Article by Andrew Martel, Senior Tax Manager, Andersen, and Mandy Clark, Tax Consultant, Andersen.
Published in the August 2001 issue of Tax Adviser.
This article covers a summary of the case facts, the methodsfor seeking reparation, the extension of the reasoning in the case to non-EU parent companies under bilateral treaty non-discrimination principles and the possible interaction with Océ Van Der Grinten
Summary of ECJ decision
The ECJ decision in the joined cases of Hoechst (C-410/98) and Metallgesellschaft (C-397/98) was delivered on 8 March 2001. As predicted, the ECJ followed the opinion of the Advocate- General Fennelly in finding that the UK tax law on intra-group dividends and Advance Corporation Tax (ACT) – in place until 5 April 1999 – discriminated against non-UK EU parent companies and was incompatible with the EC Treaty right to freedom of establishment. The ruling opens the way for claims for reparation against the UK Government for its breach of the Treaty.
In essence the Hoechst case deals specifically with the inability of a non-UK EU Member State parent company to enter into a group income election with a UK subsidiary. Thus a UK company which paid dividends to a parent company resident in another EU Member State was required to pay ACT over to the UK Inland Revenue i.e. it was required to pay corporation tax earlier. Hoechst claimed this violated Community law, in particular the freedom of establishment and the free movement of capital.
Hoechst claimed from the UK Revenue for the cash-flow cost to its UK subsidiary of paying the ACT before it was eligible to set it off against that subsidiary’s corporation tax liability.
Hoechst also claimed as an alternative (i.e. in case the ECJ ruled that the fact that ACT needed to be accounted for on dividends paid to EU parents was not a violation of the right to freedom of establishment), that it was entitled to a refund of part of the tax credit. This contention was based on:
(1) the non-discrimination provisions of the EC Treaty itself; and
(2) the fact that some Double Tax Treaties between the UK and EU member states do permit refunds of part of the tax credit. This was based on an argument that invoked the most favoured nation principle and/or the Community Loyalty principle (art. 10 EC Treaty) even though the German/UK Treaty did not provide tax credits.
The ECJ ruled as follows:
(1) It is contrary to art. 52 of the EC Treaty (now, after amendment, art. 43 EC) for the legislation of a member state to permit a tax advantage such as a group income election (allowing distributions to be paid by a subsidiary to its parent without the subsidiary being required to make advance payments of corporation tax in respect of the profits it has earned in that member state) only when both the subsidiary and parent are resident in that member state.
(2). An effective legal remedy should be available to seek reparation for the financial loss incurred by having prepaid undue ACT. It was stated that it is for national law to regulate procedural rules and answer ancillary questions such as the applicable interest rate. Such national rules must not operate to render virtually impossible the right to exercise the freedom of establishment.
(3) The UK could not plead that the Hoechst and Metallgesellschaft parties should have applied for the group income election prior to paying the dividend.
The UK High Court is currently considering how to proceed with determining the restitution required by the ECJ.
Claiming under Hoechst principles
How should a company go about claiming following the court’s decision against the UK?
The legislative basis for the claim against the Revenue is that the restriction on the ability of companies to make ICTA 1988, s. 247 Group Income Elections to those within a UK group only was contrary to EC law, specifically art. 52 of the EC Treaty (now art. 43).
A Hoechst claim is however not a tax-based claim. It is a claim for compensation or reparation for the loss of the use of an amount of money – the corporation tax paid early. As such there is a strong view that there are no means for restitution within the Taxes Acts. For example, it would be difficult to claim under TMA 1970, s.33 that there was an error or mistake, given that it was prevailing practice to pay ACT in situations such as Hoechst, etc. The only method of reclaiming any money wrongly paid to the Revenue is therefore to issue a writ to be served upon the Revenue. (Writs are now called Claim Forms).
A number of claim forms have already been served on the Revenue following the Hoechst decision. The Revenue have not released any procedural rules by which claims should be made and have stated that they will not comment on the making of claims until the UK Court has decided on the means of restitution. (The restitution will clearly differ according to whether the ACT has been offset against mainstream corporation tax or not. There is certainly an argument for repayment of the ACT in cases where it remains surplus notwithstanding the shadow ACT regime).
Once the writs are served on the Revenue, they are being grouped into categories for the purpose of group litigation orders, for which the solicitor of the Revenue has lodged an application in the High Court. Further to these groupings, a test case will be taken from each category and the other parties to the group litigation will ‘stand behind’ that judgement.
