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April 23, 2021

Danish Government revises proposed CFC legislation

Executive summary

On 22 April 2021, the Danish Minster of Taxation proposed the following key changes to Bill No L 89 on controlled foreign corporation (CFC) taxation:

  • A partial substance test regarding “other income from intangibles.” If the test is met, no CFC taxation will be triggered.
  • Certain exemptions from CFC taxation included in the original draft law are abolished.
  • Royalty income from third parties does not trigger CFC taxation if the underlying intellectual property (IP) to a significant extent has been developed by the subsidiary itself.

Bill No. L 89 was proposed on 11 November 2020, but it has not been enacted due to opposition from Danish industry that has requested an exemption from CFC taxation for income derived from intangibles in cases where a subsidiary has economic substance.

The new rules will be applicable for income years beginning 1 January 2021 or thereafter.

This Alert summarizes the key aspects of the revised draft law.

Detailed discussion

Partial substance test

The partial substance test is only applicable if:

  • The subsidiary performs significant economic activities regarding the IP using people, equipment, assets and premises (see further below).
  • The parent company elects to apply the partial substance test before filing its annual income tax return (different election may be made from year to year).
  • The parent company satisfies certain information requirements regarding the partial substance test.

The partial substance test is not applicable if:

  • The subsidiary solely performs an ownership role and sales/distributions activities, while the other significant activities regarding the IP, only to a minimum, is performed in the country of residence of the subsidiary (i.e., could be performed in same country by related/unrelated taxpayer).
  • The subsidiary is tax resident in a country which does not exchange information with Denmark.

The key condition under the partial substance test is that the subsidiary performs significant economic activities regarding the IP using people, equipment, assets and premises. The following guidelines are provided:

  • If the subsidiary performs or has performed significant functions in relation to the development of the IP, the partial substance test will generally be applicable.
  • If the subsidiary has not developed the IP, but has acquired the IP or IP development service from other companies, the following non-exhaustive list of factors may be considered:
    • The subsidiary’s net return on the IP. Net return must be determined as the actual income from the IP, less the actual costs incurred and an arm’s-length return on the capital invested in the IP. If the subsidiary realizes a high net return without performing corresponding value creating activities, this indicates a lack of substance.
    • The subsidiary’s control over risk of ownership. Lack of real control over the IP indicates a lack of substance.
    • The subsidiary’s value creation regarding the IP. The more value creating activities (development, improvements, exploitation, protection, etc.) that the subsidiary has performed over time, the more substance may be associated with the ownership of the IP. Salary expenses may be used as an indication of value creating activities. The subsidiary’s value creating contributions must be measured vis-á-vis the total value creating contributions (including from other companies).
    • The IP’s interaction with other IP and activities in affiliated companies. If the IP commercially must be exploited together with IP owned by other group companies, this may indicate a commercial artificial segregation of the IP in the group, and that the ownership lacks substance.
    • The subsidiary’s legal protection and maintenance of the IP. Less importance must be assigned to such functions.

The proportionality between the subsidiary’s activities and the value of, and income from, the IP. An example is given of a subsidiary with 20 employees, annual operating expenses of DKK50m which has acquired an IP with an FMV of DKK10bn. In this example, there is no proportionality between the value creating activities of the subsidiary and the IP, i.e., the ownership lacks substance. By contrast, if the FMV of the IP was DKK1bn, it would be easier to justify the relationship between functions and value of the IP.

CFC exemptions abolished

The exemptions from CFC taxation in the original draft law is addressed as follows in the new draft law:

  • The rule under which no CFC taxation was triggered of existing IP owned by a subsidiary acquired by the Danish parent company from a third party is abolished.
  • The rule under which no CFC taxation was triggered if the IP was acquired from, or developed in, the country of residence of the subsidiary is abolished.
  • The step-up in tax basis to FMV of existing IP in subsidiaries on the first day in the income year starting 1 January 2021 or thereafter is maintained.

Next steps

Comments to the draft law must be submitted no later than 6 May. The draft law is expected to be enacted in later May or early June 2021.


For additional information with respect to this Alert, please contact the following:

Ernst & Young P/S, Copenhagen

Ernst & Young P/S, Aarhus

Ernst & Young LLP (United States), Nordic Tax Desk, New York