Process: 171/2018-T

Date: November 19, 2018

Tax Type: IRC

Source: Original CAAD Decision

Summary

This CAAD arbitral decision addresses the tax deductibility of costs paid to intermediary companies based in Hong Kong (B... and C...) for real estate sales to Chinese citizens, and expenses related to a dation in payment transaction. The taxpayer, a real estate company, challenged IRC additional assessments totaling €763,851.65, arguing that intermediation fees paid to entities in favorable tax regimes were legitimate business expenses. The Tax Authority rejected the deductions, applying autonomous taxation and questioning whether the services were actually performed and reasonably priced. The core legal issue involves article 23 of the IRC Code regarding cost deductibility when payments are made to entities in clearly more favorable tax regimes. In such cases, Portuguese law reverses the burden of proof, requiring taxpayers to demonstrate that expenses correspond to operations effectively carried out, are not abnormal in nature, and do not involve excessive amounts. The tribunal examined whether the taxpayer provided sufficient documentation proving the intermediaries' actual role in customer acquisition, contract negotiation, and client accompaniment in Portugal. Additionally, the case addressed whether a €57,500 payment related to a dation in payment arrangement with entity D... qualified as a deductible expense. The decision illustrates the heightened scrutiny applied to cross-border payments to low-tax jurisdictions and the documentation requirements necessary to substantiate the business purpose and fair market value of international service fees in Portuguese corporate tax law.

Full Decision

ARBITRAL DECISION

Agree in arbitral tribunal

I – Report

  1. A..., Ltd., legal entity no. ..., with registered office at ..., no. ..., ...-... Lisbon ..., hereby requests the constitution of an arbitral tribunal, under the terms set forth in articles 2, no. 1, paragraph a), and 10 of Decree-Law no. 10/2011, of 20 January, to assess the legality of the tax acts of additional IRC assessment and compensatory interest assessment, in the total amount of € 763,851.65.

The request is grounded in the following terms.

The corrections to taxable profit resulted from the disregard for tax purposes of expenses incurred with B... and C... in the intermediation of the sale of autonomous fractions of an urban property, which were subject to autonomous taxation, and from the non-acceptance as an expense of the difference ascertained between the value of the autonomous fractions to be transferred in payment of a debt to D... and the amount that the latter effectively received as a result of the transfer.

The expenses with the intermediary companies correspond to the remuneration of their services regarding the sale of fractions, which include customer acquisition and the provision of various legal services and which are only processed and paid when the transfer of the goods is completed, corresponding to expenses that were effectively incurred.

Given that this commercial relationship provides an expansion of the real estate market in which the Applicant operates and has the advantage of allowing net transaction prices to be obtained, free of the normal customer acquisition costs.

With regard to the non-acceptance as an expense of the difference ascertained between the value of the debt to D... and the amount effectively received, it corresponds to the compensation of the profit that D... ceased to earn by virtue of the Applicant having sold one of the fractions in question to a third party for a value higher than that stated in the payment in kind contract and which it had to return to the counterparty to the extent of the difference.

It concluded in the sense of the illegality of the additional IRC assessment on the grounds that, in either case, it incurred expenses that are tax-deductible.

The Tax Authority, in its response, argues that with regard to amounts paid to legal entities resident outside Portuguese territory and subject therein to a clearly more favorable tax regime, as is the case with B... and C..., which are based in Hong Kong, tax deductibility is dependent on the proof, which incumbent upon the taxpayer, that such expenses correspond to operations effectively carried out and do not have an abnormal character or an excessive amount, with a reversal of the burden of proof operating therein.

In the specific case, although the entities in question may have acquired customers and established links with Chinese citizens, reasonable doubts remain as to the extent and fair remuneration of the services effectively provided, and it is not demonstrated that the intervention in the conclusion of contracts, in the accompaniment of customers during travels to Portugal, and in visits to the properties, were ensured by B... in Portuguese territory.

Furthermore, no documents were submitted that evidence a specific and direct commercial relationship between the Applicant and these entities.

