Process: 199/2019-T

Date: September 26, 2019

Tax Type: IRS

Source: Original CAAD Decision

Summary

This CAAD arbitration decision (Process 199/2019-T) addresses the critical question of determining the acquisition value of property for IRS capital gains calculations when the property was originally acquired through a financial leasing (locação financeira) contract with multiple assignments of contractual position. The taxpayer and his brother inherited their father's position in a leasing contract after he acquired it through assignment. They subsequently exercised the purchase option in 2009 for €9,975.96 and sold the property in 2016. The Tax Authority considered only the residual value paid (€4,987.98 for the taxpayer's 50% share) as the acquisition cost. The taxpayer argued that the full initial leasing value plus rental payments containing capital amortization should be included in the acquisition value. The decision examines whether expenses incurred by previous contractual position holders and rental payments made during the leasing period can be considered part of the acquisition value for capital gains purposes. The tribunal also analyzed procedural issues regarding the taxpayer's right to prior hearing (audiência prévia) in the administrative complaint process. This case is significant for establishing how Portuguese tax law treats complex property acquisitions involving leasing contracts, contractual assignment, inheritance, and the determination of taxable capital gains, particularly regarding what constitutes legitimate acquisition costs when a leasing contract passes through multiple parties before final purchase.

Full Decision

ARBITRAL DECISION

The arbitrator Professor Jónatas Machado, appointed by the Deontological Board of the Centre for Administrative Arbitration to constitute the present Arbitral Tribunal, hereby renders the following decision:

1. REPORT

1. Case Details

  1. A..., taxpayer no. ..., resident at ..., ...-..., Sintra, (hereinafter Claimant or Taxpayer) has requested the constitution of an Arbitral Tribunal to challenge the Personal Income Tax (IRS) assessment relating to the year 2016, with no. 2018..., partially confirmed by the decision on the administrative complaint with process no. ...2018..., which is also being challenged, contesting the corresponding tax in the amount of € 12,168.21.

  2. The request for constitution of the arbitral tribunal was accepted by the President of CAAD on 21.03.2019.

  3. In accordance with articles 5, no. 2, paragraph a), 6, no. 1 and 11, no. 1 of the Arbitration Rules (RJAT), the Deontological Board of this Centre for Administrative Arbitration (CAAD) appointed Professor Jónatas Machado as sole arbitrator on 14.05.2019.

  4. The parties were duly notified of this appointment, to which they raised no objection, in accordance with articles 11, no. 1, paragraphs b) and c) and 8 of the RJAT and articles 6 and 7 of the Deontological Code of CAAD.

  5. By virtue of the provisions of paragraph c) of no. 1 and no. 8 of article 11 of the RJAT, as communicated by the President of the Deontological Board of CAAD, the Arbitral Tribunal was constituted on 03.06.2019.

  6. The Tax Authority (or "Respondent"), having been notified, pursuant to article 17 of the RJAT, to submit its response, argued in its defence of 01.07.2019 for the rejection of the present request for arbitral pronouncement, the maintenance in the legal order of the disputed tax assessment and its absolution from the claim, with the corresponding legal consequences.

  7. As it was not requested by the parties and was deemed unnecessary, the tribunal waived the meeting provided for in article 18 of the RJAT, by order issued on 04.07.2019.

  8. No closing arguments were submitted.

1.1 Description of Facts

  1. The Claimant, A..., together with his brother, B..., NIF..., acquired on 27.11.2009, in equal shares, the autonomous unit designated by the letter A of the property described in the Land Registry of ... under entry ..., parish of ..., inscribed in the same parish under article....

  2. This acquisition was made under a financial leasing contract (leasing) entered into between a company integrated in C... and D..., Lda, with an initial value of € 103,368.40 – being € 99,759.58 the purchase value of the property and the remainder the corresponding Transfer Tax (Sisa) – the lessee having, on 10.05.2006, assigned its contractual position to E..., which in turn, on 20.06.2007, assigned it to the taxpayer's father, F....

  3. Meanwhile, the Claimant's father died on 21.07.2008, with the contractual position being transmitted to the Claimant and his brother.

  4. On 27.11.2009, the Claimant and his brother acquired the autonomous unit in question by payment of the residual value of € 9,975.96, having disposed of said unit on 31.05.2016.

  5. The Claimant submitted IRS form 3 for the year 2016 (...-...) on 30.05.2017 in which he declared, in annex G, with respect to the property located in the parish of ... and registered in the urban property register under article ..., unit A, an acquisition value of €85,965.00 and expenses in the amount of €6,918.75.

  6. Having been notified by the Services to present the supporting documents for the declared values, he submitted on 28.11.2017 a substitute declaration (...) in which he corrected the acquisition value to € 51,684.21 and maintained the value of expenses considered at € 6,918.75. The taxpayer was again notified to prove the declared values, specifically the acquisition value and the mentioned expenses.

  7. The services concluded that the documents presented as supporting evidence did not allow justification of the values indicated in the substitute declaration, whereby it was corrected ex officio (declaration ... of 09.03.2018), having been considered as the acquisition value of the property above identified the amount of €4,987.98 and the value of expenses of €3,459.38.

  8. The correction made considered the acquisition on 27.11.2009 and the acquisition value for the property in question was based on the amount corresponding to the exercise of the purchase option right at the end of the leasing contract, that is, €9,975.96, whereby, to the claimant corresponds half of that value.

  9. It was also considered as an expense related to the sale of the property the commission paid for intermediation in the sale, in accordance with the receipt presented by the taxpayer, which according to the statements made in the purchase and sale contract, entered into on 31.05.2016, attributed to the present impugner the same proportion of the property ownership, that is, 1/2 of those expenses.

