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2.1 Tax Treaties

2.1. Tax treaties between Member States

Double taxation Treaties 

When individuals and companies move between EU Member States they may become liable to tax in more than one Member State. For example, individuals who cross a border daily to go to work, or move to another country, or receive income or inheritances from another country, may face taxation both in their country of residence and in the other country in which they operate or from which they derive income. Companies which operate in more than one Member State may experience similar problems. Double taxation can deter cross-border activity in the EU and the functioning of the Internal Market.

EC Law and double taxation treaties try to avoid this. However, there are possible conflicts between the EC Treaty and the bilateral double taxation treaties that Member States have concluded with each other and with third countries. Complex issues include the question of equal treatment of EU residents and the application of bilateral treaties in situations where more than two countries are involved (triangular situations).

Tax treaty law – i.e. the set of rules derived from tax treaties and transposed in
domestic law – is currently the main source of international taxation law. Community
law (article 293 EC Treaty; and also the explicit references to bilateral treaties in the “mergers” Directive
and the “parent-subsidiary” Directive, as well as the extensive case law of the CJEC)
takes precedence over these national provisions, but explicitly acknowledges
their role and importance.1 However, so far these two branches of the law have had
very little to do with each other.
The main reason for this is probably that Community law relating to taxation
focused for the first thirty years of its existence on indirect taxation (turnover tax and
excise duty).
The tax treaties, on the other hand, deal almost exclusively with direct taxation (tax
on income and capital and, less frequently, inheritance tax), a subject which the
Community only began to look into seriously after the internal market had been
established, in the context of measures to ensure its smooth functioning by
eliminating remaining obstacles.
However, it is clear that for nationals of Community countries exercising their basic
rights under the Treaty, being taxed in different ways because of their nationality or
place of residence and, in particular, the risk of being taxed twice on the same
income because of the different, uncoordinated national tax arrangements existing
within the Community, are obstacles to the smooth functioning of the internal
Furthermore, in the enlarged EU Member States, there is
a network of more than 3500 bilateral treaties governing cross-border tax relations, which
represents a substantial difficulty for taxpayers wishing to benefit from their
freedoms under the Treaty.
The relationship between Community law and international tax law – in particular
treaty law – in the field of direct taxation has given rise to some conflicts on a number of
occasions. These two branches of the law relate to different objectives and have
different approaches. While the purpose of treaty law is above all to regulate inter-
State relations through the allocation of powers of taxation between the contracting
States, Community tax law serves the major project of establishing a single market
without internal borders.
However, as the Court of Justice has said repeatedly, despite the absence of
harmonising measures and although “direct taxation does not as such fall within the
purview of the Community, the powers retained by the Member States must
nevertheless be exercised consistently with Community law”. In this respect, there is indeed a consistent doctrine:  Judgments of the Court of 14 February 1995, Case C-279/93 (Schumacker), point 21; see also, inter alia, the judgments of 11 August 1995, Case C-80/94 (Wielockx), point 16; of 27 June 1996, Case C-107/94 (Asscher), point 36; of 15 May 1997, Case C-250/95 (Futura), point 19; of 28 April 1998, Case C-118/96
(Safir), point 21; of 16 July 1998, Case C-264/96 (I.C.I.), point 19; etc.

Some of the judgments of the Court have highlighted cases of
discrimination in the treatment of Community citizens and businesses, arising
because treaties are formulated or applied in a way that is contrary to the principles
of the Treaty. The Court has therefore required that certain provisions of the double
taxation treaties and the national implementing provisions be adjusted to those
principles. Examples of this were the Court’s judgments of 23 September 2003, Case C-58/01 (Océ Van der Grinten),
point 54; of 12 December 2002, Case C-385/00 ((F.W.L. de Groot v. Staatssecretaris van Financiën),
points 84, 94, 99 et. seq; of 8 March 2001, Case C-397/98 (Metallgesellschaft), points 71 et seq; of 18
November 1999, Case C-200/98 (X AB et Y AB), points 10 and 31.
The Commission, in its Communication Towards an Internal Market
without tax obstacles ( COM(2001)582),  called into question the tax treaties’ compliance with all the provisions
of the EC Treaty in so far as they entail additional tax burdens where activity is
conducted in more than one Member State.

