Advocate General’s opinion on the Dutch anti-base erosion rules: will the approach in Lexel be revisited?

NL Law

An opinion of Advocate General Emiliou of the Court of Justice of the European Union (CJEU) regarding a request for a preliminary ruling from the Dutch Supreme Court was published on 14 March. The request invites the CJEU to clarify, among other things, its 2021 judgment in Lexel, as to whether intra-group loans may be regarded for that purpose as wholly artificial arrangements, also if carried out on an arm’s length basis, and whether the interest may be set at the usual market rate. It could be derived from Lexel that loans based on arm’s-length terms cannot be considered wholly artificial and are therefore not abusive. The questions that the Advocate General must now answer are directly related to the interpretation of the Lexel case regarding the Dutch anti-base erosion rules. The responses to the preliminary questions were expected to provide much-needed clarity on the interpretation of not only the Dutch anti-base-erosion rule, but also other Member States’ interest deduction limitations. Although the Advocate General found that the above interpretation of Lexel is indeed correct, he urged the CJEU to revisit its approach in Lexel and to rule that intra-group loans, put in place without any valid commercial or economic justification, for the sole (or main) purpose of creating a deductible debt in the seat of the borrowing company, constitute ‘wholly artificial arrangements’, regardless of whether they are carried out on an arm’s length basis.

For more details on the background and the Dutch anti-base erosion rules we refer to our tax alert of 24 October 2022 and Tax Notes article of 5 December 2022.


In short, the Dutch anti-base erosion rules aim to prevent an artificial erosion of the Dutch tax base by creating interest charges within a group of affiliated taxpayers. These rules prohibit the deduction of interest on loans to affiliated companies used to finance dividend payments or capital repayments, among other things, or the acquisition of an interest in a company that qualifies as an affiliated company of the taxpayer after acquisition (these transactions are also known as tainted transactions). An escape may apply if the taxpayer proves that both the transaction and its financing are predominantly based on business motives. 

In Lexel, the CJEU held, in short, that affiliated transactions that are carried out at arm's length are not purely artificial. On this basis, an obstructive national anti-abuse provision may not be justified based on the fight against tax evasion and tax avoidance. Moreover, according to the CJEU, it follows from EU law that if there is no commercial reason for a particular (legal)structure, the proportionality principle requires that interest deduction is limited to the proportion of that interest that it is not considered at arm's length

The CJEU ruling had a mixed reception in the Netherlands. Some authors welcomed the CJEU’s new approach of reaffirming the arm’s-length standard as a safe harbor for taxpayers. Others were more skeptical and argued that the arm’s-length reference should not be interpreted as a new arm’s-length safe harbor, remembering that the case was handled by one of the smaller EU courts and that a potentially wide safe harbor would not be in keeping with the CJEU’s approach to anti-abuse which arguably tends to a principle purpose test.

The Supreme Court considered the Dutch anti-base-erosion rules to be generally compatible with EU law. However, it acknowledged that after Lexel there was some degree of uncertainty as to whether interest deduction limitation rules counteracting wholly artificial transactions (such as intragroup loans) might be in breach of EU law in situations in which the loans are concluded on arm’s-length terms. The Supreme Court therefore preliminarily asked the CJEU for clarification on how to interpret Lexel in relation to whether the Dutch anti-base-erosion rules might be in breach of EU law. The Supreme Court also asked whether it is in breach of EU freedoms to limit interest deduction in the case of a loan that is part of a wholly artificial construction, regardless of whether the loan is considered to be at arm’s length. 

Opinion of AG Emiliou

As the questions refer to several fundamental freedoms, the Advocate General first established the freedom that applied to the present case. He subsequently assessed whether the national law at issue engendered a restriction of the relevant freedom, before considering whether such a restriction is permissible.