  10. Having been notified of assessment no. 2018..., of 16.03.2016, the taxpayer submitted administrative complaint no. 1...2018....

  11. By order of 14.11.2018, a decision was drafted for partial approval of the present administrative complaint, which provided for approval of the complaint only insofar as the Taxpayer requests consideration of expenses incurred with real estate intermediation commission in the amount of € 6,918.75 and rejection of the remainder, as proof was not made of the capital included in the rent payments possibly made by the Claimant from 21.07.2008 to 27.11.2009 and it is not legally permissible to consider expenses incurred by third parties.

  12. On 20.11.2018, by letter no. 2018..., registered with the postal service with no. RF...PT, the Claimant was notified to, within 15 days, exercise the right to prior hearing in accordance with article 60 of the General Tax Law (LGT) regarding the proposed decision on the administrative complaint.

  13. On 12.12.2018, the draft decision for partial approval was finalized by order of the Head of the Tax Office.

  14. On 13.12.2018, the Claimant sent an email to the Tax Office in which he exercised the right to prior hearing regarding the draft decision on the administrative complaint.

  15. The Claimant was notified of the final decision on 19.12.2018 through letter no. 2018..., by registered mail with acknowledgment of receipt, with postal service registration no. RF...PT.

  16. Despite not agreeing therewith, the Claimant paid the disputed assessment on 02.05.2018, within the voluntary payment period.

  17. By order of 12.12.2018, notified to the Claimant on 07.01.2019, the Tax Authority and Customs Authority (AT) decided to confirm the additional IRS assessment of the Impugner with no. 2018..., in the amount of € 12,999.78, except as regards consideration of expenses incurred with real estate intermediation commission in the amount of € 6,918.75.

  18. Following this order, as the taxpayer, despite not agreeing therewith, had already paid said additional IRS assessment, he was refunded the amount of € 831.57, with a disputed amount of € 12,168.21 remaining.

  19. On 29.04.2019, an order of Partial Revocation was issued by Ms. G..., through assessment no. 2019... of 29.06.2019, resulting in an amount receivable of € 1,096.27, of which the amount of € 64.09 was applied in compensation of debts and the remainder, in the amount of € 1,032.18, was reimbursed on 16.07.2019.

  20. The Claimant was refunded the amount of € 1,096.27, with a disputed amount of € 11,071.94 subsisting.

1.2 Arguments of the Parties

  1. The arguments brought in the proceedings focus on the question of determining the acquisition value that should be considered for purposes of determining any capital gains from the sale of the property.

  2. The Claimant contends the illegality of the administrative complaint decision, for violation of the right to prior hearing, and alleges that the acquisition value of the property is the sum of the capital included in the rent paid during the leasing contract plus the value paid for the exercise of the purchase option right, excluding any expenses, with arguments summarized below:

a) The administrative complaint decision submitted by the taxpayer with process no. ...2018... is null or voidable for failure to guarantee the taxpayer's right to prior hearing, in accordance with article 60 of the General Tax Law (LGT) and articles 121 et seq. of the Code of Administrative Procedure (CPA) and article 61 or 163 of the CPA;

b) The administrative complaint order was issued without awaiting the exercise of this right, which the Impugner actually exercised on 13.12.2018, as evidenced by the email sent by his tax advisor on that same day;

c) Irrespective of other grounds, the Tax Authority should be ordered to pronounce again on the administrative complaint submitted by the taxpayer, taking into account what was alleged by him in the exercise of his right to prior hearing;

d) The fact that the leasing contract was initially entered into by a third party company, having subsequently been assigned to another third party and then to the father of the purchasers, who acquired the position of the latter by virtue of his death, in no way alters the application of the rule of article 46, no. 5, of the IRS Code;

e) In the case of onerous assignments of the position of lessees in leasing, the value of the assignment should be considered or, if such value is not declared, the capital already paid in prior rent, as provided without distinction in no. 5 of art. 46 of the IRS Code;

f) In the case of non-onerous assignments, the tax patrimonial value of the unit on the date of such assignments could not fail to be considered;

g) The Claimant and his brother acquired the autonomous unit in question gratuitously, as representatives of the deceased father, a fact relevant with respect to the leasing rent prior to June 2007, the date of death, the Tax Authority should consider as acquisition value the tax patrimonial value which at that date was € 85,060.46;

h) In any event, the Tax Authority could never fail to consider the rent paid by the taxpayer after the death of his father, as this rent, from June or July 2007 (from rent 111 or 112), was necessarily paid by the Impugner and his brother and not by his father, who had since died;

i) C... informed that the value of the sum of the capital included in the rent paid during the leasing contract and the value paid for the exercise of the purchase option right equals the initial value of the contract, which was € 103,368.41, this should be considered as the acquisition value with half of that value going to the taxpayer, that is, € 51,684.20;

j) Unless this acquisition value is considered, the taxpayer would be taxed on a capital gain that he effectively did not have, as the final purchasers and previous lessees spent capital much more than the amount considered by the Tax Authority, which translates into manifest unequal treatment compared to other leasing situations;

k) In any event, but without minimally conceding, the Tax Authority would have to consider as acquisition value the sum of the capital included in the rent paid by the taxpayer, his brother and his father, that is, from rent 99 (and € 19,977.15), plus the residual value (€ 9,975.96) totaling € 29,953.11, with half of that value going to the Claimant;

l) Or, at the very least, it had to consider the value of the rent already paid by the taxpayer and his brother, after the death of his father, occurred on 21.07.2018, that is, from at least rent 112 (possibly from the previous rent, but certainly from that one), with the capital value of these rent payments corresponding to € 8,445.39, to which is added the residual value, everything totaling € 18,421.35, with half of that value going to the Claimant;

m) Citizens, in their fiscal relationship with the State, have the right to reimbursement of taxes unduly paid – paragraph c) of no. 1 of article 30 of the General Tax Law (LGT);

n) In accordance with article 43, no. 1, of the LGT, compensatory interest is due when it is determined, in administrative complaint or judicial challenge, that there was error attributable to the services resulting in payment of the tax debt in an amount greater than legally due.

