Poland: Beneficial owner in recent case law of Supreme Administrative Court

BENEFICIAL OWNER IN RECENT CASE LAW OF SUPREME ADMINISTRATIVE COURT

Beneficial owner test and dividend payments

The issue of mandatory beneficial owner testing in the application of WHT exemptions on dividend payments has been a bone of contention generating disputes with Polish tax authorities since 2019. As defined in the Polish Corporate Income Tax Act (CIT Act), the beneficial owner of a payment is an entity for which all of the following is true:

• receives the payment for its own benefit, and in particular decides independently on its use and incurs the economic risk of its total or partial loss,
• is not an intermediary, representative, trustee or any other entity required to transfer the payment to some other entity in whole or in part, and
• carries on genuine business activity in the country in which it is established, if the payment is received in connection with its business, and whether or not it carries on genuine business activity is to be determined with account taken of the nature and scale of its business in relation to the payment.

Beneficial owner status is a strict condition for royalty or interest payments in the context of the directive-based exemptions or the preferential rates arising from most of Poland's double tax treaties. In those cases, the beneficial owner status is expressly required by law.

Where the matter has become a bone of contention, though, is in the case of dividend payments for which WHT exemption is sought based on Parent-Subsidiary (PS) Directive implementation, given the specific nature of the beneficial owner definition, including the requirement that the recipient must carry on a genuine business activity in its home country (the so-called business substance test). The reason is that, in such a case, the Polish CIT Act does not expressly require the recipient to have the beneficial owner status for the directive-based exemption to apply.

But tax authorities have been steadfastly insisting that the beneficial owner status must be confirmed also where WHT exemption is sought on the basis of national regulations implementing the PS Directive.

This issue gave rise to disputes that have come before the Supreme Administrative Court ("SAC"). However, SAC's adjudicative response turns out to be split between two radically different approaches.

In the first, more restrictive approach of the SAC (see case no. III FSK 1588/20, judgment of 31 Jan 2023), the top tax court says that even though the CIT Act does not expressly require the beneficial owner test for dividend payments, the obligation should be inferred from another requirement introduced in the CIT Act, i.e. for withholding agents to exercise due diligence when withholding the tax. According to SAC, conduct indicative of due diligence includes, among other things, carrying out a documented review of the dividend recipient's status as to whether it is the beneficial owner of the payment.

SAC's argument is based on:

• the purposes of PS Directive, with the Polish court considering that it is a non-compliance where WHT exemption applies to dividend paid to an EU- or EEA-based company which is not its beneficial owner but is a mere intermediary transferring the payment to another company, e.g. one based in a country listed as tax haven;
• anti-avoidance regulations (CIT Act's Article 22c), which imply that dividend tax exemption provisions do not apply if use of such exemption would be contrary to the object or purpose of such provisions;
• judgments of the Court of Justice of the European Union in the Danish cases C-116/16 and 117/16.

 

The second, more liberal approach of the SAC (see case no. II FSK 240/21, judgment of 27 Apr 2021) is that the recipient of a dividend payment does not need to be its beneficial owner. Under this approach, SAC argues that:

• since the Polish CIT Act does not expressly require beneficial owner status as a condition for dividend payments to enjoy exemptions based on PS Directive, and imposes such a requirement solely for interest and royalties (IR Directive), then this reflects the intent of the reasonable legislature which purposely did not make the dividend tax exemption contingent on the recipient having the status of the payment's beneficial owner;
• what is required is only that the recipient must own shares in the subsidiary because the right to dividend is conditional on share ownership.

Hence, in the SAC's opinion, if the collective rational lawmaker had intended to make availability of the dividend tax exemption contingent on the recipient's status as beneficial owner of the payment, then such a condition would have been reflected in a dedicated exemption provision of the CIT Act, as it has been done in the case of the exemption applicable to interest and royalties.

Beneficial owner status in the case of payments to German companies managing contractual funds (Sondervermögen)

The liberal approach seems to prevail, as can be seen in two other SAC decisions (cases no. II FSK 1277/22 and II FSK 1281/22, judgments of 8 Feb 2023), both favourable for taxpayers.

Interestingly, the cases concern the right to apply WHT exemption to dividend paid by a Polish withholding agent to a German management company (Kapitalverwaltungsgesellschaft) managing a German contractual investment fund that operates in the Sondervermögen regime (separate pool of assets).

This case law is worth a close look, being part of a larger series of five SAC decisions on directive-based exemptions for the company managing a German fund:

• two of the decisions were about directive-based exemption for dividend payments,
• three were concerned with directive-based exemption for interest payments (cases no. II FSK 1278/22, II FSK 1279/22, and II FSK 1280/22).

