Process: 114/2018-T

Date: October 17, 2018

Tax Type: IRS

Source: Original CAAD Decision

Summary

This CAAD arbitration decision (Process 114/2018-T) addresses the critical requirements for capital gains tax exclusion under IRS (Personal Income Tax) when reinvesting proceeds from the sale of a permanent residence. The taxpayers sold their permanent residence in January 2016 for €410,000 and had previously acquired a new residence in August 2015 for €560,000. They claimed partial reinvestment of €160,000 to exclude capital gains from taxation under Article 10(5) and (6) of the Personal Income Tax Code. The Tax Authority rejected this claim, issuing an assessment of €47,898.98, arguing that the male taxpayer failed to change his tax domicile to the new property until August 2017, despite physically moving in 2015. The taxpayer argued that the delay in updating tax domicile was mere oversight, providing evidence of actual residence through utility bills, their son's birth registration, and telecommunications invoices from August 2015 onwards. The central legal issue concerned whether formal notification of tax domicile change is mandatory for the capital gains exclusion to apply, or whether actual occupation suffices. This case highlights the tension between substantive requirements (actual use as permanent residence) and formal requirements (official tax domicile registration) in Portuguese tax law. The decision clarifies the procedural requirements for IRS capital gains reinvestment exclusions and demonstrates taxpayers' rights to challenge assessments through CAAD arbitration when disagreements arise over interpretation of residence requirements for tax benefits.

Full Decision

ARBITRAL DECISION

A - PARTIES

A..., married to B..., holders of tax identification numbers ... and ... respectively, both resident at Street ..., No. ..., ..., ...-... ..., hereinafter referred to as Applicant or Taxpayer.

TAX AND CUSTOMS AUTHORITY, hereinafter referred to as Respondent or TA.

The Applicant filed a request for constitution of an Arbitral Tribunal in tax matters and a request for arbitral decision, pursuant to the provisions of paragraph a) of Article 2(1) and paragraph a) of Article 10(1), both of Decree-Law No. 10/2011, of 20 January (Legal Regime for Arbitration in Tax Matters, hereinafter abbreviated as RJAT), accepted by the President of CAAD on 15-03-2018, with a view to the assessment and decision of the subject matter of the present proceedings, and automatically notified to the Tax and Customs Authority on 15-03-2018, as recorded in the respective minutes.

The Applicant did not proceed with the appointment of an arbitrator, and therefore, pursuant to the provisions of Article 6(1) and paragraph b) of Article 11(1) of Decree-Law No. 10/2011, of 20 January, as amended by Article 228 of Law No. 66-B/2012, of 31 December, the Deontological Council appointed Paulo Ferreira Alves as Arbitrator.

On 07-05-2018 the parties were duly notified of this appointment, and expressed no intention to challenge the appointment of the arbitrator, in accordance with Article 11(1), paragraphs a) and b) of the RJAT and Articles 6 and 7 of the Deontological Code.

In accordance with the provisions of paragraph c) of Article 11(1) of Decree-Law No. 10/2011, of 20 January, as amended by Article 228 of Law No. 66-B/2012, of 31 December, on 28-05-2018, the Singular Arbitral Tribunal was regularly constituted and materially competent, in accordance with Articles 2(1), paragraph a), and 30(1) of Decree-Law No. 10/2011, of 20 January.

A hearing took place as referred to in Article 18 of the RJAT, in which three witnesses were heard, and the parties also presented written submissions.

The parties have legal capacity and standing, are legitimate and are duly represented (Articles 4 and 10(2) of the same law and Article 1 of Ordinance No. 112-A/2011, of 22 March).

The proceedings are not vitiated by defects that would render them invalid.

B - REQUEST

The Applicant herein seeks a declaration of illegality of the tax assessment decision in Personal Income Tax for 2016, number 2017..., with a payment deadline of 18.12.2017, relating to the year 2016, in the total amount of € 47,898.98.

C - GROUNDS FOR THE CLAIM

To substantiate his request for arbitral decision, the Applicant alleged, with a view to the declaration of illegality of the tax assessment decision in Personal Income Tax as already described in point 1 of this decision, in summary, the following:

  • The assessment in question was issued by the Lisbon Tax Service ... following a correction to the income statement filed by the Applicant for the fiscal year 2016, and because they declared the reinvestment of the proceeds from the sale of their own permanent residence in another own permanent residence without the male Applicant having changed his tax domicile accordingly.

  • On 31.08.2006, the male Applicant acquired for the amount of €200,000.00 and with the aid of a bank loan, a property that was his own permanent residence, and that of his household, until July 2015.

  • This property corresponds to ... Unit (autonomous fraction "T") of the property located at Street ..., Plot ..., ..., ..., ..., parish of ..., municipality of Loures, described in the Property Registry of Loures under number ... of the same parish and registered in the matrix of the same parish with number ... .

