Marks & Spencer: Advocate General's Life Raft for EU Ministers

By Gareth Green and Jonathan Levy*

*Gareth Green is the director of Transfer Pricing Solutions Ltd. in London. Jonathan Levy is a partner in LevyWatters in London.

U.K. retailer Marks & Spencer has brought a key tax case to the European Court of Justice, asking the European Union's final court of appeal to rule against U.K. legislation that denies group relief for losses. The issue before the ECJ was whether U.K. restrictions on consolidating cross-border losses violate the freedom of establishment under Article 43 of the European Community Treaty; and if they do, whether such restrictions could be justified under Community law.

The ECJ process has two stages. First, an opinion is provided by a court officer known as the Advocate General. This is intended to help the court reach a judgement. The judges are at liberty to disagree with the opinion, but in practice the court usually confirms the Advocate General's view. The Advocate General assigned to the M&S case, Poiares Maduro, delivered his opinion on April 7, which has been reported as urging the ECJ to rule in favor of M&S's position opposing current U.K. policy on group losses.1

It might be supposed that this opinion will not have made Maduro popular among finance ministries around Europe, but he may have redeemed himself in their eyes, because he seems to have gone out of his way to throw them a life raft. In a forthright manner, his opinion signals a relatively painless way for EU governments to patch up their loss relief rules and make them ECJ-proof for future years. It also seems possible that the United Kingdom will use potential ambiguities in Maduro's opinion to insist that M&S have in fact lost their case.

Factual Background

The facts of the case were that M&S Plc was the group's principal trading company, specializing in general retail, clothing, food, homeware, and financial services. Through the intermediary of a holding company established in the Netherlands, M&S had subsidiaries in Belgium, France, and Germany. From the middle 1990s, those subsidiaries recorded losses. M&S in March 2001 announced its intention to divest itself of its continental European activities. By Dec. 31, 2001, the French subsidiary had been sold to a third party and the German and Belgian companies had discontinued trading operations.

M&S submitted group relief claims in 2000 and 2001 for losses incurred by several of its EU subsidiaries for four accounting periods covering 1998 to 2001. U.K. Inland Revenue rejected the claims, saying the group relief scheme did not apply to subsidiaries that are neither resident nor economically active in the United Kingdom. The group relief provisions in U.K. law--under section 402 of the Income and Corporation Taxes Act 1988--permit any company in a group (the surrendering company) to surrender its tax losses to another group company (the claimant company) so that the latter may deduct these against its taxable profits.

U.K. legislation, however, denies group relief unless both claimant and surrendering company are British residents. Losses also may be surrendered to and from a U.K. branch of a non-U.K. resident. Losses incurred by a group company outside the United Kingdom may not be claimed.

EU Non-Discrimination Principles

The holy grail of the EU internal single market is one characterized by the abolition, as between EU member states, of obstacles to the free movement of goods, persons, services, and capital (Article 3 of the EC Treaty). In this respect, no discrimination is allowed on grounds of nationality (Article 12 of the EC Treaty). Of particular importance is Article 43, which bans restrictions on the freedom of establishment of nationals of a member state in a territory of another member state.

From the start, the ECJ has been zealous in upholding EC Treaty freedoms. In Dassonville (Case 8\74 1974), the ECJ held as contrary to European law:

All … rules enacted by member states which are capable of hindering, directly or indirectly, actually or potentially, intra-community trade.

Community freedoms involve many cross border situations, such as:

• export or import of goods;

• provision or receipt of services;

• transfers of businesses;

• employment;

• establishment by a company through a branch or a subsidiary; and

• investment of capital, e.g., in shares or land.

There is no end to the number of tax obstacles that an ingenious government can, intentionally or not, put in the way of tax harmony. However, the ECJ in past discrimination decisions generally has been extremely unsympathetic to such obstacles.

Maduro's Opinion

Most of the opinion by Advocate General Maduro follows what is by now a path well trodden from previous anti-discrimination cases. He confirmed that the current U.K. group relief laws are discriminatory, because U.K. parents are able to claim group relief for the losses of subsidiaries in the United Kingdom, but not subsidiaries in other EU countries. This is "an obstacle such as to dissuade companies established in the United Kingdom from establishing subsidiaries in other" EU countries, and therefore precluded by EU freedom of establishment.


EU governments will be horrified that Maduro has recommended the ECJ should confirm M&S's right to reduce U.K. taxable profits by offsetting the tax losses of its Belgian, French, and German subsidiaries. It is not only the United Kingdom that is affected. Most EU countries have similar rules, which is why M&S faced arguments not only from the U.K. government, but most other EU governments, including Germany and the Netherlands. Only Austria, Denmark, and Italy currently have systems whereby companies can consolidate profits of their subsidiaries within the EU.