As for the payment in kind promise contract, the clauses contained in the addendum to that contract make it possible to ascertain that D..., with the transfer of the three autonomous fractions to its ownership, valued at € 1,239,500.00, to which is added the amount of € 318,000.00 paid by the Applicant, came to receive the sum of € 1,557,500.00, when it should have received € 1,500,000.00 for the settlement of the debt to the Applicant, whereby the difference of € 57,500.00 cannot be accepted as a tax expense under the terms of article 23 of the IRC Code, as it is a restitution justified only for the settlement of accounts between these two companies.

It concluded for the dismissal of the request.

  1. Following the proceedings, the meeting referred to in article 18 of the RJAT was dispensed with and witness testimony did not take place.

In successive pleadings, the parties pronounced on the evidentiary results arising from the elements of the proceedings and, furthermore, maintained their previous positions, with the Applicant, although having maintained the request formulated in the initial petition, making no express reference, in the pleadings, to the deductibility of expenses incurred with compensation to a third party.

  1. The request for constitution of the arbitral tribunal was accepted by the President of CAAD and automatically notified to the Tax Authority in accordance with regulatory terms.

Under the terms of paragraph a) of no. 2 of article 6 and paragraph b) of no. 1 of article 11 of the RJAT, in the wording introduced by article 228 of Law no. 66-B/2012, of 31 December, the Deontological Council appointed as arbitrators of the collective arbitral tribunal the signatories, who communicated acceptance of the appointment within the applicable period.

The parties were duly and timely notified of this appointment and did not manifest any intention to refuse it, in accordance with the combined terms of article 11, no. 1, paragraphs a) and b), of the RJAT and articles 6 and 7 of the Deontological Code.

Thus, in accordance with the provisions of paragraph c) of no. 1 of article 11 of the RJAT, in the wording introduced by article 228 of Law no. 66-B/2012, of 31 December, the collective arbitral tribunal was constituted on 14 June 2018.

The arbitral tribunal was regularly constituted and is materially competent, in light of the provisions of articles 2, no. 1, paragraph a), and 30, no. 1, of Decree-Law no. 10/2011, of 20 January.

The parties have legal personality and capacity, are legitimized and are represented (articles 4 and 10, no. 2, of the same instrument and 1 of Ordinance no. 112-A/2011, of 22 March).

The proceedings do not suffer from nullities and no exceptions are invoked.

It is incumbent upon us to assess and decide.

II - Grounds

Factual Matters

  1. The facts relevant for the decision of the case that may be considered established are the following.

The Applicant has as its corporate purpose the purchase, sale and resale of properties, civil construction and urban development and succeeded, through merger, to E... S.A., legal entity no. ...;

E... was notified of additional IRC assessment no. 2017..., relating to the fiscal year 2014, as a result of autonomous taxation of expenses incurred with non-residents, in the amount of € 707,772.78, and of compensatory interest assessment no. 2017..., in the amount of € 56,078.88, totaling € 763,851.65;

E... was subject to an external audit accredited by Service Order no. OI2016..., intended to carry out the declarative control of the taxpayer's tax situation for the fiscal year 2014;

E..., during 2014, proceeded to sell to Chinese citizens 9 autonomous fractions of the property denominated ..., located at ..., in Lisbon, identified with the letters AC, AD, AG, I, J, R, AE, W and B, for the individual values of € 500,000.00, € 1,040,000.00, € 1,050,000.00, € 520,000.00, € 545,000.00, € 1,000,000.00, € 547,000.00, € 510,000.00 and € 750,000.00, respectively, in the global value of 6,462,000.00.