Later, in its Communication An Internal Market without company tax
obstacles (COM(2003)726, point 3.5), the
Commission stressed the importance of adhering to the principle of equal
treatment enshrined in the Treaty, which would seem to conflict with the distinction
between residents and non-residents currently made in many tax treaties between
Member States and in some double-taxation treaties between Member States and
third countries (provisions limiting advantages under the treaty).  In the first case, although such a distinction can in principle be allowed where the situations of resident and non-resident
taxpayers are not comparable, it is contrary to Community law where “there is no objective difference
between the situations of such a non-resident and a resident …. such as to justify different treatment “
(Schumacker, point 37).

The autonomy of Community primary legislation, not only in relation to national
law, but also in the context of international law, has been affirmed on a number of
occasions by the Court of Justice in what have become historic judgments. The
ECJ has stated that the European Economic Community constitutes a new legal
order of international law for the benefit of which the States have limited their
sovereign rights, albeit within limited fields and that the EC Treaty is more than an
agreement which merely creates mutual obligations between the contracting states (Judgment of the Court of 5 February 1963, Case 26/62 (Van Gend & Loos).
Furthermore, by contrast with ordinary international treaties, the EC Treaty has
created its own legal system which, on the entry into force of the Treaty, became an
integral part of the legal systems of the Member States and which their courts are
bound to apply (Judgment of the Court of 15 July 1964, Case 6/64 (Flaminio Costa / ENEL).
The Community is not subject to the bilateral treaty law of which
its Member States are, individually, signatories.

Tax treaties in the internal market
Most of the tax treaties cover only taxes on income and capital. As there is almost
no Community legislation on this subject, the Member States are more or less free to
determine the tax rules they consider appropriate. The Court of Justice has ruled on
this matter on a number of occasions:
“The Member States are competent to determine the criteria for taxation on
income and wealth with a view to eliminating double taxation – by means,
inter alia, of international agreements – and have concluded many bilateral
conventions based, in particular, on the model conventions on income and
wealth tax drawn up by the OECD.”(Judgment of the Court of 12 May 1998, Case C-336/96 (Gilly), point 24). And
“… in the absence of unifying or harmonising measures adopted in the
Community … the Member States are at liberty, in the framework of bilateral
agreements concluded in order to prevent double taxation, to determine the
connecting factors for the purposes of allocating powers of taxation.”(Judgment of the Court of 21 September 1999, Case C-307/97 (Compagnie de Saint-Gobain), point 56).

The Member States thus have sovereign power to determine the connecting factors
bringing taxpayers within their respective powers of taxation. The factor connecting
a taxpayer to a tax system may vary. Even nationality – on the face of it the least
Community of the connecting factors – can, according to the Court, be used for the
allocation of taxation powers without necessarily constituting discrimination within
the meaning of the Treaty:
“… such differentiation cannot be regarded as constituting discrimination
prohibited under Article [39] of the Treaty. It flows, in the absence of any
unifying or harmonising measures adopted in the Community context under,
in particular, the second indent of Article [293] of the Treaty, from the
contracting parties’ competence to define the criteria for allocating their
powers of taxation as between themselves, with a view to eliminating double
taxation.”(Case C-336/96 (Gilly), point 30).

Such allocation may result in tax disparities disadvantageous to Community citizens
exercising their freedoms under the Treaty but these disparities are not necessarily
discrimination within the meaning of Community law. In certain cases these disparities may constitute measures restricting exercise of the freedoms – obstacles
which, without being genuinely discriminatory (since they apply equal treatment to nationals of the country concerned and of other Member States), impede the exercise of a fundamental freedom or make
the exercise of that freedom less attractive; see, for example, the Court’s judgment of 11 March 2004 on
Case C-9/02 (de Lasteyrie du Saillant), points 42-44. However, such obstacles may be justified by
“pressing reasons of public interest”. See inter alia the Court’s judgment of 15 May 1997 on Case C-
250/95 (Futura), point 31.

Because of the lack of Community harmonisation, the taxation system varies among Member States and
Community commitments do not oblige the Member States to allow taxpayers
making use of one of the basic freedoms to benefit from the most favourable
possible scheme In the Case C-366/96, Gilly, the ECJ held: “… the object of a convention … is simply to prevent the same income from being taxed in each of the
two States. It is not to ensure that the tax to which the taxpayer is subject in one State is no higher than
that to which he or she would be subject in the other (point 46).

The existing network of tax treaties should achieve the objective explicitly specified
in the EC Treaty of avoiding double taxation. Article 293 of the Treaty, which is
addressed principally to the Member States, can be taken as a legal basis for the
measures it refers to unless those measures are taken on the basis of other provisions
of the Treaty, in particular Article 94. Article 293 of the EC Treaty does not,
however, establish the elimination of double taxation as a sphere reserved to the
Member States (Case C-336/96 (Gilly), point 30).  This objective also falls within the sphere of competence of the
Community since double taxation may in itself have a direct impact on the
functioning of the internal market.

