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3 Selective Advantage: The Reference System and the Right Comparison for Double Taxation Relief
Double Taxation Relief, Transfer Pricing Adjustments and State Aid Law
with the question whether there is an inconsistent manner of providing double
taxation relief that applies to comparable taxpayers, which leaves certain of
them in an economically better position than others. This view is also in line with
the approach taken by the Commission. It had initially indicated that provisions to
prevent double taxation would normally be considered as general measures of a
mere technical nature and would thus not constitute state aid as long as they applied
without distinction to all firms.11 Nevertheless, it later found the exceptional
application of the exemption method for certain undertakings to constitute
prohibited state aid, where the general rule for double taxation relief provided for
If measures for double taxation relief do therefore fall squarely within the ambit
of state aid review, how is one to assess their compatibility with Article 107 TFEU?
The element of comparability has to be determined in light of the objective of the
relevant tax system. When tied to the tax system as defined by one specific Member
State, this ‘comparability approach’ is fundamentally equivalent to the standard
‘derogation approach’ to determine the selectivity of a tax measure. Under both
approaches, the key element to a finding of selectivity is the definition of the
reference framework. Under the first approach, this requires the definition of the
relevant system in light of whose objectives differently treated taxpayers might be
comparable13; under the second approach, it requires the definition of the relevant
system from which a measure derogates. Applying these principles, one has to
decide whether the right reference framework to analyse double taxation relief
measures consists of (1) domestic law applying to domestic income (no relief from
double taxation), (2) domestic law rules on foreign income (unilateral relief provisions), (3) the tax treaty network of a Member State as a whole, (4) each
individual tax treaty in its entirety or (5) the provisions applied to particular foreign
income under an individual tax treaty. The related question under the comparability
approach is whether a resident taxpayer with foreign income that is exempt under
the provisions of a tax treaty is comparable to (1) a resident taxpayer with domestic
income, (2) a resident taxpayer without tax treaty protection, who is taxed on
foreign income but receives a credit under unilateral relief provisions in domestic
law, (3) a resident taxpayer with foreign income who is subject to tax with credit on
the basis of another tax treaty, (4) a resident taxpayer who is subject to tax with
credit under the same treaty earning income falling under a different distributive
rule or (5) a resident taxpayer who is subject to tax with credit under the same treaty
earning income falling under the same distributive rule. It is not immediately
Commission notice on the application of State aid rules to measures relating to direct business
taxation of 11 November 1998, OJ C 384/3 (10 December 1998), para 13.
Commission decision 2003/601/EC of 17 February 2003, OJ L 204/51 (13 October 2003).
For a different view, see Lang (2011), p. 593 at 598, who argues that comparability should be
established based on the existence and degree of competition between the categories of taxpayers.
See also Lang (2012), p. 85 at 99.
apparent how to draw the right comparison under these circumstances. Let’s look at
them in turn:
(1) If the reference framework to be used were domestic law as it applies to
domestic income, any relief that reduces the residence state’s tax claim would
constitute a prima facie selective advantage. This will not be convincing if
double taxation relief measures are generally available in situations where
double taxation occurs. Under these conditions, it is equally clear that taxpayers
with purely domestic income and those with foreign income are not comparable
in light of the objectives of a tax system that is based on the ability-to-pay
(2) The second option is more difficult to dismiss. It would compare the general
rules applicable to foreign income under domestic law to those that apply
exceptionally in cases covered by a tax treaty. Luja argues that differences in
the conditions for double taxation relief and the type of relief granted in both
situations are part of the nature and general scheme of a tax system, taking into
account Member States’ freedom to negotiate and conclude bilateral agreements, which necessarily involves a compromise.14 Such freedom would
become meaningless if Member States were unable to derogate from their
domestic law, as such derogation is the only reason to conclude such treaties.
That argument corresponds to the Court of Justice’s acceptance of different
rules applied to taxpayers falling under different tax treaties in the D case,
where it held that the bilateral nature of a tax treaty rendered the situation of a
person protected by a tax treaty and another person who was not so protected
incomparable.15 However, the Court’s position in that case only concerned the
comparability of non-resident taxpayers, which the Court had already held
would—under the circumstances of the case—not be comparable to a resident.
