THE DUTCH SUPREME COURT will decide whether a common strategy that many companies use to avoid capital taxes on money run through holding companies in Holland works.

A lower court said it does not. However, the Dutch advocate general said on July 24 that Holland is barred by the US-Netherlands tax treaty from collecting capital taxes from American companies that use the strategy. Caroline van Riet, a lawyer with Loyens & Loeff in Amsterdam, said the opinion by the advocate general carries considerable weight with the Supreme Court, although the court remains free to decide the case on its own.

The strategy works as follows. A US company forms a Dutch BV as a subsidiary. It capitalizes the BV with a small amount of share capital. A 1% capital tax is paid on that amount. The US company then forms a second subsidiary in Delaware, injects a large sum of money into it, and merges the Delaware subsidiary into the Dutch BV.

Both the tax inspector and the Dutch court of appeals said the strategy does not work to avoid capital tax on the additional capital injected into Holland through the merger. However, the Dutch advocate general said in late July that article 28 of the US-Netherlands tax treaty prevents capital tax from being collected in such cases. The nondiscrimination clause in that article means the parties must be allowed to claim the same “business merger exemption” from capital tax that would apply to European companies engaging in the same transaction.

What will happen if the Supreme Court sides ultimately with the tax inspector: will other US companies that used this strategy in the past now have to pay capital taxes? Possibly yes, reports Caroline van Riet. “The tax inspector could impose tax on Dutch companies involved in similar transactions in the past. The period during which the tax inspector has the authority to do so ends five years after the end of the calendar year in which the transaction took place.”

In a variation on this strategy, some companies inject capital into a subsidiary in another country — for example, the Dutch Antilles or Cayman Islands — and then contribute the shares of the new subsidiary to the Dutch BV. This strategy has also been challenged by the tax inspector. An appeal is expected

Keith Martin