  1. The Tax Authority contends that the Claimant's right to prior hearing was not violated and that the acquisition value of the property should be the residual value paid at the moment of acquisition plus the value of rent paid by the Claimant based on the following grounds:

a) The Claimant was invited, by letter 2018... of 20.11.2018, to exercise, if he wished, within 15 days, his right to hearing;

b) The postal registration being 20.11.2018, notification is deemed to be made on the third day following registration, in accordance with article 39, no. 1, of the Tax Procedure Code (CPPT), that is, on 23.11.2018;

c) The 15-day period for exercising the right to hearing began on 24.11.2018 and ended on 10.12.2018, counted in accordance with article 279 of the Civil Code, ex-vi article 57, no. 3, of the LGT, and the decision was issued on 12.12.2018, respecting the legal time limit for exercising the right to hearing;

d) Initially, the Tax Authority contended that the acquisition value of the property should include only the residual value paid by the purchasers for the exercise of the purchase option right;

e) However, by order of the Deputy Director-General of the area of tax management – Income Taxes, issued on 29.04.2019, the act which was the object of the present request was partially revoked, having been notified to the requester and his representative;

f) There the Tax Authority understood that, as part of the rent was paid by third parties, only the value of rent paid by the taxpayer and his brother should be considered in the acquisition value, in addition to the residual value;

g) The above-mentioned partial revocation went towards what was sought by the Claimant, in respect of the acquisition value that should be considered for purposes of determining any capital gains from the sale of the property in question;

h) Having the Tax Authority communicated the partial revocation, in accordance with article 13 of the RJAT on 07/05/2019, the Claimant was notified on the same date of the order of the Honorable President of CAAD, regarding the continuation of the proceedings, having said nothing on the subject;

i) Consequently, the request for constitution of an Arbitral Tribunal lacks an object, whereby the Claimant should be condemned to pay the respective arbitration fee.

1.3 Preliminary Issues

  1. The request for arbitral pronouncement is timely, in accordance with no. 1 of article 10 of the RJAT.

  2. The Arbitral Tribunal is regularly constituted (articles 5, no. 2, 6, no. 1, and 11 of the RJAT), and is materially competent (articles 2, no. 1, paragraph a) of the RJAT).

  3. The parties have legal personality and capacity and are properly represented.

  4. Notwithstanding the issuance, on 29.04.2019, of an order of partial revocation, by the Deputy Director-General of Income Taxes (DSIRS), through assessment no. 2019 ... of 29.06.2019, following which the Claimant was refunded the amount of € 1,096.27, the tax dispute maintains its utility with respect to the non-revoked part of the IRS assessment relating to the year 2016, no. 2018..., with the tax in dispute amounting to € 11,071.94.

  5. The proceedings are not affected by any nullities and may proceed to a decision on the merits of the case.

2. REASONING

2.1 Facts Deemed Proven

  1. Based on the documents brought in the proceedings, the following facts relevant to the decision of the case sub judice are deemed proven:

a) The Claimant, A..., together with his brother, B..., NIF..., acquired on 27.11.2009, in equal shares, the autonomous unit designated by the letter A of the property described in the Land Registry of ... under entry ..., parish of ..., inscribed in the same parish under article ...; (Document 3)

b) This acquisition was made under a financial leasing contract entered into between H..., S.A., subsequently integrated in C..., and D..., Lda, in the amount of € 103,368.40, being € 99,759.58 the purchase value of the property and the remainder the corresponding Transfer Tax (Sisa); (Document 3)

c) D..., Lda, on 10.05.2006, assigned gratuitously its position to E..., which was listed in the original contract as a sub-lessee, which in turn, on 20.06.2007, assigned it gratuitously to the taxpayer's father, F...; (Document 3 and Administrative file)

d) The value of the rent paid by Mr. F... was € 22,389.32, including capital amortization in the amount of € 19,977.15. (Document 3 and 4)

e) The value of rent and residual value paid by the Claimant and his brother was € 27,097.90; (Document 2B)

f) The Claimant's father died on 21.07.2008, with the contractual position being transmitted by succession to the Claimant and his brother; (Administrative file)

g) The autonomous unit in question was acquired by the taxpayer and his brother on 27.11.2009 for the residual value of € 9,975.96; (Administrative file)

h) The taxpayer and his brother disposed of the said autonomous unit on 31.05.2016; (Administrative file)

i) In 2017 an IRS assessment relating to the year 2016 with no. 2018... was made, and an administrative complaint with process no. ...2018... was submitted on 27.08.2018; (Document 1)

j) The Claimant was invited, by letter 2018... of 20.11.2018, to exercise, if he wished, within 15 days, his right to hearing, the postal registration being 20.11.2018; (Administrative file)

k) The decision was issued on 12.12.2018 and the right to hearing was exercised on 13.12.2018. (Administrative file)

l) By order of 12.12.2018, notified to the Claimant on 07.01.2019, the Tax Authority decided to confirm the additional IRS assessment of the Impugner with no. 2018..., in the amount of € 12,999.78, except as regards consideration of expenses incurred with real estate intermediation commission in the amount of € 6,918.75; (Administrative file).

