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What is a passive holding?
A holding is a company that owns shares in one or more other firms. In many cases, these are shares in an operating company, the company where the actual business activities take place.
A passive holding does little more than hold these shares. It generally has no own employees, no clear management role, no own office, no active services and no demonstrable involvement in the management of the subsidiary. For example, it receives dividends but provides little or no services itself.
This doesn’t mean that a passive holding is automatically prohibited or incorrect. A holding company may have perfectly legitimate reasons for existing, such as family planning, asset protection, risk diversification, financing or preparing for an acquisition. The problem mainly arises when the holding appears to have no genuine function other than obtaining tax benefits.
Why are tax authorities taking a stricter approach to passive holdings?
Holdings can offer tax advantages. Subject to certain conditions, dividends received by a holding company from its subsidiary may be exempt under the DRD regime. DRD stands for dividends-received deduction. The underlying rationale is straightforward: profits that have already been taxed at the level of the subsidiary are not fully taxed again at the level of the holding company.
In addition, subject to certain conditions, an exemption from withholding tax may apply to dividends distributed by the subsidiary to the parent holding company. Capital gains on shares may also be exempt in certain situations.
These advantages make a holding company attractive. However, this is precisely why tax authorities examine those structures more closely where a holding company is inserted without a clear economic role. The tax administration may call on anti-abuse provisions if it considers that the structure is artificial and was primarily set up to obtain tax benefits.
Recent case law confirms this debate remains relevant. Courts have already ruled on structures in which a passive holding company was used in the context of an acquisition and where dividends were used to repay acquisition debt. In such cases, the tax authorities may argue that the withholding tax exemption or the DRD benefit cannot simply be applied if the holding company has insufficient economic justification for its existence.
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When does a holding become vulnerable from a tax perspective?
A holding becomes particularly vulnerable when it exists on paper but does little or nothing in practice. Tax authorities then look at the economic reality behind the structure.
Risk indicators include:
· the holding has no employees or directors who can be shown to actively manage the business;
· there are no management services or advisory services provided;
· the holding doen’t invoice any services to its subsidiaries;
· there are no reports, decisions or documents demonstrating an active role;
· the holding was established shortly before a dividend distribution, sale or transfer;
· dividends flow through without a clear economic reason;
· the structure appears to have been set up primarily to avoid withholding tax or other taxes.
The issue is therefore not only what is stated formally in the articles of association. Tax authorities also look at what happens in practice. A holding that formally provides management services but can offer no supporting evidence remains vulnerable.
What does it mean to activate your holding?
Activating your holding means giving it a genuine economic function within the group. The holding then becomes more than a company that merely holds shares. It takes an active role in the management, strategy, financing or support of the underlying companies.
This can be done in various ways. For example, the holding may provide management services, take strategic decisions, coordinate financing, monitor group reporting, manage investments, hold directorship mandates or provide support in areas such as administration, HR, finance or legal organisation.
It is important, however, that this role is genuine. A management agreement without any actual services being provided is not sufficient. There must be effective services, correct invoicing, market-based remuneration and supporting documents detailing what the holding does.
An active holding therefore not only has a legal structure but also a substantive role.
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Why is activation so important?
An active holding is in a stronger position during a tax audit. It allows you to demonstrate more effectively that the structure is not artificial and wasn’t set up solely to obtain tax benefits.
This is important at various stages:
· when dividends flow from the subsidiary to the holding company;
· when the holding company finances an acquisition;
· when shares are sold at a later stage;
· when planning a family transfer;
· when you wish to benefit from favourable tax regimes;
· when the holding company wishes to recover VAT on costs.
This is particularly relevant in the context of dividend distributions. If a holding company receives dividends and uses them to repay a loan, for example following an acquisition, tax authorities may examine whether the holding company has a genuine role. In the absence of business reasons, this may lead to discussions regarding the withholding tax exemption or the application of the DRD deduction.
What about the DRD deduction and the withholding tax exemption?