E... paid to B..., regarding the sales of the fractions identified with the letters AC, AD, AG, I, R and B, amounts on the value of the sales of € 100,000.00, € 208,000.00, € 210,000.00, € 104,000.00, € 200,000.00 and € 150,000.00, respectively, which correspond to 20% of the sale price;

E... paid to C..., regarding the sales of the fractions identified with the letters J, AE and W, amounts on the value of the sales of € 111,400.00, € 60,975.61 and € 24,390.24, respectively, which correspond to percentages of 20.44%, 11.15% and 4.78% of the sale price;

These expenses were considered by the Tax Administration as non-deductible for tax purposes and became subject to autonomous taxation, under the terms of article 88, nos. 1 and 8, of the IRC Code, because it was not proven that they correspond to real operations and do not have an abnormal and excessive character;

On 12 May 2014, E... executed a service provision contract with B... to assist the first party in the completion of real estate sales to Chinese clients and by which B... committed itself to provide potential clients with the technical details and available information on the properties, to organize and provide assistance in visits to the properties, to collect from the clients the documentation necessary for the formalization of the promise contract and the deed of purchase and sale and its scheduling.

In return for the services provided, E... remunerated B... by paying 20% of the sale price, which would be made after the deed was executed;

At the time the contract was executed, B... had as its main activity assisting Chinese citizens in obtaining authorization to reside in European Union countries;

On 5 June 2014, E... executed a service provision contract with C... to increase the sale of real estate in international markets, and by which the second party committed itself to develop activities of promotion, disclosure and collection of information on potential business and potential purchasers, as well as regarding the characteristics of the properties desired by them;

As consideration for the services provided, E... obligated itself to pay fees corresponding to 20% of the sale price, which were only due after the deed was executed;

For the execution of the contract, the location of C... in East Asia and its knowledge of the local real estate market were relevant;

B... and C... exercised on behalf of E... activities of customer acquisition, promotion of the properties, disclosure and marketing of the business, organization and collection of documentation for the transaction, organization and assistance in visits of potential clients to Portugal and support in the execution of the contracts;

The manager of E... maintained correspondence by electronic mail with employees of companies B... and C... with reference to the mediation of real estate sales;

E... sold the fractions identified in the previous paragraphs E) and F) for values, as a rule, superior to those of equivalent fractions transacted in the domestic market;

In the audit procedure, it was also concluded that, as a result of the addendum to a promise contract of payment in kind intended to settle a debt to D..., in the amount of € 1,500,000.00, the Applicant transferred to the ownership of that entity three autonomous fractions in the value of € 1,239,500.00, plus the amount of € 318,000.00, in the global value of € 1,557,500.00;

The Tax Administration considered that the amount of € 57,500.00, corresponding to the difference that exceeds the value of the debt, which was declared as an expense, although it may be justified as a settlement of accounts, is not deductible for tax purposes;

On 28 February 2018, E... executed with D... a promise contract of payment in kind, by which it acknowledges the debt of € 1,500,000.00 and promises to give in payment four autonomous fractions, identified by the letters P, Q, X and W, in the value of € 412,500.00, € 408,500.00, € 418,500.00 and € 412,500.00 respectively, committing D... to reimburse the first party of the amount of € 152,000 corresponding to the excess received in real estate.

On 18 November 2014, an addendum was made to the promise contract of payment in kind, by which E... declares to have sold, with the authorization of D..., the autonomous fraction W for the net benefit of € 470,000.00 and commits itself to execute, in January 2015, the sale to D... of the fractions P, Q and X, in the global value of € 1,239,500.00;

In the addendum to the promise contract of payment in kind referred to in the previous paragraph, the parties agreed on the following settlement of accounts: (a) the transfer of the ownership of fraction W is effected by the delivery of the amount of € 470,000.00; (b) with the payment in kind of fractions P, Q and X and the delivery of the amount of € 470,000.00, the 2nd party receives the global amount of € 1,704,500.00 whereby it owes the first party € 152,000.00;

E... completed the transfer of three autonomous fractions to D..., in the global value of € 1,239,500.00, and issued a check in the value of € 318,000.00 in favor of that entity, totaling the amount of € 1,557,500.00, which exceeds by € 57,500.00 the value that was in debt;

The amount of € 318,000.00 corresponds to the sum of the remaining debt, constituted by the difference between € 1,500,000.00 and € 1,239,500.00, and the compensation for the sale of the autonomous fraction W, resulting from the difference between the amount for which that fraction had been given in payment (€ 412,500.00) and the net benefit obtained with the sale (€ 470,000.00);

In application of the provisions of article 23 of the IRC Code, the Tax Administration did not accept the amount of € 57,500.00 as a tax expense.

