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Under the tax treaties concluded by the Netherlands, companies located in the Netherlands operating abroad through a foreign permanent establishment are entitled to an exemption from corporate income tax on their income insofar as it is generated through that permanent establishment. Companies located abroad operating in the Netherlands through a Dutch permanent establishment are taxed in the Netherlands only on the income generated through that permanent establishment. To determine the amount exempt and the amount taxable in the Netherlands, part of the company's income must thus be allocated to the permanent establishment. One of the issues in doing so is what makes up the assets and liabilities of the permanent establishment. In three recent cases, the Supreme Court and the Tax Court in Amsterdam have decided when debts between a head office and a permanent establishment may be taken into account as assets or liabilities of the permanent establishment.
Interest on current account
In the first case, a Dutch private liability company ('BV') had a debt in its current account with its UK permanent establishment on which no interest was charged. According to BV, arm's length interest should be allocated to the permanent establishment and thus deducted from the head office's income in determining the amount of income exempt in the Netherlands.
When the tax inspector did not agree to this, BV appealed to the Tax Court, which rejected the appeal. Subsequently, BV appealed to the Supreme Court, which also rejected the appeal. According to the Supreme Court, in general, income derived from a permanent establishment cannot be regarded as profits of that permanent establishment if the income is not used for the permanent establishment's activities This is so even if that income is administered in a current account at the permanent establishment. In other words, the head office's debt on its current account with its permanent establishment was not part of the permanent establishment's assets.
Equity...