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Squaring the Circle of Double Taxation in the European Union

Diego Zannoni

Specialmente negli ultimi anni l’economia è diventata globale, mobile e correlativamente si è intensificato a livello internazionale il fenomeno della concorrenza fiscale. Il moltiplicarsi delle transazioni internazionali e l’introduzione da parte degli Stati di misure di antielusione fiscale, con l’obiettivo di proteggere la propria base imponibile e recuperare fonti di gettito, hanno acuito il fenomeno della doppia imposizione. È evidente che nell’UE il rischio di una doppia imposizione a carico delle attività economiche transfrontaliere è particolarmente rilevante, considerato che il suo obiettivo primario è la creazione di un mercato comune. Eppure, da un lato l’integrazione negativa si è rivelata piuttosto inefficace nel porvi rimedio, salva l’ipotesi in cui la doppia imposizione sia discriminatoria, dall’altro l’integrazione positiva, almeno allo stato attuale, non pare concretamente realizzabile. Con questo scritto si intende mostrare che la doppia imposizione solleva questioni di ben più vasta portata e richiede infatti una riflessione sulla distribuzione delle competenze tra Stati membri e UE, sui rapporti tra tassazione e libertà fondamentali e tra trattati conclusi dagli Stati membri in materia fiscale e diritto dell’UE. Lo scopo è quello di analizzare lo stato dell’arte in materia di doppia imposizione alla luce della giurisprudenza della Corte di giustizia e della prassi degli Stati membri, nonché di delineare possibili sviluppi che potrebbero consentire di superare l’attuale situazione di stallo.


La quadratura del cerchio della doppia imposizione nell'Unione europea

In recent years the economic world has become globalised, mobile and characterised by an increase in tax competition between countries. The multiplication of international transactions and the introduction by States of anti-avoidance measures in order to protect their tax base and seek new sources of revenue have increased the phenomenon of double taxation. The risk of unrelieved double taxation of cross-border economic activities is particularly relevant in the EU, stretched as it is to create a common market. However, negative integration has turned out to be almost toothless regarding non-discriminatory double taxation, and substantive positive integration may well be quite some time off. This paper shows that double taxation raises potentially far-reaching issues and requires pondering over the distribution of competences between Member States and the EU, the relations between taxation and fundamental freedoms and the interaction between tax agreements concluded by Member States and EU law. The purpose is to critically assess the state of the art in the matter of double taxation in the light of European Court of Justice case law and Member State practices and to propose possible developments which could help to overcome the present stalemate.

Keywords: Double Taxation – Taxation – Discrimination – Residence – Tax Disputes.

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I. Introduction - II. The due regard requirement - III. The principle of non-discrimination and taxation - IV. Double taxation - V. The Courtís position on double taxation - VI. Allocating responsibilities between Member States - VII. The European Court of Justice as a Tax Court - VIII. Final remarks - NOTE

I. Introduction

Considering that taxes ultimately provide funding for national costs and expenditure, it is unsurprising that States have always jealously guarded their fiscal sovereignty. Fiscal sovereignty coherently encounters very few limits under international law. States are free to subject all facts or persons to taxation provided that there is a ‘genuine’ or ‘reasonable’ link between them and an economic event or a person justifying their tax claim. [1] It is, however, quite common for a single fact or person to be genuinely linked to more than one country. In these cases, the genuine link rule is not able to prevent the exercise of concurrent tax powers: international law leaves it up to the States concerned to decide whether and to what extent to remove double taxation. [2] Unless they have concluded a double tax convention, the individual subjected to the double levy will be unsuccessful against the sovereign power of each State to establish and collect taxes. Even in the European Union, Member States have traditionally been particularly sensitive about tax matters. In fact, tax systems are tailored to the specific macroeconomic circumstances existing in each Member State and to the economic policy choices it makes at any given time. Member States have kept for themselves the right to invent tax types, set tax rates and define the tax base as they see fit. They basically have not transferred any power to collect taxes to the EU, with the consequence that the EU does not have an administrative apparatus for this purpose or coercive tools to obtain payment of taxes. [3] Double taxation was expressly considered in Article 293 EC Treaty, which established that “Member States shall, so far as is necessary, enter into negotiations with each other with a view to securing for the benefit of their nationals […] the abolition of double taxation within the Community.” However, a sole convention with a very specific scope of application was adopted on the basis of Art. 293 EC Treaty – the Convention on the elimination of double taxation in connection with the adjustment of profits of associated enterprises – and this Article was then removed with the Lisbon Treaty. It will be shown that this abolition does not justify the assumption that EU law is now neutral or indifferent vis-à-vis the problem of double taxation. In EU law as it stands today the sensitivity of tax matters is mirrored in the [continua ..]

