Belgium parliament adopts law introducing model A CFC rules

On 21 December 2023, the Belgian parliament adopted a bill that, among other measures, introduces model A CFC rules. The new rules apply as from tax year 2024 (i.e., financial years ending on or after 31 December 2023). 

Background

In 2016, the Council of the European Union (EU) adopted Council Directive (EU) 2016/1164 (the Anti-Tax Avoidance Directive (ATAD I) requiring all EU member states to implement rules taxing the undistributed profits of certain qualifying foreign entities. The directive provided two options for member states to achieve this result—model A and model B). 

Under the entity approach (model A) member states are required to directly attribute certain predefined categories of passive income to the taxpayer, while under the transactional approach (model B) member states are only required to directly attribute to the taxpayer the undistributed profit resulting from non-genuine arrangements that have been put in place for the essential purpose of tax avoidance or tax evasion.

In 2017, Belgium opted to implement the transactional approach (model B) into Belgian law. The CFC rules were applicable as from 1 January 2019 but were soon deemed ineffective because they required the significant people functions driving the undistributed profit of the CFC to be located in Belgium and, in practice, did not add appreciably to the existing transfer pricing rules.

As a result, and to further strengthen its measures to combat tax avoidance, the Belgian government has submitted a proposal to parliament to replace the current transactional approach with the entity approach (model A), requiring Belgian corporate taxpayers to include certain categories of passive income of qualifying CFCs directly within their taxable basis.

CFC qualification

Under the proposed law, a foreign entity would qualify as a CFC where both the participation requirement and the taxation requirement are met.

The participation requirement would be met if the taxpayer by itself, or together with its associated entities, holds a participation of more than 50% of the voting rights, capital, or profit entitlement. Permanent establishments of a Belgian taxpayer are deemed always to meet this condition. The minister of finance has clarified that the participation requirement would need to be assessed at the end of the tax year of the taxpayer concerned.

The taxation requirement would be met when the controlled foreign entity is not subject to corporate income tax or is subject to a corporate income tax that is less than 50% of the Belgian corporate income tax that would have been due had the foreign entity (or its foreign establishment) been located in Belgium. In order to make the comparison, Belgian taxpayers would be required to calculate the taxable profit of their foreign controlled entities in accordance with Belgian accounting and tax rules.

Where the foreign entity is located in a jurisdiction that is on the EU or Belgian list of tax havens, there would be a rebuttable presumption that the taxation requirement is met (considering that these entities are presumed not to be subject to tax).

CFC income

In a first step, the taxable CFC income in the hands of the Belgian taxpayer would be determined as if the CFC were located in Belgium.

In the next two steps, the taxable CFC income would be limited to the undistributed passive income of the CFC which is defined broadly and does not only cover dividends, interest, and royalty income but also includes, for example, income equivalent to interest (as per the EBITDA -earnings before interest, taxes, depreciation, and amortization- interest limitation rule), and income from operational lease arrangements.

Finally, the taxable CFC income would be limited pro rata based on the direct participation of the Belgian taxpayer in the CFC. The legislative intent is to avoid double taxation; therefore, if the Belgian taxpayer does not hold a direct participation in the CFC (voting rights, capital, or profit entitlement), there should not be a CFC inclusion in Belgium.

Exclusions

Substantial economic activity: The CFC income would not be taxable in the hands of the Belgian taxpayer if the foreign entity carries out "substantial economic activities." For the interpretation of economic activity, the explanatory memorandum refers to the definition of economic activity applied by the Court of Justice of the European Union in its decisions relating to state aid. In that context, an activity consisting in offering goods or services in a given market qualifies as an economic activity (e.g., case C-222/04).

The explanatory memorandum further clarifies that entities solely offering goods or services to associated enterprises would also be considered to conduct economic activities, provided the transactions take place at arm's length.

Whether economic activities qualifies as substantial would need to be determined on a case-by-case basis by reference to the personnel, equipment, assets, and buildings used to carry out the activities.

Less than one-third passive income: To the extent that the passive income of the CFC is less than one-third of the CFC's total income, there would be no taxable CFC income in the hands of the Belgian taxpayer.

CFC active in the financial sector: There would be no CFC inclusion in the hands of the Belgian taxpayer to the extent that the CFC is active in the financial sector (this includes pension funds and collective investment undertakings) and less than one-third of the CFC’s passive income is earned through transactions with the Belgian taxpayer or its associated entities.

Avoidance of double taxation

The foreign income tax at the level of the CFC would be eligible to be credited against the Belgian corporate income tax due on the CFC income. In addition, an exemption is proposed for subsequent profit distributions of CFC income taxed in previous years as well as capital gains on CFC shares.

Self-assessment requirement

Belgian corporate taxpayers would be required to self-assess whether they have CFCs in their structures and the law proposal would require all CFCs to be disclosed in the corporate income tax return (even if they would qualify for one of the exclusions).

Deloitte comments

Since the new rules apply as from tax year 2024 (i.e., for financial years ending on or after 31 December 2023), Belgian taxpayers will need to assess the impact of these new rules on their current tax position. Together with the increased scrutiny by the tax authorities of existing holding and finance arrangements—for example, with reference to withholding tax exemptions and reductions—the new CFC rules warrant a thorough review of existing corporate structures