m) On 29.04.2019 an order of partial revocation was issued by the Deputy Director-General of Income Taxes (DSIRS), through assessment no. 2019... of 2019-06-29, resulting in an amount receivable of € 1,096.27, of which the amount of € 64.09 was applied in compensation of debts and the remainder, in the amount of € 1,032.18, was reimbursed on 16.07.2019; (Document 1 of AT)

n) The Claimant was refunded the amount of € 1,096.27, with a disputed amount of € 11,071.94 subsisting. (Document 1, AT)

2.2 Facts Not Proven

  1. With relevance to the decision on the merits, there are no facts alleged that should be considered as not proven.

2.3 Reasoning

  1. With respect to the factual matters, the Tribunal does not need to pronounce on everything that was alleged by the parties, it being incumbent upon it to select the facts that matter for the decision and to distinguish the proven facts from the unproven facts (cf. art. 123, no. 2, of the CPPT and article 607, no. 3 of the Code of Civil Procedure (CPC), applicable ex vi article 29, no. 1, paragraphs a) and e), of the RJAT).

  2. The facts pertinent to the decision of the case are chosen and determined in light of their legal relevance, which is established in view of the various plausible solutions of the issues that are the subject of the dispute (v. 596, no. 1, of the CPC, ex vi article 29, no. 1, paragraph e), of the RJAT).

  3. Thus, the above-listed facts are deemed proven, with relevance to the decision.

2.4 Issues to be Decided

  1. The issues to be decided concern the possible invalidity due to violation of the claimant's right to prior hearing and the determination of the acquisition value for purposes of taxation of capital gains in Personal Income Tax (IRS) from the disposal of property acquired under a financial leasing contract.
2.4.1. Right to Prior Hearing
  1. With respect to the first issue, it follows from the record that the Claimant was invited, by letter 2018... of 20.11.2018, to exercise, if he wished, within 15 days, his right to hearing. The postal registration being 20.11.2018, notification is deemed to be made on the third day following registration, in accordance with article 39, no. 1, of the CPPT, that is, on 23.11.2018. Therefore, the 15-day period for exercising the right to hearing began on 24.11.2018 and ended on 10.12.2018, counted in accordance with article 279 of the Civil Code, ex-vi article 57, no. 3 of the LGT, and the decision was issued on 12/12/2018, respecting the legal time limit for exercising the right to hearing. Thus, on this matter, the Tax Authority's position that the Claimant's right to hearing was not violated should be considered well-founded.
2.4.2. Acquisition Value
  1. The second issue concerns the determination of the acquisition value, for the purpose of taxation of capital gains, of property acquired through the exercise of a purchase option right at the end of a financial leasing contract. In the specific case, capital gains tax was assessed, in the context of Personal Income Tax (IRS), relating to the year 2016, in the amount of € 12,168.21 (obtained by deduction of reimbursement) due to the disposal, by the Claimant and his brother, of the unit subject to a financial leasing contract whose contractual position had been assigned to their father by virtue of his death. At issue is the interpretation to be given to article 46, no. 5, of the IRS Code, which provides:

"In cases of real property acquired through the exercise of the purchase option right at the end of the financial leasing contract, the acquisition value is considered to be the sum of the capital included in the rent paid during the term of the contract and the value paid for the exercise of the purchase option right, excluding any expenses whatsoever."

  1. The answer to the question at hand is first addressed to the figure of the assignment of contractual position. The Supreme Court of Justice has pronounced on this matter in the sense that such assignment, defined in article 424 of the Civil Code (CC), involves a substitution of subjects on one side of a contractual relationship, a subjective modification in a contractual relationship. This relationship, however, remains the same. Thus, the contractual relationship that existed between the assignor and the obligor is the same as that of which the assignee becomes subject, after the new transaction, provided that the substitution of the assignor by the assignee has the consent of the obligor.

  2. The assignment of contractual position presupposes a clear distinction between two contracts: the base contract, or original contract, originally entered into between the assignor and the obligor, and the contract-instrument of assignment of contractual position. In the case sub judice, the base contract is the financial leasing contract, entered into on 26.05.1999, between lessor C... and lessee D.... From it results the collection of rights and obligations that constitutes the object of the assignment of contractual position.

  3. For its part, the contract-instrument of assignment corresponds, in the specific case, to the contracts of assignment of contractual position carried out subsequently in favor of one of the sub-lessees, E..., and, later, of F.... Through them, the transmission of one of the positions derived from the base contract, that of lessee, successively occurred. In any event, this latter contract, the base financial leasing contract, remains in force, with only the subjective alteration in one pole of the legal relationship.

  4. Beyond the contracts of assignment of contractual position, it is important to have in mind, in the specific case, a situation of transmission mortis causa of the contractual position of F... to the Claimant and his brother, in their capacity as heir children. The transmission by death of the financial leasing contract is governed in article 11, nos. 2 and 3, of the Regime of the Financial Leasing Contract (RJCLF). It therein admits the transmission by death of the contractual position in financial leasing contracts concerning property that is not equipment, on the same terms as the lease, if the lessor does not oppose it by proving that the cessionarie lessee does not offer sufficient guarantees for the performance of the contract.

