Complaint against Norway concerning Norwegian tax rules on controlled foreign companies (CFC rules)

Letters to the EFTA Surveillance Authority

We refer to a letter received 29 April 2014 from the EFTA Surveillance Authority concerning a complaint against the Norwegian tax rules on controlled foreign companies (CFC rules). The Authority has extended the time limit for the Norwegian Government’s response until 18 August 2014.

The relevant requirements under the CFC legislation, i.e. whether an entity is genuinely established etc. in an EEA state, were adopted in 2007 following the decision from the European Court of Justice (ECJ) in September 2006 in case C-196/04 Cadbury Schweppes. The requirements were carefully designed to be in line with the judgment from the ECJ.

At the same time identical requirements were adopted to the exemption method which applies to share income received by corporate shareholders etc. These requirements under the exemption method have been examined by ESA in a separate case (Case No 63842) following a complaint. In January 2011 ESA decided to close that case and the Norwegian Government was notified of this decision in a letter dated 13 January 2011.

Under the CFC legislation the requirements adopted in 2007 substantially narrowed the scope of the rules within the EEA. The identical requirements under the exemption method have the effect of preventing the application of the exemption method in inappropriate circumstances.  

As part of the correspondence with ESA in the case concerning the exemption method, the Ministry summarised the relevant requirements as follows, cf. letter dated 6 November 2009:

"The legal requirements under this substance test are whether the company in question is genuinely established in another EEA state and whether it carries out real economic activity there. These requirements are aimed at fictitious arrangements designed to circumvent national legislation. In order to identify the subjective motives behind the arrangement and individual assessment based on objective criteria must be carried out.

In assessing whether the requirements are fulfilled, the preparatory works […] indicate that several criteria may be relevant, for instance whether the company in question has employees, premises, etc. However, the relevance and significance of such criteria may vary depending on the character of the company in question and the type of activity carried out."

As regards investment funds the Ministry noted in the same letter[1] that:

"[T]he criteria as regards employees and premises will in most cases not be relevant when assessing whether an investment fund is genuinely established etc. in an EEA state. Thus, a non-resident investment fund may well be regarded as genuinely established etc. although it does not have employees and own premises."

As mentioned that case concerned the exemption method but the above considerations appear to be equally valid under the CFC rules. In the Closure letter of 13 January 2011 ESA commented that:

"According to the re-evaluated interpretation of the issues raised in the complaint, the Norwegian Government has made it clear that the criteria as regards employees and premises will in most cases not be relevant when assessing whether an investment fund is genuinely established in an EEA State. Thus, a non-resident investment fund may well be regarded as genuinely established although it does not have employees or premises.

It appears to the Authority that the new practice, applied in the way it has been described in the correspondence from the Norwegian Government, reflects the interpretation and conclusions of the Court of Justice of the EU in Aberdeen Property Fininvest Aplha Oy and is in line with the EEA Agreement."

In the ESA letter of 29 April this year the Authority enquires whether the position taken in an advance tax ruling (bindende forhåndsuttalelse), concerning an investment fund established abroad, is the official position of the Norwegian Government. The interpretation expressed in that ruling refers to a specific case assessed thoroughly by the Directorate of Taxes based on facts presented by the taxpayer. The Directorate of Taxes found, based on these facts, that the fund established in a foreign jurisdiction did not meet the requirements of being a genuine establishment, etc. in the host state. The Directorate of Taxes is the competent government authority to address a request for an advance tax ruling.

The advance tax ruling referred to in the letter from ESA concerns taxation of investment funds established in a foreign jurisdiction. These tax rules are currently being reviewed by the Ministry. A likely outcome of this review will be a proposal for a more neutral taxation of different categories of investment funds. One implication of a change as indicated would be to neutralise the tax advantage achieved from establishing an investment fund in a favourable tax regime.

The Authority further enquires whether the concept of trade and industry (translated by ESA to mean “næringsliv”), as set out in the preparatory works, would also cover activity that solely deal with business investment. We cannot see that the Norwegian formulation “næringsliv” can be understood in a way that excludes business investment. The following extract from the preparatory work, cf. Ot.prp. nr. 1 (2007-2008), appears to confirm this view (no official translation):

"As the Ministry sees it, a foreign establishment can be genuine and carry out real economic activity even if the company’s income is mainly of a passive nature."

A reasonable standpoint may be that the word “næringsliv” encompasses more than “the concept of trade and industry” understood in a narrow sense. A more precise translation of the word “næringsliv” appears to be the broader concept of business. Therefore no business activity is per definition outside the scope of the rule. Further, the taxpayer will in each case be given the opportunity to prove that the business is genuinely established etc. in the host state.

ESA then invites the Norwegian Government to comment on whether the Norwegian CFC rules represent a restriction, and if so, whether they can be justified. Initially it should be sufficient to refer to the legislative process subsequent to the Cadbury ruling. The law-maker explicitly said that the Cadbury decision had to be considered normative also for the Norwegian CFC rules. As a result the Norwegian CFC rules can now only be applied on fictitious arrangements put in place to circumvent national tax rules.

In the recent ruling from the EFTA Court in joined cases E-3/13 and E-20/13 (Fred. Olsen and others v the Norwegian State) the Court did not challenge the requirements as formulated under the Norwegian rules. The EFTA Court, however, emphasised that the rules cannot be applied if the establishment is genuine. This appears to be in line with the corresponding requirements of the CFC rules. The question whether the trust in that case represents an artificial arrangement has been left for the national courts to decide.

Finally the Authority gives attention to the weight of a tax motive in applying CFC rules. Under the Norwegian rules a tax motive must be apparent to carry out CFC taxation within EEA. However, this is not a sufficient requirement and the taxpayer will always be given the opportunity to prove that the arrangement is genuinely established, etc. In the Fred Olsen case the EFTA court summarised the concept of wholly artificial as follows:

"What is decisive is the fact that the activity, from an objective perspective, has no other reasonable explanation but to secure a tax advantage."

Yours sincerely,

Frode Kristiansen
Legal Adviser

                                                                       Martin Børresen
                                                                       Senior Tax Lawyer

This document has been signed electronically and it is therefore not signed by hand.

[1] The considerations regarding investment funds were reproduced from a letter sent by the Ministry to the Norwegian Directorate of Taxes 29 September 2009, following the decision in case C-303/07 Aberdeen.