The Relationship Between the General Legal Principle of Equality and the Equal Treatment Principle in the Direct Tax Judgements of the Court of Justice of the European Union: the Consequences for National Sovereignty

Abstract: The Legal Principle of Equality underpins most national tax systems and encompasses both substantive and procedural equality. In its substantive form, the principle requires that equal treatment of equal situations. This does not mean however that unequal situations always merit unequal treatment. Political will may determine that particular distinguishing criteria should be discounted. Gender and race for example are usually excluded. Economic theory plays a big part in how the Member States of the European Union assess equality. Most systems contain some element of progressivity linked to the ability to pay so that equality is achieved with reference to an equal deprivation of resources. Systems often also aspire to neutrality so that neither taxpayer behaviour nor the source of any resources should affect his ability to pay. Since practical and political considerations sometimes lead to a departure from neutrality most systems include a scheme of deductions and allowances in an attempt to address imbalances. The national rules are concerned with maintenance of equality over a life time however and not just at one particular point in time or in relation to one particular aspect of a person’s activities. National rules strive for equality between tax residents. In the European Union, the principle of equality is expressed in the Treaties in terms of a general prohibition on discrimination. The treaty freedom of movement rights provide protection from discrimination on grounds of nationality not residence. Against this background, the Court of Justice had already developed the principle of equal treatment between nationals and non-nationals when it was faced with its earliest case on direct taxes in the mid 1980’s. The cross-border nature of cases before the Court mean that the objectives of two or more national systems are always at play alongside the Treaty aims. The fact that the national rule or rules in question may have been designed to ensure equality with reference to the function of a tax system as a whole has not been something to which the Court has necessarily had regard. As a result, the judgements indicate a clash of principles and an emerging hierarchy with national principles deferring to the European ones. The EU equal treatment principle has been applied to direct tax cases by finding that different national treatment based on tax residence, can amount at EU level, to indirect discrimination on grounds of nationality. Particular cases highlight the difficulties which the Court has encountered in finding an appropriate comparator for its discrimination approach, the criticism it received when it adopted a more wide reaching restrictions approach and the trend in its more recent decisions away from a series of separate steps of analysis and indications of a renewed discrimination approach with greater emphasis on establishing the aim of the national legislation in question and a perceived increasing receptiveness to justifications advanced by the Member States. There has also been recognition by the Court that some disadvantages do not amount to a breach of the treaty provisions but rather exist as a result of disparities between national systems. From a procedural point of view, the general principle of equality requires that all should be equal before the law and have the same right of challenge. At EU level this would require that all who are subject to the treaties should be treated in the same way. This is not always the case however. In terms of access to treaty rights, it is observed that differing national legislation on the formation of companies can exclude certain nationalities of company from treaty protection. Similarly access to particular freedoms is controlled by the Court with its jurisprudence supporting the concept of a hierarchy of freedoms such that corporate shareholders in cross border dividend cases cannot rely on the free movement of capital provisions and in turn the extended protection which this offers in relation to third countries. A difference of treatment is also observed in relation to legal form with inconsistency in treatment of different forms of legal entity and legal and natural persons not always receiving like treatment in the areas of cross border losses and cross border dividends. In the light of the jurisprudence examined, it is questionable whether it could ever be possible, with the current level of harmonisation, for the Court to adjudicate in the area of direct taxation without undermining the general legal principle of equality upon which national systems are based. Whilst some of the more recent decisions have been welcomed as evidence of a greater regard by the Court to national principles as justifying inequality at EU level, other commentators argue that some of these cases should not in any event have been considered as breaches requiring justification. The Court has also been criticised for inconsistency. For example, some of the recent cross border worker decisions have been interpreted as requiring the host state to encroach upon home state tax sovereignty whereas in other cases the Court has acknowledged that a disparity exists as a result of retention of national sovereignty with which it cannot interfere. There is evidence that Member States have required to take steps to try and restore imbalance in their internal systems as a result of such decisions. In the present political climate, perhaps the only solution is a fairly large scale change in national tax system design in an attempt to retain equality and hold on to national sovereignty.