In May and December 2023, the Dutch lower Court (Court) published two decisions in which it ruled that, due to the lack of clarity on the qualification of Interest on Net Equity (IoNE) payments under the tax treaty concluded between Brazil and the Netherlands (the Treaty), i.e. as dividends (25% tax credit) or as interest (20% tax sparing credit), the outcome of a later Mutual Agreement Procedure may not be invoked to the disadvantage of the Dutch taxpayer. Therefore, the Court ruled that the Dutch taxpayer in this case could qualify IoNE as a dividend for purposes of the Treaty and the available tax (sparing) credit, i.e. a tax sparing credit of 25%.
Dutch Decree: Qualification Brazilian 'Interest on Net Equity' as interest
In 2020 we published a news article following a decree of the Dutch State Secretary of Finance (the Decree) that was published on 27 August 2020 regarding the qualification of Brazilian IoNE (Juros sobre o capital próprio, JCP or IoNE) under the Treaty. Pursuant to the Decree, IoNE derived by a Dutch taxpayer qualifies as interest under the Treaty, resulting in a tax sparing credit of 20% as opposed to a tax sparing credit of 25% in case of a qualification of IoNE as dividend. For the background on IoNE and the Dutch tax treatment thereof we kindly refer to our previous news article: Qualification Brazilian 'Interest on Net Equity'
Dutch lower Court: Qualification Brazilian 'Interest on Net Equity' as dividend
In May and December 2023 the Court (Rechtbank Zeeland-West-Brabant) published two decisions in which the Dutch tax inspector took the position that IoNE received in 2018 should pursuant to the Treaty and for purposes of determining the available tax sparing credit be qualified as interest. The Dutch tax inspector took this position on the basis of the Decree (described above) and the outcome of a Mutual Agreement Procedure (MAP) between Brazil and the Netherlands in 2022. The MAP resulted in the agreement between Brazil and the Netherlands that IoNE should be qualified as interest pursuant to the Treaty. The MAP agreement includes the following relevant considerations:
"JCP is a remuneration that a company organized under Brazilian law can elect to pay to its shareholders on the basis of the net equity of the company. Since JCP is calculated on the basis of the net equity of the company and paid to shareholders only in the existence of profits of the current period, accumulated earnings or profit reserves of previous periods, it could raise doubts whether it can be qualified as a dividend (Art. 10 of the Treaty) or interest (Art. 11 the Treaty).
Considering the above, the Competent Authorities wish to clarify the treatment of JCP under the Treaty. The Competent Authorities have agreed that for the purpose of applying the Treaty, in accordance with Brazilian tax law, JCP is considered interest within the meaning of paragraph 4 of Article 11 of the Treaty."
The Court ruled however that ambiguities in the text of a Tax Treaty should be for the account and risk of the contracting states and should not be interpreted to the disadvantage of the taxpayer in case of reasonable doubt. The ambiguity regarding the qualification of the IoNE as a dividend or interest still existed in 2018 (the case at hand concerned IoNE payments during the year 2018). In view of this uncertainty, the Court ruled that the Treaty's posterior interpretation through the 2022 MAP agreement could not be invoked to the disadvantage of the taxpayer. Hence, the Court ruled that in this case the tax sparing credit of 25% with respect to IoNE payments received in 2018 could be applied.
In view of this unclarity, the Court ruled that the treaty posterior interpretation through the 2022 MAP could not be invoked to the detriment of the taxpayer.
Conclusion
The Court ruled that the 2020 Decree and 2022 MAP agreement may not be invoked to the detriment of the taxpayer with regards to IoNE payments received in 2018. The uncertainty on the qualification of IoNE that still existed in 2018 should be for the account of the contracting states. Therefore, IoNE income may be qualified as a dividend for purposes of the Treaty resulting in a tax sparing credit of 25%.
Important to note is that the Court has not ruled whether IoNE payments should qualify as interest or dividend for purposes of the Treaty. In addition, it could be questioned whether contracting states are allowed to clarify the qualification of IoNE through a MAP? Or is the amendment so far-reaching that it would have to be done through the formal route of amending the protocol / Treaty? Furthermore, please be aware that the Dutch tax authorities have filed an appeal against the rulings of the Court published in May and December 2023.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