  • On 03.08.2015, the Applicants acquired, for the amount of € 560,000.00, the property that became their own permanent residence from that month of August 2015 (inclusive), corresponding to the property located at Street ..., No. ..., ... parish of ..., municipality of Seixal, described in the Property Registry of ... with number ... of the parish of ..., registered in the respective urban property matrix with number ... .

  • For the acquisition of this residence, the Applicants took out a loan in the amount of € 400,000.00. On 28.01.2016, they sold the property where they lived until July 2015 for the amount of € 410,000.00, and simultaneously paid off in full the C... loan that was associated with it, in the amount of € 200,000.00, plus interest in the amount of € 78.20 and an early repayment penalty fee in the amount of € 1,000.00.

  • The female Applicant changed her tax domicile still in 2015.

  • Through oversight, the male Applicant did not change his tax domicile to the new own permanent residence immediately when the move occurred, only doing so on 24.08.2017.

  • However, he effectively moved to the new own permanent residence, as did his household.

  • The Applicant's son was born on 12.11.2015, and his respective citizen card was requested with that address.

  • When the Applicants registered their son on 19.11.2015, they gave as the address of his usual residence Street ..., No. ..., ... .

  • The actual change of the household's own permanent residence results from communications service invoices issued by D...: the first, relating to July 2015, was the last invoice received for the old address (Street ..., ..., ..., ...-... Lisbon); the second, relating to August 2015, was the first received for the current address (Street ..., No. ..., ...).

  • Since August 2015 the Applicants have lived at Street ..., No. ..., ..., which they can prove through water, electricity and gas bills relating to that property.

  • In 2017, the Applicants filed their Personal Income Tax return for 2016, having declared the sale of their first own permanent residence for the amount of € 410,000, the repayment of a loan in the amount of € 200,000, the intention to reinvest € 210,000 and the actual reinvestment of € 160,000 in the 24 months prior to the purchase of the new own permanent residence.

  • Thus, partial reinvestment is demonstrated, corresponding to € 160,000.00, carried out in 2016, of the proceeds minus the loan repayment for the previous own permanent residence of the Applicant, effected under the conditions provided for in Article 10(5) and (6) of the Personal Income Tax Code.

  • The Applicant concludes by alleging that, given that the requirements on which the law makes dependent the (partial) exclusion from taxation of capital gains generated by the sale of said property are met, the Personal Income Tax assessment that is the subject of these proceedings is illegal due to violation of law, consisting of error regarding the factual and legal assumptions, and should consequently be annulled.

D - RESPONDENT'S REPLY

The Respondent, duly notified for this purpose, timely presented her reply in which, in brief summary, alleged the following:

  • Under Article 10(5) of the Personal Income Tax Code, gains from the onerous transfer of real estate intended for the residence of the taxpayer or his household are excluded from taxation, provided that the conditions therein are cumulatively met.

  • However, the Applicant does not meet all the requirements, therefore the TA prepared an official declaration, which does not include the reinvestment indicated by the Applicant.

  • And this is because the Applicant did not assign the acquired property to permanent own residence, in accordance with Article 10(6) of the Personal Income Tax Code.

  • That is, notification of tax domicile is mandatory and only with this notification does the tax domicile declared by the taxpayer have effectiveness with respect to the TA.

  • Verifying that the Applicant, having acquired the property located at Street ..., No. ..., ..., ..., in July 2015, only changed his address on 24 August 2017.

  • Therefore, the Applicant could not benefit from the exclusion from taxation of gains from the transfer of real estate, in accordance with paragraph a) of Article 10(6) of the Personal Income Tax Code.

  • There is an obligation for the Applicant to notify the tax authority of the change of domicile, and he did not do so. If he did not do so, this fact is ineffective, by force of Article 19(3) of the General Tax Code for the purposes of the provisions of Article 10(6) of the Personal Income Tax Code.

  • The Respondent sustains that the failure to notify would necessarily bring abuses, as in the situation at hand, that by absence of notification, would induly benefit from the reinvestment scheme (Article 10(5) of the Personal Income Tax Code).

  • And concludes by saying that the tax authority needs to have certainty and legal security in the application of tax exclusions or tax benefits, and such security is only possible to exist when taxpayers comply with all their legal obligations, which did not happen in the situation at hand.

E - FACTUAL BASIS

Prior to examining the claims submitted, it is necessary to present the factual matter relevant to its understanding and decision based on the documentary and testimonial evidence presented in the proceedings.

