In Focus

Decision of the ECJ in relation to a request for preliminary ruling made by the Supreme Administrative Court of Bulgaria regarding the compliance of the provision of Art 175, Para 2, item 3 TSSPC with the EU legislation (case С-553/16)

August 1, 2018

On 2 November 2016, a request for preliminary ruling was made by Bulgaria’s Supreme Administrative Court (SAC) to the Court of Justice of the European Union (ECJ) in view of the accurate resolution of the dispute between a Bulgarian company – claimant, on one hand, and the Appeal and Tax and Social Security Practice Directorate (ATSSP) – Sofia, on the other hand. 

The occasion for the pre-judicial inquiry is the payment of the Bulgarian company of irrecoverable deferral interest under Art 175, Para 2, item 3 of the TSSPC for failure to comply with its obligation to charge withholding tax on cross-border payments of income to unrelated companies established in a member state other than the Republic of Bulgaria. Under Art 175, Para 2, item 3 of the TSSPC, the local company – payer of a foreign person’s income, upon failure to comply with its obligation to charge withholding tax, shall owe deferral interest as of the date of expiry of the deadline for depositing the tax, until the date on which the foreign person proves the existence of grounds for applying a double tax convention (DTC) concluded between Bulgaria and the member state whose resident they are. Such interest is also due in the cases when according to the respective DTC the foreign person does not owe tax in Bulgaria or the tax owed is lower than the due tax under the Bulgarian tax legislation.  

The aim of the inquiry is to establish if Art 56 of the Treaty on the Functioning of the European Union (TFEU), which guarantees the free provision of services, should be interpreted as not permitting a member state’s legislation such as the TSSPC provision quoted hereinabove.

ECJ analysis on the presence of restriction on the freedom to provide services:

According to the comments made in ECJ’s decision, the deferral interest under Art 175, Para 2, item 3 of the TSSCP is only due in the case of  cross-border transactions and is not recoverable. This constitutes different treatment of local entities – payers of income, as consideration for the provision of services, depending on whether the recipient of the income is a company incorporated in Bulgaria or a company incorporated in another member state. Therefore, a cross-border situation in which a resident company exercises the freedom to provide services under Art 56 TFEU is therefore treated less favourable than a national situation.

The legislation in question could prevent local companies from using services from companies incorporated in other member states, which constitutes an obstacle to the freedom to provide services. Therefore, this legislation could be regarded as restriction on the freedom to provide services, which is forbidden under Art 56 of the TFEU. 

In this case it is important to determine whether such restriction could be objectively justified. According to ECJ’s practice, the restriction on the freedom to provide services is inadmissible, unless it pursues a legitimate objective which is compatible with the TFEU. It should be justified by imperative considerations of common interest, to ensure the attainment of the objective pursued and not exceed what is needed to attain it.

The Bulgarian government and the ATSSP Directorate claim that the restriction on the freedom to provide services, resulting from Art 175, Para 2, item 3 of the TSSPC, is justified by the need to guarantee effective tax collection and effective tax control, which constitute imperative considerations of common interest, eligible for justification of restriction on the exercise of fundamental freedoms as guaranteed in the TFEU.

Some of the main arguments of the Bulgarian government and the ATSSP Directorate are as follows:

• the interest under Art 175, Para 2, item 3 of the TSSCP is due irrespective of the fact that under the DTC the income is not subject to taxation in Bulgaria;

• the payment of this interest constitutes a sanction for the failure to take timely action to prove the grounds for application of the DTC, which excludes the application of Bulgarian legislation;
• the provision of Art 175, Para 2, item 3 of the TSSCP allows achieving the state legislation’s objective of timely payment of taxes by the taxable persons, without harm to the aims and principles established in the EU legislation;
• the provision aims to allow planning and forecasting corporate tax revenue in the state budget and to guarantee effective tax collection;
• the sanction constitutes an incentive for taxable persons to timely prove the presence of grounds to apply DTC in the cases when according to the respective DTC the foreign person does not owe tax in Bulgaria or the tax owed is lower than due one under the Bulgarian tax legislation.

With the judgement issued under case C-553/16, ECJ rules that the arguments of the Bulgarian administration are insufficient to justify the restriction on the freedom to provide services as guaranteed by Art 56 of the TFEU, due to several reasons:

• the sanction in the form of irrecoverable interest, calculated based on the amount of the withholding tax due according to the Bulgarian legislation cannot guarantee withholding tax collection on cross-border payments, when it is established that according to the respective DTC no tax is due, respectively, there is no connection between the amount of interest payable, on one hand, and the amount of tax payable, of which there is none in some cases, on the other;
• the penalty goes beyond what is necessary to attain those objectives, given that the amount of interest accrued may prove to be excessive compared to the amount of the tax payable;
• the amount of interest for late payment of the tax is the same irrespective of whether the tax is ultimately not payable or the tax withheld at source is payable but has not been paid on time;
• no possibility is envisaged to reimburse the interest paid by the local company in the event that the tax debt was recalculated and that it was established that no tax is payable in Bulgaria in respect of income paid to the non-resident company.

ECJ concludes that Art 56 TFEU must be interpreted as precluding legislation of a member state, whereby the payment of income by a resident company to a company established in another member state is subject to withholding tax, except where otherwise provided in the double tax convention concluded between those two member states, if that legislation requires the resident company, which neither deducts nor pays that sum to the tax authorities of the first member state, to pay irrecoverable default interest for the period from the expiry of the time limit for payment of the tax up to the date on which the non-resident company proves the presence of the grounds for application of the double tax convention, even though, in accordance with that convention, the non-resident company is not liable to pay any tax in the first member state or the amount thereof is lower than that normally payable under the tax law of that member state.

ECJ’s preliminary rulings have a legally binding effect with respect to the national jurisdiction that made the request. Therefore, the Bulgarian court should comply with the ECJ ruling. It is also binding for the other national jurisdictions faced with an identical issue. The revenue administration should amend its practice to reflect the ruling, and actions should be taken to amend the TSSPC provisions. Irrespective of this, please bear in mind, that it is possible for the Bulgarian administration and court to not take the CEU interpretation into consideration.  

Should any questions regarding the information in the present newsletter arise, please do not hesitate to contact us. You may find all newsletters in section “IN BRIEF” on www.afa.bg.

Go to In Brief: All