  5. This legal referral to the lease regime requires that consideration be given to the provisions of article 1051, paragraph d), of the CC, which establishes the rule of termination of lease contracts by death of the lessee, except by written agreement to the contrary (art. 1059, no. 1). However, in the case of lease for housing, the exceptional regime established in articles 1106 and 1107 of the CC applies, which, among other things, permits the transmission of the lease to a person (e.g., relative) who lived in common household economy with him for more than one year. In accordance with no. 3 of article 1106 of the CC, "If there are several persons with a right to transmission, the lessee's position is transmitted, in equal circumstances, successively to the surviving spouse or person living in a de facto union with the deceased, to the nearest relative or in-law or, among these, to the oldest or oldest among the remaining persons who with him resided in common household economy." This provision establishes a hierarchy of beneficiaries of the right to transmission of the lease, based on a priority rule similar to that fixed in article 2134 of the CC for the classes of successors (art. 2133 CC).

  6. This regime applies, by force of article 11, no. 2, of the RJCLF, to financial leasing contracts, thus admitting the transmission of the contractual position by death in the case of property leased for housing, as was the case at hand. The present proceedings are not concerned with the analysis of this transmission. The same is given by the parties in the proceedings as validly carried out, having been accepted by the lessor – who at no time opposed it and whose interest article 1051, paragraph d) of the CC is intended to safeguard – by the heir cessionarie lessees (i.e., Claimant and brother) and never having been challenged by the Tax Authority.

  7. Article 11, no. 4, of the RJCLF provides that "The financial leasing contract subsists for all purposes in the transmissions of the contractual position of the lessor, with the acquirer occupying the same legal position as his predecessor." Following this guidance, article 14, no. 2, of the Financial Leasing Contract at hand prescribes that "the assignment shall include the transfer to the assignee of the benefit of the purchase option." This aspect – the subsistence of the base financial leasing contract despite successive assignments of contractual position – is of great importance, making it clear that the Claimant and his brother did not acquire gratuitously any real rights over property upon the death of their father, but only a contractual position in a financial leasing contract in which the same assumed the position of lessee.

  8. The requirement of consent of the obligor (in this case, lessor) in the assignment of contractual position makes full sense in the specific case of the financial leasing contract. In this type of contract, one of the obligations of the lessee consists in "Not providing to another the full or partial enjoyment of the property through the onerous or gratuitous assignment of its legal position, sub-leasing or loan, except if the law permits it or the lessor authorizes it."

  9. We are here faced with a contract intuitu personae that requires, in particular, an assessment of the credit risk concretely existing, that is, the financial capacity of the lessee. Now, at no time did the lessor manifest any opposition to the various assignments of contractual position that occurred. On the contrary, it was the active participation of the lessor that made its realization possible.

  10. The permanence in force of the financial leasing contract despite the occurrence of various transmissions of the contractual position is of the greatest relevance for the interpretation and application of article 46, no. 5, of the IRS Code, which provides that "in cases of real property acquired through the exercise of the purchase option right at the end of the financial leasing contract, the acquisition value is considered to be the sum of the capital included in the rent paid during the term of the contract and the value paid for the exercise of the purchase option right, excluding any expenses whatsoever."

  11. The contract whose term is at issue, in article 46, no. 5, of the IRS Code, for purposes of calculating the sum of the capital included in the rent paid, is the base contract, namely, the financial leasing contract originally entered into between C... and D.... This contract remained in force even after the transmission of the contractual position, successively, to E..., to F..., and, mortis causa, to their respective children.

  12. Taking into account the fact that the financial leasing contract remains in force even with the assignment of contractual position, the literal wording of article 46, no. 5, of the IRS Code, in speaking of "the capital included in the rent paid during the term of the contract," permits the conclusion that, when the Claimant and his brother exercise the purchase option right, the acquisition value must account, not only for the residual value paid at that time, but also for the sum of the capital included in the rent paid during the term of the base financial leasing contract, that is, from 1999 onwards.

  13. Article 46, no. 5, of the IRS Code speaks of rent paid over the term of the financial leasing contract, which remains in force independently of the existence or non-existence of an assignment of contractual position, and not of the rent paid by the assignee who exercises the purchase option right for the residual value. In other words, there is nothing, in the literal wording of article 46, no. 5, of the IRS Code, that points to the need for the Tax Authority to distinguish between cases in which there was no assignment and cases in which there was an assignment of contractual position. The text is clear. For the determination of the acquisition value of the property by purchase option in a financial leasing contract, what matters is the residual value and the sum of the capital included in the rent paid over the term of the contract. The indifference of article 46, no. 5, of the IRS Code, to the possible occurrence of one or more assignments of contractual position is all the more significant since it is certain that this is a very frequent occurrence in financial leasing contracts, even promoted as one of the advantages of resorting to this contract compared to the immediate option for a purchase and sale contract and the use of mortgage credit.

  14. The consideration of the rent paid over the term of the financial leasing contract for purposes of determining the acquisition value of the property acquired through the exercise of a purchase option, in addition to resulting from the nature and structure of the assignment of contractual position, is compatible, to a large extent, with the principle of tax neutrality. This principle concentrates on the notion that, when a tax system has the potential to distort economic decisions, taxation can adversely affect investment decisions and result in inefficient economic decisions. The concept of tax neutrality refers to a tax system that does not influence personal and financial choices and does not favor some taxpayers in the choice of a particular investment over others in an economically equivalent situation. This principle is inseparable from the fiscal objective of promoting socially relevant investment (article 7 of the LGT).