  • Regarding the relevant fundamental freedom, the Advocate General stated that it is apparent from the CJEU’s case law that national rules concerning only relationships within a group of companies primarily affect the freedom of establishment, under Article 49 TFEU. Similarly, national law that is intended to apply only to those shareholdings that enable the holder to exert a definite influence on a company’s decisions and to determine its activities also falls within the scope of that same provision of EU law. The Advocate General then noted that the Dutch anti-base erosion rules concern only relationships within a group of companies, as its purpose is limited to intra-group loans, and that it applies only to interest on such a loan contracted by the taxable person for the purpose of acquiring a percentage of shareholding that is high enough to enable that person to exert a definite influence over the targeted entity. He therefore found that the freedom of establishment is the relevant freedom.
  • The Advocate General subsequently established that a restriction applies to the freedom of establishment because the Dutch anti-base erosion rules create a difference of treatment based on the seat of the internal bank of groups of companies. More specifically, although the Dutch anti-base erosion rules do not directly differentiate on the basis of whether the internal bank that granted the intra-group loan in question to the taxable person is seated in the Netherlands or in another Member State, the criterion used (namely that the internal bank be subjected, on that interest, to ‘a profit tax or income tax that is reasonable in accordance with the Netherlands criteria’ (that is to say, at least 10%)), while seemingly objective, may de facto disadvantage cross-border situations.
  • The Advocate General found, however, that the restriction of the freedom of establishment entailed by the Dutch anti-base erosion rules is permissible under Article 49 TFEU. The restriction (i) is justified by an overriding reason in the public interest; (ii) is appropriate to ensuring the attainment of the legitimate objective which it pursues; and (iii) does not go beyond what is necessary for it to be attained. The interesting part is that the Advocate General stated that the general issue in the underlying case and in Lexel is the same: if and to what extent such a loan can be regarded as a ‘wholly artificial arrangement’ (or as a part of such an ‘arrangement’) and can be treated as such by tax authorities. Furthermore, in the Advocate General's view, the judgment in Lexel is neither vague nor ambiguous and is thus open to different readings on that issue. In his view, Lexel can be read only in the way in which the appellant understood it. This means that in the Advocate General’s opinion the CJEU did indeed find that the purpose for which the loan was concluded is irrelevant and, instead, distinguished between loans contracted on an arm's length basis (which it regarded as genuine) and those which are not contracted on such a basis (which it regarded as artificial). However, the Advocate General then took a different turn by raising the question whether the CJEU should, in the present case, confirm Lexel, or depart from it.
  • The Advocate General urged the CJEU to revisit the approach it took in Lexel. The CJEU first referred to the freedom of capital. In that context it held that the concept of ‘wholly artificial arrangement’ is capable of covering ‘any scheme which has as its primary objective or one of its primary objectives the artificial transfer of the profits made by way of activities carried out in the territory of a Member State to [another country] with a low tax rate’. According to the General Advocate, this is equally valid with respect to the intra-group transactions covered by the freedom of establishment. He stated that there was no reason to apply different criteria depending on the applicable freedom. Intra-group loans, put in place without any valid commercial or economic justification, for the sole (or main) purpose of creating a deductible debt in the seat of the borrowing company, constitute ‘wholly artificial arrangements’, regardless of whether they are carried out on an arm’s length basis. National provisions that target such loans must be considered necessary in the light of the objective to prevent those ‘arrangements’. 

Based on his analysis, summarised above, the Advocate General thus found that, although based on the correct interpretation of Lexel, the Dutch anti-base erosion rules are incompatible with the freedom of establishment, and that the CJEU should rule otherwise by revisiting the approach it took in Lexel. 

First observations

The Advocate General’s opinion may not be what was expected. It seemed likely that the responses to the questions of the Supreme Court would either bring a certain nuance to the Lexel ruling or conform that – in line with Lexel – a distinction should be made between loans contracted on an arm’s length basis (which are regarded as genuine) and those which are not contracted on such a basis (which may be regarded as artificial). The advice of the Advocate General is, however, to effectively ignore Lexel and rule that it is in principle irrelevant whether an intra-group loan is contracted on an arm’s length basis. The Advocate General’s thinking may be to try and tackle situations whereby there is a deduction of interest in one jurisdiction, without ultimately a taxable pickup of that interest in another jurisdiction. There are, however, specific rules to tackle such situations like, inter alia, ATAD2, beneficial ownership requirements and recently introduced Dutch transfer pricing mismatch rules. 

If the EUCJ would take over the Advocate General’s opinion, it would follow a trend that the (local) courts and governments are no longer reluctant to restrict companies in their freedom of financing businesses activities. It would further mean that the deduction of interest on an intra-group loan may be denied, whilst the interest on a third party loan under the same terms and conditions would have been deductible. The Advocate General submits that the decisive consideration is whether the entering into of the loan is overall devoid of economic and/or commercial justification and whether the sole (or main) purpose of the loan is to generate (deductible) interest payments at the borrowing company (contrary to what the EUCJ ruled in paragraph 54 of the judgment in Lexel). He agrees with the Dutch government that such a loan cannot be regarded as ‘reflecting economic reality’, is wholly artificial and even if its terms and conditions are at arm’s length (i.e. that loan does not ‘reflect economic reality’ because, but for the relationship between the companies and the tax advantage sought, it would never have been taken). The Advocate General claims that such artificially generated debts are precisely the target of the Dutch anti-base erosion rules. However, the actual purpose of these rules are solely to deny the deduction of interest on loans which have been entered into in connection with exempt income and not to target every situation whereby the (sole) purpose is to generate deductible interest payments, especially in case there is an actual financing need for the business activities of the borrower. 

In addition, one could argue that contracting a loan on arm’s length conditions implies in essence that a third party would be willing to provide such loan to the borrowing company. One could submit that the arm’s length conditions are at least an indication that the loan is not ‘wholly artificial’ and therefore we would expect that the EUCJ in its ruling does not follow the Advocate General’s view that the arm’s length conditions of a loan are an irrelevant consideration.

Final remarks

It is now up to the CJEU to answer these preliminary questions and to decide whether and to what extent the Dutch anti-base erosion rules are compatible with EU law. However, if the Court were to follow the Advocate General’s opinion, it would have to acknowledge that an incorrect approach was taken less than three years ago. We will update you as soon as any relevant next steps or developments take place.