The DRD deduction ensures that, subject to certain conditions, the company receiving the dividends isn’t taxed again. In most cases, the holding company must have a shareholding of at least 10% or with an acquisition value of at least €2.5 million, and must have held that shareholding in full ownership for at least one year.
However, even where these conditions are met, tax authorities may challenge the application of the benefit if abuse is involved. This may be the case, for example, where a holding company is inserted without a genuine economic function and primarily to allow dividends to flow through tax-free.
The withholding tax exemption on dividends between affiliated companies may also come under pressure if the structure appears artificial. The mere existence of a holding company doesn’t necessarily constitute abuse but you must be able to demonstrate that there are valid business reasons reflecting the economic reality.
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Also important for VAT recovery
The activation of a holding company is not only relevant for corporate income tax purposes. It can also make a significant difference for VAT purposes.
A purely passive holding company that only holds shares is, in principle, not considered a taxable person for VAT purposes in relation to that activity. It doesn’t perform an economic activity within the meaning of VAT legislation. The consequence is that the holding company often has no right to recover VAT on costs.
This changes when the holding company actively participates in the management of its subsidiaries and provides VAT-taxable services for this purpose. Examples include management services, administrative support or strategic advice for which the holding company actually invoices fees. In that case, the holding company may, subject to certain conditions, be entitled to recover VAT.
Here too, the reality must match the formal structure. A management agreement on paper alone is not sufficient. The services must effectively be provided and adequately evidenced.
What about family planning?
Many entrepreneurs also use a holding company as part of their family planning. The shares in the operating company are then centralised in a holding company, facilitating the transfer to children or other successors.
Here too, the question of whether the holding company is passive or active becomes important. In the case of an active holding company, the application of favourable family tax regimes may be more broadly supported or better substantiated. For a passive holding company, greater scrutiny is often applied to the underlying assets and to the extent to which the value is effectively linked to active companies.
In Flanders, there is also recent case law concerning the valuation of shares in a passive holding company with an active subsidiary. In that context, the favourable tax regime was not automatically applied to the full value of the holding company, but only to the part relating to the active subsidiary.
Anyone using a holding company for estate planning, gifting or family transfers should therefore consider in good time whether the structure is sufficiently active and defensible.
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How to activate your holding company in practice?
Activating a holding company starts with considering the role the holding company currently plays and the role it should take on in the future. This role must then also be developed from a legal, operational and administrative perspective.
Possible actions include:
· preparing management agreements between the holding company and its subsidiaries;
· formalising directors’ mandates;
· documenting strategic decisions in reports;
· correctly calculating and invoicing management fees;
· demonstrating actual services through reports, minutes, emails or advisory documents;
· providing sufficient resources, knowledge or personnel to fulfil the role;
· analysing the holding company’s VAT position;
· reviewing the structure in light of dividend flows, financing and family planning.
The aim is not to create artificial activity. The aim is to clarify the actual role of the holding company and organise it correctly. If the holding company genuinely has a coordinating, strategic or supporting function, this should also be reflected in the documentation and day-to-day operations.
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What should you do now?
Do you have a holding company or are you planning to set one up? Then this is the right time to review the structure critically. A passive holding company doesn’t automatically constitute tax abuse, but the requirements are higher than in the past. You must be able to explain why the holding company exists, what role it plays and how that role is implemented in practice.
Ask yourself at least these questions:
· Does my holding company have a clear business purpose?
· Does the holding company provide genuine services to its subsidiaries?
· Are these services correctly invoiced?
· Is there sufficient supporting documentation for the services provided?
· Is the dividend flow defensible from a tax perspective?
· Is the DRD deduction sufficiently substantiated?
· Is the holding company’s VAT position correct?
· Is the structure suitable for a future sale, transfer or estate planning?
Holding companies remain useful, but passive holding companies are increasingly coming under scrutiny from tax authorities. Activating your holding company in good time reduces the risk of disputes and strengthens your position regarding dividends, VAT recovery, acquisitions and family planning.
