Lessons learned from Spain’s denial of withholding tax exemption on interest payments to EU residents based on GAAR

By Ramon Bonell, Associate Professor, Complutense University of Madrid

Spain’s Tax Authority on 16 December 2021 challenged the domestic withholding tax exemption on interest paid to EU residents based on the application of the General Anti-Abuse Rule (GAAR), on the grounds that the recipient of the interest was a conduit entity and not the beneficial owner of the income. The move came shortly after the initiation of a tax audit procedure following a spontaneous exchange of information by the Dutch tax authorities.

Each category introduces an aspect to be taken into consideration in the proceeding of each related operation, such as quantity, quality, relationships, activity, influences, place, and time.

The categories are designed to answer the question of what the reality of substance behind each operation is. They include the identification of each operation along with a statement of its purpose, as well as specific data on who carries out the operation. The clear objectives of each operation also should be noted.

The parties involved in the transaction should be listed, as well, along with the place, and any other facts affecting the economic activity, including the characteristics of the service provided or the goods to be transferred.

It is important that all quantitative and qualitative details be included along with any measurable aspects, along with any contrast with other goods or services performed. Any relevant class or kinship relations should be noted.

To qualify for the tax advantages provided for in Directive 2003/49, the entity receiving the interest must satisfy the conditions laid down in that directive. However, as the Danish government states in its observations, it may be the case that groups of companies that do not satisfy those conditions, but which interpose, between the company paying the interest and the company that will dispose of it, one or more artificial companies which satisfy the formal requirements of that directive. The questions raised by the referring courts concerning abuse of law and the concept of beneficial owner have arisen in relation to such financial constructions.

It is relevant in this respect that, financing by own resources, capital, and equity, are used for the loan, in the defense of common interest. That the interest in question, accrues on the principal; that the recipient of the interest has subsequently made an intragroup transfer to its parent company resident in the same state for the purpose of tax consolidation of the results in accordance with the rules in force in that state; that the interest in question is subsequently converted into the capital of the borrowing company; and, finally, that the majority of persons that the state of residence of the payer of the interest considers to be the beneficial owner of the interest is legally or contractually obliged to transfer the interest to another person; the creditor of the interest is legally or contractually obliged to transfer the interest to another person; and, finally, most of the persons whom the state of residence of the payer of the interest considers to be the beneficial owners of the interest are residents of other member states or of third countries with which the Kingdom of Denmark has concluded a double taxation convention, so that, under Danish law, there would have been no taxation at source if those persons had been the lenders and, therefore, had received the interest directly from the payer of the interest.

Proof of an abusive practice requires, on the one hand, a set of objective circumstances showing that, despite formal compliance with the requirements established by EU law, the objective the latter pursued has not been achieved and, on the other hand, a subjective element consisting of the will to obtain an advantage deriving from EU law by artificially creating the conditions required to obtain it. The concurrence of a certain number of indications may prove the existence of an abuse of law, if they are objective and concordant. Such indications may consist in the existence of special purpose vehicles lacking economic justification, as well as in the purely formal nature, the structure of the group of companies, the financial transactions, and the loans.

This means that a member state must refuse to rely on provisions of EU law where they are invoked—not to achieve the objectives of the provisions in question—but to enjoy an advantage under EU law, even if the conditions laid down in that regard are only formally met.

• Ramon Bonell is an associate professor at the Complutense University of Madrid.