It also appears that some of the articles in the tax treaties do not entirely comply with
Community law (primary and secondary legislation), which makes interpretation a
tortuous business for those wishing to coordinate provisions of a different nature
belonging to different hierarchies.

2.1. Tax treaties with third countries
When a treaty is concluded with a third country, its compatibility with Community
law must be assessed on a different basis than that used when examining a legal act
between Member States. A distinction must be made here between treaties signed
before the entry into force of the EC Treaty (or the Accession Treaty in the case of
the ten new Member States, for example) and those concluded after that date.

The EC Treaty contains a specific provision, Article 307, governing conflicts
between Community law and bilateral tax agreements between a Member State and a
third country concluded before the entry into force of the Treaty. The first paragraph
of this Article provides that “the rights and obligations arising from agreements
concluded before [the entry into force of the Treaty (EC or Accession)] between one
or more Member States on the one hand, and one or more third countries on the
other, shall not be affected by the provisions of this Treaty.” Its general application
has been confirmed many times by the Court of Justice. rticle 307 of the EC Treaty applies to any international agreement, irrespective of subject-matter …
However, that duty of the Community institutions is directed only to permitting the Member State
concerned to perform its obligations under the prior agreement and does not bind the Community as
regards the non-member country in question; Judgment of the Court of 14 October 1980, Case C-812/79
(Juan Burgoa), points 6 and 8.

However, where there is an incompatibility between international law and
Community law, the second paragraph of Article 307 expressly provides that
Member States must take all appropriate steps to eliminate the incompatibilities
established, i.e. to amend the international rule to make it compatible with the
Community commitments they have taken on. The Member State concerned must try
to renegotiate the provisions that are incompatible with Community commitments
and take all appropriate steps to resolve the problem, including, where necessary,
denouncing the bilateral agreement. The second paragraph of Article 307 suggests, for example, mutual assistance between Member States,
diplomatic pressure or adopting a common attitude to a third country which refuses to amend the tax

There is no specific provision in the Treaty for agreements concluded by Member
States with third countries after the entry into force of their Community
commitments. However, the second paragraph of Article 10 provides that Member
States must abstain from any measure which could jeopardise the attainment of the
objectives of this Treaty. Concluding a bilateral agreement with a third country
which contains provisions running counter to Community law undoubtedly involves
a failure by the Member State concerned to meet its obligations under the Treaty. The CJE  judgment of 27 September 1998 on Case 235/87 (Matteucci) held: “Article [10] of the Treaty
provides that Member States must take all appropriate measures, whether general or particular, to ensure
fulfilment of the obligations arising out of the Treaty. If, therefore, the application of a provision of
Community law is liable to be impeded by a measure adopted pursuant to the implementation of a bilateral
agreement, even where that agreement falls outside the field of application of the Treaty, every Member
State is under a duty to facilitate the application of that provision and, to that end, to assist every other
Member State which is under an obligation under Community law.”

Even if it is the third country which proposes the inclusion of a provision in the
agreement which contains a material breach of Community law – for example, a
provision which discriminates against the citizens of other Member States, as in
certain anti-abuse clauses (e.g. limitation on benefits clauses)– the Member State
party to the agreement would be guilty of a violation of the Treaty if it agreed to
enter into such a contractual relation and failed to meet the obligation of cooperation
in good faith enshrined in Article 10 of the EC Treaty.

Tax treaties and the jurisprudence of the CJE.

The tax treaties are designed primarily to eliminate (or at least restrict) international
juridical double taxation, and the elimination of juridical and economic double
taxation within the Community is, as already pointed out, a Community objective.
Tax treaties concluded for this purpose must, under Community law, comply with
internal market requirements on non-discrimination and the four basic freedoms laid
down in the Treaty establishing the European Community.

In the “Avoir Fiscal” case  (Judgment of the Court of 28 January 1986, Case 270/83 (Commission v France), point 26)
 the Court stated clearly for the first time that “the rights
conferred by article [43] of the Treaty are unconditional and a Member State cannot
make respect for them subject to the contents of an agreement concluded with
another Member State.”
And to make still clearer that the “bilateral” nature of the tax treaties could not
restrict the rights of Community citizens, the Court added in the same judgment that
“that Article does not permit those rights to be made subject to a condition of
reciprocity imposed for the purpose of obtaining corresponding advantages in other
Member States.”