The Tribunal formed its conviction as to the established facts on the basis of the documents attached to the petition and in the administrative proceedings attached by the Tax Authority with its response.

Matters of Law

Deductibility of Expenses Incurred with Non-Resident Entities in Portuguese Territory

  1. The Tax Authority did not accept the deductibility of expenses incurred by the Applicant with companies based in Hong Kong on the grounds that, as these are entities established in a privileged fiscal jurisdiction, it was incumbent upon the taxpayer to prove, in accordance with the terms provided in article 23-A, no. 1, paragraph r), of the IRC Code, that the expenses corresponded to real operations and did not have an abnormal character or an excessive amount, concluding, in that regard, that no concrete evidence was presented, in the context of the audit procedure, that these expenses were effectively incurred and correspond to fair remuneration of the services provided.

The referred norm of article 23-A, no. 1, paragraph r), of the IRC Code, in the version in force at the time, provided in the following terms:

1 - The following expenses are not deductible for the purpose of determining taxable profit, even when accounted as expenses of the tax period:

(…)

r) Amounts paid or due, for any reason whatsoever, to natural or legal persons resident outside Portuguese territory and subject therein to a tax regime identified by ordinance of the government member responsible for the area of finance as a regime of taxation clearly more favorable, except if the taxpayer proves that such expenses correspond to operations effectively carried out and do not have an abnormal character or an excessive amount;

(…).

Under the terms of Ordinance no. 292/2011, of 8 November, the territory of Hong Kong, where the companies benefiting from the payments were based, was included in the list of countries and regions with privileged tax regimes, clearly more favorable, whereby the expenses incurred with these entities were covered by the said legal regime.

According to the understanding of doctrine, the norm establishes the reversal of the burden of proof regarding payments made to companies installed in tax havens, intending to institute an anti-abuse measure. Indeed, what is intended is to free the Tax Administration from the burden of proving the falsity of the operation, for the purpose of collecting the tax, regarding situations that are known to be normally simulated and intended to facilitate tax evasion. In that case, the general rule of evidentiary law that results from article 74 of the General Tax Law ceases to function, which places upon the Administration the burden of proving the existence of the tax facts on which the assessment is based, in line with what is generally established in article 342 of the Civil Code, instead following the legal principle according to which the burden of proof should belong to the party that is more easily in a position to carry it out (cf. Luís Menezes Leitão, "Application of Anti-Abuse Measures in the Fight Against Tax Evasion", Revista Fisco, nos. 107/8, March 2003, p. 38).

It is also understood that for the "proof of the veracity of the operation it will not suffice the exhibition of written documents, namely contracts entered into between the parties (since these are presumed to be simulated) nor the demonstration of payment of the price (since that is not in question). What must be demonstrated is the effective provision of services, the receipt of loans, the utilization of industrial property rights, etc. As for the proof of the absence of an abnormal or excessive character in the expenses, this must be established by demonstrating that the contract whose veracity has been proved presents itself as balanced. For this purpose, the taxpayer must demonstrate what the real importance of the advantages conferred by the contract is and prove that the expenses established constitute fair remuneration of those advantages, in particular by comparison with the costs of similar services in the market" (Ibidem).

In the present case, what is demonstrated is not only that E... executed service provision contracts with the companies in question, but also that these contracts, through the mediating intervention of these entities, made it possible to increase the sale of real estate in the Chinese market, thus understanding that the nine real estate transactions on which the expenses declared by the taxpayer were based were carried out with Chinese citizens. It is symptomatic that the mediation service contracts were executed with entities that already intervened in activities supporting Chinese citizens who wished to obtain authorization to reside in European countries (B...) or were already established in the Asian real estate market (C...). It cannot fail to be recognized that the normality of the commercial relationship is evident when, in the logic of the market, the sale of real estate in these circumstances would always be dependent on activities of acquisition, promotion and disclosure on the external plane. Furthermore, this mediating function is sufficiently documented through the commercial correspondence exchanged between the seller and the representatives of the participating companies.