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II. The due regard requirement

Under Art. 113 TFEU, harmonisation of legislation concerning indirect taxation follows a special legislative procedure, with a proposal by the Commission, a unanimity rule within the Council and a consultation of the European Parliament. Based on Art. 113 TFEU, numerous directives have been adopted since the late 1960s on value added tax, [7] excise duties [8] and raising capital. [9] However, the Treaties do not contain a provision on harmonisation of direct taxation equivalent to Art. 113 TFEU. As main sources of revenue, these types of taxes – most notably taxes on income and capital – were regarded as a domain of national sovereignty. [10] The legal basis for the rare texts adopted on direct taxation lies essentially in Art. 115 TFEU, which allows the approximation of laws, regulations and administrative provisions of the Member States that directly affect the establishment or functioning of the internal market, also in this case subject to a unanimous vote of the Council. [11] Directives on direct fiscal matters have thus been adopted in a piecemeal fashion, as they only cover a very small number of cases of direct taxation. [12] As long as there are no unifying or harmonising measures adopted by the EU, Member States are free to unilaterally define the connecting factors for the allocation of taxation rights or to do so in tax treaties according to the conferral principle [13], even if this may result in a higher tax burden on cross-border activity that is taxed in the higher-tax jurisdiction. [14] This is indeed a direct consequence of disparity between the tax laws of the Member States, which remains to be removed by positive harmonisation. From this premise two requirements emerge that cannot easily be reconciled. On the one hand, in accordance with the principle of conferral, there is a need to preserve the autonomy of a competence exclusively belonging to the Member States from any EU interference. On the other hand, there is a need to prevent the exercise of this competence leading to the adoption of national measures interfering with legal positions protected by EU law. An unlimited application of the freedom of movement principles and competition rules would risk depriving the competence of Member States on direct taxation of any content up to endangering the very functioning of the State apparatus. [15] On the other hand, if direct taxation were a sort of free zone, free of any [continua ..]

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III. The principle of non-discrimination and taxation

When applying the non-discrimination principle to taxation, the crux of the matter is whether discrimination between residents and non-residents constitutes covert or indirect discrimination by nationality. On the one hand, different treatment of residents and non-residents is quite common in both Member States’domestic tax legislation and in double tax treaties that they conclude. On the other hand, national rules under which a distinction is drawn on the basis of residence in which non-residents are denied certain benefits which are, conversely, granted to persons residing within the national territory are liable to operate mainly to the detriment of nationals of other Member States. It is well-known that the Court has so far adopted a constant line according to which the principle of non-discrimination is infringed when a difference in treatment concerns situations which are objectively comparable and the difference is not justified by overriding reasons in the public interest. In order to be justified, moreover, the difference in treatment must not go beyond what is necessary to attain the objective of the legislation in question. [25] However, translating such apparently clear and consolidated rules to an actual situation in the fiscal area is not always an easy task. In the leading Schumacker decision, the ECJ held that, regarding direct taxation, residents and non-residents are not “as a rule” comparable. [26] Indeed, income received in the territory of a Member State by non-residents is in most cases only part of their total income, which is concentrated in their place of residence. Moreover, non-residents’personal ability to pay tax, which is determined by reference to their aggregate income and their personal and family circumstances, is easier to assess in the place where their personal and financial interests are centred. In general, this is the place where they have their usual abode. [27] Nevertheless, “as a rule” clearly implies that assessment is necessary on a case-by-case basis. For instance, the Court held that State rules on direct taxation are contrary to the freedom of movement of capital if they limit the application of tax incentives to resident subjects to the detriment of non-resident investors, because such discriminatory treatment causes a restriction on capital movement. [28] A further issue has elicited a passionate debate in the literature: whether falling within the [continua ..]

