The Spanish Supreme Court sets some limits to the Tax Authorities in the review of the taxation of income received by foreign investors

The Spanish Supreme Court has recently issued several judgments in which it has established criteria that sets limits to the Spanish Tax Authorities when taxing certain Spanish-source income received by foreign investors. In recent years, there has been anincreasing level of litigationdue to the trend of the Spanish Tax Authoritiesto tax income (particularly interest and dividends) received by foreign investors established in the European Union ("EU") or in countries with a Double Taxation Agreement ("Tax Treaty") with Spain, in particular on the basis that the recipient is not thebeneficial ownerof the income, in application of an (in our opinion) excessively broad interpretation of the case law of the European Court of Justice.

These recent judgments contribute to generate a higher level of legal certainty in the structuring of investments in Spain through holding companies, by confirming certain elements that the Spanish Tax Administration must take into consideration when reviewing such structures. In particular, the Supreme Court considers that:

• It is the Tax Administration that must prove the existence of an abuse in order to deny the application of the dividend exemption

的Supreme Court confirms that the Tax Administration cannot assume the existence of an abuse merely because, at the top of a chain of holders, there is an entity not entitled to the exemption, thus passing on to the taxpayer the burden of proving the existence of valid economic reasons in the structure. On the contrary, the Supreme Court, in light of the European Court of Justice's Case Law as regards the burden of proof of abuse, confirms that it isfor the Tax Administration to prove the existence of abusein order to be able to deny the application of the exemption in the distribution of dividends to a EU resident entity.

• 有某些情况下,可能的证据that a holding company receiving dividends is the beneficial owner

For the Supreme Court, a holding company is considered to be thebeneficial ownerand, consequently, the dividends received will be exempt in Spain if it:

i. is apermanent investment vehicle
(a) whose investment activity commenced before the investment concerned was made;
(b) has made material investments in different jurisdictions; and
(c) was not incorporated expressly to make such investment (but holds several investments and the controverted investment's weight is not predominant);

ii. obtainssignificant incomeother than that reviewed by the Spanish Tax Authorities;

iii.does not redistribute the majority of income it receives, but manages the income received with a view to reinvest and optimise the use of cash; and

iv.acts autonomously, through a Board of Directors that takes and implements all decisions relating to the management of resources and the repatriation of funds.

的Supreme Court considers that circumstances such as the ones above entail that the company receiving the dividends cannot be considered as an instrumental entity, as it carries out thegenuine economic activity of the execution and management of its investments．的Supreme Court also considers that the existence of a single decision-making unit and a total sole control held by the non-EU resident parent company of the group is not an element which can on its own impact such conclusion.

• The certificates of tax residence issued for the purposes of a Tax Treaty constitute full evidence of the tax residence of the recipient of the income

的Supreme Court considers that foreign tax residence certificates issued for the purposes of a Tax Treaty do not constitute a mere indicator of the tax residence of the recipient of the income, but have the value offull evidence, so that the Tax Administration and the national courts must presume their validity and cannot reject their content or judge the circumstances in which they have been issued. If there is a tax residence conflict (i.e. if the two States consider the taxpayer to be resident in their territory), it must be resolved by applying the "tie-breaker" rules provided for in the applicable Tax Treaty and not unilaterally.

What can we learn from these judgments?

The above Supreme Court's position, in addition to establishing certain guidelines for the Tax Authorities when reviewing the application of the above exemptions, confirms theneed to have the necessary substance and business rationale in the incorporation and operation of investment platforms resident in EU Member Statesin order to benefit from the exemption on dividends and interest received from Spanish sources. In practice, this means that holding companies, among other issues:

1. arecontinuous investment platforms, carrying out a variety of investments over time and, if possible, in multiple jurisdictions;

2. have the necessary structure ofmaterial and human resourcesto carry out their investment activity;

3. are managed by anexperienced and qualified management bodythat is effectively involved in the decision making process of strategic business matters (with documentary evidence of such involvement);

4."recycle", at least partially, the cashdistributed by its subsidiaries in the execution of new investments so that the cash is not automatically repatriated in its entirety to the ultimate investor; and

5. obtain annualcertificates of tax residencein their respective jurisdiction for the purposes of the Tax Treaty with Spain.

The existence ofcircumstances such as the above should, on the basis of the Supreme Court's position, help to reduce the risk of denial of exemptions on the Spanish source dividends or interest that the holding company receives．Notwithstanding this, it will be for the Spanish Tax Authorities to assess, on a case-by-case basis, the factual elements present to determine whether the holding company can benefit from such tax benefits.

If you would like advice on the structuring of investment platforms or tax disputes in light of this case please contact us.