On the basis of the evidence produced, this Tribunal establishes as fact the following:

  • On 31.08.2006, the Applicant (A...) acquired, for the amount of € 200,000.00 and with the aid of a bank loan, a property corresponding to ... Unit (autonomous fraction "T") of the property located at Street ..., ..., ..., ..., ..., parish of ..., municipality of Loures, described in the Property Registry of Loures under number ... of the same parish and registered in the matrix of the same parish with number ... .

  • This property constituted his own permanent residence, and that of his household, until July 2015.

  • On 03.08.2015, the Applicants acquired, for the amount of € 560,000.00, the property located at Street ..., No. ..., ..., parish of ..., municipality of Seixal, described in the Property Registry of ..., with number ... of the parish of ..., registered in the respective urban property matrix with number ... .

  • For the acquisition of this residence, the Applicants took out a loan in the amount of € 400,000.00.

  • On 28.01.2016, the Applicants sold the property where they lived until July 2015 for the amount of € 410,000.00, and simultaneously paid off in full the C... loan associated with it, in the amount of € 200,000.00, plus interest in the amount of € 78.20 and an early repayment penalty in the amount of € 1,000.00.

  • The Applicant (B...) changed her tax domicile still in 2015 to Street ..., No. ..., ..., parish of ... .

  • The Applicant (A...) did not proceed with notification of change of his tax domicile to Street ..., No. ..., ..., parish of ..., within the period of 12 months following the purchase.

  • Applicants A... and B... are married, with residence at Street ..., No. ..., ..., ...-... ..., since August 2015.

F - UNPROVEN FACTS

Of the facts of interest to the decision of the cause, all subject to specific analysis, those that do not appear in the above factual description were not proven.

G - ISSUES TO BE DECIDED

Given the positions of the parties assumed in the arguments presented, the central questions to be resolved are the following, which must therefore be examined and decided:

As alleged by the Applicant:

  • Declaration of illegality of the tax assessment decision in Personal Income Tax for 2016, number 2017..., with payment deadline of 18.12.2017, relating to the year 2016, in the total amount of € 47,898.98 (forty-seven thousand eight hundred and ninety-eight euros and ninety-eight cents).

  • Condemnation to pay compensatory interest.

H - MATTERS OF LAW

According to what has been previously stated, the central question to be resolved by this Arbitral Tribunal concerns the assessment of the legality of the Personal Income Tax assessment for 2016, with number 2017..., with payment deadline on 18.12.2017, relating to the year 2016, in the total amount of € 47,898.98, for being vitiated by violation of law.

For this purpose and given the factual basis established as proven and the legal norms in force on the date of the facts, it is incumbent on the Tribunal to assess the Applicant's right to benefit from the exclusion from taxation of capital gains arising from the alienation of the property that constituted his previous own permanent residence, the proceeds of which he partially reinvested in the acquisition of another property for the same purpose.

In this way, the essential question that arises is whether, as the TA alleges to support the additional Personal Income Tax assessment now in question, the tax domicile declared by the taxpayer with the TA constitutes an indispensable legal requirement for the taxpayer to benefit from the exclusion from taxation by reinvestment of proceeds from own permanent residence, as provided for in Article 10(5) of the Personal Income Tax Code.

Specifically, let us then examine what understanding should be given to the provisions of Article 10(5), paragraph a) and (6), paragraph a) of the Personal Income Tax Code, that is, whether it is the tax domicile by means of notification of its change within 12 months, or whether it is the assignment of the property to own permanent residence within 12 months.

At the date of the facts, the wording of Article 10(5), paragraph a) and (6), paragraph a) of the Personal Income Tax Code, rules which set forth the requirements for the negative delimitation of Personal Income Tax incidence on capital gains income, was as follows:

"Article 10 - Capital Gains (…)

5 - Excluded from taxation are gains arising from the onerous transfer of real estate intended for the own permanent residence of the taxpayer or his household, under the following conditions:

a) If, within 36 months from the date of realization, the value of realization, minus the repayment of any loan contracted for the acquisition of the property, is reinvested in the acquisition of ownership of another property, land for the construction of a property, or in the construction, extension or improvement of another property exclusively for the same purpose situated in Portuguese territory or in the territory of another Member State of the European Union or the European Economic Area, provided that, in the latter case, there is exchange of information in tax matters; (…)

6 - There shall be no benefit referred to in the preceding article when:

a) In the case of reinvestment in the acquisition of another property, the acquirer does not assign it to his residence or that of his household, until twelve months have elapsed after the end of the period within which the reinvestment must be effected; (…)"

It follows from the above that, in order for the Applicant to benefit from the exclusion from taxation of capital gains, he must fulfill the following cumulative requirements:

  • Both the transferred property (property of origin) and the acquired property (property of destination) are intended for the own permanent residence "of the taxpayer or his household";

  • The reinvestment of the proceeds from the property of origin, for the purposes indicated, occurs within the maximum period of 36 months, in the acquisition of a new property with the same exclusive purpose, and

  • The new property (property of destination) is assigned to the own permanent residence of the taxpayer or his household, within twelve months following the end of the period within which the reinvestment must be effected.