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IV. Double taxation

Double taxation is the result of an uncoordinated exercise of taxing powers by different authorities, but it is not legally an indistinct whole. Double taxation can be domestic or international. The tax involved can be harmonised or not harmonised at the EU level. Finally, double taxation can be juridical or economic. The introduction to the OECD Model Tax Convention defines international juridical double taxation (juristische Doppelbesteurung) as the “imposition of comparable taxes in two (or more) States on the same taxpayer in respect of the same subject matter and for identical periods.” [40] The most common situation is that in which one State taxes a person on his worldwide income while the other State taxes the same person with regard to his income earned within its territory. Juridical double taxation might also arise if a person is taxed in two States on the basis on his worldwide income. Indeed, worldwide taxation is normally triggered by a person’s residence in a country. Some countries, however, also tax their citizens on their worldwide income. A further situation of juridical double taxation occurs when two States regard the income as sourced within their territories. Indeed, what constitutes ‘domestic income’ may vary from country to country. [41] Economic double taxation (Wirtschaftliche Doppelbesteuerung), on the other hand, arises when the same income or capital is taxed twice in the hands of two different persons. [42] For example, international economic double taxation may arise when the same income is taxed at both the corporate level and the shareholder level. The distinction between juridical and economic double taxation is relevant because they are subject to different legal regimes. The OECD Model Tax Convention does not cover economic double taxation: “if two States wish to solve problems of economic double taxation, they must do so in bilateral negotiations.” [43] The OECD Model Tax Convention offers two methods to eliminate double taxation – the credit method and the exemption method – and leaves it to the OECD Member States to choose between them. [44] According to the credit method, which is the most common relief method, when income is taxed in the source State, the State of residence must allow the tax paid in the source State to be deducted from the tax on the income levied in the State of residence. It is, however, easy to guess that States [continua ..]

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V. The Courtís position on double taxation

In harmonising areas of tax law, the ECJ has extensively interpreted the prohibition on legal and economic double taxation contained in relevant instruments [46] and even set priority rules of its own. For instance, in the Schul case concerning indirect taxation, the ECJ obliged the State of destination to grant a credit for VAT paid in the State of origin. [47] Nevertheless, as mentioned, harmonising EU instruments cover only a very small proportion of cases where double taxation arises. In the absence of harmonisation, the key is to draw a line between legitimate use of Member State powers in the area of direct taxation and the requirements of EU law. The Court has admitted the existence of a connection between the abolition of double taxation and the proper functioning of the internal market, which is to be achieved in accordance with Art. 3, par. 3 TEU and Art. 26 TFEU. Not surprisingly, double taxation was expressly considered in Art. 293 EC Treaty, which established that “Member States shall, so far as is necessary, enter into negotiations with each other with a view to securing for the benefit of their nationals […] the abolition of double taxation within the Community.” [48] The Court coherently stated that double taxation conventions, including those referred to in Art. 293 EC Treaty, are designed “to eliminate or mitigate the negative effects on the functioning of the internal market resulting from the coexistence of national tax systems” [49] and emphasised in unequivocal terms that “the abolition of double taxation within the Community is thus included among the objectives of the Treaty.” [50] For this reason, the abolition of this Article with the Lisbon Treaty does not justify the assumption that EU law is now neutral or indifferent vis-à-vis the problem of double taxation. Starting from the premise that the abolition of double taxation may still be considered to be included among the objectives of the founding Treaties, one might deduce, also in the light of what has been said with regard to the ‘due regard’requirement, that there is a loyalty duty on Member States to provide remedies to double taxation, namely to enter into tax inter-state treaty negotiations. However, the Court chose a different path of reasoning which seems to boil down to reverse logic. Indeed, it has so far avoided declaring double taxation to be an infringement of EU fundamental [continua ..]

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VI. Allocating responsibilities between Member States

To overcome the Court’s outlined rather unsatisfactory position, a first doctrinal attempt was made to deduce the prohibition of double imposition from the obligation to protect the right to property under Article 17 of the EU Charter on Human Rights and Fundamental Freedoms, which risks being compressed – or in extreme cases even nullified – when two Member States claim to exercise a levy on the same fact at the same time. [59] This proposal, however, is not conclusive. First of all, because Member States are notoriously bound by the Charter solely when they act within the scope of EU law. [60] Then, even admitting for a while that the Charter is applicable, the issue remains open of which of the two States involved is violating the fundamental right to property. Finally, the proposal merely shifts the terms of the question because it makes it necessary to establish when interaction between taxes within the EU constitutes a case of confiscatory double taxation. Double taxation does not systematically, and one might say very seldom, lead to a confiscatory effect. [61] It seems, however, that other lines of reasoning might be available. It is hard to deny that a double levy by two Member States on the same taxable event produces a deterrent effect on the exercise of the fundamental freedoms. It leads to a higher burden on cross-border transactions and hence to an eminent disadvantage for taxpayers who exercise their freedoms under EU law. It therefore constitutes an obstacle to the full enjoyment of such freedoms, which require the elimination of all forms of barriers between Member States. It seems contradictory to hold the view that juridical double taxation is an obstacle to the functioning of the internal market and to deny at the same time that it can be challenged under EU law. Most importantly, this line of reasoning is inconsistent with other judgements by the Court where the dissuasive effect of a national measure on the freedoms of movement was deemed sufficient to trigger a violation of the fundamental freedoms themselves. For instance, the Court has argued that Art. 21, par. 1 TFEU requires that an EU citizen’s family life may continue when he returns to the Member State of which he is a national through the grant of a derived right of residence to the third-country national family member concerned. Indeed, if no such derived right of residence were granted, that Union citizen could be discouraged from [continua ..]

