Hybrid Entities in Tax Treaty Law

S. 5101. The issue of hybrid entities in the internal market

On the basis of the principle of conferral, the EU shall only act within the limits of the competences conferred to it by the Member States (art. 4(1) and 5(2) TEU). As the competence for direct taxation is not conferred to the European level, the Member States remain competent for that matter. However, this does not mean that the Member States receive a “green light” to act without limitations. Based on the Retained Powers Formula, Member States must comply with EU law while exercising said competence in direct taxation. Consequently, provisions in domestic tax law and in the double taxation conventions of the Member States dealing with the classification of foreign entities in the field of direct taxation, must also be exercised in line with EU law.

Two problems of EU law can be identified with regard to domestic classification methods, based on the fact that Member States of the EU use different methods to qualify foreign entities. Firstly, these differences can lead to double or more burdensome taxation for taxpayers doing business in multiple jurisdictions. This forms an obstacle to the functioning of the internal market, as...