The N-case (C-470/04): Dutch exit tax disproportional

On 22 January 1997, Mr. N - formerly known as Mr. Van Dijk - transferred his residence from the Netherlands to the UK. N held 100% of the shares in three Dutch BVs, the effective management of which was situated in the Netherlands Antilles as of 22 January 1997. N was confronted with an exit tax with respect to unrealized gains in the shares. A deferment of payment of the tax assessment was granted, subject however to the provision of security. According to the ECJ, the exit tax constituted a restriction on freedom of establishment (Article 43 EC), since no automatic and unconditional suspension of payment was granted and decreases in value of the shares after emigration would not be taken into account. This restriction was, however, justified by an overriding reason in the general interest, namely the principle of fiscal territoriality. It is in accordance with this principle that the national provisions in question provide for the charging of tax on increases in value recorded in the Netherlands, the amount of which has been determined at the time the taxpayer concerned emigrated and payment of which has been suspended until the actual disposal of the securities. None the less, the restricting measure cannot stand the rule of reason test, since it goes beyond what is necessary to attain the objectives pursued. In the first place, the obligation to provide security for the payment of the exit tax is disproportionate in the light of the Council Directives on mutual assistance directive (in particular Council Directive 76/308/EEC as amended by Council Directive 2001/44/EC which provide that a Member State may request the assistance of another Member State in the recovery of debts relating to certain taxes, including those on income and capital). In the second place, in order to be proportionate to the objective pursued, decreases in value of the shares after emigration should be taken into account if the host state has not already done so.

In particular this last consideration - decreases in value which fully occur outside a Member State's direct tax jurisdiction should under circumstances be taken into account by that Member State - has caught my attention. The ECJ seems to go quite far here to achieve a desirable balance between the Member States' autonomy in direct taxation and the requirements of the internal market. It is not a proportionality test in the true sense of the term (necessity and suitability). This approach is not new in direct taxation cases, however. In the case of Marks and Spencer (C-446/03), for example, the ECJ required the UK to take into account losses stemming from another jurisdiction as well, where there is no local loss relief whatsoever, whether by carryback, current relief or carryforward.

Another interesting part of the judgment is the applicability of Article 43 EC (freedom of establishment). What happened to the requirement that the taxpayer should pursue economic activities in his new Member State of residence (see Werner, C-112/91)?

A last observation I would like to make concerns the application of the judgment in the N-case to the fiscal 'emigration' of companies. In Daily Mail (case 81/87) the ECJ said "that in the present state of Community law Articles 52 and 58 of the Treaty [now 43 and 48] confer no right on a company incorporated under the legislation of a Member State and having its registered office there to transfer its central management and control to another Member State." As a consequence, the UK corporation tax triggered by the 'emigration' of the company to the Netherlands was not found to be contrary to Community law. Analogous application of the judgment in N to companies, therefore, is problematic. However, the situation might change in the near future! In the pending Cartesio case (C-210/06) a Hungarian court has asked the following preliminary question: "May a Hungarian company request transfer of its registered office to another Member State of the European Union relying directly on community law (Articles 43 and 48 of the Treaty of Rome)? If the answer is affirmative, may the transfer of the registered office be made subject to any kind of condition or authorisation by the Member State of origin or the host Member State?" I can't wait for the ECJ's decision on this... From an internal market point of view, the ECJ should reconsider its ruling in Daily Mail. Exit taxes on the fiscal 'emigration' of companies constitute an enormous obstacle for the proper functioning of the internal market, since they are normally imposed without any deferment of payment and do not take into account decreases in value of the assets of the company after emigration.