Dutch Supreme Court Hands Down Long-Awaited Judgment in ‘Most Favoured Nation’ Clause Dispute
The wait is finally over. On 18 January 2019 the Dutch Supreme Court (Hoge Raad) found in favour of the taxpayer in its judgment under case number 17/04584, (Hoge Raad Judgment) pertaining to the interpretation of the ‘most favoured nation’ provision (Dutch MFN Clause) in the double taxation agreement (DTA) between South Africa (SA) and the Netherlands dated 10 October 2005, as amended by the Protocol concluded on 8 July 2008 and which entered into force on 28 December 2008 (SA/Netherlands DTA).
The case was an appeal by the Dutch Tax Authorities against an earlier decision of the Dutch High Court (Gerechtshof ‘s-Hertogenbosch) under case number 15/01361. In that decision the Dutch High Court ruled that the Dutch MFN Clause can apply to exempt taxpayers from dividends tax where a Dutch resident company pays dividends to a South African resident.
The Dutch Supreme Court judgment is of great importance to a number of South African taxpayers who are currently engaged in similar disputes with the South African Revenue Service (SARS) pertaining to the interpretation of the Dutch MFN Clause. One of those cases has been selected by SARS as a test case and Cliffe Dekker Hofmeyr acts as the attorneys for the taxpayer in that case.
Background to the Dutch Supreme Court Decision
The taxpayer was a South African tax resident company. The taxpayer held shares in a Dutch company. The Dutch company declared a dividend to the South African taxpayer, in respect of which it withheld dividends tax at the rate of 5% and which tax was paid over to the Dutch Tax Authorities.
The taxpayer subsequently requested a refund of the dividend tax paid to the Dutch Tax Authorities on the basis that Article 10(10) of the SA/Netherlands DTA (the Dutch MFN Clause) read with Article 10(6) of the SA/Sweden DTA dated 24 May 1995, as amended by the Protocol concluded on 7 July 2010 and which entered into force on 18 March 2012(SA/Sweden DTA) (Swedish MFN Clause) and further read with SA’s DTAs with Cyprus, Kuwait and Oman limited the dividend withholding tax rate to 0%.
Taxpayer’s application and interpretation of relevant DTAs
Article 10 of the SA/Netherlands DTA allowed for a dividend withholding tax of 5% of the gross amount of the dividends if the beneficial owner was a company holding at least 10% of the capital in the company paying the dividends. Article 10(10) (the Dutch MFN clause) read as follows:
(10) If under any convention for the avoidance of double taxation concluded after the date of conclusion of this Convention between the Republic of South Africa and a third country, South Africa limits its taxation on dividends as contemplated in subparagraph (a) of paragraph 2 of this Article to a rate lower, including exemption from taxation or taxation on a reduced taxable base, than the rate provided for in subparagraph (a) of paragraph 2 of this Article, the same rate, the same exemption or the same reduced taxable base as provided for in the convention with that third State shall automatically apply in both Contracting States under this Convention as from the date of the entry into force of the convention with that third State.
The Dutch MFN clause thus stated that if a DTA between SA and a third party state was concluded after the date of conclusion of the SA/Netherlands DTA and that third party DTA provided for a lower dividends tax rate than the dividends tax rate provided for in the SA/Netherlands DTA, then that lower dividends tax rate would also apply to dividends paid between SA and the Netherlands.
The taxpayer applied the SA/Sweden DTA as the third-party state DTA referred to in the Dutch MFN Clause. The Protocol to the SA/Sweden DTA entered into force after the SA/Netherlands Protocol entered into force. Even though the SA/Sweden Protocol did not contain a direct exemption from dividends tax, the SA/Sweden Protocol introduced Article 10(6) (the Swedish MFN clause) to the SA/Sweden DTA, which read as follows:
(6) If any agreement or convention between South Africa and a third state provides that South Africa shall exempt from tax dividends (either generally or in respect of specific categories of dividends) arising in South Africa, or limit the tax charged in South Africa on such dividends (either generally or in respect of specific categories of dividends) to a rate lower than that provided for in subparagraph (a) of paragraph 2, such exemption or lower rate shall automatically apply to dividends (either generally or in respect of those specific categories of dividends) arising in South Africa and beneficially owned by a resident of Sweden and dividends (either generally or in respect of those specific categories of dividends) arising in Sweden and beneficially owned by a resident of South Africa, under the same conditions as if such exemption or lower rate had been specified in that subparagraph.
