Luxembourg: ECJ - Decision C123-11: Use Of Tax Carried Forward Losses In Case Of Cross-Border Merger

On February 21st 2013, the ECJ ruled that the domestic law which precludes the use of tax carried forward losses of a merged company by the surviving merging company in the case of a cross-border merger while allowing such use in the case of a domestic merger is not contrary to the principle of freedom of establishment unless such domestic law does not give the opportunity to the surviving merging company to demonstrate that the use of the tax carried forward losses is not possible in the country of the merged company and to take these into account in the State of residence of the surviving merging company.

In the case at hand, a Finnish company, A, was the sole shareholder of a Swedish company, B, which was carrying on its activities in Sweden. B ceased its activities since it was loss-making. A envisaged a merger with B. Upon the merger, all assets and liabilities of B should be transferred to A. Neither a subsidiary nor a permanent establishment would be kept in Sweden thereafter. A requested from the tax authorities the right to use the tax carried forward losses of the Swedish company, as provided by Finnish domestic law. The tax authorities rejected its request because the losses were recognised under Swedish law and therefore out of the scope of the provision of the Finnish law allowing, in case of merger, the deduction of the tax losses of the merged company at the level of the surviving merging company.

The ECJ stated that the fact that a merger operation is motivated solely by tax considerations and that the companies concerned are in fact attempting by that means to evade their national legislation is not in itself capable of making the principle of freedom of establishment inapplicable.

The difference in treatment between two resident companies in case of a domestic or a cross-border merger is against the principle of freedom of establishment unless such difference in treatment is justified by an overriding public interest reason.

In light of the Marks & Spencer case law, the Court confirmed that the difference in treatment is justified if it preserves the right to tax of the Member State, prevents the risk of double use of tax losses and the risk of tax avoidance. However, it must be verified that the legislation at stake does not go beyond what is necessary to achieve the essential part of the objectives pursued. It will be the case if the possibilities to use the tax losses in the Member State of the merged company have been exhausted. The merging company shall demonstrate before the national jurisdiction that all possibilities for the use of the tax losses have been exhausted.

Addressing the second question, the Court concluded that the rules for calculating the non-resident merged company's losses for the purpose of being taken over by the resident merging company in a cross-border merger must not constitute an unequal treatment compared with the rules of calculation which would be applicable if the merger were with a resident merged company.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.