Hybrid mismatches may lead to double non-taxation in international perspective. By means of ATAD 2, the use of hybrid mismatches between EU Member States and between EU Member States and third countries is to be discouraged. ATAD2 covers a number of hybrid mismatches: hybrid entity mismatches, hybrid financial instruments, reverse hybrid mismatches, permanent establishment mismatches, dual tax residency cases and imported mismatches. These mismatches may lead to deduction and no inclusion and double deduction. The proposal published contains three type of rules to avoid this outcome.
Proposal to implement ATAD 2
The three rules as stated in the proposal are the denial of deduction, the inclusion of income and the taxation of reserve hybrid mismatches.
(i) Denial of deduction rule
In line with the primary rule of ATAD2, the deduction of payments by a Dutch corporate taxpayer will be denied if this payment is not regarded as taxable income at the recipients level as a result of the hybrid mismatch (primary rule). Detailed rules are proposed in order to determine whether income is treated as taxable income at the level of the recipients.
In addition, the deduction of payments will also be denied if, as a result of the hybrid mismatch, the same payment is deducted twice. In principle, the other state than the payment state should apply this rule in case of double deduction (primary rule). If this state does not apply this rule, then the payment state would deny the deduction (secondary rule).
(ii) The inclusion of income rule
Dutch corporate taxpayers must include in their Dutch corporate tax base the income which would be normally exempt in the Netherlands (or would not be recognized as income) in the event that this payment may be deducted in the payers’ state due to a hybrid mismatch.
The inclusion of income rule is a secondary rule and would only be applicable if the primary rule (denial of deduction) cannot be applied, e.g. because the payer is not located in an EU Member State, resulting in an inclusion of the payment or reimbursement at the level of the recipient. In a pure EU context, the deduction and no corresponding inclusion would already be solved by the primary rule (denial deduction).
(iii) The taxation of reverse hybrid entities
A reverse hybrid entity is an entity that is treated as tax transparent in the state of incorporation, registration or establishment and treated as non-transparent from the perspective of the participants in that entity. A typical example of a reverse hybrid entity is the CV in a US CV-BV structure.
Based on the proposal, a reversed hybrid entity will be treated as a Dutch tax payer (i.e. non-transparent) in case the reversed hybrid entity is incorporated, established or registered in the Netherlands. As a result, the reversed hybrid entity will no longer be treated as a hybrid entity.
The reverse hybrid entity mismatch will apply as from 1 January 2022 (opposed to the first rules: 1 January 2020).
The internet consultation is open until 10 December 2018 for any stakeholders who wish to provide input regarding the draft legislative proposals through the website of the Dutch Ministry for Finance. After this period, the input received shall be processed by the Ministry for Finance, with expected formal legislative proposals to be sent to the Dutch Parliament during the first half of 2019.
Albeit the proposal is still in a preliminary phase, we recommend to review any structures in which a Dutch entity is directly or indirectly involved in a hybrid mismatch since the proposal could have a significant impact on the tax position
We will monitor this development closely. We will keep you updated on all relevant developments.