Recent referrals to the European Court of Justice

The European Court of Justice (ECJ) continues to receive a significant number of referrals from the national courts of Member States seeking clarification as to the compatibility of national tax measures with EC Treaty provisions. A number of referrals to the ECJ in the past few months may be of interest to Irish taxpayers.

Thin-capitalisation rules

The Official Journal of the European Union reported on 5 March 2005 that aspects of the UK thin-capitalisation regime have been referred to the European Court of Justice (ECJ) for a decision on whether or not they are compatible with EU law . The UK rules contain restrictions on the ability of a UK company to deduct for tax purposes interest on loan finance provided by a direct or indirect parent company resident in another Member State. Prior to 2004, fewer restrictions applied if the lender was resident in the UK.

While the case has emerged from the UK thin-cap group litigation, similar issues were considered previously by the ECJ in its decision in the Lankhorst-Hohorst GmbH case. On that occasion the court concluded that German thin capitalisation rules discriminated against a Dutch resident parent company investing into Germany. The rule was considered contrary to the freedom of right of establishment enshrined in the EC Treaty.

On this occasion the ECJ has been asked to address substantially more questions by the UK High Court. The court will consider transactions and shareholdings involving EU resident sister companies and also companies that are not resident in the EU. The court has also been asked to categorise 10 distinct types of claims with a view to ascertaining what defences (if any) might be open to the UK.

This is the second recent referral to the ECJ concerning thin-capitalisation rules. In October 2004 a German court referred to the ECJ the question of whether the Lankhorst-Hohorst decision should apply to interest payments to Switzerland. In that instance the provisions of Article 43 EC Treaty (free movement of capital) are being invoked.

Irish companies in receipt of interest payments from foreign affiliates currently subject to thin capitalisation rules in EU Member States, particularly the UK, should consider the potential impact of the thin capitalisation litigation now before the ECJ.

Ireland does not have specific thin capitalisation rules but there is an anti-avoidance provision which seeks to reclassify interest paid to non-resident 75% group members as a distribution, thus denying a corporate tax deduction to the Irish company. While the provision, as introduced, may have been in breach of European law, its impact has been watered down significantly in recent years by way of legislative amendments and Revenue interpretations. Despite these amendments, a few remaining aspects of the provision might be considered discriminatory.