In the Gilly judgment (points 24 to 30) the Court clarified the scope of Article 293 of the EC Treaty,
stating that it does not have direct effect.
“… Article [293] is not intended to lay down a legal rule directly applicable
as such, but merely defines a number of matters on which the Member States
are to enter into negotiations with each other `so far as is necessary’. Its
second indent merely indicates the abolition of double taxation within the
Community as an objective of any such negotiations. Thus, although the
abolition of double taxation within the Community is included among the
objectives of the Treaty, it is clear from the wording of that provision that it
cannot itself confer on individuals any rights on which they might be able to
rely before their national courts.”

Free Movement

There are a subtle difference between the allocation of powers
of taxation, which falls within the sovereign power of the Member States and the
exercise of powers of taxation, which, when it is the responsibility of the Member
States, is required to respect the Community freedoms enshrined in the EC Treaty. The Court has consistently ruled that “As far as the exercise of the power of taxation so allocated is concerned, the Member States nevertheless may not disregard Community rules” (Case C-307/97 (Saint-
Gobain) op. cit., point 57).

The Schumacker case is a prime example.
In its judgment on this case the Court did not object in principle to States
designating, in their bilateral double taxation agreements, the State of residence as
the State subject to the obligation to take account of the personal and family
circumstances of cross-border workers and to grant the associated tax benefits, in
line with the rule suggested by the OECD Model (articles 15(1) and 24(1) of the German-Belgian double taxation treaty of 11 April 1967.)

However, according to the Court
this solution may lead to discrimination – and thus be in breach of Community law –
as no alternative solutions are provided in the treaty itself or in national legislation
for workers who do not receive significant income in their State of residence. In the de Groot case the Court stated that in exercising their powers of taxation Member States are
obliged to respect the principle of national treatment of nationals of other Member States and of their own
nationals who exercise the freedoms guaranteed by the Treaty. Judgment of the Court of 12 December
2002, Case C-385/00 (de Groot), point 94 et seq.
Right of establishment

The obligation to grant non-discriminatory tax treatment to permanent
establishments of Community origin in a situation which is objectively comparable
to that of resident companies is another key point for the exercise of powers of

Since the “Avoir Fiscal” case referred to above, the Court has ruled that Member
States must grant the permanent establishments of Community undertakings located
on their territory the same tax benefits that they grant to resident companies. This
right is unconditional and cannot be limited by the effect of a tax treaty with another
Member State.

In the Saint Gobain judgment the Court gave a better definition of the principle of
national treatment: a permanent establishment must (like resident companies) be
allowed all the benefits granted by the tax treaties concluded by the State where it is
resident. In practice, if Member State A, under a tax treaty with State B (Member
State or third country), grants tax benefits to its resident companies for income from
State B, it must grant the same benefits to the permanent establishments on its
territory of companies which have their principal place of business in Member State
C. Conversely, however, at present most Member States’ tax treaties confine
application of the provisions of the treaty to undertakings resident in the two
contracting States and exclude the permanent establishments of other Community
partners from the benefits of the treaties, without giving any valid justification of
this general restriction. The Court’s judgment of 15 January 2002 on Case 55/00 (Elide Gottardo v INPS), concerning social
security, may throw light on the Court’s interpretation. According to the Community judges, when a
Member State concludes an international bilateral agreement with a third country, the fundamental
principle of equal treatment requires that Member State to grant nationals of other Member States the same
benefits as those enjoyed by its own nationals under that agreement unless it can objectively justify its
refusal to do so.

 There is thus an obvious incompatibility between the
provisions of the treaties and Community law.

Secondary Community legislation
The Court of Justice has also had occasion to rule on the compatibility of bilateral
agreements with secondary Community legislation. In this respect, see the Court’s judgments of 4 October 2001 on Case C-294/99 (Athinaïki Zythopoiia), points 31 et
seq., and of 25 September 2003 on Case C-58/01 (Océ Van der Grinten), points 54 et seq. concerning the
interpretation of Article 7(2) of Directive 90/435/EEC with respect to the bilateral double taxation treaties
signed by the United Kingdom.

