Estonian tax rules again under criticism from the Commission

Less than a month ago, the Commission closed infringement proceedings against Estonia over discrimination of foreign pension funds but on 16 October 2008, a new infringement proceeding against Estonia was announced (Commission’s press release IP/08/1532).

The goal of infringement proceedings is to ensure uniform and common application of Community law in the Member States. It represents the second step of three-step proceedings and Estonia has two months to react to it. If the outcome is not satisfactory to the parties, the Commission may bring the matter before the European Court of Justice.

This time, the problem is the taxation of pensions paid to non-resident pensioners in Estonia. Namely, Estonian resident pensioners have the right to deduct up to 63 000 kroons (personal allowance of 27 000 kroons plus additional personal allowance of 36 000 for pensions) from income in the calendar year. Similar allowances are made available to residents of another Member State of the European Union only in case income received in Estonia exceeds 75% of their total income.

The case-law of the European Court of Justice has repeatedly indicated that different taxation of a resident and a non-resident persons who are objectively in the same situation, may lead to indirect discrimination which is in conflict with the principle of free movement of persons laid down in the Treaty establishing the European Community. When a person relocates to another country, the tax burden with regard to pensions received in Estonia may increase because he/she may lose the right to the personal allowance.

Therefore, the Estonian Income Tax Act might not be in compliance with the European law because the issue of equal treatment of people raised by the European Court of Justice is not related to the extent of income received in Estonia but whether he/she can apply personal allowances similarly to local taxpayers. The existing case-law of the European Court of Justice has demonstrated that the source country has the obligation to enable a person to take personal allowance into account if the person is unable to do it in another country.

The case is of interest because many other Member States also apply approach similar to Estonia when determining tax-exempt income. Therefore infringement proceedings launched against Estonia and a potential court case may also have a significant impact on the tax systems of other Member States of the European Union.

With regard to infringement proceedings against discrimination of pension funds mentioned at the beginning, it is worth mentioning that the Commission closed the proceedings on the ground of amendments made to the Income Tax Act adopted in spring which abolished withholding tax on dividends. The new draft Income Tax Act which recently passed the first reading in the Riigikogu (Parliament of Estonia) eliminated the amendment. When the withholding tax on dividends remains in force, it is not precluded that the Commission will have to renew these infringement proceedings.

Source http://balticbusinessnews.com/default2.aspx

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