On the other hand, it cannot be said that the remuneration is excessive or involves simulated values when E... managed to sell the real estate for prices, as a rule, superior to those of other fractions that were transacted in the domestic market and it is demonstrated that the payments were calculated on the basis of a percentage of the sale price and were only made after the deed was executed.

There is, therefore, no reason to consider that the declared expenses do not correspond to operations effectively carried out or do not involve fair remuneration for the activity developed by the beneficiaries.

Deductibility of Expenses Incurred with Compensation to a Third Party

  1. The Tax Authority did not accept the amount of € 57,500.00 as a tax expense on the grounds that this value corresponds to a restitution that was due by D... to E... for settlement of accounts.

As results from the factual matters given as established, the expenditure of this amount is related to the addendum to the promise contract of payment in kind effected following E... having sold for the net value of € 470,000.00 one of the fractions (W) that would be delivered to settle the debt of € 1,500,000.00 and which had been evaluated at € 412,500.00.

In fact, under the terms of the promise contract of payment in kind, executed on 28 February 2018, E... acknowledged the debt of € 1,500,000.00 and promised to give in payment four autonomous fractions, identified by the letters P, Q, X and W in the value of € 412,500.00, € 408,500.00, € 418,500.00 and € 412,500.00 respectively, committing D... to reimburse the first party of the amount of € 152,000 corresponding to the excess received in real estate. Having sold, with the authorization of D..., the autonomous fraction W for the net benefit of € 470,000.00, E..., through the said addendum, committed itself to transfer the ownership of the three remaining fractions, in the global value of € 1,239,500.00, and the delivery of the amount of € 470,000.00, in the total of € 1,709,500.00, against the reimbursement of the excess amount of € 152,000.00. This reimbursement, in turn, corresponds to the difference between this amount (€ 1,709,500.00) and the amount in debt (€ 1,500,000.00) plus the gain that E... obtained with the sale of fraction W by reference to the value for which that fraction was evaluated for the purpose of payment in kind (€ 57,500.00).

In practice, the agreement was implemented by the issuance of a check in the value of € 318,000.00 in favor of D..., with this amount corresponding to the sum of the remaining debt, constituted by the difference between € 1,500,000.00 and € 1,239,500.00, with the gain achieved through the sale of fraction W and which resulted from having obtained, with the sale, a net benefit of € 470,000.00, superior to the amount for which that same fraction was given in payment (€ 412,500.00).

In this way, through the delivery of the amount of € 318,000.00, E... compensated the remaining debt, that is, the amount that remained in debt after the payment in kind of real estate, which corresponds to € 260,500.00, and returned the credit that D... held as a result of the gain that had been obtained through the sale of fraction W, which corresponds to € 57,500.00.

It is this last amount that the Tax Administration disregarded for tax purposes on the grounds that it is a value that exceeds the amount in debt and should not be considered deductible under the terms of article 23 of the IRC Code.

In the wording resulting from Law no. 2/2014, of 16 January, with effects from 1 January 2014, the provision, in the part that is now most relevant to consider, provided as follows:

"Article 23

Costs or Losses

1 - For the determination of taxable profit, all expenses and losses incurred or borne by the taxpayer to obtain or ensure income subject to IRC are deductible.

2 – The following expenses and losses, in particular, are considered covered by the previous number:

(…)

c) Of a financial nature, such as interest on foreign capital applied in operations, discounts, premiums, transfers, exchange differences, expenses with credit operations, collection of debts and issuance of bonds and other securities, redemption premiums and those resulting from the application of the effective interest method to financial instruments valued at amortized cost.

(…).