  15. Taking as a starting point the principle of tax neutrality, even recognizing that it is not an absolute principle, it would be said that, if a financial leasing contract identical to the one at issue in the proceedings had been entered into (e.g., duration, property value, rent, residual value) without any assignment of contractual position occurring and the purchase option right had also been exercised at the end of the contract term, the acquisition value of the property by the lessee, for purposes of taxation of capital gains, would be the sum of the residual value plus the sum of the capital included in the rent paid, in accordance with article 46, no. 5, of the IRS Code. Even for situations prior to the entry into force of this provision, the Administrative Court of Appeal (STA) already held that in the case of acquisition of property at the end of a financial leasing contract, not only the residual value but also the value of rent paid over the agreed period should be taken into account, having precisely mobilized the principle of tax neutrality.

  16. In its argument, the STA drew attention to the fact that, in accordance with article 10, no. 14, of the Code of the Municipal Tax on Real Property Transfers (CIMT), the value of real property or the right to surface constituted over leased property, acquired by the lessee, through a purchase and sale contract, at the end of the term of the financial leasing contract and under the conditions established therein, would be the residual value determined or determinable, in accordance with the respective contract. For the STA, this solution results from the application of the principle of tax neutrality in the context of the Transfer Tax, since, from the point of view of the economic substance of the transaction, the lessee has already borne the Transfer Tax paid by the lessor upon acquisition of the property, notably because the value of that tax was passed on by the same lessor in the value of the rent paid by it. Thus, the consideration of the residual value for purposes of Transfer Tax is understandable.

  17. For the same reasons, when there is an assignment of contractual position, whether it is one or more assignments, the acquisition value of the property ultimately acquired, for the lessee assignee who exercises the purchase option right for the residual value, could scarcely fail to be the same as the acquisition value for that lessee who at no time assigns its contractual position to a third party, applying, in either case, the provisions of article 46, no. 5, of the IRS Code. This is the case because, in principle – disregarding possible situations of the existence of a relationship of special proximity between assignor and assignee – the assignment of contractual position will be an onerous transaction, which – to the extent that this is possible given market conditions – will take into account the value of the capital included in the rent paid to the lessor by the assigning lessee up to the moment of assignment of the contractual position. Moreover, it is possible that, particularly due to the appreciation of the property, the assigning lessee obtains, at the time of assignment of the contractual position, a pecuniary gain exceeding the amount of the rent paid by it to the lessor up to that point, in which case article 10, no. 1, paragraph d) of the IRS Code subjects to taxation the capital gains resulting from the onerous assignment of contractual positions or other rights inherent to contracts relating to real property.

  18. In that case, if the price paid by the assignee is taken into account for the determination of the capital gains of the assignor, it would be improper if it were not taken into account for the determination of the acquisition price of the assignee when the latter, later, in two differentiated moments, exercises the purchase option and sale of the property and subsequent disposal. Thus, it makes full sense, in general terms, the solution contained in article 46, no. 5, of the IRS Code, which considers acquisition price the sum of the capital included in the rent paid during the term of the financial leasing contract and the residual value paid for the exercise of the purchase option, excluding any expenses whatsoever, without distinguishing whether or not there was an assignment of contractual position. Such a solution serves the economic objective of reducing transaction costs, favoring decision-making based on criteria of economic rationality, guaranteeing any lessee, whether initial or assignee, the same acquisition value for the purpose of taxation of capital gains in the case of subsequent disposal of the property, without prejudice to the taxation of any capital gains of the assignor that may arise.

  19. In accordance with the principle of tax neutrality, it would not be permissible for the lessee to see its position substantially worsened, upon the sale of the property, compared to the property owner who has acquired the property without resorting to the financial leasing regime. Similarly, in light of the same principle, it is not permissible for the lessee assignee – who has onerous acquired its contractual position – to see its position worsened upon the disposal of the property compared to the initial lessee who maintained its contractual position throughout the term of the financial leasing contract. If that were to happen, the fiscal norms would be aggravating transaction costs and actively interfering in the decisions of economic agents and individuals.

  20. It is true that in the present case, so far as can be deduced from the record, the assignments of contractual position were made gratuitously, apparently without any counterparts. This, without prejudice to the fact that the first assignee, E..., is referred to, from the beginning, in the financial leasing contract as a sub-lessee of the company D..., before the assignment of the contractual position, presumably paying rent to the lessee. For its part, the second, F..., is a relative of the first, as can be deduced from both of their surnames. The Claimant and his brother received the lessee position by the death of their father.

  21. This reality in no way prejudices the application of article 46, no. 5, of the IRS Code, and the inherent requirement that, in addition to the residual value, the sum of the capital included in the stipulated and paid rent over the term of the financial leasing contract in which the Claimant and brother appear as assignee lessees be computed. Thus it is, because the value of the acquisition of the property for purposes of determining the capital gains resulting from its subsequent disposal can only be determined at the moment of acquisition, and should reflect, in reasonable measure, the value of capital objectively incorporated therein. Being here a tax on capital gains, to be assessed and collected at the time of the disposal of an asset, it is natural that the same takes into account the value of capital objectively incorporated in the asset at the moment of acquisition and disposal.

  22. In the matter of taxation of property by onerous and gratuitous transfers, the reference value is, alternatively, what is contained in the deed or contract or the tax patrimonial value of the property, on the assumption that the same reflect, with sufficient plausibility, the economic substance of the patrimonial reality at hand. For onerous transactions, the Transfer Tax Code considers the greater of the values at issue. The Corporate Income Tax Code refers to the tax patrimonial value in the case of gratuitous transfers. For purposes of taxation of capital gains in cases of gratuitous transfer, the value of zero is never counted as acquisition value, or cost basis, even if someone has received a property gratuitously, referring thereto the tax patrimonial value of the property (cfr. art. 12, no. 1, of the Transfer Tax Code, and art. 13 of the Corporate Income Tax Code, 45, no. 1st paragraph a) and 46, no. 1, of the IRS Code). In such situations, the acquisition value, to be subtracted from the disposal value, is the tax patrimonial value of the property, with the cost basis being adjusted so as to approximate it to the market value, or fair value, in the logic of the so-called stepped-up basis rule.