The Swedish MFN Clause therefore stated that if a DTA between SA and a third party state was concluded and that third party state DTA provided for a lower dividends tax rate than the dividends tax rate provided for in the SA/Sweden DTA, then that lower dividends tax rate would also apply between SA and Sweden. The Swedish MFN Clause did not contain a limitation provision, ie that the DTA with the third party state must be concluded after the SA/Sweden DTA (as was the case with the SA/Netherlands DTA).
At the time that the dividend was paid to the taxpayer, several DTAs between SA and third party states provided for a 0% dividends tax rate. These third party states were Kuwait, Cyprus and Oman (currently the SA/Kuwait DTA is the only DTA that still provides for the 0% dividend tax rate). As the DTAs with these third party states were concluded prior to the SA/Netherlands Protocol coming into force, the taxpayer could not rely on these DTAs directly (which is why the SA/Sweden Protocol was “interposed” between the SA/Dutch DTA and the third party state DTAs).
Decision of the Dutch Supreme Court
Briefly, the Dutch Supreme Court was of the view that:
• The SA/Sweden Protocol was concluded after the date of conclusion of the SA/Netherlands DTA. Accordingly, for purposes of Article 10(10) of the SA/Netherlands DTA, the SA/Sweden DTA could be regarded as a DTA between SA and a third party state concluded after the date of conclusion of the SA/Netherlands DTA.
• In terms of the SA/Sweden Protocol, South Africa agreed with Sweden not to levy tax on certain outbound dividends. It does not matter that the exemption from dividends tax may be temporary and that the exemption is as a result of the SA/Kuwait DTA that was concluded prior to the conclusion of the SA/Netherlands DTA.
• The fact that South Africa in certain instances already exempted dividends paid to Sweden from dividends tax prior to the conclusion of the SA/Sweden Protocol and that South Africa therefore did not limit its taxation of dividends as a result of the SA/Sweden Protocol did not change the situation. To assess whether South Africa limited its taxation under a later DTA within the meaning of Article 10(10) of the SA/Netherlands DTA, it was decisive whether South Africa entered into new DTA obligations with another country and thereby agreed to waive all or part of the tax on dividends in certain instances. The SA/Sweden Protocol can be regarded as such a DTA which introduced new obligations with regard to dividends tax as the conditions under which South Africa waived dividends tax under the SA/Sweden Protocol changed compared to the arrangement that previously existed between South Africa and Sweden.
• The Netherlands in any event wanted to exempt dividends from dividends tax in the original SA/Netherlands DTA.
• The context within which the SA/Netherlands Protocol was negotiated was that South Africa wished to remove the 0% dividends tax rate from the SA/Netherlands DTA as it wanted to implement a dividends tax regime in South Africa. At the time of negotiation of the SA/Netherlands Protocol the Netherlands was aware that there were at least four other South African DTAs which still contained the 0% dividends tax rate. Both the Netherlands and Sweden were willing to accommodate South Africa’s wish to renegotiate the DTAs to remove the exemption, however, they had different conditions for doing so.
• The Court considered it unlikely that the South African Government would have agreed to amend the SA/Sweden Protocol in the way that it did had it known that it would be used in the interpretation of Article 10(10) of the SA/Netherlands DTA.
• South Africa caused the problem when it concluded the SA/Sweden Protocol – it could have agreed that the SA/Sweden Protocol only entered into force once all of the other DTAs which provided for an exemption from dividends tax were renegotiated. In addition, the problem with the
SA/Kuwait DTA is only temporary – until that treaty is renegotiated or terminated.
• This interpretation of Article 10(10) of the SA/Netherlands DTA does not conflict with any known common intention of the contracting parties.
Based on the above, the Dutch Supreme Court found in favour of the taxpayer.