From the proceedings there appears to be no disagreement concerning the first two requirements, while the third is questioned regarding the meaning of the assignment of the acquired residence, that is, whether we are dealing with "the own permanent residence of the taxpayer or his household", and the verification of such requirement.

Resorting to Law No. 82-E/2014 of 31 January, we find the question of tax domicile and own permanent residence clarified, with the addition to Article 13 of the Personal Income Tax Code, the text of which is transcribed in items 10 to 13:

"10 - The tax domicile creates a presumption of the own permanent residence of the taxpayer which may, at any time, present proof to the contrary.

11 - For the purposes of the preceding item, the requirement of proof therein provided is considered met, in particular when the taxpayer

a) Proves that his own permanent residence is located in another property; or

b) Proves that he does not have own permanent residence.

12 - The proof of the facts provided for in the preceding item is incumbent on the taxpayer, and any means of proof admitted by law are admissible.

13 - It is incumbent on the Tax and Customs Authority to demonstrate the lack of truthfulness of the means of proof mentioned in the preceding item or the information contained therein."

It follows from the above that there is a presumption that the taxpayer's tax domicile is his own permanent residence, however the taxpayer or the TA may at any time present proof to the contrary.

With the amendment to the Law, the issue was resolved clearly, allowing the taxpayer to rebut the presumption through any means of proof.

Returning to the present proceedings we have that the Applicant produced sufficient documentary evidence of how his own permanent residence does not correspond to his tax domicile, and that his own permanent residence is located in another property, thereby meeting the requirement of proof provided for in items 10, 11, 12 and 13.

Also on the question of assignment of own permanent residence versus change of tax domicile, we have case law, in particular from the cases of the Central Administrative Court of the South of 8/10/2015, case 6685/13, as well as Arbitral decisions handed down by CAAD, namely: No. 103/2013-T (with dissenting opinion); 721/2015-T; 92/2016-T; 21/2017-T.

It follows briefly from the case law previously indicated that the failure of taxpayers to notify the change of domicile to the property for which they requested the exclusion for reinvestment, in itself, does not indicate that they do not have own permanent residence in that property, the address in a certain place, the habitatio, can be demonstrated through "justifying facts" that the taxpayer established in the property the center of his personal life.

Let it be understood as "justifying facts", the recourse to proof that allows for ascertaining and corroborating own permanent residence in that property. Proof that the present Applicants provided, as per the attached documentation. The wife and children of the Applicant resided in the property at ..., the attached documents prove that relevant facts of life occurred in that property, such as the registration of that address as the address of the children born in the meantime. No proof was presented that he continued to reside in the property in Lisbon. The center of vital interests was with his Family in that property.

Also on this matter and relevant to this decision, the jurisprudence pronounced itself in the Decision of the Supreme Administrative Court of 23 November 2011 – case no. 0590/11, concerning Article 46 of the Tax Benefits Statute, regarding notification of tax domicile of the taxpayer.

The jurisprudence previously referred to is clear in its understanding, which we subscribe to.

In conjunction with what has been previously stated, note that the wording of Article 10(5), paragraphs a) and b) of the Personal Income Tax Code itself is sufficiently clear, leaving no room for major doubt.

If the legislator intended that the requirement for the benefit in question were the establishment of tax domicile in the acquired property, it would have written so expressly.

It appears clear to us that notification to the TA of the change of tax domicile to the new residence is not a sine qua non condition for the exclusion from taxation of capital gains. This has been the understanding of the Superior Courts, provided that "the taxpayer can demonstrate his address in a certain place through 'justifying facts', so it is not clear how in the case at hand in which Article 10(5) of the Personal Income Tax Code does not even refer to the concept of tax domicile it could be understood that the failure to notify the change of tax domicile would prevent 'permanent residence' – cf. the Decision of the Central Administrative Court of the South of 10 August 2015, case 06685/13, available at www.dgsi.pt),

On the other hand, item 6 of the same article provides that "There shall be no benefit referred to in the preceding article when: a) In the case of reinvestment in the acquisition of another property, the acquirer does not assign it to his residence or that of his household until twelve months have elapsed after the end of the period within which the reinvestment must be effected;" that is, once again results the need for "assignment to residence", and not for "establishment of tax domicile".

It results sufficiently clearly that the legislator's intention was not to equate the concepts of "own permanent residence and tax domicile" in Article 10(5) of the Personal Income Tax Code.

