The Program Law adopted by the House of Representatives on 24 July 2015, introduces a transparency tax or “look-through” tax for legal arrangements (trusts, foundations, offshore companies, …) set up by private individuals. This Act should be published in the Belgian State Gazette in the coming week but it will apply retroactively from 1 January 2015.
In the Belgian press, this tax is known as the “Cayman tax” after the Cayman Islands and it is presented as the instrument to hit the high net worth individuals who had been able to legally escape taxation by parking their wealth in trusts, foundations or offshore companies. Since Belgium does not have any wealth tax or capital gains tax for individuals, the Cayman tax must shift some of the tax burden from employment to wealth.
In 2013, the government introduced an obligation for taxpayers to disclose the existence of the trusts and offshore legal arrangements they had set up or inherited. Starting with the tax return to be filed in 2014 for 2013 income, tax payers have to declare that they, their spouse or registered partner, or their minor children, are the founder of a legal arrangement or that they are aware that they are the beneficiary or potential beneficiary of a legal arrangement (article 307 § 4 Income Tax Code). This reporting obligation was set up to encourage tax dodgers to come clean regarding hidden wealth during the 2013 voluntary disclosure program.
The transparency tax is the next step after the introduction. Basically, the founders of foreign legal arrangements and trusts will be liable to income tax on the income of these legal arrangements, unless they can prove that someone else benefitted from the legal arrangement. With effect from 1 January 2015, they will be deemed to be the owners of the assets of the legal arrangement or trust.
Which legal arrangements?
The law distinguishes two types of legal arrangements : trusts and other legal arrangements ; the distinction is important because different rules apply.
1. Trusts and trust-like arrangements
The first definition of legal arrangements aims at a legal relationship created by a legal act of the founder or by a court decision when assets or rights have been placed under the control of an administrator for the benefit of a beneficiary or for a specified purpose.
2. Other legal arrangements with legal personality
The second definition covers any non-resident company, association, institution, organisation or any entity that has legal personality and that enjoys a favourable tax regime.
That means that, in accordance with the provisions of the legislation of the state or jurisdiction where it is established, such legal arrangement is either not liable to income tax or is liable to an income tax that is less than 15 percent of its taxable income. However, the taxable income must be determined in accordance with the Belgian rules for establishing the tax on the corresponding income. The reference to the Belgian tax rules allows the taxpayer to take account of any specific Belgian tax rules that either determine a lower taxable base (e.g. provisions, the dividend received deduction, the patent income deduction, the notional interest deduction, etc.) or that disallow certain expenses (e.g. the disallowed interest resulting from the Belgian thin capitalisation rules). Whether the legal arrangement meets the 15 percent test is to be determined on an annual basis, so that the income of the same legal entity may be liable to the reporting obligation and the transparency tax in one year but not in another.
To help determine whether a legal entity is a qualifying legal arrangement, two lists will be adopted by Royal Decree : a limitative EEA inclusion list and a non-limitative non-EEA exclusion list.
Legal entities established in a Member State of the European Economic Area are normally not a “legal arrangement” for the transparency tax. The first list will give a limitative list of such legal entities that are. It will probably include the Liechtenstein Stiftung (foundation) and Anstalt as well as the Luxembourg Société de Gestion de Patrimoine Familial and possibly the Luxembourg Fondation Privée, and possibly the Netherlands Vrijgestelde Beleggingsinstelling and Stichting-Administratiekantoor. For these legal arrangements it will not be possibly to rebut the legal presumption that the entity concerned is a legal arrangement.
The second list will be a list of entities outside the EEA that are deemed to be legal arrangements unless proven otherwise. The taxpayer will have to establish that the legal arrangement is liable to tax at an effective rate of at least 15% for a given year, to avoid the application of the Cayman Tax regime for that tax year. It is expected that this list will be similar to the list adopted by Royal Decree of 19 March 2014 (Belgian State Gazette 2 April 2014). This list was based on the list in Annex 1 of the proposed Directive amending the Savings Directive (Directive 2003/48/EC (Com (2008) 727 final)). The new list will most likely include legal entities such as Guernsey or Jersey companies and foundations, the Monaco and Swiss and foundations; the Panama Fundacione de Interés Privado; the Hong Kong Private Limited Company; the Delaware Limited Liability Company; the Stichting Particulier Fonds in the Dutch Antilles; and the Cayman Exempt Company.
Both lists should be updated regularly.
3. Excluded legal arrangements
The following legal arrangements are, however, excluded
- Public and institutional undertakings for collective investments in transferable securities ;
- Alternative investment funds (AIFs) as defined in article 3, 4° or 6° of the Act of 19 April 2014 on alternative investment funds and their managers :
- Pension funds :
- Entities engaged in the management of employee participations;
- Companies listed on a stock exchange of an EU Member State under the conditions of Directive 2001/34/EC or of any other state that has similar conditions for admission to the listing ;
- A foreign entity with a genuine economic activity established in a “Compliant State” provided that (1) the entity carries out genuine economic activities in the context of a business in the place where the entity is established (or possibly where it has a permanent establishment) and that (2) the entity has premises, staff and equipment which are proportional with its business activity.
