Denmark: Private Clients/Tax News - Newsletter 2/2010

NEW TAX OPTIMIZING POSSIBILITY – REAL PROPERTY

According to a newly ruling it can be tax efficient to purchase real property through a company, rent the property to e.g. a son or daughter and subsequently purchase it from the company.

A new ruling from the National Income Tax Tribunal provides surprising opportunities for tax planning with respect to real property. If a property is purchased by a company and let out to a shareholder's son or daughter it can subsequently be sold to the shareholder with a massive tax rebate.

Public Property Valuation

Public valuation of Danish real property is made every two years. In this valuation is included whether the property is leasehold or freehold. Leasehold property has less value than freehold property. As a main rule public property valuations will therefore be reduced by 50% for leasehold property.

When real property owned by individuals is sold to certain related persons, for instance a son or daughter, the property can - according to a Danish circular - be sold at a price corresponding to the public property valuation less 15%. However, this does not apply when the property is leased to the son or daughter and the public property valuation therefore reduced by 50%, since in this case the property will be considered as if it were freehold. In this case, therefore, the fair market value of the real property need not be assessed.

Company and Shareholder

Another instance where the 15 per cent rule mentioned above does not apply is when property is sold from a company to a shareholder. In such cases the property must be sold at fair market value. Where fair market value has to be assessed, the Danish tax authorities will use the public property valuation as a starting point.

According to the new ruling from the National Income Tax Tribunal, when a shareholder purchases real property - that is rented by the shareholder's son - from the company, the fair market value will be low and can be calculated as the public property valuation including the typical 50% deduction. Consequently the 50% deduction will apply irrespective of whether the property is rented by a son or daughter. This is somewhat surprising since normally, if the property is rented by a son or daughter, the shareholder will have some influence on when the son or daughter moves out of the property.

If the ruling is not overridden by the upper courts, there will therefore be significant difference between cases where real property is transferred from company to shareholder on the one hand and from company to son or daughter on the other.

TRUSTS

The National Tax Board confirmed in a binding ruling that a trust was considered separate from the founder's wealth so that the founder was not taxed on the current income generated by the trust. Further, it was confirmed that the beneficiaries are taxed only when they receive distributions from the trust.

No Specific Regulation

In Denmark there is no specific regulation dealing with the tax treatment of trusts, which are not defined instruments in Denmark. A ruling has recently been published with respect to taxation of trusts. Based on this and previous rulings it can be concluded that no general advice can be given with respect to the qualification of foreign trusts. Rather it has to be assessed on a case by case basis how to classify a foreign trust. Broadly speaking, payments from a foreign trust can either be classified as inheritance (tax rate up to 36.25%), gifts (tax rate up to 51.5%), payment from a separate fund (tax rate up to 51.5%) or payment of beneficial interest from frozen capital (tax rate up to 49.5) (in Danish "båndlagt kapital med rentenydelsesret")

National Tax Board Decision - Effective Separation

A Danish tax resident was considering setting up a trust in Cyprus. The founder's two children were to be added as trust beneficiaries. However, the trust statutes would specify that under no circumstances could there be distributions made from the trust to the recipients before the recipients were aged 18 years. The two children, like the founder of the trust, were both resident in and fully taxable to Denmark.

The National Tax Board pointed out that deposits in a trust must lead to an effective separation of the trust funds and the other assets of the founder.

"Effective separation", the decision said, should be interpreted so that an effective and irrevocable separation from the founders' own assets was required. This condition will be held to be fulfilled if the trust funds cannot be returned to the founder or to the founder's spouse, cohabiting partner or children under 18 years of age.

Further, the National Tax Board established that "effective" means that the fund must have an independent management in relation to the founder. The requirement for independence is not satisfied if the founder must give his consent to all decisions or has a general right of veto over the board's decisions. However, the fact that the trust statutes indicate who will be the receivers of distributions, when distributions are to be made, the size of distributions, and an apparent guidance on what the trust can or ought to invest in meant that the separation could not be deemed "not effective".

Based on this, the National Tax Board decided that the capital of the trust was effectively separated from the founder, and that the trust could therefore be recognized according to Danish rules with the consequence that its capital will no longer be considered to be owned by the founder.

Separate Fund or Payment of Beneficial Interest

It was then established by the National Tax Board that any return of capital that has been placed in a trust shall be taxed on the tax subject who is regarded as the owner of the capital. This implies that there must be a Danish tax qualification of the trust since the beneficiaries are fully taxable in Denmark.

The National Tax Board found that the trust in this case would have a lifespan of several years and the beneficiaries have no influence on payments from the trust, nor any other powers over the capital of the trust. Thus, the trust formation should not be regarded as a gift directly to beneficiaries but should be regarded as either a fund or a payment of beneficial interest from frozen capital.

Under the current circumstances, the National Tax Board decided that the specific trust should be qualified under Danish tax law as payment of beneficial interest from frozen capital (tax rate up to 49.5). Since the beneficiaries could not be considered to be the owners of the frozen capital, they would not be taxed on the income of the trust that was not paid to them. When payments are made to the beneficiaries, such payments will be taxable in Denmark provided the beneficiaries are Danish tax residents.