It is understood that the group litigation orders will apply to three categories of claimants:
• Class 1 – UK subsidiaries paying dividends to a parent company in an EU member state allowing no tax credit refund under the applicable Double Tax Treaty;
• Class 2 – UK subsidiaries paying dividends to a parent company in an EU member state allowing full or partial tax credits;
• Class 3 – Other. For example UK subsidiaries paying dividends to parent companies in a non-EU member state.
Any of the above categories could include companies with surplus ACT.
It is understood that the Revenue have stated that they will vigorously oppose any actions taken against them in which the facts of the case do not mirror those in Hoechst. This will include companies within the class 2 category in the litigation order. However, there is an argument that the availability of a tax credit is irrelevant, as it is the loss to the UK subsidiary – i.e. the early payment of tax and loss of the use of that money – which is at point in these cases. Indeed the ECJ explicitly referred to the distinction between ACT (an advance payment of corporation tax) and tax credits for the recipients of dividends. The detrimental cash flow effects to the UK subsidiary are not dependent on whether tax credits are available to the overseas parent. The loss to the UK company is identical in all cases.
The cost of taking the above course of action against the Revenue will obviously be more significant than simply filing a protective tax claim. Aside from the cost of issuing the initial claim form, which differs between legal firms, there are the legal fees associated with the group litigation order. These may be decided between the parties to the group litigation order prior to the test case being taken. In the event that the parties cannot agree on cost sharing the judge can order the method by which costs are to be shared.
Extension under bilateral treaty nondiscrimination principles
A number of the High Court claim forms already served on the Revenue are in respect of non-EU parent companies of UK subsidiaries, namely United States parent companies. The basis under which these claims are made is not on the ECJ judgment, as the ECJ arguably has no authority to direct on treaty claims with parties outside the European Union. In fact, the judgment in ICI v Colmer  ECR I-4695 supports this.
The basis on which these claim forms have been filed is that the restriction of the ability to make s. 247 Group Income Elections to UK resident groups only is contrary to art. 24(5) of the US/UK Double Tax Treaty (SI 1980/568). This article requires that a UK subsidiary of a US parent company should not be treated less favourably than similar enterprises. An interpretation of this is that it requires a comparison of a UK subsidiary of a US parent with a UK subsidiary of a UK parent company. Article 24(5) of the US/UK Double Tax Treaty is a standard OECD model treaty clause and as such, claims could potentially be made in respect of ACT on dividends paid to a parent company resident in any territory with a treaty based on the OECD model. Of course, it is necessary to consider any impact on the non UK tax treatment of the claimant.
It remains to be seen what the outcome of these claims will be. This situation is not as clear cut as claims from UK subsidiaries of EU parent companies. The Hoechst and Metallgesellschaft cases provide a judgment which is binding on the UK courts for EU companies, but do not provide any such authority for treaty-based claims. The cost to the UK Exchequer of claims that ACT should not have been paid on dividends paid to overseas group companies (particularly US parents) is potentially very significant. As such, the Revenue can be expected to defend strongly against these claims.
Interaction with Océ Van Der Grinten claims
The Océ Van Der Grinten (Océ) case is still pending hearing at the ECJ. As this case also concerns dividends paid from UK subsidiaries to parent companies resident in (certain) EU member states, there is scope for some interaction in claims under Océ and claims under Hoechst. Océ claims are relevant in relation to dividends paid from the UK to companies in The Netherlands, Belgium, Italy, Luxembourg, Sweden, Denmark and Finland which have at least a 25 per cent share holding in the UK company. These are the EU member states with which the UK has (or had – some treaties have changed) a treaty which provided for the part-tax-credit refund.
It therefore needs to be considered whether a claim under Océ principles would impact on a Hoechst claim, as it reduces the economic loss to the group. Océ claims are based on the parent-subsidiary directive and the definition of withholding tax and deal with the loss to the overseas parent company (i.e. the inability to claim a tax-credit refund). Hoechst claims, on the other hand, deal with the loss to the UK subsidiary. It seems proper that the matter of ACT be kept separate from the tax credit issue, but the Revenue’s view on the potential interaction of the two cases can be seen in the separation of classes mentioned above.
We await the High Court’s ruling with interest.
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August 2001 by