Tuesday, 25 April 2017

CJEU rules French prior-approval rules for EU mergers are contrary to EU law

On 8 March 2017, the Court of Justice of the European Union (CJEU) issued its decision in the Euro Park Service case, concluding that France’s domestic rules relating to the implementation of the anti-avoidance provision in the EU merger directive are contrary to the directive and the freedom of establishment provision in the Treaty on the Functioning of the European Union (TFEU). The CJEU followed the opinion of Advocate General Wathelet issued on 26 October 2016.

The EU merger directive aims to eliminate fiscal obstacles to cross-border reorganizations involving companies situated in two or more EU member states, by providing for the deferral of taxes on gains relating to assets transferred under a merger, etc. The directive contains an anti-abuse clause that allows member states to deny or withdraw the benefits of the directive if (one of) the principal objective(s) of a transaction is to avoid tax.
Based on France’s implementation of the anti-abuse provision in the directive, a taxpayer must obtain the advance approval of the French tax authorities to receive the benefits of the merger directive. Where a merger involves a foreign legal entity, the French taxpayer must demonstrate that (i) the transaction can be justified on economic grounds; (ii) the transaction does not have as its principal objective, or as one of its principal objectives, tax avoidance or evasion; and (iii) the terms of the transaction make it possible for the capital gains deferred for tax purposes to be taxed in the future. In contrast, in a purely domestic merger, French tax deferral is granted without the taxpayer having to meet the above requirements.
In the case before the CJEU, a French company was wound up, without going into liquidation, for the benefit of its sole Luxembourg shareholder. The French company elected (in its accounts and tax returns) to use the special favorable regime under the merger directive (i.e. deferral of the net capital gains generated by the transfer of assets to its EU shareholder). Following a tax inspection, the French tax authorities challenged the use of the special merger regime because the taxpayer did not request prior approval; approval would not have been granted, since the transaction could not be justified by commercial reasons and had been carried out for alleged tax avoidance reasons.
The French Supreme Administrative Court referred the case to the CJEU on 11 January 2016, requesting a preliminary ruling on whether the French prior-approval process is compatible with the freedom of establishment provision and the merger directive.

CJEU decision
In its decision, the CJEU stated that, even though the merger directive entitles EU member states to deny or withdraw the benefits of the directive, this may take place only where the transaction has as its principal objective, or as one of its principal objectives, tax avoidance or evasion and, thus, is not carried out for valid commercial reasons. In concluding that the French prior-approval process for cross-border mergers is contrary to EU law, the CJEU focused on three points:

  • The procedural requirements for prior approval are not sufficiently precise, clear or predictable to allow taxpayers to understand their rights and ascertain whether they will be able to benefit from the provisions of the merger directive.
  • The merger directive provides, as a general principle, that the deferral of taxation of the capital gains relating to the assets transferred will be granted; deferral may be denied only where the transaction has a tax avoidance or tax evasion objective. Under the French legislation, however, there is a general presumption of a tax avoidance/evasion motive, because deferral will not be granted unless the taxpayer first complies with the procedural and substantive requirements under the legislation. Such a presumption, which applies to every transfer made to a nonresident company, even where the French tax authorities do not have any indication of tax fraud, violates EU law.
  • The prior-approval rule constitutes a restriction on the freedom of establishment because it impedes French companies that wish to carry out cross-border transfers from doing so, since such transactions are subject to additional requirements. The advance-approval requirement goes beyond what is necessary to meet the objective of preventing tax avoidance and evasion. 

The CJEU also pointed out in its ruling that the condition requiring that the terms of the transaction make it possible for the capital gains deferred to be taxed in the future is not included in the merger directive. This requirement cannot be justified by the objective of preventing tax avoidance and evasion, since that objective already is expressly covered by the second approval condition in the French legislation.

Source: Deloitte