The same reasoning cannot be as easily applied to the question at hand, which
concerns the different treatment of resident taxpayers. Notably, the Court of
Justice has also dismissed a claim of discrimination resulting from the application of different relief methods following the German switch-over clause in
its Columbus Container Services judgment.16 Yet the Court’s holding was not
based on the incomparability of situations, but rather on the one-sided nature of
the fundamental freedoms: since the application of the credit method was not
less favourable than national treatment, no relevant discrimination could be
found. By contrast, state aid rules are not limited in their scope to the comparison between domestic and cross-border situations. More beneficial treatment
of cross-border situations—whether agreed in a tax treaty or granted unilaterally—falls within the scope of the state aid provisions. The bilateral nature and
attendant give-and-take of a tax treaty are also not very strong arguments when
Luja (2004), p. 234 at 235.
D (C-376/03, EU:C:2005:424, paragraph 61).
Columbus Container Services (C-298/05, EU:C:2007:754).
Double Taxation Relief, Transfer Pricing Adjustments and State Aid Law
reviewing exceptional benefits granted by a Member State to its own residents,
as the concrete method of relief for source taxation appears more often to be
chosen in accordance with the preferences of each residence state rather than
granted as a concession to the source state.
(3) The same arguments could also be brought forward against the comparison
between taxpayers falling under different treaties, but this approach would
additionally be complicated by the difficulty to determine which method of
relief should constitute the relevant benchmark. Although normal tax system
and exception are not generally identified on the basis of the number of
taxpayers to which each applies,17 it would not be unreasonable to take the
view that the more commonly used method in tax treaties should constitute the
reference framework for the taxation of a treaty protected resident’s foreign
income if one had to define a benchmark for the entire tax treaty network of a
given Member State.
(4) Alternatively, each individual tax treaty could constitute its own reference
system. Even in this instance, state aid could still arise from the application
of different methods of double taxation relief to different categories of income,
unless the objectives of the treaty provide an inherent justification for such
(5) Finally, one cannot escape the conclusion that taxpayers in the same circumstances with respect to all the factors that are relevant to determine tax jurisdiction under a tax treaty, that is to say the taxpayers’ residence and the source
and category of income earned, are comparable for purposes of state aid law. It
follows that more beneficial double taxation relief granted to some of those
taxpayers, for instance, based on their use of that income, would constitute state
Equivalence of Relief Methods?
According to this analysis, any of the proposed comparisons in (2)–(5) are potentially relevant. Whichever view one follows, it does not in itself take away a
Member State’s power to apply different relief methods, however. First, it is
certainly possible to find specific system-inherent justifications for distinctions
made in different tax treaties in many cases. Second, the analysis so far is based
on the assumption that certain types of relief can be considered more beneficial than
See Lang (2011), p. 593 at 596; Haslehner (2012), p. 301 at 317. For a different view, see Flett
and Walkerova (2008), p. 223 at 228.
Such was essentially the finding of the Commission in its decision 2003/601/EC of 17 February
2003, OJ L 204/51 (13 October 2003) concerning the exceptional application of the exemption
method to foreign dividends that are reinvested in Ireland.
others from a state aid perspective. It has been using the distinction between the
credit and the exemption method as an example. But it still has to address the
argument that both methods might indeed be considered to be equivalent, arguably
mirroring the position taken both by the Court of Justice19 and secondary EU law20
in the context of relief from economic double taxation. Both credit and exemption
lead to the same result for both taxpayer and Member State if source and residence
state impose equivalent tax rates on the taxpayer’s income. As a finding of state aid
should not depend on the vagaries of tax rate changes by other countries, it is
reasonable to make the existence of equivalent tax rates a necessary simplifying
assumption for purposes of assessing the validity of the relief provisions. Any
advantage accruing to the taxpayer as a consequence of a tax rate mismatch
would then not be attributed to the residence state and could be ignored. Such
approach would notably coincide with the Court of Justice’s view on tax system
disparities in the context of the fundamental freedoms.21 However, the Court of
Justice could make the acceptance of different methods of juridical double taxation
relief contingent on certain design features, in the same way as it predicates the
equivalence of credit and exemption in the context of inter-company dividend
taxation on the condition that credit is provided on the basis of the source country’s
nominal rate.22 Systematic overcompensation in particular should trigger
warning lights. This will certainly be the case where a Member State exceptionally
grants tax-sparing credits, which are designed to keep tax incentives granted by the
source country intact. If the benchmark for comparison is the application of the
ordinary credit method, this could provide an unjustified advantage to taxpayers
who exceptionally benefit from it.23 More controversially, the exemption method
might be considered to be prone to systematic overcompensation as measured
against its own primary objective (to avoid double taxation), if it applied without
distinction to cases of virtual and actual double taxation.24 Such result would be
based on a breach of the tax system’s internal logic: if exemption itself were a
deviation from normal taxation that is justified by the ability-to-pay principle, the
provision of relief in cases where no double taxation exists would constitute an
inconsistency in light of the tax system’s general principles. A strict application of
this view might require Member States to include subject-to-tax clauses in all
of its treaties. Such a view is certain to run into strong objections from Member
States with a tradition of exempting foreign income. One counterargument to such
Supra Section 2.1.