The entity is presumed to be resident in a “Compliant State” if the State is a Member State of the European Economic Area, if it is a state that has concluded a double taxation treaty or a tax information exchange agreement with Belgium (e.g. the Intergovernmental Agreement with the USA (FATCA)), or if it is a State or jurisdiction that is a signatory party to a bilateral or multilateral legal instrument providing for the exchange of information in tax matters, assuming, of course ,that Belgium is a signatory party as well.
The income of the legal arrangement will be taxed in the hands of the “Founder” of the legal arrangement. The Founder is in the first place the individual who has set up the legal arrangement (i.e. the settlor or the founder of a foundation). It may also be the sponsor of the legal arrangement, i.e. the individual who has transferred assets or rights to the legal arrangement that has been set up by a third party.
When the original Founder or sponsor dies, the income of the legal arrangement is taxed in the hands of his heirs. If the legal arrangement is a trust, that is the individuals who have directly or indirect inherited from the Founder (or sponsor) or the individuals who will directly or indirectly inherit from the Founder unless they can prove that they or their own heirs will not at any time or in any way enjoy any other advantage granted by the legal arrangement. If the legal arrangement is a legal entity, the new Founder is the individual who holds the legal rights to the shares of the legal arrangement or who is the beneficial owner of its assets and funds ;
To forestall manoeuvers by individuals, whereby they use a Belgian legal entity such as a private foundation or a non-profit association, the definition of Founder has been extended to include, apart from individuals, Belgian legal entities that are liable to the non-profit legal entities tax. Such entities will have to report the legal arrangements they have set up and pay tax on the income they generate. Offshore legal entities did not need to be included as they are legal arrangements and have their own founders.
Taxation of the Founder
The Belgian resident Founder, be it an individual or a non-profit legal entity, will be deemed to be the owner of the assets, rights and funds owned by the legal arrangement which they have set up, as well as of the income of such assets, rights and funds.
To this effect a fiction is attached to the general rule in article 5 of the Income Tax Code that states that residents are liable to individual income tax for any taxable income listed in the code, even if some of these forms of income have been produced or obtained abroad. The income of a legal arrangement is taxable in the hands of the Belgian resident Founder of a legal arrangement, as if he had received it directly, even if the income is not actually distributed to the Founder.
This fiscal transparency means that the founder may be taxed on income he will never receive. The only situation where the founder does not pay income tax is where the income from the legal arrangement has been paid or allocated to a Beneficiary (see below).
Fiscal transparency also means that the Founder will have to distinguish the income according to the type of income.
- income from real property will be taxed at the progressive income tax rates (varying from 25 to 50 percent, with a communal surcharge) ;
- dividend and interest income will be taxed at the fixed rate of 25 percent (27 percent in the future, presumably from 1 January 2017) ;
- earned income will be taxed at the progressive income tax rates (varying from 25 to 50 percent, with a communal surcharge) ;
- capital gains realized on an individual’s private assets consisting of securities, tangible assets or real property are not liable to capital gains tax if these gains are realized on transactions that are within the limits of the “normal management of a private estate”.
It is to be noted that the current government plans to introduce a speculative capital gains tax for gains made of the shares of listed companies if these are sold within six months of their acquisition.
- income earned through an insurance policy or within an insurance wrapper remains tax exempt, just like it is for Belgian taxpayers.
Multiple Founders (or heirs)
If the legal arrangement has been set up by more than one Founder, each is taxable proportionally to his contribution to the legal arrangement, if that can be established, failing which, they will be deemed to have an equal share.
If the rights in rem of the legal arrangement other than a trust are split over different Founders, each Founder is taxed in accordance with the rights he has or, if that cannot be established, in equal shares.
The heirs of the Founder will be assimilated to the initial Founder. However, they will be deemed to be the owner in proportion to their participation in the legal arrangement or in proportion to their share in the inheritance of the initial Founder’s inheritance.
Income paid or allocated to a beneficiary
The Founder is taxed on the income of the legal arrangement unless he can establish that this income has been paid or allocated to a Beneficiary who is a resident of or established in Belgium or in a “Compliant State”.
The Act introduces a definition of “Beneficiary” (tiers bénéficiaire/derde begunstigde), that is any individual (or non-profit legal entity) that at any time and in any manner benefits from any advantage granted by the legal arrangement, be it a trust or a legal entity. When presenting the law, the Minister of Finance confirmed that a Founder can be a Beneficiary. The Beneficiary does not need to be related to the Founder, and a legal entity can be a Beneficiary.
Under the old rules, when there was only a reporting obligation, a Belgian taxpayer had to report that he was the founder of a legal arrangement, or that he was the beneficiary or the potential beneficiary of a legal arrangement. In the future, a Belgian resident “Beneficiary” will have to report that he has received a benefit and pay tax on that. And if there is a “Beneficiary” (who pays tax on the benefit received), a Belgian resident “Founder” will be able to use that as an justification to avoid paying income tax (see hereinafter).
