Report on a session at the 13th annual IBA Finance & Capital Markets Tax Virtual Conference in London

Monday 15 January 2024

Session Chair

Ayzo van Eysinga, AKD, Luxembourg

Panellists

Mariana Diaz-Moro Paraja, Gómez-Acebo & Pombo, Madrid

Matthias Scheifele, Hengeler Mueller, Berlin

Elena Rowlands, Travers Smith, London

Shiraz Khan, Al Tamimi & Company, Dubai 

Reporter

Nikol Nikolova, Kambourov and Partners, Sofia

Introduction

The panel discussed the present application and significance of holding companies, specifically special purpose vehicles (SPVs), from the viewpoints of several key jurisdictions: the United Kingdom, Germany, Luxembourg, Spain and Dubai. The primary focus of the discussion centred on evaluating the relevance and impact of holding companies within the framework of both international and European Union regulatory progression, particularly in light of the proposed Anti-Tax Avoidance Directive 3 (ATAD 3), аs well as looking at what is the most appropriate jurisdiction to register an SPV. The conversation explored the implications of these regulatory changes for holding companies, assessing their operational viability and strategic importance in the international tax landscape.

Panel discussion

The demise of holding companies

The future viability of holding companies has been a topic of considerable debate in the past and will likely continue to be in the future.

In the context of taxation, the evolving global regulatory landscape, especially with initiatives like Base Erosion and Profit Shifting (BEPS) by the Organisation for Economic Co-operation and Development (OECD) and the EU’s Anti-Tax Avoidance Directives (ATAD), has significant implications for holding companies. These regulations may affect the traditional advantages offered by holding companies.

What is the best jurisdiction for holding companies

Initiating the dialogue, the panel directed their query to ChatGPT. As per the insights provided by the artificial intelligence (AI) tool, determining the optimal jurisdiction for a holding company is a multifaceted decision, contingent on a range of factors. These include the unique goals and requirements of the business, the tax implications, the regulatory framework and legal aspects. It emphasised that there’s no universal solution applicable to all scenarios, as what might be appropriate for one enterprise might not align with the needs of another. The AI tool highlighted several popular jurisdictions for holding companies, each offering distinct benefits. These include the Cayman Islands, Delaware, Ireland, Luxembourg, the Netherlands, Singapore and Switzerland. Although the general description provided by the AI tool was somewhat satisfactory to the panel, the list of popular jurisdictions was clearly not.    

The UK perspective

Elena Rowlands commenced her presentation by illustrating the role and function of holding companies. Intermediate holding companies are frequently used within international corporate structures to oversee and manage the shares of subsidiaries that are structured either by geographic region or business division. Specifically in the domain of investment funds, holding companies are instrumental, acting as the primary vehicle for investments. They provide several key benefits, including the segregation of risks, providing the advantage of limited liability, the capability to prevent unnecessary tax liabilities (‘dry tax charges’) and the ability to prioritise debt financing in the structural hierarchy. The decision-making process regarding the ideal location and tax residency of a holding company is driven by critical factors, primarily aimed at minimising substantial tax losses. Other important considerations that are not tax-related include the reputation of the jurisdiction, the geographical location of the investments or subsidiary companies, familiarity with the local environment, political stability and, in the case of alternative investment funds, the location of the fund manager or the governing entity.

Prior the introduction of the UK’s Qualifying Asset Holding Company (QAHC) regime in April 2022, the UK was already considered an attractive jurisdiction for holding companies due to its relatively low corporate tax rate, the lack of a withholding tax on dividends, a generous participation exemption regime and an extensive double tax treaty network. However, it faced competition from jurisdictions such as Luxembourg and Ireland in attracting holding companies related to alternative investment fund structures. The QAHC regime was implemented to enhance the UK’s competitiveness in regard to asset management and investment funds, aiming to counter the appeal of other established locations. The regime seeks to strike a balance between competitiveness and avoiding the perception of the UK being a tax haven. Ultimately, it puts the UK on a relatively level playing field with Luxembourg in terms of its tax treatment. For asset managers and investors, a key advantage is the ease of demonstrating substance in the UK, given its likely role as the location for human and business resources. The QAHC regime is expected to strengthen the UK funds industry by encouraging greater colocation of fund-related activities in the UK, leveraging existing infrastructure. This strategic move aims to address the tension between competitiveness and tax benefits, while positioning the UK favourably in the global landscape, particularly in light of the EU’s Anti-Tax Avoidance Directives.