With the reference to all expenses and losses incurred or borne by the taxpayer to obtain or ensure income subject to IRC, the legislator abandoned the concept of indispensability, which came from the previous wording, and which case law and doctrine had already been interpreting in a broad sense, moving away from the requirement of a necessary causal link between expenses and income.

In that sense, the judgment of the STA (Supreme Administrative Court) of 29 March 2006 (Case no. 1236/05), in line with diverse other case law, and calling attention to the casuistic character of filling in the concept of indispensability, formulated the following criterion:

"The rule is that correctly accounted expenses be fiscal costs; the criterion of indispensability was created by the legislator, not to allow the Administration to interfere in the management of the company, dictating how it should apply its means, but to prevent the tax consideration of expenses that, although accounted as costs, do not fall within the scope of the company's activity, were incurred not for its pursuit but for other interests alien to it. Strictly speaking, these are not true costs of the company, but expenses that, in light of their purpose, were abusively accounted as such. Without the Administration being able to evaluate the indispensability of costs in light of criteria affecting their opportunity and merit".

The same judgment concluding that "under penalty of violation of the principle of tax capacity, the Administration may only exclude expenses not directly ruled out by law under strong motivation that convinces that they were incurred beyond the company's social purpose, or, at least, with clear excessive deviation, in light of the objective needs and capacities of the company".

Doctrine has also taken this position.

Rui Morais notes that "the invocation of the rule of indispensability of costs can never be made to replace the judgment of convenience and opportunity of the expenses assumed, as they resulted from the decision of the corporate bodies, by another judgment, also of a business nature made by the tax administration or by the courts". And he continues by saying that "the question of whether a cost should or should not be considered indispensable should be resolved on the basis of the objective purpose of the transaction, that is, of the business purpose test. We judge it to be fairly clear the scope of the norm: to refuse fiscal participation in some of the expenses borne by the taxpayer (…). If the assumption of the expense was preceded by genuine business motivation (…) the cost is indispensable. When it is to be concluded that the expense was determined by other motivations (personal interest of shareholders, administrators, creditors, other companies in the same group, commercial partners, etc.) then such cost should not be considered indispensable" (Notes to IRC, Coimbra, 2007, pp. 86-87).

In identical terms, Saldanha Sanches notes that "knowing whether a certain cost corresponds, or not, to the more effective defense of the company's interests is a question that cannot be resolved by the attribution of a power of intervention by the State (…) so as to make a judgment on merit of a certain business management option, just as it cannot validate the qualification of the expense as a cost by subjecting it to the condition of the subsequent verification of the effective generation of benefits" (The Limits of Tax Planning, Coimbra, 2006, p. 215).

In summary conclusion, it must be understood that business activity that generates deductible costs must be that which translates into operations that have a purpose (and not an obligatory immediate causal nexus) of obtaining income or the purpose of maintaining the potential of a source generating income. In that sense, productive activity should not be understood in a restrictive sense, but rather in a broad sense, meaning activity related to a source generating income for the entity that bears the expenses. In seeking the sense of the concept of company activity, it cannot be limited to mere or simple operations of production of goods or services, but presupposes a relationship with overall economic operations of exploitation or with operations or management acts that fall within the own interest of the entity assuming the costs (cf. in this sense, the arbitral judgment rendered in Case no. 480/2016).

It is within this comprehensive scope that the new wording introduced by Law no. 2/2014 must be understood, which, aimed at implementing a greater degree of certainty in the concrete application of deductibility criteria, came to enshrine as a general principle that expenses related to the activity of the taxpayer incurred or borne by the latter are deductible, reinforcing the idea that the connection with business activity is sufficient, regardless of the actual contribution to income subject to tax (cf. Final Report of the Commission for the Reform of Income Tax on Legal Persons, 30 June 2013).

In the present case, it cannot fail to be recognized that the expenses in question have the nature of financial charges resulting from credit operations which, as such, are specifically provided for as deductible expenses for the determination of taxable profit (article 23, no. 2, paragraph c), of the IRC Code).