  23. In the case at hand, the property in question was not acquired by the Claimant and his brother through gratuitous transmission mortis causa by the death of the father, with only a transmission to them of a contractual position with a purchase option occurring, which, moreover, might not have been exercised by the assignees. However, it was not this contractual position that was disposed of by both, but rather the property in question. And this would only be acquired later through the exercise of the purchase option, for the residual value, inscribed in the financial leasing contract, through the execution of a purchase and sale contract.

  24. For these reasons, article 45, no. 1, of the IRS Code, on the acquisition value gratuitously, which determines that:

"For the determination of gains subject to IRS, the acquisition value is considered, in the case of property or rights acquired gratuitously: a) The value that was considered for purposes of deed tax assessment; b) The value that would serve as the basis for deed tax assessment, if such tax were due."

The same applies to the norm of article 13, no. 1, of the Corporate Income Tax Code, which, in the gratuitous transfers of real property, determines the consideration of the respective "tax patrimonial value contained in the register in accordance with the ICS Code at the date of transfer." In any case, this solution shows that even here a successor who inherited a property at zero cost and subsequently disposed of it would never be called upon to pay capital gains based on the difference between zero and the disposal value, in no way being able to mobilize the principles of IRS personalization and taxpaying capacity to justify such a result, absolutely disproportionate. If it is true that the IRS Code intends to tax capital gains, it is also true that such gains must be calculated on the basis of the economic and patrimonial substance of the transactions at hand.

  1. The non-application, in this context, of article 45, no. 1, of the IRS Code, and of article 13, no. 1, of the Corporate Income Tax Code, is due, in the first place, to the fact that the rights inherent to the contractual position acquired mortis causa by the Claimant and his brother were not disposed of by them under conditions potentially generating capital gains. Neither of them proceeded to an onerous assignment of the contractual position that had been transmitted to them by the death of the father. Secondly, these norms are also not applicable because the property disposed of, whose acquisition and disposal value serves as the basis for the calculation of capital gains, was not acquired gratuitously, but rather onerous, through payment of the residual value, by purchase and sale contract entered into at the end of the financial leasing contract. In other words, neither the contractual rights acquired gratuitously by the Claimant and brother were disposed of by them, nor was the property disposed of by both acquired onerous. There is, therefore, no room for the application of the norms on gratuitous transfers contained in articles 45, no. 1, of the IRS Code and 13, no. 1, of the Corporate Income Tax Code.

  2. In the view of this Tribunal, there is no plausible reason to disregard the application of article 46, no. 5, of the IRS Code, understood as containing the requirement that, in cases of real property acquired through the exercise of the purchase option right at the end of the financial leasing contract, the acquisition value be considered to be the sum of the capital included in the rent paid during the term of the contract and the value paid for the exercise of the purchase option, excluding any expenses whatsoever. It reflects, with sufficient objectivity and plausibility, the value of capital substantially incorporated in the property over the term of the contract, preventing the occurrence of situations of materially unequal and disproportionate taxation – considering acquisition values far below the tax patrimonial value of the property – which, as they could severely affect the principle of horizontal fiscal justice, in the case of taxpayers placed in practically equivalent economic situations, would be irremediably struck by unconstitutionality. In addition to the fact that the literal wording of article 46, no. 5, of the IRS Code does not distinguish between cases in which there has or has not been an assignment of contractual position – despite the normalcy of its occurrence in the case of financial leasing contracts – the normative solution that the same has underlying, of approximation of the acquisition value to the fair market value of the property, is systemically consistent with the legal reality of the maintenance of the base contract's validity in the case of assignment of contractual position. Moreover, it is presented, to a large extent, compatible with the principle of tax neutrality – following an orientation substantially closer to the logic of the stepped-up basis rule generally applicable in the case of gratuitous transfer of real property – although it is granted that this compatibility and this principle are not necessarily absolute in all cases.

  3. On the other hand, article 8, no. 1, of the LGT establishes that "are subject to the principle of tax legality the incidence, the rate, tax benefits, the guarantees of taxpayers, the definition of tax crimes and the general regime of tax contraventions." In accordance with the principle of tax legality, which is a sub-principle of the principle of legality of administration, inherent to the principle of the rule of law, the Tax Authority is subject to the law, and it is not incumbent upon it to derogate by interpretive means legal norms in terms that are reflected in the incidence of the tax. Furthermore, such conduct on the part of the Tax Authority would generate strong instability and uncertainty in tax matters, potentially undermining the principles of tax equality and legal certainty and protection of citizens' confidence. When creating legal norms of a fiscal nature, the legislator frequently has in mind to weigh and harmonize fiscal, economic and social objectives and interests, in terms that, being naturally changing in the face of changing circumstances and conceptions, should not be undermined by hermeneutic and methodological readings of a strictly administrative-tax nature, which consist, objectively, in the substitution of the broader valuations of the legislator for the more restricted objectives of the Tax Administration.