Since this is a benefit centered on assignment to his residence or that of his household, limiting that assignment to the change of tax domicile would be contradictory to the nature of the benefit, and would lead to situations of abuse of such benefit.

In fact, and first of all as provided for in Article 19(1), paragraph a) of the General Tax Code, the tax domicile is what should correspond to the place of usual residence, and not the reverse, that the place of usual residence would be the tax domicile.

It happens that "tax domicile" is a legal concept, which has its factual substrate in the situation of reality qualifiable as "habitual residence".

The habitual residence of a taxpayer is what will determine his tax domicile, and not the reverse, however the TA's understanding goes in the direction that "tax domicile" determines the "habitual residence" of a taxpayer.

However, and as previously explained, the fact that a certain place appears as the "tax domicile" of a taxpayer does not require that his "habitual residence" be that place.

Thus, the discrepancy between what formally appears as the "tax domicile" of a taxpayer and what is effectively his "habitual residence" should be resolved by changing the former and making it coincide with the latter, and not the opposite, that is, considering that it corresponds to the former, and in this way applying, insofar as the respective requirements are met, the sanctions that in the case fall to the responsible parties.

With regard to the discussion in question in these proceedings, it is worth noting that the General Tax Code, in the matter just addressed, refers to "habitual residence" and not to "own permanent residence", so that not even at the terminological level is there systematic coherence that could satisfactorily support a relationship between the matter of tax domicile, regulated by the General Tax Code, and the matter of "own permanent residence" referred to in Article 10(5) of the Personal Income Tax Code. (Arbitral Decision 103/2013-T of 25 November 2013.)

In any event, and even if one concluded that "own permanent residence" of the taxpayer should be considered as his tax domicile, that would always have to be understood as a mere presumption, that is, as the assertion of an unknown fact (the place of "own permanent residence") on the basis of a known fact (the place declared as tax domicile).

Now, thus being the case, and no foundation being apparent to support that the presumption in question would have the nature of absolute and conclusive, which moreover would not accord with the possibility of the TA knowing officially, in these matters of residence and domicile, necessarily it would have to be granted that the same would admit proof to the contrary.

With the same understanding, the Decision of the Central Administrative Court of the South of 8/10/2015, case 6685/13, decided thus:

"[Article 10(5) of the Personal Income Tax Code is] a rule excluding Personal Income Tax incidence relating to capital gains realized in real estate, verified certain conditions provided by law. As Paula Rosado Pereira states, 'Given the contours of the regime in question, it can be said that, in reality, we are faced with a suspension of taxation applicable by simple manifestation, in the income statement relating to the year of realization, of the intention to proceed with reinvestment (…)' [Paula Rosado Pereira, Studies on Personal Income Tax: Income from Capital and Capital Gains, IDEFF Notebooks, No. 2, Almedina, Coimbra, 2005, p. 101]. 'The exclusion aims to favor the ownership of real estate intended for permanent residence.' (cf. José Guilherme Xavier de Basto, Personal Income Tax: Real Incidence and Determination of Net Income, Coimbra Editor, 2007, p. 413). 'The objective of the law is clear: to remove tax obstacles to the change of residence, in one's own home, by families.' (cf. Rui Duarte Morais, On Personal Income Tax, Almedina, Coimbra, 2006, p. 114). 'It is, naturally, about not burdening fiscally the realization of the fundamental right to housing' (cf. André Salgado de Matos, Personal Income Tax Code (Personal Income Tax), Annotated, ISG, Coimbra, 1999, p. 168). Now, it is important to emphasize, first of all, that from the analysis of item 5 of Article 10 of the Personal Income Tax Code it appears that the legislator does not refer to the legal-fiscal concept of 'tax domicile', as happens, for example, for the purposes of granting the exemption from Property Transfer Tax relating to properties intended for own permanent residence provided for in item 1 of Article 46 of the Tax Benefits Statute considers it deemed that the property has been assigned to own permanent residence of the taxpayer or his household if his respective tax domicile is established there (cf. item 9 of that legal provision). But even in that case where reference is made to the concept of tax domicile, even so, '(...) II. The fact that taxpayers have not notified the change of domicile to the property for which they requested the exemption from Property Transfer Tax, in itself, does not indicate that they do not have own permanent residence in that property. III - The address in a certain place, the habitatio, can be demonstrated through 'justifying facts' of which the beneficiary established the center of his personal life in the property.' Decision of the Supreme Administrative Court of 23/11/2011, case no. 0590/11. That is, even in those cases where the taxpayer has not complied with his obligation to notify the change of tax domicile the Supreme Administrative Court admits that the taxpayer can demonstrate his address in a certain place through 'justifying facts', so it is not clear how in the case at hand in which Article 10(5) of the Personal Income Tax Code does not even refer to the concept of tax domicile it could be understood that the failure to notify the change of tax domicile would prevent 'permanent residence'. [...] the concept of tax domicile is defined in paragraph a) of item 1 of Article 19 of the General Tax Code, and in this way, unless provided otherwise, the tax domicile of the taxpayer, in the case of individuals, is the place of habitual residence. In other words, the tax domicile of individuals is the place where they normally reside. Beyond the definition of tax domicile appearing in item 1 of that legal provision the legislator understood to establish an obligation of notification of the domicile of the taxpayer to the tax authority in item 2 [currently corresponds to item 3], regulating the legal-fiscal consequences of non-compliance with that obligation: the change is ineffective as long as it is not notified to the tax authority (cf. item 3 which corresponds to the current item 4). It is therefore important to distinguish, on the one hand, the concept of tax domicile (which depends solely and exclusively on the place of habitual residence), and on the other hand, the obligation to notify the change of domicile (whose non-compliance carries the ineffectiveness of the change). The change of the habitual residence of the taxpayer (tax domicile) must be compulsorily notified to the TA, but if it is not, such non-compliance has legal consequences only at the level of the effectiveness of the change of domicile, that is, of its legal effects. Arriving here it is therefore important to conclude that, if it is legitimate for the TA in the tax proceeding to oppose the recognition of a certain right of the taxpayer derived from law substance when the latter merely invokes his tax domicile, but has not notified his change, it is already not legitimate the non-recognition of that right when beyond the invocation of tax domicile the taxpayer proves that on the date of the facts constitutive of his substantial right had habitual residence in the place in question. Now, as we have seen, Article 10(5) of the Personal Income Tax Code does not even refer to the concept of tax domicile, so it could never be understood that the failure to notify the change of tax domicile would prevent 'permanent residence', and in any case, following the case law cited above, it would always have to be understood that the Challenger could provide proof of his habitual residence in a certain place, so it was important, in the case of the proceedings, to determine whether the Challenger provided or not such proof. And in this particular the judgment under appeal, after the assessment of the evidence [...] produced in the proceedings, understood correctly that the Challenged party met the necessary and required requirements by Article 10 of the Personal Income Tax Code for the exclusion from taxation as capital gains of the part of gains arising from the onerous transfer of the property" (Decision of the Central Administrative Court of the South of 8/10/2015, case 6685/13)."

