Benefits and exemptions no longer for everyone. Change to the Convention on the Avoidance of Double Taxation concluded with the Kingdom of the Netherlands

On 29 October, Deputy Minister of Finance Jan Sarnowski and the Ambassador of the Kingdom of the Netherlands, Daphne Bergsma, signed a Protocol amending the Convention for the avoidance of double taxation with respect to taxes on income.

“Today, we have updated and strengthened the double taxation agreement between Poland and the Netherlands by incorporating the latest standards, including provisions aimed at combating tax fraud. The changes will prevent abuse of the Polish–Dutch tax treaty, including the unjustified use of its benefits by ‘shell’ companies. The Protocol will also safeguard Poland’s right to tax capital gains from the sale of shares in real estate companies used to avoid income tax on sales of property located in Poland.”

– said Deputy Minister of Finance Jan Sarnowski.

The Protocol is intended to reflect Poland’s tax policy and the achievements of the OECD BEPS (Base Erosion and Profit Shifting) project, including measures to tighten the tax system and combat tax abuse. In order to address treaty abuse, a so-called principal purpose test (PPT) will be introduced. The essence of this clause is the denial of the benefits of the tax treaty where obtaining such benefit was one of the principal purposes of a given transaction.

As a result, the application of the PPT may lead, for instance, to the requirement to withhold tax at source on payments made by Polish residents to entities based in the Netherlands at the domestic rate (disregarding the reduced rates or exemptions provided for in the Convention), if under the given circumstances the tax authorities deem the use of the Convention provisions to be abusive.

An additional safeguard is provided by the new preamble to the Convention, which states that the objective of the Convention is to eliminate double taxation without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance.

Under the newly introduced real estate clause, gains derived by a person resident in one state from the alienation of shares, or comparable interests, may be taxed in the other state if, at any time during the 365-day period preceding the alienation, more than 75% of the value of those shares or comparable interests was derived, directly or indirectly, from immovable property situated in the other state.

The effect of this clause will be the taxation, in the country where the property is located, of the sale of shares or similar interests in a company whose assets consisted of more than 75% immovable property during the 365-day period preceding the sale.

The new rules concerning permanent establishments revise the list of activities excluded from the definition of a permanent establishment. It is now specified that all activities listed in the Convention (e.g., the use of facilities solely for the purpose of storage, display, or delivery of goods or merchandise) must be of a preparatory or auxiliary character in order not to constitute a permanent establishment. A permanent establishment will be deemed to exist if a person acts in one of the states on behalf of an enterprise and, in doing so, habitually concludes contracts, or habitually plays the principal role leading to the conclusion of contracts that are routinely concluded without material modification by the enterprise, and such contracts are concluded in the name of the enterprise, or for the transfer of ownership or right to use property owned or used by the enterprise, or for the provision of services by the enterprise.

According to the Protocol, the profits attributable to a permanent establishment are those which it might be expected to make, particularly in its dealings with other parts of the enterprise, if it were a separate and independent enterprise engaged in the same or similar activities under the same or similar conditions, taking into account the functions performed, assets used, and risks assumed by the enterprise, the permanent establishment, and other parts of the enterprise.

For Polish tax residents earning income in the Netherlands, it is important to note that the Protocol will not change the method of avoiding double taxation applicable to them. The proportional credit method will continue to apply. Polish tax residents deriving income in the Netherlands will therefore remain entitled to the abolition relief under the rules set out in the Personal Income Tax Act.

The Protocol also includes, among others:

• the introduction of a transparent entity clause,
• the implementation of a general anti-abuse rule (PPT),
• new provisions regarding permanent establishments,
• the implementation of the transparent entity clause,
• the expansion of the rules for determining the tax residence of persons other than individuals with dual tax residence.