Supreme Court uses static approach to interpretation of old treaty with Germany
On 14 October 2022, the Dutch Supreme Court published a decision on whether the definition of “employer” in the 2010 Commentary on the OECD Model Tax Convention could be used for the interpretation of the 1959 Netherlands-Germany tax treaty. According to the court, a definition from an OECD Commentary adopted after the signing of a treaty (“posterior commentary”) may be used only if it represents a clarification or explanation of a definition (i.e., in the Commentary prevailing at the time the treaty was signed). If it deviates from the definition at the time the treaty was signed or if the treaty text deviates from that of the OECD model treaty, the OECD Commentary cannot be used to interpret a definition in the treaty.
Facts of the case
The case involved a UK tax resident limited company that is part of a U.S. multinational group and employed a Dutch manager who held senior management positions in the group. The UK company had a management agreement with a German sister entity (GmbH) for the management services of, amongst others, the Dutch taxpayer. The Dutch manager carried out his functions in Germany, the Netherlands and the UK and reported to the CEO in the US.
The German tax authorities levied wage tax on the payments made by the GmbH to the Dutch manager for his work performed in Germany. The Dutch tax authorities refused to grant a tax credit to the manager for the German tax paid, because they did not consider the GmbH to be the employer of the Dutch manager and, hence, Germany did not have taxing rights (article 10(2)). The wage tax levied by the Germany authorities, therefore, was not in accordance with the terms of the treaty and thus the Netherlands was not required to provide double taxation relief.
At issue was whether the taxpayer received remuneration for work performed for the GmbH from an employer in Germany within the meaning of article 10 (income from employment) of the Netherlands-Germany treaty. The case was brought before the Dutch Court of Appeal, which concluded that, based on the 2010 OECD Commentary, the GmbH is not the employer of the Dutch manager as it is not reasonable to assume that the taxpayer performed his work for the GmbH in the context of an “authority relationship” with the GmbH. According to the Court of Appeal, the taxpayer did not derive the remuneration from an employer established in Germany so he is not entitled to double tax relief on that remuneration. Furthermore, although the fees for the services performed by the Dutch manager were recharged by the UK limited company to the GmbH, the recharge was made as part of the management agreement and not in relation to the taxpayer individually. The taxpayer appealed the Court of Appeal decision to the Supreme Court.
Significance of the OECD Commentary for the interpretation of tax treaty provisions
The Supreme Court also determined that the German GmbH was not the employer for tax treaty purposes but reached this conclusion on different grounds than the Court of Appeal. The Supreme Court provides a clear framework of how to use the OECD Commentary to interpret tax treaty terms.
According to the court, the first step is to determine whether the text of the tax treaty provision concerned is in line with that of the OECD Model Convention. If not, the OECD Commentary should not be used to interpret terms in the treaty provision. If the texts are in line, then the OECD Commentary that applied at the time the treaty was signed should be used to interpret the treaty provisions (“anterior commentary”). Subsequent commentary only has value in the interpretation if it is merely a clarification or explanation of the relevant provision. Such value is limited in its use, however, as later OECD Commentary cannot lead to an interpretation of a treaty provision that differs from the interpretation of the primary sources of interpretation. The Supreme Court decision favours a static approach to the interpretation offered by the OECD Commentary, whilst the OECD itself endorses a dynamic approach to interpretation.
With this interpretation method in mind, it should be noted that article 10 of the 1959 Netherlands-Germany treaty aligns with article 15 of the OECD Model Convention. In 2010, sections 8.1 to 8.24 were added to section 8 of the OECD Commentary on article 15 of the model treaty, which were adopted unchanged in the 2014 commentary. These sections set out new criteria and introduced new concepts to determine whether there is a relationship of authority (section 8.10 in this case). The Supreme Court held that these sections represent a post-treaty amendment to the OECD Commentary that cannot be regarded as a clarification or explanation of the treaty nor can it be a clarification of the OECD Commentary that existed prior to the treaty. These sections of the 2010/2014 OECD Commentary therefore have no significance in interpreting article 10(2) of the 1959 Netherlands-Germany treaty.
As section 8.10 of the 2010/2014 Commentary does not qualify as clarifying or explaining commentary that existed before the 1959 treaty it should not be used to interpret the term in the 1959 treaty. As the 1959 definition of employer required an individualised recharge to the GmbH, the GmbH was not the employer of the Dutch taxpayer for treaty purposes and the Netherlands did not have to grant a foreign tax credit.
The Supreme Court acknowledges that the difference between the static and dynamic interpretation methods may lead to double taxation or double nontaxation. In these instances, a mutual assistance procedure may provide relief for the taxpayer. In a number of protocols accompanying Dutch tax treaties, the Dutch government has included a provision that allows for a dynamic approach in interpreting treaty provisions.