In fact, the element of relevance for the right to the benefit, whether for purposes of attribution or even for the removal of the presumption of the benefit, is "own permanent residence" and not tax domicile, in accordance with the principle of material truth.

The Applicant unequivocally demonstrated, using documentary evidence, that from 2015 onwards, he established his own permanent residence in the acquired property, so the presumption in question would be rebutted. No proof was made that the tax domicile continued in his previous residence in Lisbon.

Considering the position assumed in these proceedings regarding a possible violation of the requirements of security or legal certainty, the Arbitral Decision 103/2013-T of 25 November 2013, pronounced itself on that hypothetical violation as follows:

"In fact, it is neither demonstrated nor even suggested that the Tax Administration conditions, in any way, its action in the matter connected with the question at hand (taxation of capital gains resulting from the alienation of real estate intended for own permanent residence), based on reasonable expectations founded on the taxpayer's tax domicile.

Quite the contrary, and as is demonstrated in the proceedings, insofar as the Tax Administration promptly became aware of the disparity of situations, it has all the necessary means to detect any incongruence that in the matter is verified so as to, in conformity with what is the reality, act in order to restore tax legality, which, in the case, would pass through the revocation of the tax benefits induly enjoyed by the Applicant, and through the application of the sanctions legally provided for by the rules relating to tax infringements.

That will be, precisely, the procedure adequate to the full realization of the teleology proper to the rules relevant in this case.

In fact, if gains obtained from the alienation of own permanent residence of the taxpayer or his household are excluded from taxation it is because it is recognized that the value in question, that of residential mobility of household units, is an extrafiscal value superior to the creditworthiness interests of the holder of the tax, based on the idea that the tax on income should not constitute itself as an aggravated obstacle to such mobility (aggravated because it would compete with the other taxes that already apply to the onerous transfer of real estate).

Now, if the exclusion from taxation is based on that recognition of the superiority of the extrafiscal value over the fiscal one, the more absurd it becomes that such regime could be set aside by a presumption deemed conclusive (if Law, and especially Tax Law admits that category…), which would be equivalent to taxing with the purpose, no longer of restoring the correspondence between material truth and declarative formality, but of punishing the violation of a mere accessory duty, specifically the failure to timely notify the change of tax domicile.

But the taxation of capital gains derived from the alienation of own permanent residence of the taxpayer or his household should be based on the failure to actually verify the requirements of the exclusion from taxation, and should not be based on the failure to fulfill mere declarative duties, and even less when it involves declaring situations which, as has been seen, do not even integrate the factual specification of the norm.

