CJEU’s role in reducing discriminatory treatment: construing domestic law in tandem with EU law

Ishita Das

3rd year B.B.A (Hons.), LL.B. (Hons.), National Law University, Jodhpur

 

Abstract: The recent decision of the Court of Justice of the European Union (CJEU) in Commission v Austria (Austria Case) raises interesting substantive issues. It starkly illustrates the scope of conflict between domestic legislation and European Union (EU) law. The CJEU condemned Austria for resorting to unjustified restrictive measures of limiting the deductibility of donations for income tax purposes exclusively to donations made to research and teaching institutions established in Austria. Another case which highlights this conflict is the Meilicke II Case, which evolved from the Meilicke I Case, where the CJEU held that a Member State must accord equivalency in treatment between resident and non-resident companies with regard to payment of dividends to the residents.

Therefore, these cases are prominent examples of the difficulty that the CJEU faces in ensuring that the operation of the domestic law is in consonance with the EU law. Following the decision in the Austria Case, the Austrian Ministry of Finance has issued guidance providing that deductibility of donations must be interpreted in light of that decision, which is reflective of the CJEU’s ability to further the free flow of capital within the EU, in accordance with the EU law, thereby reducing discriminatory treatment and red tapeism.

 

The European Commission, distressed that Austria indulged in discriminatory treatment by exclusively authorising the deduction from tax of gifts to research and teaching institutions established in Austria, brought an action against the Republic of Austria [hereafter “Austria”] before the Court of Justice of the European Union [hereinafter “CJEU”].[i]

It contended that Austria had failed to fulfill its obligations under Article 56 of the Treaty establishing the European Community [hereinafter “EC”][ii] and Article 40 of the Agreement on the European Economic Area of 2 May 1992 [hereinafter “the EEA Agreement”].[iii]

The conflict between the EEA Agreement and the national law

The EEA Agreement

Article 40 of the EEA Agreement essentially provides that there shall be no restrictions between the contracting parties on the movement of capital and it further lays down that there shall be no discrimination based on the nationality or on the place of residence of the parties or on the place where such capital is invested.

Therefore, the provision, if viewed in a two-fold manner, comprises the following:

(1) Prohibition of restriction on the movement of capital;

(2) Prohibition of discrimination on the basis of nationality, place of residence or place of investment of capital.

Austrian National Law

Paragraph 4 of the Law on income tax (Einkommensteuergesetz) of 7 July 1998[iv] [hereinafter “the EStG”] provides that operating expenses are to be deducted from profits. Paragraph 4a(1)  in the version of the Law on tax reform of 2009[v] [hereinafter “the amended EStG”] lists gifts which are deemed to be operating expenses, which includes gifts for carrying out research or teaching activities in establishments for Austrian learning or concerned with the Austrian economy.

The Conflict

The Commission argued that Austria, by authorising the deduction from tax of gifts to research and teaching institutions whose seat were in Austria, to the exclusion of gifts to comparable institutions in other Member States of the European Union [hereinafter “EU”], contravened Article 40 of the EEA Agreement and Article 56 EC by restricting the free movement of capital. It further contended that Paragraph 4a(1) of the amended EStG drew distinctions purely on the basis of geographic criteria in relation to the seat of the recipient of the gifts.

Austria, albeit conceding that Paragraph 4a(1) of the amended EStG distinguishes between some institutions in Austria and those established in other Member States to a certain extent, argued that the provision does not effectuate restriction of movement of capital.

It made two major submissions:

Firstly, it submitted that the research and teaching institutions listed under the provision are not “objectively comparable”[vi] with similar institutions established in other Member States as only the former are subject to the influence of the official authorities of Austria.

Secondly, it asserted that even if restriction of free movement of capital is shown to exist, it is justified by reasons of ‘public interest’. It stated that in the furtherance of its endeavour to maintain and support the position of Austria as a centre of culture and learning, its actions can be sustained. The institutions listed under the disputed provision in the amended EStG encourage the cause of promoting public interest by providing their services and therefore the gifts can take the place of payment of taxes.

The CJEU’s role in settling the conflicting position

The CJEU looked into the arguments of both parties and came to the conclusion that Austria had violated its obligations under Article 56 EC and Article 40 of the EEA Agreement, as Paragraph 4a(1) of the amended EStG limited the deductibility of gifts for income tax purposes to those made exclusively to institutions which were established in Austria, resulting in restriction of the free movement of capital. Its actions cannot be justified on the grounds of ‘public interest’.[vii]

The CJEU said that though direct taxation falls within the competence of the Member States, they must nevertheless exercise their competence in consistence with European Union Law.[viii] The Court also discussed that the reason which a State adopts to justify its action, must be aligned to the achievement of the objective of the legislation and should not exceed the necessity of fulfilling the same.[ix]

In the Meilicke II Case[x], there was a reference for a preliminary ruling from the Germany, concerning the interpretation of Articles 56 EC and 58 EC[xi]. In this case, there was a conflict between the European Community law and the domestic law as in the Austria Case. This case involved the distribution of dividends by a company established in one Member State to a taxable person in another Member State. The Court in the Meilicke I Case[xii] had held that the tax credit applied to dividends received from capital companies fully taxable for corporation tax purposes in Germany or in another Member State. Discussing this judgment, the Court in the Meilicke II Case held that “where a Member State has a system for preventing or mitigating a series of charges to tax or economic double taxation for dividends paid to residents by resident companies, it must treat dividends paid to residents by non-resident companies in the same way”.[xiii]

Reaction to the CJEU’s decision

The Austrian Ministry of Finance issued guidance[xiv] on application of the Austria Case decision on 2 August 2011[xv]  with a view to expedite the delivery of justice. The prompt action of the Ministry should lay down a benchmark for the other States to incorporate the decisions of the CJEU.

Conclusion

Austria engaged in favourable discrimination by providing exclusivity to those institutions established in Austria. Non-discrimination is a universally recognized principle which has been incorporated in the EC and the EEA Agreement. Austria’s regime of tax deduction is not aligned to the scheme of the European Union law where the Member States are discouraged from constituting a means of arbitrary discrimination or a disguised restriction on the free movement of capital.[xvi]

The CJEU plays an important role in not only curbing the discriminatory treatment meted out to the other Member States by a particular State, but also checks the rampant red-tapeism which exists in the social hierarchy and bureaucracy of various member states by interpreting their domestic laws in line with the EU law.