Cf. Art. 4 Parent Subsidiary Directive.
See Gilly (C-336/96, EU:C:1998:221, paragraph 34).
See FII Group Litigation (C-35/11, EU:C:2012:707, paragraph 65).
Luja considers both tax sparing and matching credits, finding the former more problematic as
their objective is indeed to maintain incentives for investment without any real justification based
on the need to avoid double taxation, whereas the latter provide relief at a standard rate that may
over- but can also undercompensate. See Luja (2004), p. 234 at 236.
Luja (2004), p. 234 at 236.
Double Taxation Relief, Transfer Pricing Adjustments and State Aid Law
objections is that this analysis requires nothing more than consistent treatment of
foreign income, and merely objects to the exceptional exemption of certain foreign
income where such cannot be justified on the basis of the ability-to-pay principle.
However, in light of their competence to negotiate bilateral tax treaties, the standard
of consistency required from Member States’ tax systems should not be set
A Higher Standard of Selectivity to the Member States’
In addition to this last objection to mandatory subject-to-tax clauses, a further
argument to the rescue of Member States’ freedom to apply different methods of
relief comes from the criterion of specificity. Following the General Court’s
judgments in Autogrill25 and Banco Santander26 and AG Kokott’s analysis in
Finanzamt Linz,27 increasing weight appears to be put on a requirement for
beneficial rules not only to constitute derogations from the general system, but
also for them to identify their beneficiaries as a privileged group of enterprises on
the basis of characteristics that are specific to them. In light of this, it is questionable
whether the application of a more beneficial mechanism for double taxation relief
granted to all taxpayers protected by a particular tax treaty as compared to taxpayers
whose income falls under another (or no) tax treaty is sufficient to identify those
taxpayers as a distinct group of beneficiaries, if any undertaking could avail itself
of the same benefit by engaging in gainful activity protected by that treaty.28
The standard is not yet settled, however. Notably, AG Wathelet has rejected the
General Court’s approach in his recent Opinion on the appeals in both cases,
holding that no specific category of undertakings needs to be identifiable from a
legal regime for it to grant a selective advantage.29
Autogrill Espa~na (T-219/10, EU:T:2014:939, paragraph 52 et seq).
Banco Santander and Santusa (T-399/11, EU:T:2014:938, paragraph 56 and seq).
See Opinion of AG Kokott in Finanzamt Linz (C-66/14, EU:C:2015:242, paragraph 108 et seq)
referring to Gibraltar (C-106/09 P and C-107/09 P, EU:C:2011:732, paragraph 104): “[T]he
criteria forming the basis of assessment which are adopted by a tax system must also, in order to
be capable of being recognised as conferring selective advantages, be such as to characterise the
recipient undertakings, by virtue of the properties which are specific to them, as a privileged
Luja answers this question in the affirmative, considering investors in a specific country to be a
sufficiently selective group for purposes of Article 107(1) TFEU. See Luja (2004), p. 234 at 236.
Cases C-20/15 P and C-21/15 P, EU:C:2016:624, paragraph 84 et seq.
3 Transfer Pricing Adjustments and State Aid Law
Introduction: Transfer Pricing Adjustments
as Coordination Measures to Avoid Double Taxation
Transfer pricing adjustment rules share some similarity with the relief provisions
discussed so far. Their primary purpose is to ensure the proper allocation of profits
to tax jurisdictions in line with the criteria agreed upon in a tax treaty. Additionally,
they also aim to avoid double taxation by aligning otherwise unilateral transfer
pricing adjustments with a common standard for both contracting states.30 A
notable difference to the previously analysed relief methods is that this concerns
instances of economic double taxation rather than juridical double taxation. It is
debatable whether this difference matters for the analysis of the rules from a state
aid perspective. On the one hand, both the Commission and the EU Courts consistently hold that state aid analysis has to be carried out based on the economic effects
of a measure regardless of their legal form. It is clear that the distinction between
juridical and economic double taxation is a mere technicality based on the difference between opaque and transparent entity structures. The distinction thus should
not be of relevance. On the other hand, since the distinction between opaque and
transparent entities is fundamental to direct taxation systems, it would seem fanciful to suggest that the granting of relief from economic double taxation in a crossborder situation (as required by the Court of Justice’s case law31) constituted a
selective benefit in the absence of relief from juridical double taxation for a
company’s foreign permanent establishment profits. Considering the fundamental
differences between both types of legal structures under domestic laws, it seems
more appropriate to extend the Court’s approach in its fundamental freedoms case
law to consider them incomparable from the home state’s perspective32 to the area
of state aid law. Relief provisions for the different types of double taxation thus do
not have to be necessarily aligned. Nevertheless, the analysis for both remains
substantially the same.