The body of decisions analyses a collective investment scheme, seeking to establish which entity in the structure can be considered the beneficial owner of the payments.

In accordance with the underlying facts, the management company is in the business of managing the assets of investment funds, including special contractual open-ended funds.

As the facts were described, the fund managed by the company:

• is a special alternative open-ended fund (an AIF),
• is a pool of investment assets (Investmentvermögen) forming separate trust property (Sondervermögen) of the investors,
• is not a legal person or legal entity,
• cannot of itself enter into contracts, acquire rights or incur obligations,
• does not have any internal bodies (organs).

The arrangement comprising the fund and the management company is that the fund is a separate asset pool managed by the management company for the account of the fund.

According to the facts in this case Fund assets are formally owned by the company but are held separately and managed for the account of the fund. Consequently, with respect to Polish fund assets that are companies, it is the management company that is their shareholder. As the fund was set up under contract as separate trust property and has no legal personhood, all assets attributed to the fund are formally and legally owned by the management company and it is the company, not the fund, that is party to all contracts relating to fund operations, such as loan contracts or contracts of sale. However, dividend and interest income was reported in the fund's annual financial statements while the payments themselves were made into the fund's bank account.

Under the facts, SAC:

• acknowledged the management company's right to apply WHT exemption to dividend payments,
• denied the management company the right to apply WHT exemption to interest payments.

The argument for dividend was essentially that even though SAC believes the management company is not the beneficial owner of the dividend payments, WHT exemption from dividend tax applies whether or not the recipient of the dividend is its beneficial owner.

As regards interest, though, SAC favoured the approach of the tax authorities claiming that the management company cannot be considered the beneficial owner of the interest payments. SAC endorsed a broad understanding of when an entity cannot be accorded the beneficial owner status, including not only in the case of formal agents and intermediaries, but also in the case of entities that admittedly have actual benefit of the income but at the same time a very limited control over it. SAC also made a point of noting that, considering the facts, Polish law contemplates an exemption for funds as collective investment schemes, the exemption being both entity-based (ratione personae) and income-based (ratione materiae).

In summary, as the above case law shows, while the issue of beneficial owner status in dividend payments remains controversial, SAC tends to increasingly favour the approach whereby the recipient does not have to be the beneficial owner of the dividend for the directive-based exemptions to apply.

On the other hand, the German management companies of contractual funds (Sondervermögen) are denied the beneficial owner status by SAC in the context of directive-based exemptions for interest payments.

Concerning the SAC decisions which relate to German fund management companies, it is interesting to note that Poland has a tax exemption for foreign investment funds. The exemption is subject to a number of conditions, but these should as a rule be met in the case of German investment funds governed by Kapitalanlagegesetzbuch. Thus, under the facts of all the discussed cases, a WHT exemption was generally available for the fund itself with respect to dividend and interest payments made for its account.

Interestingly, in the cases concerned with directive-based exemption for interest, counsel for the management company themselves requested SAC to allow the tax authority's appeal as the management company agreed with the authority's claim that it is the fund, not the management company, that is the beneficial owner of the interest payments. The stated reason for the request was that the management company is in receipt of a tax ruling confirming the right to exemption from tax on dividend and interest payments, albeit on a different legal basis (applicable to foreign collective investment schemes). Consequently, if SAC decided in favour of the management company, there would be two formally conflicting positions applicable to the same entity.

 

CJEU JUDGMENT DATED 9 JUNE 2023 CONCERNING INTEREST ON TAX OVERPAYMENTS DECLARED DUE TO INCOMPATIBILITY BETWEEN NATIONAL LAW AND EU LAW

On 8 June 2023, CJEU ruled in case C-322/22, stating the incompatibility with EU law of the Polish Tax Code provisions concerning interest on WHT overpayments refunded to investment funds from third countries (countries from outside EU and EEA).

Third-county investment or pension funds seek to reclaim Polish WHT, citing the incompatibility between Polish national law and EU law found by CJEU in its judgment of 10 Apr 2014 in case C-190/12.

This tax is considered to be overpaid and interest on the overpayments is governed by Article 78(5) of the Polish Tax Code (Ordynacja podatkowa), which says that such interest accrues:

• from when the overpayment arises (i.e. tax is withheld) to when the tax is refunded, on condition that the refund request is filed within 30 days from when the CJEU's judgment is published in the Official Journal of the European Union, or
• from when the overpayment arises (i.e. tax is withheld) to a date falling 30 days after publication of the CJEU's judgment in the Official Journal of the European Union, if the refund request is filed more than 30 days after such publication.