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VII. The European Court of Justice as a Tax Court

Whether Member States are obliged under Art. 344 TFEU to refer their double tax disputes to the ECJ or merely entitled to do so under Art. 273 TFEU is implicit in the reasoning developed above and was clarified by the ECJ in the Austria v. Germany case. [71] It is well-known that Article 344 TFEU demarcates exclusive jurisdiction over EU law disputes: “Member States undertake not to submit a dispute concerning the interpretation or application of the Treaties to any method of settlement other than those provided for therein.” [72] Art. 273 TFEU, in contrast, entitles – but not obliges – Member States to confer through a special agreement jurisdiction on the Court of Justice in any dispute between them “which relates to the subject matter of the Treaties,” which has been interpreted as requiring an “objectively identifiable link” between the dispute on the one hand and the action or objectives of the European Union on the other. [73] Such a link arguably cannot be too strong because when a dispute relates to the interpretation and application of the Treaties, the Court has mandatory and exclusive jurisdiction in virtue of Art. 344 TFEU. The link may, however, also not be too weak because disputes are not capable of being submitted to the ECJ under this title of jurisdiction when they are entirely alien to, or too extended from, the subject matter of the Treaties. [74] Except for harmonised areas, a case of double taxation does not concern the “interpretation or application of the Treaties” and consequently does not require the dispute to be solved under the terms of Art. 344 TFEU. On the other hand, the condition laid down in Art. 273 TFEU that the dispute should be related to the subject matter of the Treaties is satisfied in the light of the beneficial effect the mitigation of double taxation has on the functioning of the internal market. [75] The choice to submit a double tax dispute to the ECJ under Art. 273 TFEU has more than one advantage. [76] First of all, while doubts might arise over the compatibility of other dispute settlement mechanisms with EU law, such doubts are removed at their root if the dispute is submitted to the ECJ. [77] The progressive extension of the field of action of EU law in combination with the obligation incumbent on the Member States to exercise their exclusive competences in accordance with European Union law [78] could [continua ..]

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VIII. Final remarks

The Court of Justice continues to hold that double taxation conflicts with the fundamental freedoms of movement, but also emphasises that EU law does not provide the necessary tools to react to it. So far, negative integration has turned out to be toothless in situations where responsibility for double taxation cannot be attributed to a single Member State but follows from the interplay between the, in themselves non-discriminatory, tax laws of two or more Member States. The best argument used by the Court is that the Treaties do not contain any rule on how to divide taxing rights between Member States. Therefore, in the area of direct taxation, except for harmonised areas, the power to determine the criteria for the levy of taxes with a view to defining taxation rights and avoiding double taxation lies with the Member States. This paper has nevertheless pointed out that an alternative line of reasoning is possible. It is hard to deny that with cumulative taxation by two Member States, cross-border economic activity becomes less attractive than purely domestic activity. This situation creates a restriction on the enjoyment of the fundamental freedoms of movement. Indeed, the existence, or even only the risk, of a double levy constitutes a deterrent to the exercise of these freedoms, in the sense that taxpayers faced with such an eventuality are induced to remain within the boundaries of their States. Potential gains from specialisation offered by the single market are wasted, which is in evident contradiction with the aims of the European legal system. [88] In fact, by deciding that the disadvantages which arise from the parallel exercise of tax powers by different Member States are not restrictions prohibited by the Treaties to the extent that such an exercise is not discriminatory leaves the individual taxpayer at the mercy of the Member States and the common market unprotected. Most importantly, taxing the same tax base twice has detrimental consequences for the taxpayer. The potential use of compliance with a double tax treaty, if it exists, or with the OECD Model Tax Convention as justification for a proportionate limitation of fundamental freedoms appears to allow for a transparent co-existence of the single market requirements with the tax sovereignty of the Member States. This approach consists of presuming that a Member State complying with the applicable tax treaty, or in the absence of one with the OECD Model Tax Convention, is compliant [continua ..]

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