From a state aid perspective, a specific question arising for the discussion of
economic double taxation relief is whether there is only “one correct way” of
adjusting transfer prices for multinational enterprises. The Commission appears
to take that view and effectively require Member States to follow the arm’s length
standard for the determination of their taxable profits. It is debatable, however,
See Art. 9(2) OECD Model Tax Convention concerning mandatory corresponding adjustments.
See, e.g. Manninen (C-319/02, EU:C:2004:484), FII Group Litigation I (C-446/04, EU:
C:2006:774), Meilicke (C-292/04, EU:C:2007:132), Haribo and Salinen (C-436/08 and C-437/
08, EU:C:2011:61), Meilicke II (C-262/09, EU:C:2011:438), FII Group Litigation II (C-35/11,
See, e.g. Bosal (C-168/01, EU:C:2003:479, paragraph 32), Columbus Container Services
(C-298/05, EU:C:2007:754, paragraph 51 et seq), X Holding (C-337/08, EU:C:2010:89, paragraph
Double Taxation Relief, Transfer Pricing Adjustments and State Aid Law
whether state aid law requires the application of the arm’s length standard to
multinationals. First, the standard is itself increasingly controversial in the international tax law debate, not only because of technical difficulties of determining its
content in practice, but also because of its significant theoretical shortcomings.33
Second, even if it were a sound principle to allocate tax burdens in a bilateral
setting, the standard approaches to determine state aid under Article 107(1) TFEU
does not rely on a comparison of a Member State’s tax system with an international
standard. The consistent implementation of another method to determine the
taxation of multinational enterprises by any Member State must be accepted by
the Commission, unless such other method can be shown to be inherently biased to
the benefit of certain undertakings.
Further questions arise from such initial doubts: if two Member States agree on a
common approach to allocate profits of an enterprise that operates in both jurisdictions, it would seem odd to consider the resultant delineation of tax bases subject to
scrutiny by state aid rules. Under the assumption of equivalent taxation in both
Member States, no benefit would accrue to that enterprise as a whole regardless of
any tax base shifts between them. In principle, this result is the same as under the
application of the credit method with respect to juridical double taxation. One
Member Sate might be required to tax on a lower base compared to that which its
domestic law would set as a consequence of a corresponding adjustment in line with
Article 9(2) OECD Model Tax Convention. To the extent that one might consider
such reduced taxation in that Member State an advantage to the enterprise, it would
then also be justified by nature and general scheme of the tax system based on the
ability-to-pay principle and its attendant predisposition against double taxation. It is
not clear whether the coordination with the other country changes the situation,
however. The same justification would be applicable if a corresponding measure
were taken unilaterally to avoid double taxation of an enterprise.
As with unconditional relief for virtual double taxation discussed above, the
situation may be different where a Member State grants downward adjustments
to its tax base that are not matched by upward adjustments in another country.
Subsequent partial non-taxation or “white income” might thus be indicative of state
aid.34 However, not every instance where income remains partially untaxed in a
cross-border setting can be tackled by state aid rules. Where white income results
from genuine mismatches of—in themselves coherent—different tax systems in
two Member States, no aid arises, since it cannot be shown that either State suffered
a reduction in tax revenue.35
By contrast, the Commission appears to defend the position that the arm’s length
standard is the only correct way of allocating profits to companies that form part of
a multinational enterprise. For that to be true in all circumstances, a lower tax
burden applying to a single company of an international group would be sufficient
See, e.g. Brauner (2013), p. 387; Sch€
on (2012b), p. 47 at 53 et seq.; Wilkie (2012), p. 137.
See Rossi-Maccanico (2015), pp. 63–77. See also further infra 3.4.
Cf. Lyal (2015), p. 1017 at 1043.