Clemens Hasenauer		Johannes Prinz

Austrian courts recently had to deal with the compatibility of taxation of foreign portfolio dividends with European Community law.

Restriction of free movement of capital

Under Austrian participation exemption, dividends received by an Austrian resident corporate shareholder from a domestic company are tax exempt irrespective of the percentage of the participation and of the holding period. In contrast, dividends from a foreign company are only tax exempt if the shareholder holds at least 10% in the share capital of a foreign company eligible for such exemption and if such participation is being held continuously for at least one year.

Hence, there is a tax exemption for domestic portfolio dividends while foreign portfolio dividends are subject to Austrian corporate income tax at the standard rate of 25% without any credit for underlying taxes.

In a decision dated April 17 2008 the Austrian Administrative Court (Verwaltungsgerichtshof), by referring to a variety of European Court of Justice (ECJ) cases, in particular to Manninen (C-319/02), held that such legislation is discriminatory and violates the principle of free movement of capital set out in art 56 of the EC treaty.

Referring to ECJ cases such as Test Claimants in the FII Group Litigation (C-446/04), the Austrian Administrative Court also decided that under European Community law the discrimination of foreign portfolio dividends could be remedied not only by granting a tax exemption of the dividend income but also by granting a tax credit for the tax actually paid by the foreign company making the distribution.

According to the decision of the Administrative Court national law requires that the respective discrimination be remedied by way of a tax credit rather than by way of a tax exemption. Referring to ECJ case Skatterverket v A (C-101/05) the court further decided that the restriction of the free movement of capital also applies to dividends from non EU member states but might be justified if no exchange of information is possible with the tax authorities of the respective third country.

Foreign tax credit

While the decision of the court is not undisputed in Austrian literature, the Austrian ministry of finance has summarised its position on the future tax treatment of portfolio dividends (i.e. dividends from a foreign shareholding below the 10% threshold which is required under the Austrian international participation exemption) in an information dated June 13 2008 as follows:

Foreign portfolio dividends remain subject to 25% Austrian corporate income tax. However, for portfolio dividends from companies established in the EU or in Norway (which is an EEA member state with which an agreement on mutual assistance in tax administrative and enforcement procedures exists) there is a credit available of the underlying corporate tax payable by the distributing company. In addition, foreign withholding tax on the dividends can be credited in accordance with an applicable tax treaty.

Many details of the computation of the creditable amount still need to be clarified. In practice, the administrative burden for a portfolio shareholder of performing tax credit relief computations may make credit claims unfeasible. Any tax credit is limited to the Austrian tax payable on the dividend income. For dividends from other countries no credit of the underlying tax is possible according to the ministry of finance.

ECJ preliminary ruling request

In September 2008 the independent tax senate (Unabhängiger Finanzsenat) referred preliminary ruling requests to the ECJ as to whether the positions of the Administrative Court and the ministry of finance as outlined above are really in compliance with European Community law.

In particular, the tax senate requested the ECJ to clarify whether, in order to remedy the discrimination of foreign portfolio dividends, a tax credit carry-forward has to be possible or whether a tax exemption rather than a tax credit has to be granted.

Clemens Hasenauer (clemens.hasenauer@chsh.at)
Johannes Prinz (johannes.prinz@chsh.at),
Vienna