Dividends and beneficial ownership status – the “safe harbour” mechanism in the Minister of Finance’s explanations

Entities that pay dividends to their parent companies have been struggling for years with documentation challenges when attempting to confirm their right to apply for withholding tax exemption. In Explanations concerning the beneficial owner clause published on July 3, the Minister of Finance proposed a solution that can be described as a “safe harbour.” It is intended to facilitate the application of the exemption under the Parent-Subsidiary Directive (Council Directive 2011/96/EU of November 30, 2011 – PS Directive) in the case of payments to parent companies from the European Union.

Beneficial owner as a condition of the PS Directive?

The Explanatory Notes indicate that the purpose of the PS Directive is to ensure tax neutrality of profit distribution within the EU, provided that the parent company receiving the dividend is its beneficial owner (BO).

Importantly, the beneficial owner condition does not result from the content of the PS Directive itself or its Polish implementation (Article 22(4) of the CIT Act). However, the Minister of Finance derives it from the CJEU judgment of February 26, 2019, in joined cases C-116/16 and C-117/16.

By introducing this requirement as a formal element of the dividend exemption, the Minister of Finance simultaneously proposed a presumption mechanism – a kind of safe harbour allowing, in certain cases, the status of beneficial owner to be recognized without a complex examination of the taxpayer’s status.

Definition of beneficial owner

The Polish CIT Act (Article 4a(29)) provides for three cumulative conditions for recognizing the recipient of a payment as the beneficial owner:

1. 1. It receives the payment for its own benefit, including deciding independently on its use and bearing the economic risk associated with the loss of the payment or part thereof,
   2. It is not an intermediary, representative, trustee, or other entity obliged to transfer all or part of the receivables to another entity,
   3. It conducts genuine economic activity in the country of ist registered office, if the receivables are obtained in connection with their economic activity, whereby the nature and scale of the activity conducted by that entity in relation to the receivables received is taken into account when assessing whether the entity conducts genuine economic activity.

First and foremost, the third element of this definition has been a source of disputes between taxpayers and authorities for years, although the disputes also concern the first two criteria.

The explanations introduce a pragmatic simplification for dividend payments. Point 6.4 introduces a presumption mechanism which, in certain situations, allows the payer to apply the dividend exemption without a detailed analysis of the BO status. It seems that by introducing this simplification, the Minister of Finance confirms that a rigorous examination of each EU parent company has proved to be of little practical use in the context of legal group structures.

Single taxation in the EU as the basis for applying the presumption

The mechanism is based on the principle that if the distribution of profits is taxed at least once within the EU, there is no need to examine the BO status of the direct recipient of the dividend.

In the opinion of the Minister of Finance, at least single taxation of dividends within the EU essentially guarantees that there is no risk of the PS Directive being applied contrary to its purpose. In the explanations, this objective is presented as preventing the transfer of untaxed income outside the EU. If the condition of at least one taxation is met, the explanations allow for the detailed analysis of the status of the beneficial owner of the direct recipient of the dividend to be omitted and for the presumption that the recipient meets this condition to be accepted.

Hypothetical chain of payments

The basis for applying the presumption is the so-called hypothetical chain of payments, reminiscent of the approach taken in the look-through approach. Instead of examining whether the direct recipient meets the conditions for being considered the beneficial owner, the payer may analyse what the further – hypothetical – distribution of dividends within the group would look like. If taxation occurs at any point in the EU, the condition is met.

The use of this mechanism shifts the burden of verification from the analysis of facts to the analysis of law, as illustrated by the three examples presented in the Explanatory Notes:

1. 1. Positive scenario (Example 20): A Polish company pays a dividend to a German company. Further payment from Germany to shareholders (natural persons and entities outside the EU) would be subject to withholding tax in Germany. Conclusion: the presumption can be applied.
   2. Positive scenario (Example 21): A Polish subsidiary pays dividends to a Polish parent company whose shareholders are individuals. Distribution to them would be subject to taxation in Poland. The presumption applies.
   3. Negative scenario (Example 22): Dividends are paid from Poland to a Greek company whose sole shareholder is an entity from a non-EU country, and under a double taxation treaty with Greece, such a payment would not be subject to taxation in Greece – within the EU. The presumption cannot be applied – for the purposes of applying the exemption, the Polish payer must examine the status of the beneficial owner.

How to apply the presumption in practice?

In order to take advantage of the presumption of the beneficial owner status of the recipient, the Polish payer should therefore take the following steps.

Firstly, determine the ownership structure and flow of the hypothetical “payment chain”.

Second, analyse whether the national and treaty provisions in force in the countries where the companies in the chain are based would determine that the hypothetical further distribution of dividends would be taxable within the European Union.

Third, prepare documentation to support the analysis and confirm the application of the presumption.

Limitations

The Minister of Finance clearly stated in the Explanations that the presumption does not protect against the application of the anti-abuse clause in Article 22c of the CIT Act. The Explanations also emphasize that the application of the presumption is optional for the payer and does not remove the formal obligations of taxpayers. It therefore appears that the tax authorities are not required to apply it ex officio, and the burden of proof will always rest with the entity applying this mechanism. Furthermore, in the pay & refund procedure, the authority will continue to require the recipient of the dividend to submit a statement confirming that they are the beneficial owner.

Is this a real simplification?

The solution proposed in the explanations undoubtedly streamlines the practice and, in some situations, may facilitate the verification process for payers. However, it is worth remembering that it is based on the assumption that the examination of BO status is an independent condition for the application of the PS Directive, which is not explicitly stated in either the PS Directive or Polish legislation. We are therefore dealing with a simplification “within the explanations” and not a simplification relating to the legislation as such.

Each payer, when deciding to apply the presumption, should carefully assess whether its structure does not give rise to the risk of being considered artificial. Even if tax appears in a hypothetical chain, this will not protect against the settlement in Poland being challenged if anti-abuse provisions are applied.