The doubt that is raised concerns an expense that increased the existing debt and resulted from the business decision to impute to D... the net gain obtained with the transaction of the autonomous fraction W. It must be borne in mind that the settlement of the debt should have occurred through the payment in kind of four autonomous fractions and it was the circumstance that the parties agreed to modify the contractual clause, by virtue of the opportunity that arose for the debtor to negotiate autonomously one of these fractions, that determined the obligation to transfer to the creditor the net gain obtained with that transaction.

However, the assumption of this expense results, firstly, from the addendum to the promise contract of payment in kind, which, under its clause 2, came to stipulate as the amount in debt the sum of € 1,557,500.00, corresponding to the original debt (€ 1,500,000.00) plus the net benefit obtained with the sale of the fraction (€ 57,500.00). Thus understanding that the excess that the second party had to return remained at the value of € 152,000.00, corresponding to the difference between the value of the credit of E... (€ 1,709,500.00) and the updated amount of the debt (€ 1,557,500.00).

One could discuss whether the modification of the contractual clause imposed the transfer to D... of the net gain obtained with the sale of the fraction that was initially intended to be given in payment to extinguish the debt. But the fact is that these were the terms of the contractual modification by which the payment in kind came to have as its purpose the transfer of the ownership of real estate and a monetary obligation related to the sale of another real estate. Thus imposing upon E... the legal duty to satisfy this obligation.

And as has been set out, the tax relevance of an expense depends solely on its connection with the company's activity, regardless of the merit of the business management option that was followed in the assumption of this expense, with only expenses that have been determined by other motivations being to be disregarded.

There is, therefore, no reason to disregard the expense in question for tax purposes.

Requests Whose Assessment is Prejudiced

  1. In light of the solution reached on the level of infra-constitutional law, the assessment of the constitutional issues that are also raised is prejudiced.

Compensatory Interest

  1. The Applicant also challenges the assessment of compensatory interest in relation to the tax act of IRC assessment.

Under the terms of article 35, no. 1, of the General Tax Law, "compensatory interest is due when, as a result of a fact attributable to the taxpayer, the assessment of part or all of the tax due or the payment of tax payable in advance, or withheld or to be withheld within the scope of tax substitution, is delayed".

As has been the current understanding, compensatory interest due under the terms of the said provision constitutes a civil indemnification intended to indemnify the Tax Administration for the loss of availability of an amount that was not assessed in a timely manner. As this is a civil indemnification, it is only exigible if a causal nexus is verified between the taxpayer's actions and the delay in assessment and such actions can be censurable on grounds of fraud or negligence.

The merit of the arbitral petition necessarily renders the payment of compensatory interest inexigible, whereby on this point too the petition is meritorious.

III – Decision

It is thus decided to judge the arbitral petition as meritorious and to annul the additional IRC assessment no. 2017..., relating to the fiscal year 2014, as a result of the autonomous taxation of expenses incurred with non-residents, in the amount of € 707,772.78, and the compensatory interest assessment no. 2017..., in the amount of € 56,078.88, in the total of € 763,851.65.

Value of the Case

The Applicant indicated as value of the case the amount of € 763,851.65, which was not contested by the Respondent and corresponds to the value of the assessment that was intended to be opposed, whereby the value of the case is fixed at that amount.

Costs

Under the terms of articles 12, no. 2, and 24, no. 4, of the RJAT, and 3, no. 2, of the Costs Regulation in Tax Arbitration Proceedings and Table I attached to that Regulation, the amount of costs is fixed at € 11,016.00, which is charged to the Respondent.

Notify.

