The European Court of Justice recently issued guidance to the Dutch Supreme Court about shareholder and distribution requirements for fiscal investment institutions (FII) that apply in the Netherlands. In 2017, KA Deka – a German investment fund - had asked the Dutch tax authorities for a refund of withholding tax paid on dividends received from Dutch companies. The authorities refused to issue a refund, arguing that KA Deka had not met two of the requirements to qualify as an FII under Dutch law. The ECJ held that the first, shareholder-related requirement set by Dutch tax law does not violate EU law, unless a foreign investment fund would, de facto, never be able to meet the requirement anyway. In terms of the second, distribution-related requirement, the ECJ stated that EU law is violated if a foreign investment fund that exhibits the traits of an FII does not qualify for a dividend withholding tax refund. With this guidance, the Dutch Supreme Court must now decide whether the two Dutch requirements violate EU law or not. There are currently approximately 7000 similar cases pending in the Netherlands and awaiting the final judgment.

Request for preliminary ruling In March 2017, the Dutch Supreme Court referred questions to the ECJ on the compatibility of various aspects of Dutch rules concerning the taxation of FIIs with the free movement of capital. The questions were raised in proceedings between Köln-Aktienfonds Deka (KA Deka), a German-resident undertaking for collective investment in transferable securities, and the Dutch tax authorities (DTA). The DTA had denied KA Deka’s applications for a refund of tax withheld on dividends received by KA Deka from companies in the Netherlands between 2002 and 2008. KA Deka claimed that it was comparable to an FII and, as such, eligible for a refund of dividend withholding tax. The DTA argued that KA Deka did not meet two of the conditions to qualify as an FII and, therefore, that KA Deka was not comparable to an FII. The Dutch Supreme Court's request for a preliminary ECJ ruling concerned whether FII legislation - as regards the two conditions for being eligible for the FII regime and, consequently, the refund of DWT - is compatible with the free movement of capital. The first condition relates to certain shareholder requirements, and the second relates to the institution's obligation to distribute profits within eight months after the end of its financial year. ECJ ruling In its ruling on 20 January 2020, the ECJ reiterated that EU member states are free to provide a specific tax regime to encourage the use of collective investment undertakings, and to define conditions which must be met to make use of such a regime. This includes rules on how the burden of proof for the entitlement to the regime is allocated. However, these national conditions violate EU law where they apply, in theory, to all taxpayers but where, in practice, non-resident taxpayers are unlikely to be able to meet the conditions. The ECJ reviewed the validity of the shareholder requirement and distribution requirement for FIIs in light of these considerations. Shareholder requirement According to the ECJ, case law demonstrates that measures that discourage non-residents from investing in a member state restrict the movement of capital and are prohibited under EU law. In this respect it is necessary to verify:

1. whether the shareholder conditions applicable to FIIs are likely to discourage non-resident investment funds from making investments in the Netherlands, and
2. whether the evidence which must be provided for that purpose by non-resident investment funds discourages them from making investments in the Netherlands.

In verifying the first item, the ECJ stated that, as a general rule, both FIIs and non-resident investment funds are subject to the same shareholders conditions. Even if this is the case, however, such conditions are not compatible with EU law if de facto they can likely only be met by FIIs. Whether this is the case, is for the Dutch Supreme Court to determine. In terms of the second item, the ECJ held that Dutch legislation may require taxpayers to provide proof to determine whether the conditions for a certain tax regime have been met. KA Deka was unable to prove that it had met the shareholder requirement because the system in which its shares were traded did not allow it to identify its shareholders. The ECJ noted that this was not the result of the shareholder requirement as such, but rather of the choice to have shares traded in a particular system. Therefore, the shareholder requirement does not violate EU law, provided FIIs whose shares are traded in a similar system have the same burden of proof. Whether this is the case is for the Dutch Supreme Court to determine. Distribution requirement An FII is required to distribute its profits within eight months after the end of its financial year. The ECJ held that such a requirement may violate EU law depending on the objective of the requirement. If the objective is to tax the FII's profits at the same level as the shareholders, the requirement violates EU law if profits of a foreign investment fund are – irrespective of any actual distributions – taxed at the level of the shareholders. The ECJ concluded that the Dutch Supreme Court must determine whether the objective of the distribution requirement is the taxation of the FIIs profits at the level of its shareholders. What does this ruling mean? It is the first time that the ECJ has held, in a direct tax case, that situations that are legally treated the same can still violate EU law if residents of another member states, although legally in the same position, are unlikely to be able to claim equal treatment. In other areas of EU law, this has been clearly established. The guidance demonstrates, as with the definition of abuse of EU law, that the ECJ views tax law no different from any other field of law when judging its compatibility with EU law. Even though the ECJ gives clear guidance to the Dutch Supreme Court, a number of issues remain . For example, if KA Deka has German participants who are required to recognise undistributed income, and non-German participants who recognise income only when distributed, is it still comparable to an FII? And if a foreign investment fund is not obligated to distribute, but makes distributions as a matter of general fund terms, is it comparable to an FII? With regard to the shareholder requirement, it will be interesting to see where the Dutch Supreme Court will draw the line given the fact that FIIs that are publicly traded in the Netherlands in practice have no means to identify their shareholders. They rely on provisions in the articles of association and the fund terms for compliance with the shareholder requirement. Next steps With these instructions in hand, it is now up to the Dutch Supreme Court to determine whether the shareholder and distribution requirements infringe on the free movement of capital. At a snail's pace, it seems that the end of the KA Deka proceedings are finally in sight - but it may take many years before all remaining questions are resolved.