deadlock in discussion regarding ATAD III Directive (which aimed to establish a set of objective criteria for classifying an entity as a "shell company", precisely for the purpose of limiting the benefits of the Directive) will, if enacted, provide for a new, stricter approach and require Member States to exchange information on the substance hallmarks of shell entities.   

In relation to the burden of proof issue, the decisions of the Spanish Supreme Court may also be relevant going forward to the discussion with the Spanish Tax Authorities regarding  the application of the principal purpose test provision in bilateral tax treaties signed by Spain that have been impacted by the Multilateral Tax Convention. Some of these treaties have a very similar anti-abuse provision in place, which re-introduces the obligation to prove that the application of the benefit derived from the tax treaty is in line with the purpose of the tax treaty.