The judgment relied upon by third-country funds was handed down in 2014 so they obviously are no longer able to file their requests within 30 days from its publication in 2014.

This has spurred Polish courts to action and by and large they modified the deadline so that interest is due, but only if the refund request is filed within 30 days from when the tax was withheld (since the 30-day period after publication of the 2014 judgment already passed).

As filing an overpaid tax refund request within such a time is practically impossible, third-country funds have for all practical purposes been deprived of their right to reclaim WHT with interest.

Now CJEU has held that the above-cited Tax Code provisions and their modification by Polish courts are incompatible with Union law.

CJEU's ruling is that a national provision is incompatible with EU law if, when a request for a refund of overpaid tax is submitted more than 30 days after publication of the relevant judgment of CJEU, the provision limits the running of the interest on the overpayment due to the taxable person to the 30th day after the publication, or even excludes interest entirely in a situation where that overpayment was incurred by the taxable person after that 30th day.

This is a fundamental decision in terms of interest on overpayments that have arisen after CJEU's finding of incompatibility between national law and EU law, and opens a path for taxpayers to claim interest on those overpayments.

 

TAX EXEMPTION BASED ON PS DIRECTIVE VS. EFFECTIVE TAXATION OF DIVIDEND'S BENEFICIAL OWNER IN HOME COUNTRY

In accordance with PS Directive as implemented into Polish law, dividends are exempted from tax on condition certain statutory requirements are met.

The most important of those requirements are that the recipient:

1. is subject to income tax on all of its worldwide income, wherever derived, in Poland or an EU or EEA Member State, and
2. has directly held for an uninterrupted period of two years not less than 10 % of the share capital of the company paying the dividend, and
3. has not enjoyed an exemption from income tax on all of its worldwide income, wherever derived.

 

The Provincial Administrative Court in Lublin ("PAC") has recently rendered more than ten disturbing judgments (e.g. judgment of 05.04.2023 in case no. I SA/Lu 100/23, of 19.05.2023 in case no. I SA/Lu 87/23, of 07.06.2023 in case no. I SA/Lu 243/23) and a further series of adverse decisions of this court should be expected.

Relying on various authorities, including CJEU case no. C-448/15 (judgment of 7 March 2017), PAC applied a restrictive interpretation of the last of the above requirements. According to the Polish court, the requirement of not enjoying a tax exemption on worldwide income, wherever derived, should be equated with the requirement of effective taxation.

This position topples the existing construal of PS Directive provisions implemented into Polish law. This is surprising, considering that the PS Directive exemption method was expressly chosen by the Polish legislature itself for dividends paid to Polish companies.

Currently the PAC's taxpayer-unfriendly judgments apply to dividend recipients from Netherlands, Cyprus and Luxembourg.

PAC has so far denied the exemption to:

• holding companies from the Netherlands on account of them using the so-called participation exemption, which is an exemption from corporations tax on profits of Dutch companies related to shares and participation interests;
• to a Luxembourgian reserved alternative investment fund on account of it being exempt on a type-of-income basis from tax on income from holdings of securities that qualify as risk capital or from the sale, contribution, or liquidation of such securities;
• to a Cyprus-based holding company on account of it enjoying a type-of-income exemption from tax on interest and dividends under Cypriot law.

The PAC judgments are not final and definitive (prawomocne) yet. The matter will certainty come for review before the Supreme Administrative Court, but given the extended trial wait time in this court, its verdict will not rather be rendered soon.

 

FINANCE MINISTRY PUBLISHES DRAFT GUIDANCE ON WHT

The Finance Ministry (“FM”) published a notice on its website on September 28, 2023 that tax consultations started with respect to a proposed guidance document on withholding tax regulations (“Draft”).

As is explained in the Draft, the guidance document seeks to clarify how to interpret and apply certain provisions of income tax act, which govern the duty of withholding agents to withhold tax on non-residents' income derived in Poland. The proposed guidance relates to:

1. the beneficial owner (BO) test,
2. the issue of being subject to effective taxation in the context of PS and IR directives (whose implementation in the Polish CIT Act offers WHT exemption on dividends, interest and royalties, subject to conditions), and
3. the look-through approach (LTA).

Re 1) The beneficial owner (BO) test

Regarding two statutory conditions in the BO definition: (i) that the payment is received for recipient's own benefit, and that (ii) the recipient is not required to forward it to any other entity, the Draft says they should be verified and considered together. According to FM, these hurdles are there to ensure BOs do not include entities whose role is that of income administrators (administrator dochodu) with respect to the payment.

