Substance has become one of the least useful words in international tax. It appears in board packs as a box that has been ticked and in provider brochures as a service line with a monthly fee. What it means to an inspector, to a treaty partner or to a court is narrower and considerably more demanding: whether the company shown in the chart is the company that actually does what the chart says it does. That question is settled by evidence, not by declarations, and the evidence is usually already in the group’s own files.
What is actually being examined
No single Dutch statute defines substance. What exists is a set of indicators drawn from the corporate residence test, from treaty and directive anti-abuse provisions, from the arm’s length principle in article 8b, and from the ruling policy in force since July 2019. Read together, they point at the same facts.
- Where decisions are taken, and by whom. Not where they are signed, but where the commercial judgement is exercised.
- The composition and residence of the board. Whether the directors have the seniority, the mandate and the availability to run the company.
- Where board meetings are held, how they are convened, and whether the minutes record deliberation or ratification.
- Qualified personnel in the Netherlands, with a wage cost that is proportionate to the functions performed.
- Premises at the company’s own disposal, used for the company’s activity.
- Accounting kept in the Netherlands, with the primary records and the underlying documentation held there.
- Bank accounts operated from the Netherlands, with authority to move funds resting with the Dutch board.
- The financial capacity to bear the risks the group attributes to the entity.
The first seven are conventional and well understood. The eighth is where most files fail, and it is the hardest to remedy retrospectively.
The board is the centre of the analysis
Dutch corporate residence is determined on the facts and circumstances, and the place from which the company is effectively managed carries the greatest weight. Board practice is the primary evidence of it, and the relevant questions are practical. Are the resolutions drafted in the Netherlands, or received from the parent by email and signed as presented? Do the minutes show that alternatives were considered, that the directors asked for information, and that the information was provided in a form allowing a judgement? Is there correspondence in which a Dutch director declined, deferred or amended something?
A board that never disagrees with the shareholder is not evidence of harmony; it is evidence that the board is not the decision maker. The point is not that professional directors are unacceptable; it is that a director must have the time, the information and the standing to exercise the function attributed to the entity.
The residence of the directors matters for the same reason. A majority resident abroad, meeting abroad and taking advice abroad describes a company managed abroad, whatever the register says. Two states may then each claim residence, and the tie-breaker analysis under the applicable treaty will look at exactly the facts set out above.
Treaty access and the anti-abuse layer
Substance and treaty access are separate tests that draw on the same facts. A Dutch entity may be resident for domestic purposes and still be denied the benefit of a treaty or of an EU directive, because the counterparty state applies a principal purpose test or a domestic anti-abuse rule to the arrangement. European case law on beneficial ownership and abuse has made conduit analysis routine for source states.
The practical consequence is that a Dutch holding company’s ability to receive dividends, interest or royalties at a reduced rate depends on what the source state concludes about the recipient, not on what the Dutch register records. The Dutch dividend withholding tax rate of 15 per cent, reduced under treaties and exempted within the EU in qualifying cases, is only one side of the flow; the more consequential decision is often taken in the paying jurisdiction. The conditional withholding tax on interest and royalties towards low-taxed and listed jurisdictions, in force since 2021, adds a further filter on outbound payments.
The formal substance indicators, moreover, do not operate as a safe harbour. Meeting them does not conclude the enquiry, and the same facts are available to the states at the other end of the flow, so the file is read abroad as well as at home.
Substance is not a threshold a company passes once. It is a description of where a business is run, and the file either reads as though that description is true or it does not.
Rulings require an economic nexus
The ruling policy applicable since July 2019 removed any ambiguity. Advance certainty is not available where the entity lacks sufficient economic nexus with the Netherlands, where the decisive motive for the arrangement is the saving of Dutch or foreign tax, or where the transaction involves entities in listed low-tax jurisdictions.
Substance work is therefore a precondition of advance certainty rather than a parallel workstream. An application filed by an entity with a thin functional profile will not simply be refused; it places on record a description of the structure that the tax authority can revisit. The interaction between substance and pricing certainty is set out further in our note on advance pricing agreements and rulings.
Why formal minimum substance no longer suffices
The older approach treated substance as a compliance list: a Dutch bank account, local bookkeeping, a resident majority on the board, an office available for a defined period, a wage cost above a stated floor. Those items remain relevant, but they are now read as indicators rather than as an answer. What changed is the arrival of the arm’s length principle as the operative test of who earns what.
Article 8b imposes the arm’s length principle and carries a documentation obligation with no monetary threshold. It sits beneath the Master File and Local File requirements, which apply from a consolidated turnover of 50 million, and country-by-country reporting, which applies from 750 million. Under that principle, an entity is allocated the return on a risk only if it controls the risk and has the financial capacity to assume it. Control means the competence to decide whether to take the risk and how to respond when it materialises, and actually performing those functions. A company whose entire staff consists of two directors with no mandate to say no does not control anything.
Equity on the balance sheet is not by itself financial capacity. The question is whether the entity could absorb the downside of the risk it is said to bear without recourse to the parent. Where it could not, the return follows the party that could, and the Dutch entity is left with a service return. This is the mechanism that quietly converts a holding company into a cost-plus service provider, and it is described in more detail in our note on the article 8b documentation obligation.
A worked example
Consider a Dutch BV interposed between a European operating group and its shareholders. It holds the shares in four operating subsidiaries, lends working capital to two of them, and licenses a trade mark to all four. Its board consists of one group finance executive resident abroad and one local corporate service director. Minutes are prepared by the parent’s tax function and signed in circulation. The company has no employees, uses a registered address shared with a large number of other entities, and its accounting is performed by the group’s shared service centre abroad. Equity is nominal; the loans were funded by a back-to-back facility from the parent. The trade mark was contributed at book value and is developed and promoted entirely by the operating companies.
On examination, several conclusions follow more or less mechanically. The interest spread on the loans is unlikely to survive, because the entity neither controls the credit risk nor has the capacity to bear it; the analysis follows the treatment of intercompany financing arrangements, and the residual return migrates to the funder. The royalty is exposed on DEMPE grounds, since the development, enhancement, maintenance, protection and exploitation functions all sit with the licensees. Withholding relief claimed by the subsidiaries in their own states is challenged, because the recipient does not look like a beneficial owner in any substantive sense. The place of effective management is questioned, since no decision of consequence is demonstrably taken in the Netherlands.
None of this depends on a novel legal theory. Each conclusion is drawn from facts the group itself created and documented.
What defensible substance looks like
The remedy is not a longer checklist. It is alignment between the functional narrative in the transfer pricing file, the legal agreements, the board record and the actual conduct of the business. Where the entity is a genuine holding and financing platform, it should be resourced as one: a board with real authority and the information to exercise it, personnel whose seniority matches the decisions attributed to them, premises and records in the Netherlands, and a balance sheet that can carry the risks allocated to it. Where the group is unwilling to fund that, the honest response is to reduce the functions attributed to the entity and price it accordingly. That choice is best made at establishment, when alignment is a matter of design rather than of restatement.
The cost is composed of the notarial deed before a Dutch civil-law notary and the registration with the KVK, the directors and their supporting infrastructure, premises, local bookkeeping and the annual filings, the transfer pricing documentation, and periodic review of whether the functional profile still matches reality. The weight of each item depends on the complexity of the group and on how much operating substance already exists in the Netherlands. What does not vary is the requirement that the description be true.
Montclare structures and operates Dutch and cross-border holding platforms for international groups. Our services are set out on our services page.
This article is informational and does not constitute tax advice. Each engagement is subject to scope and applicable regulation.