On March 17 2021, the Court of Justice of the European Union (CJEU) delivered its judgment on the Allianzgi-Fonds Aevn case (C-545/19), where it concluded that the withholding tax (WHT) applicable in Portugal to dividends paid to non-resident undertakings for collective investment in transferable securities (UCITS) is incompatible to EU law, namely the free movement of capital.
The case was referred to the CJEU because the level of tax on dividends paid to UCITS is different according to whether the UCITS is a resident or a non-resident. Whereas dividends distributed to resident UCITS enjoy a full exemption from dividends received, dividends paid to foreign UCITS are subject to a 25% final WHT rate. Therefore, dividends received by a local UCITS only get taxed when they form part of a dividend distribution to the fund investors.
One of the strongest or, at least, most conspicuous arguments put forward by the Portuguese government, and backed by the Advocate General, to justify the restriction was that Portuguese UCITS, unlike foreign ones, were taxed quarterly on their overall net assets, including dividends that have not yet been distributed, by means of a stamp duty.
Furthermore, dividends received by a non-resident UCITS are exempt from WHT in Portugal, but only if they are taxed in the State of residence at a rate greater than 60% of the corporation tax rate applicable in Portugal. That was not the case of Allianzgi-Fonds Aevn (a German UCITS), since Germany – unlike Portugal – deems a UCITS to be a flow-through entity, that ipso iure passes all income received on to its investors, who are then subject to tax.
In accordance with settled case-law, the CJEU reiterated that the restrictions on the movement of capital are prohibited by Article 63.º Treaty on the Functioning of the European Union if they are likely to discourage non-residents from investing in another member state or residents from investing in other member states. The CJEU then decided that the Portuguese tax framework leads to a discriminatory tax treatment on the distribution of dividends to non-resident UCITS, because a WHT is levied on the dividends and the corresponding WHT exemption cannot be applied.
The reasoning of the CJEU diverged with the view upheld by the Advocate General, in that it sustained that the stamp duty levied on net assets is not comparable to an income tax for the purpose of assessing the existence of a restriction on the free movement of capital. The CJEU stated that the situation of a Portuguese UCITS benefiting from a distribution of dividends is objectively comparable to that of a non-resident UCITS, insofar as, in both cases, the profits realised may, in principle, be subject to economic double taxation or to a series of charges to tax.
Therefore, according to the CJEU, the discriminatory treatment allowed by the Portuguese legislation (which considers only the place of residence of the UCITS), is not accompanied and justified by an objective difference in the situations of resident and non resident entities.
In addition, the CJEU stated that even if it would be possible to compare the stamp duty to a tax on dividends, resident UCITS could still avoid the payment of this tax by distributing the income immediately to their investors (that is to say, prior to the quarterly stamp duty taxation).
Lastly, the CJEU rejected the other arguments put forward by the Portuguese government to justify this difference in treatment: (i) the need to protect the cohesion of the Portuguese tax system; and (ii) the need to preserve a balanced allocation of taxing rights between member states. Regarding this last argument, the CJEU unambiguously stated that it cannot be invoked in cases where a member state deliberately chose not to tax resident UCITS on the dividends paid by resident undertakings.
This decision is very relevant as it affects not only a large number of UCITS that invest in Portuguese undertakings – and that may now be able to claim back the WHT illegally levied, but also paves the way for non-resident UCITS to invest directly in Portuguese companies without being taxed on dividends, regardless of the level of shareholding and perhaps of whether they are in the EU or not, since the fundamental freedom at stake is the freedom of movement of capital (the issue whether a third country fund is comparable to an EU UCITS may be relevant).
On a final note, it is expected that the relevant national provisions are changed, in order to align them with the CJEU verdict. However, there is no indication that the change will take place with the approval of the Portuguese State Budget Law for 2022, which is scheduled for July 2023.
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