Other Rulings

In another recent case, the Danish Tax Board affirmed that payments received from a trust were to be treated as inheritance. The Tax Board based this on the fact that the assets of the trust were to be realized as quickly as possible and subsequently disbursed to the beneficiaries. It was therefore the assessment of the Tax Board that the organization of the trust was most comparable to the settlement of an estate. In a case from 2009, on the other hand, the Tax Board decided that the establishment of a trust qualified as a gift to the beneficiaries. This was based on all the facts in the current case, including the fact that all funds of the trust were lent to the beneficiaries.

DANISH EXPATRIATES RISK FULL TAX LIABILITY IF USING APARTMENT IN CONNECTION WITH BOARD MEETINGS IN DENMARK

Danish expatriates risk full tax liability to Denmark if they have a property or apartment in Denmark and, as directors in a Danish company, attend board meetings in Denmark

It is possible for Danish expatriates to acquire a residential property in Denmark without incurring full tax liability to Denmark if they do not take up residence there.

A recent decision of the Danish National Tax Tribunal, however, shows that full tax liability will arise the moment the expatriate attends a board meeting in Denmark as a director of a Danish company.

In the case considered by the Tribunal, a taxpayer had given up full tax liability to Denmark by moving out of the country in 2006. He was living in Dubai and wanted to rent an apartment in Denmark to be used for storing furniture, and vacation purposes (4-8 weeks in total per year).

The apartment would also be used when, about 4 times a year, the expatriate would be in Denmark to attend the board meetings of a Danish company. The taxpayer would also participate in courses and workshops of 1-2 days' duration. While staying in Denmark, he would continue to do work as an executive officer of a company in Dubai taking phone calls and answering e-mails on a daily basis.

The Tribunal did not find that the expatriate's visits to Denmark for the purpose of attending board meetings qualified as short-term stays for purposes of vacation or the like.

Board meetings are regarded as work performed.

On the merits of the case, the Tribunal found that attending board meetings in Denmark amounted to the regular personal performance of gainful employment since it involves regular participation in the management of a company in Denmark of which the expatriate is a shareholder.

BENEFICIAL OWNERSHIP – DEFEAT TO DANISH TAX AUTHORITIES

Over the last few months, Danish tax authorities have raised claims in a number of tax cases regarding withholding tax on dividends and/or interest paid or accrued to a foreign group company, claiming that the receiving group company is not the beneficial owner/rightful recipient of income in relation to the dividend and/or interest.

The term beneficial owner is not described in national legislation, and the exact content of the term is therefore uncertain. As an example it is uncertain if a substance requirement will apply.

Recently the first ruling regarding withholding tax on dividends was published. During the case, the Danish tax authorities did argue that a dividend payment from a Danish company to a Luxembourg company was taxable to Denmark since the Luxembourg company was not the beneficial owner/rightful recipient of income.

Facts

The Danish subsidiary B distributed dividends to its Luxembourg parent company A. On the same day, a similar – but not identical – amount was lent back from A to B, which on the same day carried out a share capital increase in its Danish subsidiary C. C used the amount to buy the Danish operating company D.

The Danish tax authority had argued that A was not the beneficial owner of the dividends paid from B to A, since A did not have any activities other than the holding of the shares in Band since the shareholders of A had in reality decided before A received the dividends how A should apply the dividends.

Decision

According to the published ruling, the Luxembourg company was the beneficial owner/rightful recipient of income and therefore there was no withholding obligation. Note that the facts in the case were special since the dividend payment did not flow through the recipient company, rather the dividend payment was subsequently lent to another group company. In the specific group structure, interest was also paid to the Luxembourg company under similar circumstances, and a subsequent ruling has confirmed that the Luxembourg company was also beneficial owner of the interest.

Registration as a Conduit Company

When Danish companies are registered, the particular industry of the company is also registered. According to the Danish Commerce and Companies Agency, the industry of conduit company include companies that are controlled by a foreign company. The main activity is to hold other companies that are located abroad. Further, a conduit company is characterized by the fact that the holding company has no real economic activity, e.g. no employees or production of goods or services in Denmark, and normally a conduit company does not own other Danish companies.

The Danish tax authorities have announced that they will investigate further which companies are registered as conduit companies. Further, the tax authorities have announced that there are hundreds of companies registered as conduit companies. The purpose of such investigation is - only - to inform foreign countries of this and then the foreign countries can consider in more detail if they will argue that the Danish company is not the beneficial owner (there are not any Danish tax issues involved in this and the investigation of the companies is therefore only for the benefit of foreign countries).

AMNESTY FOR HIDING ASSETS IN 2011

This July, the Danish Tax Ministry proposed a bill offering Danish taxpayers hiding assets in foreign tax havens amnesty if they would "come clean".

The arrangement would involve a no-prison guarantee, regardless of the amounts involved, guarantees of discretion, and an out-of-court procedure against payment of a fine equal to 60% of the evaded amount. Unpaid direct and indirect taxes on the assets - tax, VAT, gift and estate taxes - would be paid regardless of the amnesty.

The tax authorities subsequently announced that they would target asset transfers between Denmark and tax haven countries to see if any taxes had been evaded - the so-called Project Money Transfer.

The bill was intended to take effect in 2011 but with the project seemingly going to reveal much more untaxed income and assets hidden abroad than previously suspected, all parties backing the bill have agreed to postpone commencement until 2012.

This means all open cases will be continue to be prosecuted and offenders will be punished under the current rules which provide for a fine of up to twice the amount evaded and up to eight years' imprisonment in the most severe cases.

The tax authorities expect the proceeds from Project Money Transfer will be between one and four billion Danish kroner.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.