Foreign direct investment (FDI) inflows to low-tax countries in the Netherlands have fallen sharply over the past two years. According to DNB analysis, this may be the result of new national and international legislation.
The Netherlands is the second largest recipient of foreign direct investment in the world after the United States. A significant portion of these investments – and the associated income – leave the Netherlands immediately without adding value. This phenomenon of large inflow and outflow of FDI is referred to as ‘flow through’.
it will be called so Low tax jurisdictions (LBJ) Cayman Islands, Bahamas and Bermuda have been important destinations for this flow through the Netherlands in recent years. For example, in the period 2015-2019, an average of 35 billion euros of foreign direct investment income flowed to countries with low tax rates, more than 14 percent of total income. However, there has been a trend break in the last two years: in 2020 and 2021 this amount drops to 6 billion euros per year, 3% of the total.
Although income flows to low-tax jurisdictions, relatively high FDI income goes to countries such as the United States, the United Kingdom, and countries in the Economic and Monetary Union. It can be assumed that it originates from very real investment activities.
As outflows to other transit countries such as Switzerland, Ireland and Luxembourg have not increased, it is unlikely that profits from other transit jurisdictions will end up in countries with lower tax rates.
Strict laws and regulations related to tax avoidance
The fact that less income from foreign direct investment flows through the Netherlands to low-tax countries may be related to new national and international laws and regulations. For example, from 2020 Irish tax authorities have banned the construction of a ‘double Irish with Dutch sandwich’, which was particularly popular among US tech companies. With this well-known tax system, multinational companies tried to reduce their tax burden by relocating profits through Ireland and the Netherlands in countries with lower tax rates.
Additionally, in the Netherlands, on January 1, 2021, the Withholding Tax Act In practice. This tax applies to interest or royalty payments made by a company established in the Netherlands to an affiliated company in a low-tax country. Especially the income under this withholding tax has decreased the most. For example, interest and royalty payments to LBJs in 2021 are no less than 96 percent of 2019.
The Netherlands continues to be a global leader in foreign direct investment
Although the flow of income to countries with lower tax rates is significantly reduced, the Netherlands generally remains a large flow country. According to DNB figures, the volume of inward foreign direct investment in 2021 was EUR 4,700 billion, an increase of EUR 200 billion compared to 2020. The Netherlands represents approximately 10% of the world total.
Incidentally, not all income from FDI through the Netherlands is taxable. Other features such as excellent legal infrastructure, investment protection, flexibility of corporate law and the presence of many financial, tax or legal service providers also make the Netherlands an attractive founding country.
What is Foreign Direct Investment?
Foreign direct investment is an investment by a resident of one economy in another (foreign) economy with the intention of acquiring a lasting interest in the enterprise in which he invests. Fixed interest implies (i) long-term relationship between the investor and the investee and (ii) the degree of participation of the investor in the policy pursued. In concrete terms, this means that the investor must hold at least 10 percent of the company’s voting rights.
FDI income consists mainly of profits in the form of dividends and undistributed profits belonging to foreign owners, both inward and outward. Another important type of inter-group income is expenses charged for the use of intellectual property (IP), also referred to as royalties, which are used in practice for tax purposes.
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