The effort and cost of litigation certainly will have paid off for M&S, which stands to gain more than £30 million (approximately US$57.6 million) in repaid U.K. tax. What will dismay EU governments is that the ECJ decision may pave the way for other EU companies to make similar claims under local equivalents of the U.K. group relief legislation. It seems likely that, unless the ECJ takes the unusual step of disagreeing with the Advocate General, this will lead to huge refunds of corporate tax across the EU. Estimates vary, but claims already filed by other UK companies amount to more than £1 billion (approximately US$1.9 billion), and many of those with most to gain, such as Vodafone, have not yet made claims. Including claims in France, Germany, the Netherlands, and other countries, this could reduce tax revenues by tens of billions of pounds and euros.

The Cost of Delay

In view of the many previous ECJ judgments that have struck down tax laws that discriminate on grounds of residence, few will be surprised at this outcome. That is, other than the EU governments that, like latter-day King Canutes,2 appear to have convinced themselves they could resist the inevitable.

Given the sums at stake, it is understandable that governments have fought this to the bitter end, although they appear to have been overly optimistic about their chances of success. Following the judgment of the full court, expected later this year, no doubt governments will take evasive action to prevent offsets of overseas losses in future years, but it will probably be too late to prevent claims for loss offsets for prior years.

The original claim by M&S was made in 2000, and the case was already notorious by 2002, and with the benefit of hindsight, governments may be regretting that they did not take preventative measures at that time. It might have been possible to amend group relief legislation so as to remove the discrimination for prospective years, and thus "stop the clock" at that point. This would have meant that EU governments would be facing claims for 2001 and earlier years only. The delay means that another four years of loss relief may now be eligible to be claimed.

Solutions for the Future

Perhaps the reason EU governments have yet to take such action is that the potential remedies were all so unpalatable. Many commentators felt the most likely solution would be to remove the discrimination by withdrawing group loss offsets for domestic groups. This would be analogous to the strategy adopted for transfer pricing rules, following the ECJ's 2002 Lankhorst-Hohorst decision.3 This decision confirmed that German thin capitalization rules could not be applied to a loan by a Dutch parent to its German subsidiary, as they would not have applied if the parent company had been German. It was widely considered that this effectively struck down any thin capitalization or transfer pricing rules in any EU member country if those rules apply only to cross-border transactions.

EU governments generally have responded by changing these rules to remove any exemption for domestic transactions. This has meant that domestic transactions must suffer a new compliance burden in order to preserve the right to apply transfer pricing rules to cross-border transactions.

Similarly, withdrawing group relief rules would penalize domestic groups in order to prevent tax leakage from M&S-type claims. However, based on the authors' experience in the United Kingdom, domestic transfer pricing rules mainly are just an annoyance, leading to extra compliance costs and only in rare cases to extra net tax. Withdrawing group relief, on the other hand, would wreak havoc on corporate groups that have based their structures on the assumption that they can offset losses in one subsidiary against other profits in the same country.

Other commentators have supposed that success for M&S might act as a catalyst for implementation of proposals by the European Commission for a consolidated pan-EU tax base or even tax harmonization.4 However, most EU governments are staunchly opposed to this loss of sovereignty.

Maduro's Life Raft

After deciding that the current U.K. group relief rules are discriminatory, Maduro considered whether there is any acceptable justification for the discrimination. He had no truck with arguments that the discrimination should be permitted because of the significant impact on the tax take if group relief is not restricted or because the U.K. government has no power of taxation over the Belgian, French, and German subsidiaries.

However, the part of his opinion that offers hope to EU treasuries and tax authorities is his consideration of whether the discrimination is justified by a concept from an earlier ECJ case, Bachmann, which said such discriminatory measures could be upheld if they are needed to maintain the coherence of the relevant EU member state's system.5

Maduro determined that the aim of U.K. group relief is "to ensure fiscal neutrality of the effects of the creation of a group of companies." He concluded that it would be acceptable to prohibit the transnational transfer of losses in cases where the losses also may be used in the country where the losses originated because this would give a double deduction, which is contrary to the aim of fiscal neutrality. But he pointed out that a blanket prohibition of transnational group relief "goes well beyond what is necessary in order to protect the cohesion of" the U.K. group relief rules, and states that a refusal to allow group relief "must be … based on account being taken of the situations of the subsidiaries in their State of residence."

It might be supposed that [his] opinion will not have made Maduro popular amongst finance ministries around Europe, but he may have redeemed himself in their eyes, because he seems to have gone out of his way to throw them a life raft. In a forthright manner, his opinion signals a relatively painless way for EU governments to patch up their loss relief rules and make them ECJ-proof for future years.

Accordingly, Maduro concluded that EU freedoms "do not preclude national legislation from making entitlement to group relief … subject to the condition that it be established that the losses of subsidiaries resident in other Member States cannot be accorded equivalent tax treatment in those Member States." It should be a relatively simple matter for the U.K. government and others to tweak their tax statutes to permit group relief claims for losses of group companies in another EU country, but impose the crucial proviso that the country does not permit the loss to be used there.

As most EU countries do allow the carry forward of tax losses, or offset against other group countries in the same country, such a condition would exclude all but a few potential transnational loss claims. Thus, such a condition would have a similar fiscal effect to the current statute, but would appear to come pre-approved by the Advocate General.