In the Zythopoiia case, the government of a Member State also invoked the
provisions of a bilateral treaty to justify taxing the dividends distributed to a foreign
parent company. Since Article 7(2) of the parent-subsidiary Directive specifies that
the Directive does not affect the application of domestic or agreement-based
provisions designed to eliminate or lessen economic double taxation of dividends,
the Member State concerned considered that the taxation was legitimate.
The Court limited the scope of this provision – Article 7 only refers to provisions
specifically designed to avoid double taxation – ruling that an agreement could not
reduce the effect of the exemption from withholding tax provided for in the
“… the rights conferred on economic operators by … the Directive are
unconditional and a Member State cannot make their observance subject to an
agreement concluded with another Member State.” (Case C-294/99 (Athinaïki Zythopoiia) op. cit., point 32).

Anti-abuse clauses

Some bilateral tax treaties between Member States and third countries contain
clauses limiting some of the treaty’s benefits to companies resident in the signatory
countries, explicitly excluding permanent establishments and even resident
companies where they are “foreign [in relation to the two signatory countries]

According to the interpretation of the Treaty in the Court’s ruling on the Saint
Gobain case, these clauses conflict with the right of establishment. In this connection the Court states that the obligation under Community law is not such as to pose a
problem in terms of treaties with third countries. Indeed, “the balance and the reciprocity of the treaties
concluded [between a Member State and a third country] would not be called into question by a unilateral
extension, [on the part of the Member State] of the category of recipients [in that State] of the tax
advantage provided for by those treaties, … since such an extension would not in any way affect the rights
of the non-member countries which are parties to the treaties and would not impose any new obligation on
them” (Case C-307/97 (Saint-Gobain) op. cit., point 59).
In the light of
the recent judgments in the field of air transport (Judgments of the Court of 5 November 2002; Cases C-466/98 – C-476/98 (Open skies)), one might even take the view that
in these scenarios it is not only Article 43 that is infringed by a Member State’s
exercise of its taxing powers, but also Article 10 of the EC Treaty through the act of
allocation of tax sovereignty (obligation of cooperation in good faith), as it is against
Community law for a State to adopt rules likely to affect Community provisions.

The Member States have often tried to explain to the Court that some of the
provisions of their bilateral treaties which did not comply with the Treaty were
justified by pressing reasons of public interest such as combating tax evasion, loss
of revenue, fiscal cohesion, etc. However, the Court has always rejected these
arguments of the national tax authorities. In this regard, see for example Case 270/83 (Commission v. France, “Avoir Fiscal”), point 25 and Case C-264/96
(Imperial Chemical Industries), point 26, for the risk of tax evasion; Case C-307/97 (Saint-Gobain), point
50 and Case C-264/96 (Imperial Chemical Industries), point 28 for loss of revenue; Case C-80/94
(Wielockx), points 23-25 for fiscal cohesion.

In the Wielockx case a national tax administration justified its refusal to concede
certain tax benefits to non-residents (deductibility of pension contributions) by the
need to preserve fiscal cohesion. Fiscal cohesion is one of the few justifications that the Court has been known to accept in tax matters.
However, in the cases concerned the tax treaties played an entirely marginal role. In this respect, see the Court’s
judgments of 28 January 1992 on Case C-204/90 (Bachmann), points 26-28 and Case C-300/90
(Commission v. Belgium), points 20-21.
In rejecting this justification in the Wielockx case
the Court invoked the “comprehensive” nature of the bilateral treaties:
“ … the effect of double-taxation conventions [has not been to establish] fiscal
cohesion … in relation to one and the same person by a strict correlation
between the deductibility of contributions and the taxation of pensions but is
shifted to another level, that of reciprocity of the rules applicable in the
Contracting States. Since fiscal cohesion is secured by a bilateral convention
concluded with another Member State, that principle may not be invoked to
justify the refusal of a deduction such as that in issue.”

The double-taxation agreements of Member States will continue to be subject to review by the ECJ. In particular, the problems resulting from the current lack of co-ordination in this area, notably in triangular situations and with regard to third countries, will increase even further.

Member States maybe should adopt OECD
model tax treaty Article 26 binding arbitration in their bilateral intra-EU tax treaties, effectively
as an EU tax treaty ‘norm’. For example, the new UK/France treaty contains such a
provision at Article 26 paragraph 5. This may offer a more direct route to
arbitration than via the Arbitration Convention, which currently requires domestic and tax
treaty remedies to have been exhausted. It would also deal with unresolved intra-EU
competent authority claims.

Member States maybe should allow comprehensive cross border loss relief throughout the EU
The ECJ’s Marks and Spencer plc judgment shows companies may afford cross
border loss relief only for ‘final’ losses.