Elena Rowlands further pointed out that in the present landscape, the acceptance of SPVs hinges on more than just tax considerations, marking a shift from a decade ago. Establishing an SPV in a jurisdiction for optimal tax purposes is no longer sufficient; a commercial rationale is now imperative. While the UK tax authorities exhibit less aggressiveness than some of their counterparts, such as Spain or Italy, they emphasise the overall picture and beneficial ownership, generally refraining from challenging cases where treaty benefits would accrue to ultimate shareholders or investors despite the use of holding companies.

Beyond tax authority scrutiny, there is a notable rise in public and investor scrutiny of tax planning and SPV usage, particularly in regard to investment funds. Many investors, including pension funds, now enforce tax codes of conduct focusing on responsible tax behaviour. The acceptance of SPVs as non-aggressive tax planning is contingent upon sufficient substance in the holding companies and the absence of their sole use to reduce or avoid withholding taxes. In essence, a commercial reason for employing an SPV is deemed essential in the contemporary regulatory and investor scrutiny landscape.

The German perspective

Matthias Scheifele pointed out that the acceptance of SPVs for tax purposes involves several considerations. He emphasised that a primary consideration is determining whether an SPV is acknowledged as an independent taxpayer with its own opacity, ensuring that it is not disregarded for tax reasons. This leads to further deliberations concerning the SPV’s residency and how its assets and income are allocated for tax purposes. These considerations are intertwined with concepts such as beneficial ownership and the SPV’s functional substance. Although there are no explicit laws precluding the acceptance of SPVs, general stipulations within domestic or international tax legislations can make this acceptance contingent on specific factual situations. In the current climate of continual debates and possible regulatory modifications, the fundamental challenge revolves around establishing substantial commercial justifications for utilising an SPV, beyond mere tax motivations. This scenario is further complicated by increased scrutiny from tax authorities, underscoring the need for thorough planning and stringent compliance.

From the perspective of German tax regulations, recent developments like the EU’s Unshell Directive, otherwise known as ATAD 3, are viewed more as an increase in scrutiny rather than a groundbreaking shift. In essence, SPVs can still achieve tax acceptance, but this necessitates greater diligence, strategic planning and a concerted effort to substantiate legitimate business reasons for their implementation. These reasons can encompass a variety of objectives, such as isolating investments, constructing robust barriers against liability risks, adhering to lender stipulations and enabling streamlined management participation or co-investments.

The EU and the Spanish perspective

Mariana Diaz-Moro Paraja proceeded to note that the EU Parliament, in a 2018 document, recognised the legal status of shell entities, including SPVs, except in cases of treaty abuse. In Spain, the deployment of SPVs, especially when it comes to holding companies or group financing roles, is broadly embraced and pursued by taxpayers. Nevertheless, the Spanish tax authorities have exhibited a notably assertive approach, especially concerning SPVs based in the Netherlands or Luxembourg. There has been a marked increase in challenges to exemptions from withholding tax, which are frequently encountered in financial structures facilitating cash distributions to investors. In such assessments, the authorities are influenced by the precedents set in the Danish cases, wherein the Court of Justice of the European Union underscored the importance of analysing the substantive nature of transactions rather than their mere legal form. This approach places significant emphasis on tracing the actual movement of funds to identify the beneficial owner or the ultimate recipient of the payments.

Looking forward, the dialogue is set to explore the potential repercussions of ATAD 3 on these issues. The situation in Luxembourg and the Netherlands is of particular interest, given that these countries represent a significant proportion of direct investments into Spain. This context highlights the evolving landscape of tax regulation and enforcement, where the focus is increasingly on the substance and ultimate purpose of financial structures and transactions.

Mariana Diaz-Moro Paraja highlighted the potential of ATAD 3 to initiate a paradigm shift in the EU’s tax regime by withholding tax benefits from entities that fail to meet certain substance requirements. She noted that the Unshell Directive, initially slated for adoption by 30 June 2023, with an effective date of 1 January 2024, is currently shrouded in uncertainty. Should it be implemented in the future, ATAD 3 is expected to redefine the EU’s approach, with a strong emphasis on the substance of business entities. A critical aspect of the directive is its inclination to categorise SPVs, special purpose entities (SPEs) or holding companies as ‘shell’ entities, thereby transferring the responsibility to taxpayers to demonstrate otherwise.

