By Emiliha Ferrão, Transfer pricing specialist at Thorning Koponen Consulting in Stockholm, Sweden
In a ruling released January 20, the European Court of Justice found the Swedish rules on interest deduction limitations in breach of the EU law and freedom of establishment.
The ruling concerned a Swedish company that had been denied a deduction for interest payments related to an intra-group loan from its French affiliated company based on the previous Swedish interest deduction limitation rules applicable until 2018.
According to the Swedish tax law, a deduction for interest payments could be allowed if the corresponding interest income would have been taxed at minimum 10% in the member state where the legitimate receiver of the income is tax resident. However, an interest deduction is disallowed if the main reason for the underlying intra-group loan was to obtain a tax benefit for the group.
In the years under review, the corporate income tax in France was 34.43%. The French affiliated company was loss-making, and the interest income paid by the Swedish company could be offset for tax purposes against the losses in France.
The Swedish tax agency claimed that the main reason for the underlying intra-group loan was to obtain a tax benefit and therefore denied a deduction for the interest payments to the French company.
The European Court of Justice found that the Swedish rules on interest deduction limitations contradicted the freedom of establishment according to European law because an interest deduction would have been allowed according to Swedish tax rules on group contributions, if the French company had been tax resident in Sweden.
Hence, the Swedish rules on interest deduction limitations were deemed to restrict companies’ freedom of establishment.
The Swedish rules could further not be justified by reference to the prevention of tax avoidance or abuse or the balance of the allocation of taxing rights between member states in the EU.
The ruling is a positive development in the Swedish legal tax environment since the rules under review tended to hit cross-border intra-group interest payments set in accordance with market conditions, i.e., the arm’s length principle.
Whether Sweden’s new rules on interest deduction limitations applicable from FY 2019 will be tested against the ruling from the EU Court of Justice remains to be seen.
Until then, companies may be able to appeal previous decisions on denied interest deductions based on the Swedish rules on interest deduction limitations for the years 2015-2018.
Emiliha Ferrão is a transfer pricing professional with experience in tax and transfer pricing work at PwC and EY. Emiliha has worked with small and medium sized companies as well as larger multinationals worldwide.
She has managed projects from implementation of operational transfer pricing routines and Mandatory Disclosure Regime (MDR) processes to restructurings and tax audits and is well experienced in working with stakeholders on all levels.
Thorning Koponen Consulting is based in Sweden and focuses on finding pragmatic implementable solutions compliant with local tax regulations and international guidelines. We provide interim solutions, transfer pricing consulting, and software implementation services.