The Draft does not offer any precise test that could be used to identify an income administrator. With that said, FM maintains that when analysing the role of such a payment intermediary, regard should doubtlessly be had to both economic criteria related to the entity's function in the group, and external criteria which, when the economic test is met, can suggest that the entity's sole role is that of an income administrator. The Draft lists examples of such criteria:

• the intermediary earns a small margin on forwarding the payments;
• there is no actual income tax at the level of the intermediary with respect to the payments;
• receiving and forwarding payments is the sole business of the entity;
• payments are forwarded to a different recipient at short intervals;
• payments are regular and cyclic;
• the entity does not reinvest monies received from the payments;
• most of the entity's revenue is generated from cross-border financial payments made by affiliates;
• the company's balance sheet features high-value items that are related to foreign affiliates;
• the entity is part of an opaque multi-level structure with other intermediary companies serving as shareholders at various levels;
• the payment is forwarded to an entity which would not use preferential tax treatments under DTT or EU directives;
• there is a temporal link between incorporation of the entity and a change in tax laws that enables tax privileges in another country;
• the entity is located in a jurisdiction that has an extended network of double tax treaties or offers preferential treatment of passive income from foreign sources;
• there is a very limited withholding tax or no such tax in the entity's jurisdiction with respect to payments to non-residents;
• the entity is a resident of a country that is high on the list of direct foreign investments in Poland mainly on account of cross-border financial payments, rather than trading or manufacturing activities, and there is a disproportion between the country's GDP and the scale of outbound investments initiated from its territory.

In those circumstances, an income administrator may not be considered a beneficial owner because its right to the payment is restricted by its obligation to forward it to some other entity. In addition, the Draft makes a distinction as to the source of income administrator's obligation to forward the payment: it may arise from a formal contract (legal obligation) or from the circumstances of the entire transaction (constructive obligation).

One of the conditions included in the BO definition as per the Polish CIT Act effectively says that the recipient of a payment will not be considered its beneficial owner unless it carries on genuine business in its home country to which income from the payment is related, considering the nature and scale of the company's business at the time of receipt of the payment.

This business substance test is explained in the Draft by setting out criteria indicative of the recipient carrying on genuine business in its home country.

One of the deciding factors is whether the given entity has substance in terms of assets and personnel. The lack of a substance allowing the entity to conduct some concrete business may indicate that it does not carry on genuine business activities in its country, and hence that an artificial structure is involved which, in accordance with OECD guidelines and CJEU case law, should not be allowed to enjoy treaty benefits, such as a reduced tax rate, or directive-based exemptions. Importantly, FM believes that the genuine business test is failed not only in the case of wholly artificial arrangements, but also in the case of arrangements that are artificial in part.

At the same time, the Draft suggests that any assessment of whether or not genuine business is conducted should take into account specific characteristics of the given business, such as in particular:

• the way the company is managed,
• the company's accounting balance sheet,
• the structure of costs and actual expenditures,
• the number and qualifications of personnel, and
• the extent of premises and equipment that the company has at its disposal.

Re 2) The issue of being subject to effective taxation in the context of PS and IR directives

This part of the discussion refers to our article entitled "Tax exemption based on PS directive vs. effective taxation of dividend’s beneficial owner in home country".

With respect to the requirement that the recipient may not enjoy any exemption from income tax on all of its worldwide income, wherever derived, as a condition to directive-based WHT exemptions, this requirement should, according to the Draft, be understood as a requirement of being subject to effective taxation in relation to the payment. This means the Polish FM follows the position expounded in a series of controversial judgments of a Polish tax tribunal (WSA in Lublin), which was the first to pronounce that interest or dividend payments must be subject to effective taxation on the side of the recipient for WHT exemption to apply.

Re 3) Look-through approach (LTA)

The Draft explains that LTA is not grounded in Polish tax legislation, whether the CIT Act, the PIT Act or the Tax Code, so Polish tax authorities are generally not required to follow this approach.

According to FM, the use of LTA is limited to situations where all of the following is the case:

• the use of an intermediary between the country of the payer and the country of the BO payee does not result in a reduction in the amount of tax withheld in the first country;
• the payment remains of the same kind throughout the chain from payer (withholding agent) to foreign intermediary to foreign BO payee; and
• the structure as a whole or the specific payment is not artificial for the purposes of anti-abuse regulations.

The tax consultations will last until October 10, 2023 and we will be actively involved.

If you wish to discuss these topics, please contact:
Doradztwo Podatkowe WTS&SAJA Sp. z o.o.