Lisbon, 19 November 2018

The President of the Arbitral Tribunal

Carlos Fernandes Cadilha

The Arbitrator Member

Paulo Mendonça

The Arbitrator Member

Jesuíno Alcântara Martins

Frequently Asked Questions

Automatically Created

What are the requirements for deducting costs paid to entities in favorable tax regimes under Portuguese IRC rules?
Under Portuguese IRC rules, costs paid to entities in favorable tax regimes require enhanced documentation to be deductible. According to article 23 of the IRC Code, there is a reversal of the burden of proof when payments are made to entities resident in territories with clearly more favorable tax regimes. The taxpayer must prove that: (1) the expenses correspond to operations effectively carried out; (2) the expenses do not have an abnormal character; and (3) the amounts are not excessive. The Tax Authority may apply autonomous taxation rates to such expenses even before determining their deductibility, and the taxpayer must provide comprehensive evidence of the actual services rendered, their commercial rationale, and market-rate pricing.
How does the burden of proof work when a company claims tax deductibility for payments to entities based in territories with clearly more favorable tax regimes like Hong Kong?
When claiming deductibility for payments to entities in favorable tax regimes like Hong Kong, the burden of proof reverses from the Tax Authority to the taxpayer. Normally, the Tax Authority must prove expenses are not deductible, but article 23 of the IRC Code shifts this burden when payments involve low-tax jurisdictions. The taxpayer must affirmatively demonstrate with documentary evidence that: the services were genuinely performed; there was a direct commercial relationship; the pricing was arm's length and reasonable; and the operations had legitimate business purposes. Insufficient documentation showing what services were actually provided, where they were performed, and how they were priced can result in the Tax Authority rejecting the deduction. This heightened scrutiny aims to prevent profit shifting and artificial expense arrangements.
What is autonomous taxation (tributação autónoma) and when does it apply to corporate expenses in Portugal?
Autonomous taxation (tributação autónoma) is a supplementary IRC charge applied to certain corporate expenses regardless of whether the company has taxable profit. It functions as a penalty or deterrent tax on specific expenditure categories deemed to have potential for abuse or personal consumption elements. Under articles 88 and following of the IRC Code, autonomous taxation applies to expenses such as: vehicle costs, representation expenses, compensation paid to company bodies when IRC is not paid, and crucially, payments to entities in favorable tax regimes. The rates vary depending on the expense type and can be substantial (in this case, leading to a €707,772.78 assessment). Autonomous taxation is calculated on the gross amount of the expense and is due independently of the company's final tax position, meaning even loss-making companies must pay it.
Can intermediation fees paid to foreign real estate agents be considered deductible expenses for IRC purposes?
Intermediation fees paid to foreign real estate agents can be considered deductible IRC expenses if they meet general deductibility requirements under article 23 of the IRC Code. The expenses must be: (1) incurred or supported by the taxpayer; (2) indispensable for realizing taxable income or maintaining the income source; (3) properly documented; and (4) recorded in the accounting period to which they relate. However, when intermediaries are based in favorable tax regimes, additional scrutiny applies. The taxpayer must prove the services were genuinely provided, the fees were market-rate, and a direct commercial relationship existed. In this case, the Tax Authority questioned whether B... and C... actually performed services in Portugal, whether their involvement in contract conclusion and property visits was documented, and whether commission rates of 20% were reasonable. Without sufficient proof of actual service delivery and fair pricing, such fees risk being deemed non-deductible.
How does CAAD assess the legitimacy of costs related to dação em pagamento (dation in payment) transactions for IRC deductibility?
CAAD assesses dation in payment (dação em pagamento) transaction costs for IRC deductibility by analyzing whether the expense represents a genuine business cost or merely an adjustment between parties. In this case, the taxpayer argued that a €57,500 payment to D... was a deductible expense representing compensation for lost profit when the taxpayer sold a property fraction to a third party for more than the dation agreement value. The Tax Authority rejected this, arguing it was simply a settlement of accounts between the companies rather than an expense incurred to generate taxable income. Under article 23 of the IRC Code, expenses must be indispensable for obtaining or maintaining income. The tribunal examines: the contractual arrangements and any addenda; whether the payment relates to the company's normal business operations; and whether it represents a genuine cost versus a redistribution of value between related or contracting parties. Payments that merely rebalance prior arrangements without clear business necessity face rejection.