However, the Founder can only avoid taxation if he can prove that the income has been paid or allocated to a Beneficiary who resident or established in Belgium or in a “Compliant State”. That is a Member State of the European Economic Area, a state which has concluded a double taxation treaty or a tax information exchange agreement with Belgium, or a State or jurisdiction that is a signatory party of a bilateral or multilateral legal instrument providing for the exchange of information in tax matters (assuming Belgium is a signatory party as well).
The burden of proof lies, however, with the Founder. Consequently, a Belgian resident Founder may have to pay income tax on the income of a legal arrangement that is subsequently paid to a Beneficiary.
If the Beneficiary is a Belgian resident, he will be liable to income tax on the income paid or allocated to him by the legal arrangement as if he had received it directly. In other words, the Beneficiary is also taxed in a transparent manner, even if he is not deemed to own the assets of the trust or the legal arrangement.
Legal arrangements other than trusts (i.e. offshore legal entities)
Another way for the Founder (or the Beneficiary) to avoid taxation is by proving that the legal arrangement (that is not a trust) was liable to tax at a higher tax rate than 15 percent (determined in accordance with the Belgian tax rules).
In principle, past income is not liable to income tax. However, if a legal entity is wound up or if it assigns its assets without due compensation, the Founder is liable to income tax on the income paid or allocated by the legal arrangement after deduction of the amounts transferred to the legal entity that had already been taxed in Belgium (article 18 2°ter b) of the Income Tax Code) and after deduction of the income that had been taxed under these rules with the Founder or the Beneficiary (article 21 12° of the Income Tax Code).
As mentioned before, Belgian tax payers, be they individuals or non-profit legal entities, will have to report that they are the Founder of a legal arrangement, irrespective of whether they have received any benefit. As for Belgian resident beneficiaries, they will have to report that that they are a “Beneficiary” and that they have actually receive a benefit, in accordance with the definition.
Potential beneficiaries do not need to report anything in their tax return anymore.
Founders and Beneficiaries may be required by the tax authorities to hand over any documents and accounts relating to the legal arrangements which they have reported.
Any changes made to the trust deed or the articles of incorporation after 8 October 2014, in order to convert a trust into a legal entity or a legal entity into a trust (to avoid the taxation of past income) cannot be opposed to the tax authorities.
Furthermore, the law allows the tax authorities to ignore a legal act or a series of legal acts by legal arrangements other than trusts to avoid the application of these transparency rules.
During the parliamentary discussions, it was confirmed that the general anti abuse rule of article 344 §1 of the Income Tax Code can be invoked if all other rules fail.
Under the new rules, the income of the trust is taxed as if it was directly received by the Founder or the Beneficiary. They attempt to prevent double taxation, so that the Founder does not pay income tax if the income is paid or attributed to a qualifying Beneficiary, who is either resident in Belgium or in a tax compliant jurisdiction. However, if the Founder cannot establish that the Beneficiary has received or been allocated the income, he remains liable to tax even if the Beneficiary is liable to tax in Belgium or in another jurisdiction.
Moreover, the Founder may pay tax in one year while the Beneficiary receives a benefit in a subsequent year so that there is effectively double taxation. And when the Beneficiary receives a benefit accumulated in the legal arrangement from previous years, there is no rule to set this benefit off against the income on which the Founder will pay income tax. What will complicate things for the Beneficiary is that he has to declare the income of the legal arrangement while he may not know the origin of the benefit paid out to him.
Moreover, there is another form of double taxation that is ignored. The new rules do not take account of any tax that may have been paid by the trustee out of the trust assets or by the legal entity by way of company income tax. Not all double tax treaties deal with trusts and trust taxation, or with the taxation of the income of a legal entity.
That also raises the issue as to how this transparency tax interacts with the double tax treaties, and whether these do not prevent Belgium from taxing the profits of a company in the other state before they are paid out in the form of dividends.
Finally, the new rules only deal with the income tax due by the Founder, but not with possible inheritance or gift tax issues. These were not even addressed as the federal parliament has no powers to deal with inheritance or gift tax issues ; these are of the competence of the regional parliaments. When the gift tax and inheritance tax were still a federal competence, the tax authorities had taken the position in respect of an “irrevocable discretionary trust”, that the trustee was not a beneficiary, that the beneficiary is not liable to gift tax until he accepts and receives the benefit, and that inheritance tax cannot be charged as long as it is not certain whether and how much the beneficiary will receive. In other words, the beneficiary remains a conditional beneficiary pending the trustee’s decision to grant a distribution of assets or income. Since then only the Flemish tax administration has taken a position about the taxation of trusts, making a distinction between discretionary and non-discretionary trusts. In either case, they consider that distributions are liable to inheritance tax, either immediately upon death, or – in the case of a discretionary trust – upon effective distribution.
It is not clear how these rules will interact with the new income tax rules. As the rules stand at present, both inheritance tax and income tax will be due when the trust grants a benefit.
Declaring legal arrangements such as trusts and offshore companies and foundations, combined with a growing transparency on an international scale will make it more difficult for wealthy taxpayers to hide their wealth for the taxman. However, the rules are not comprehensive and they leave open a number of routes.