Understanding otherwise would not only be confusing the fulfillment of primary duties (those of fulfilling the legal type) with the fulfillment of accessory duties (facilitating the administration of the tax relationship): it would, much more gravely, much more dangerously, convert a tax into a punishment, confusing the tax function with the punitive function – two functions which, because they normally have the same active subject, must be strictly, constantly, separated in the context of the Rule of Law."

As a consequence of the above, it would always have to be understood that the fact that the Applicant did not notify the change of tax domicile to the property where he established his habitual and permanent residence, in itself, does not indicate that he does not have own permanent residence in that property. The Applicant can provide proof of his habitual residence, so in these proceedings, it was important to determine whether the Applicant provided or not such proof. What is certain is that the Applicant provided proof and the Tribunal after assessing the evidence produced, in particular the documentary evidence, understands that it was demonstrated by the Applicant the establishment of own permanent residence in the acquired property, in accordance with Article 13(10) to (13). Consequently, we can conclude that the Applicant fulfilled the requirements provided for in Article 10(5), paragraph b) of the Personal Income Tax Code, and consequently the request made by the Applicant should be held to be well-founded.

Thus being the case it is to be considered illegal for violation of law the tax assessment decision in Personal Income Tax now at issue.

J - MATTERS OF PREJUDICED COGNITION

In the decision, the judge must pronounce himself on all questions that must be examined, refraining from pronouncing on questions of which he must not know (closing portion of Article 125(1) of the Code of Administrative Court Procedure). The questions on which the court's powers of cognition fall are, in accordance with Article 608(2) of the Code of Civil Procedure, applicable subsidiarily to the arbitral tax proceeding, by referral from Article 29(1), paragraph e), of the RJAT, "the questions that the parties have submitted to his examination, except those whose decision is prejudiced by the solution given to others (…)".

In light of the solution given to the question relating to the requirements of taxation of income, in the regime applicable to married taxpayers not judicially separated as to persons and property, knowledge of the remaining questions included in the request for arbitral decision is prejudiced.

I - ON COMPENSATORY INTEREST

The Applicant further petitions for payment of compensatory interest.

In light of the above, the Personal Income Tax assessment insofar as it is covered by the annulment to be decreed results from errors of fact and law attributable exclusively to the tax authority, insofar as the Applicant fulfilled his duty of declaration, however, such errors were committed by the TA and it could not be unaware of different understandings.

In fact, given that it is demonstrated that the Applicant paid the contested tax in an amount superior to that due, by force of the provisions of Articles 61 of the Code of Administrative Court Procedure and 43 of the General Tax Code, the Applicant has the right to be paid the compensatory interest due, such interest to be calculated from the date of payment of the undue tax (annulled) until the date of issuance of the respective credit note, calculating the period for such payment from the beginning of the period for voluntary compliance with this decision (Article 61(2) to (5) of the Code of Administrative Court Procedure), all at the rate determined in accordance with the provisions of Article 43(4) of the General Tax Code.

The Applicant's request is granted.

L - DECISION

Therefore, having regard to all the above, this Arbitral Tribunal decides:

  • To uphold the request for declaration of illegality of the tax assessment decision in Personal Income Tax for 2016, number 2017..., with payment deadline on 18.12.2017, relating to the year 2016, which set a tax to be paid of €47,898.98 (forty-seven thousand eight hundred and ninety-eight euros and ninety-eight cents), for violation of law, for error regarding the factual and legal requirements, with the consequent declaration of illegality and annulment.

  • To condemn the Respondent to reimburse to the Applicant such amount induly assessed and paid in the amount of €47,898.98 (forty-seven thousand eight hundred and ninety-eight euros and ninety-eight cents), plus payment of compensatory interest already accrued relating to the period, counting from payment of the tax in accordance with Article 61(2) to (5) of the Code of Administrative Court Procedure at the rate determined in accordance with the provisions of Article 43(4) of the General Tax Code until full and effective reimbursement.

The value of the proceedings is fixed at €47,898.98 (forty-seven thousand eight hundred and ninety-eight euros and ninety-eight cents) at the value of the assessment given the economic value of the proceedings assessed at the value of the tax assessments contested, and in accordance therewith the costs are fixed in the respective amount of 2,142.00 € (two thousand one hundred and forty-two euros), at the charge of the Respondent in accordance with Article 12(2) of the Tax Arbitration Regime, Article 4 of the Rules of the Code of Administrative Court Procedure and Annex Table I to the latter. – Item 10 of Article 35, and items 1, 4 and 5 of Article 43 of the General Tax Code, Articles 5, item, paragraph a) of the Rules of the Code of Administrative Court Procedure, 97-A(1), paragraph a) of the Code of Administrative Court Procedure and 559 of the Code of Civil Procedure).