Accordingly, ATAD3 does not offer any explicit ‘safe harbour’ provisions for holding companies, as the General Anti-Abuse Rules will continue to be applicable. She emphasised that even if a holding company is not classified as a ‘shell’ under ATAD3, it could still be subject to scrutiny under the principal purpose test, the Multilateral Instrument or other domestic anti-abuse regulations. She further clarified that while the existence of adequate substance within a company might mitigate some challenges regarding beneficial ownership, it does not completely dispel concerns. Tax authorities may still question whether a compliant company is the true beneficial owner of the income, albeit with more complex arguments due to the company’s substantial presence.

Rowlands elaborated that due to Brexit, the UK is not obligated to implement ATAD 3, but its impact will be felt by UK-based groups using EU holding companies. ATAD 3 may enhance the appeal of the UK’s QAHC regime for investment funds, but it is unavailable for corporates. There’s uncertainty regarding measures to prevent the use of non-EU shell companies. While acknowledging the need for a consistent understanding of substance in SPVs, the speaker agreed with Scheifele that some ATAD 3 criteria for substance, such as office space and multiple employees, are outdated and not sensible for holding companies, given the nature of holding investments and distributing returns.

Scheifele continued by stating that the impact of ATAD 3 in Germany may not be substantial, as it is perceived to have a greater effect in jurisdictions with less stringent standards on SPVs. The draft Unshell Directive is criticised for emphasising traditional indicators such as office space and employees, which may not be as relevant in the modern digital era. This approach may result in the creation of unnecessary infrastructure for SPVs with limited business purposes and daily activities.

The United Arab Emirates (UAE) perspective

Shiraz Khan commented on the tax landscape in the UAE. The tax landscape, particularly in the context of SPVs and holding companies, presents a unique environment, shaped by the nation’s efforts to establish itself as a global business hub. The UAE’s tax regime is known for its relatively low tax burden and favourable conditions for businesses, which is particularly advantageous for SPVs and holding companies.

For SPVs and holding companies, one of the most significant features of the UAE tax system has been the absence of corporate and personal income taxes for most businesses. This treatment, applicable outside the oil, gas and banking industries, has been a key attraction for multinational corporations looking to establish holding companies or SPVs in the UAE, as it facilitates tax efficient structuring and investment. Although corporate tax has now been introduced in the UAE, the regime maintains preferential treatment for holding companies with a zero per cent tax rate available for companies established in free zones, subject to meeting various conditions, and a participation exemption for capital gains and dividends. The UAE’s extensive network of double taxation agreements with numerous countries further enhances its appeal, providing relief from potential double taxation and reinforcing its position as an advantageous jurisdiction for holding company structures.

Another critical aspect for SPVs and holding companies in the UAE is the regulatory environment within its free zones. These zones offer benefits, such as 100 per cent foreign ownership, the repatriation of profits and exemptions from import and export duties. For holding companies, especially those engaged in international trade or investment, free zones offer a conducive environment due to these tax and regulatory incentives.

Furthermore, the UAE has been aligning its regulatory framework with international standards, such as the Base Erosion and Profit Shifting (BEPS) project. This alignment indicates a move towards more transparency and could affect the reporting and operation of SPVs and holding companies, particularly in terms of substance requirements and anti-avoidance measures.

Conclusion and final remarks

Scheifele concluded that SPVs in Germany will persist, but taxpayers should expect increased scrutiny. The key remains whether an SPV serves genuine commercial purposes beyond tax considerations.

Mariana Diaz-Moro Paraja concluded that SPVs are deemed necessary for business in Spain, but the debate extends beyond substance, considering the overlap of ATAD 3 with the existing rules.

In the UK,  Rowlands stated that SPVs are expected to persist due to their valuable commercial benefits. National tax authorities are increasingly stringent on foreign holding companies, emphasising the importance of substance, the absence of conduit features and the commercial rationale for holding structures. This trend is likely to continue, irrespective of the outcome of ATAD 3.