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The Parent-Subsidiary Directive (90/435/EEC - hereinafter: "the Directive") provides inter alia for the elimination of withholding tax on dividends paid by EU subsidiaries to their 25 % EU parent corporations. In the case of Germany, withholding tax on dividends was first reduced to 5 % before being eliminated entirely effective 1 July 1996.

The European Court of Justice has now held in a decision dated 17 October 1996 (DB 1996, 2313) that German law (sec. 44d par. 2 EStG) violates the Directive to the extent it makes a reduction in withholding tax on dividends contingent upon the parent's having held a 25 % share in the subsidiary for a period of 12 months prior to the dividend's receipt by the shareholder.

The Court held that the Directive does not permit Member States to require that a holding period must be met at the time of the dividend. While Article 3 par. 2 of the Directive does grant authority to the Member States to require a holding period of up to two years, it is, according the Court, not necessary that the holding requirement be fulfilled at the time of the dividend. Rather, as long as the minimum shareholding exists at the time of the dividend, the holding requirement can be met by maintaining the shareholding for the necessary time subsequent to the dividend.

The Court rendered its decision on questions referred to it by the German Cologne Tax Court (EFG 1995, 123 - 19 Sept. 1994). The Court's decision rests primarily on the wording of the Directive itself, whereby it is noteworthy that, in their implementing legislation, Austria, Belgium, Denmark, France, Italy, Luxembourg, and Spain had interpreted the Directive in the German sense, i.e. as requiring a certain holding period to be met at the time of the dividend. The Court here commented in effect that, in case of a conflict between the objective meaning of an EU directive and its intended meaning in the minds of the representatives of the Member States who agreed to it, the objective meaning would control.

The Court further held:

  • that taxpayers were entitled to invoke the Parent-Subsidiary Directive directly before the courts in their respective Member States with respect to the minimum rights which the Directive grants.
  • that the fact that the holding period permitted by the Directive could be completed after a dividend was paid did not mean that the Member States were required to reduce withholding tax at the time of the dividend. Rather, the Member States were free to delay the reduction in withholding tax until the holding period was complete if they wished.
  • that no claim for damages could be raised against Germany for mis-implementation of the Directive because the violation of EU law in this case not was neither so clear nor so crass as to warrant a damage claim.

In its legislation, Germany enacted a holding period of only one year, i.e. half that permitted by Article 3 par. 2 of the Directive. On the other hand, German law required that the holding period be met at the time of the dividend, and was inconsistent with EU law in this respect. The Court appeared to say that the consequence of direct invocation of EU law in the German courts would be that the German holding period (one year) would apply, but in the sense permitted by the Directive. One may question whether application of the two year holding period permitted by the Directive itself would not be more in keeping with the basic theory of direct invocation, i.e. permitting enforcement of the minimum rights granted by the Directive.

The above point is one of many perceptive comments on the consequences of the Court's decision contained in an article written by Drs. Haarmann and Schueppen (DB 1996, 2659). The authors of the article also explore the important questions of the ability of taxpayers affected by the decision to file new requests for refunds with respect to dividends distributed in past years (statute of limitations) and the chances for taxpayers who may have filed such requests but failed to appeal the resulting rejection notices to reopen the cases in question.

The decision of the European Court of Justice is reflected in the draft German Tax Reform Act of 1999 dated 13 March 1997. New sec. 107 par. 2 EStG of this draft provides that, if the holding period of 12 months is not complete at the time of the dividend, tax shall be withheld and remitted as normal. A refund is then available upon request when the holding period is later completed.

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