DNB prevails in case concerning the allocation of interest deductions between Norway and foreign jurisdictions when calculating taxable income

DNB operates a branch in New York. The branch receives deposits on which DNB pays interest. Most of the deposited funds are transferred to DNB’s head office in Norway for onward lending.

Under Norwegian tax law, Norwegian companies are generally taxed on their worldwide income, including income earned abroad. In calculating taxable income, deductions are allowed for interest expenses.

Under the tax treaty between Norway and the United States, the United States may tax the income of the branch as if it were an independent enterprise. Accordingly, a taxable interest income is calculated for the branch based on the transfers of funds from the branch to DNB’s head office in Norway. In this calculation, the branch’s interest expenses are deductible.

To avoid double taxation, DNB is entitled under the tax treaty to exclude the income taxed in the United States from its taxable income in Norway. This is commonly referred to as the exemption method. The effect of this arrangement is that, as a starting point, the interest expenses incurred in the United States are deducted twice: first when calculating the branch’s taxable income in the United States and again when calculating DNB’s taxable income in Norway. Section 6-91 of the Norwegian Tax Act contains a rule designed to reduce this double benefit arising from the interest deduction.

For taxpayers required to prepare accounts, such as DNB, the rule provides that no deduction is allowed for the portion of interest expenses corresponding to the ratio between the value of the taxpayer’s assets used in the foreign business and the value of the taxpayer’s total assets, based on the book values shown in accounts prepared in accordance with the Norwegian Accounting Act. This may be expressed as a fraction in which the value of the assets used in the foreign business constitutes the numerator and the value of the taxpayer’s total assets constitutes the denominator. The smaller the numerator is in relation to the denominator, the smaller the reduction of the interest deduction will be.

The issue before the Supreme Court

The question before the Supreme Court was whether the value of the internal receivable that the branch acquires against the head office as a result of transferring funds to the head office constitutes an “asset” within the meaning of the provision and therefore forms part of the fraction used in the calculation. The internal receivable appeared in the branch accounts but not in DNB’s annual financial statements.

The Supreme Court’s conclusion

Like the Court of Appeal, the Supreme Court held that the internal receivable should not be included in the calculation. The Court placed significant emphasis on the wording of the provision. The result was a reduction in DNB’s tax liability of approximately NOK 1.7 billion for the relevant income years, 2015 through 2019.

The judgment clarifies the method for applying the limitation rule on interest deductions set out in Section 6-91 of the Norwegian Tax Act.

Section 6-91 applies only where the exemption method is used. Most of Norway’s current tax treaties with other countries are based on a different approach, the so-called credit method. A tax treaty between Norway and the United States based on the credit method has been negotiated and finalized, but it has not yet entered into force.

Source: Supreme Court