On the face of it, this is a dream solution for EU governments, as it largely preserves the status quo for tax authorities and taxpayers. At least, that is, going forward. The position for prior years is less clear.

Prior Years

Given the enormous sums at stake for prior years, it seems certain that government lawyers around Europe will be pouring over the Advocate General's opinion, trying to find grounds to deny retrospective claims. It seems unlikely that any new condition inserted into group relief laws can simply be backdated in effect. However, it does seem conceivable that tax authorities will argue that, despite the lack of an explicit condition in the legislation that applied in the relevant years, retrospective claims should not be allowed in cases where losses have been used in their country of origin, or even where they have not been used but are available for carry forward.

On this point, Maduro's opinion is arguably ambiguous. The majority of readers probably will read his judgment as meaning that because existing group relief rules are not conditional upon inability to use the losses in their country of source, they cannot prevent a claim for transnational group relief. The better view seems to be that Maduro is merely answering a hypothetical question, not indicating that a blanket prohibition should be read as if it were a conditional prohibition. Arguably, it is irrelevant under the current blanket prohibition that the losses have actually been used or may be able to be used.

In support of the opposite conclusion, governments may argue that the opinion does not explicitly state any of this. Maybe so, but Maduro's conclusion is that EU freedoms "do not preclude national legislation from making entitlement to group relief … subject to the condition that it be established that the losses of subsidiaries resident in other Member States cannot be accorded equivalent tax treatment in those Member States."

It is a heroic leap to interpret this as meaning that, although a blanket prohibition is precluded by EU freedoms, it should nevertheless be upheld to the extent that its effect is to deny group relief in those situations that would not have met such a condition. Maduro certainly seems to have accepted that it is undesirable to have double use of the losses, but this does not mean he has ruled that loss offsets can be denied on this basis without an appropriate statutory condition to this effect. Having said this, very large amounts of tax may turn on this point, so there is a real possibility that the U.K. government (and others) will argue strongly that this is what Maduro meant.

The U.K. government might even argue that Maduro's opinion has been incorrectly reported as being in favor of M&S. Maduro does not specifically say that M&S's claims should be allowed; he merely responds to the generic points of law on which the U.K. High Court has requested an ECJ ruling.

The U.K. government could assert that the opinion--if it were the final judgment--would mean that the U.K. High Court should deny M&S's group relief claims. This would be on the basis that the blanket prohibition on group relief for overseas losses was justified in M&S's circumstances because the Belgian, French, and German tax codes did accord tax treatment of losses similar to U.K. loss relief rules. The apparent discrimination is justified even if M&S did not use the losses in their countries of origin.

It is to be hoped that the eventual decision of the full court will be absolutely explicit about whether a blanket restriction should be disregarded altogether, or alternatively be read as if it was instead a condition along the lines approved by Maduro. And should the condition relate to whether the losses have actually been used, or whether local law accords "equivalent tax treatment" of the losses? If the criterion should relate to similarity of loss relief laws, how similar do they need to be?

Time for Taxpayers' Action

Depending on the country, there may be time limits within which any claim for group relief must be made. For instance, in the United Kingdom, the limit is usually two years from the end of the accounting year for which the offset is claimed. Clearly, taxpayers who miss such time limits can expect no cooperation from tax authorities in making a late claim, if the claim is to offset losses of overseas subsidiaries. Any enterprise with operations in more than one EU country, one of which has made losses, should be reviewing, as a matter of urgency, whether to make a protective claim.

Another reason urgent action is advisable is to get in before any change in legislation is made. Governments may be spurred into action belatedly now that Maduro's opinion casts considerable doubt on their hopes that M&S would lose. Moreover, the Advocate General helpfully has outlined how to change the rules to avoid discrimination in a fairly painless manner. Those governments may decide not to wait to see what the full court decides, in the hope of invalidating any claims made after they change the legislation.


Although it may be several months until anyone knows for sure what the ECJ may decide, it is not too early to start considering the likely consequences of such a decision. Although the Fat Lady has not yet sung, we have a pretty good idea what tune she is going to be singing.


 Case C-446/03, Marks & Spencer Plc v HM Inspector of Taxes (13 Transfer Pricing Report1199, 4/13/05).


  Legend has it that King Canute, a Viking who became King of England in 1014, had his throne moved to the seashore as the tide was coming in. He commanded the waves to advance no further, but they did not listen.


 Case C-324/00, (11 Transfer Pricing Report701, 1/8/03).


 The EC has been considering a pilot project to test a consolidated tax base as a way to facilitate creation of a European-wide corporate form, Societas Europaea (13 Transfer Pricing Report103, 6/9/04).

Also see13 Transfer Pricing Report1171, 4/13/04.


 Case C-204/90 [1992] ECR I-249; the ECJ rejected the Bachmann concept in two other major decisions, Lankhorst-Hohorst GmbH and Bosal Holdings B.V. (12 Transfer Pricing Report491, 10/1/03).

Copyright 2005, The Bureau of National Affairs, Inc., Washington, D.C.