Notify.

Lisbon, 17 October 2018

The Arbitrator

Dr. Paulo Ferreira Alves

Frequently Asked Questions

Automatically Created

How does reinvestment of capital gains affect IRS taxation in Portugal?
Reinvestment of capital gains from the sale of a permanent residence can result in partial or total exclusion from IRS taxation under Article 10(5) of the Personal Income Tax Code. When taxpayers sell their own permanent residence and reinvest the proceeds (minus any loan repayments) in acquiring another permanent residence, the capital gains may be excluded from taxation. The reinvestment must occur within specific timeframes: 24 months before or 36 months after the sale. The amount excluded is proportional to the reinvestment - if the entire net proceeds are reinvested, all capital gains are excluded; if only partially reinvested, the exclusion is proportional. The property must be designated as the taxpayer's permanent residence, and specific formal requirements, including tax domicile notification, may apply according to Tax Authority interpretation.
What are the tax domicile requirements for IRS capital gains reinvestment exclusion?
The tax domicile requirements for IRS capital gains reinvestment exclusion under Article 10(6) of the Personal Income Tax Code have been subject to interpretation disputes. The Tax Authority maintains that formal notification of tax domicile change is mandatory and constitutes a substantive requirement for the exclusion to apply. According to this interpretation, merely occupying the property as a permanent residence is insufficient - the taxpayer must officially update their tax domicile with the Tax Authority for the designation to have legal effect. However, taxpayers may argue that actual use as permanent residence should prevail over formal administrative procedures, particularly when oversight or administrative delays occur. Evidence of actual residence includes utility bills, family registration documents, telecommunications services, and other proof demonstrating continuous habitation. The timing of tax domicile change relative to the sale and acquisition dates is critical for determining eligibility for the capital gains exclusion.
Can Portuguese taxpayers challenge IRS capital gains assessments through CAAD arbitration?
Yes, Portuguese taxpayers can challenge IRS capital gains assessments through CAAD (Centro de Arbitragem Administrativa) arbitration under Decree-Law No. 10/2011. The arbitration process provides an alternative to judicial courts for resolving tax disputes. Taxpayers must file a request for constitution of an arbitral tribunal within the statutory deadline, which is accepted by the CAAD President and automatically notified to the Tax Authority. The tribunal can be singular (one arbitrator) or collective (three arbitrators). If the taxpayer does not appoint an arbitrator, the Deontological Council appoints one. The process includes written submissions, hearings where witnesses can be heard, and opportunities for both parties to present arguments. CAAD arbitration is particularly valuable for disputes involving interpretation of tax law provisions, such as capital gains reinvestment requirements, offering a more specialized and often faster resolution than traditional court proceedings.
What happens if the reinvestment conditions for IRS capital gains exemption are not met?
If the reinvestment conditions for IRS capital gains exemption are not met, the full capital gains from the property sale become taxable as Category G income under the Personal Income Tax Code. The capital gains are calculated as the difference between the sale price and the acquisition cost (adjusted for inflation and improvements), with 50% of this amount subject to taxation at the taxpayer's marginal tax rate. The Tax Authority will issue a corrective assessment, adding the previously excluded capital gains to the taxpayer's taxable income for the relevant year. This results in additional IRS liability, potentially including interest for late payment. In the case discussed, failure to meet the tax domicile requirement led to an assessment of €47,898.98. Taxpayers who claimed reinvestment benefits but are subsequently found ineligible face not only the additional tax but also potential interest charges calculated from the original payment deadline. Partial reinvestment may still qualify for proportional exclusion if other conditions are satisfied.
What is the procedure for filing an arbitration request at CAAD against an IRS tax assessment?
The procedure for filing an arbitration request at CAAD against an IRS tax assessment involves several steps under the Legal Regime for Arbitration in Tax Matters (RJAT). First, the taxpayer must submit a written request for constitution of an arbitral tribunal, clearly identifying the contested tax assessment (including reference number, year, and amount). The request must be filed within the statutory deadline, typically the same as for judicial appeals. The CAAD President reviews the request for formal compliance and, if accepted, automatically notifies the Tax Authority. The taxpayer may appoint an arbitrator or allow the Deontological Council to make the appointment. After both parties are notified of the arbitrator's appointment and any challenges are resolved, the tribunal is formally constituted. The taxpayer must present detailed grounds for the claim, including factual circumstances and legal arguments. The Tax Authority files a reply defending the assessment. The tribunal may schedule hearings to receive testimony and evidence. Both parties typically submit written conclusions before the arbitrator issues a binding decision.