  4. The solution put forward, not being in any way the only conceivable one in the abstract, points, in the specific case, in the direction of the consideration as acquisition value, not simply the residual value, or the residual value plus the rent paid by the Claimant, or the residual value plus the rent paid by the claimant and his father, or the tax patrimonial value of the property at the moment of acquisition or the latter value plus the residual value paid by the Claimant in the purchase of the property, but rather, and in totality, as provided in article 46, no. 5, of the IRS Code, "the sum of the capital included in the rent paid during the term of the contract and the value paid for the exercise of the purchase option, excluding any expenses whatsoever." This is a solution which, in addition to resulting from the literal, systematic and teleological interpretation of the provision in question, appears systemically consistent, in the present legal-normative framework, by approximating the acquisition value of the property to fair market value, preventing significant injuries to the principle of horizontal equity, which is a sub-principle of the principles of equality and fiscal justice. In the specific case, as results from the information of C..., the value of the sum of the capital included in the rent paid during the term of the contract and the value paid for the exercise of the purchase option equals the initial value of the contract, which was € 103,368.41, this being the acquisition value that should be considered, with half of that value going to the Claimant, that is, € 51,684.20.

2.5. Compensatory Interest

  1. The Claimant formulates a request for reimbursement of the amounts collected by the Tax Authority, as well as for payment of compensatory interest. In accordance with what is provided in paragraph b) of article 24 of the RJAT, the arbitral decision on the merits of the claim as to which there is no appeal or challenge binds the Tax Authority from the end of the period provided for appeal or challenge, and the latter must, in the exact terms of the procedural success of the arbitral decision in favor of the taxpayer and until the end of the period provided for the spontaneous execution of decisions of the courts of judicial tax proceedings, "re-establish the situation that would exist if the tax act which is the object of the arbitral decision had not been taken, adopting the acts and operations necessary for that purpose," in accordance with the provisions of article 100 of the LGT [applicable by force of the provisions of paragraph a) of no. 1 of article 29 of the RJAT] which establishes that "the tax administration is obliged, in case of total or partial success of a complaint, judicial challenge or appeal in favor of the taxpayer, to immediately and fully restore the legality of the act or situation which is the object of the dispute, including the payment of compensatory interest, if appropriate, from the end of the period of execution of the decision."

  2. Notwithstanding article 2, no. 1, paragraphs a) and b), of the RJAT using the expression "declaration of illegality" to define the competence of the arbitral tribunals functioning in CAAD, not making reference to condemnatory decisions, it has long been understood that it encompasses in its competences the powers that in judicial challenge proceedings are attributed to the tax courts, this being the interpretation that is in tune with the sense of the legislative authorization on which the Government based itself to approve the RJAT, in which it is proclaimed, as the first guideline, that "the tax arbitration process must constitute an alternative procedural means to the judicial challenge process and to the action for the recognition of a right or legitimate interest in tax matters."

  3. Despite being, essentially, a process of annulment of tax acts, the challenge process admits the condemnation of the Tax Authority to pay compensatory interest, as can be inferred from article 43, no. 1, of the LGT, in which it is established that "compensatory interest is due when it is determined, in administrative complaint or judicial challenge, that there was error attributable to the services as a result of which the tax debt was paid in an amount greater than legally due" and from article 61, no. 4, of the CPPT (in the wording given by Law no. 55-A/2010, of 31 December, to which corresponds no. 2 in the original wording), which states «if the decision that recognized the right to compensatory interest is judicial, the payment period is counted from the beginning of its spontaneous execution period». In accordance with no. 5 of this same article, "Interest is counted from the date of the undue payment of the tax until the date of processing of the respective credit note, in which they are included."

  4. Thus, no. 5 of article 24 of the RJAT, in saying that "payment of interest, regardless of its nature, is due in accordance with the terms provided in the general tax law and in the Code of Tax Procedure and Process," should be understood as allowing the recognition of the right to compensatory interest in the arbitration process. This understanding follows from the principle of effective judicial protection and the corresponding expansion of the power-forming powers of administrative and tax jurisdiction. Therefore, the Claimant has the right to be reimbursed for the tax paid and compensatory interest by virtue of the aforementioned articles 24, no. 1, paragraph b), of the RJAT and 100 of the LGT, as this is essential to "re-establish the situation that would exist if the tax act which is the object of the arbitral decision had not been taken."

  5. In the case at hand, what is at issue is the illegal assessment of capital gains tax based on the determination of the acquisition value of a property acquired at the end of a financial leasing contract based on the sum of the residual value paid in the exercise of the purchase option and the rent paid by the assignee, and not "the sum of the capital included in the rent paid during the term of the contract and the value paid for the exercise of the purchase option, excluding any expenses whatsoever," as results from the literal wording of article 46, no. 5, of the IRS Code, interpreted also in light of its systemic congruence with the logic of the assignment of contractual position and with the principle of tax neutrality. The solution put forward by the Tax Authority, by allowing a substantial departure from the tax patrimonial value of the properties and their economic substance – relevant even in the taxation of capital gains generated by the disposal of properties acquired gratuitously – is potentially capable of generating situations of materially disproportionate and discriminatory taxation, before taxpayers placed in economically equivalent situations, in constitutionally inadmissible terms.

3. DECISION

The following decision is rendered in this Arbitral Tribunal:

Annul the Personal Income Tax (IRS) assessment for 2016 with no. 2018... and order the reimbursement to the Impugner of the amount of € 12,168.21, plus compensatory interest from the date of payment.

4. VALUE OF THE CASE

The value of the case is fixed at € 11,071.94, in accordance with article 306, no. 1 of the Code of Civil Procedure and 97-A, no. 1, a), of the Code of Tax Procedure and Process, applicable by force of paragraphs a) and b) of no. 1 of article 29 of the RJAT and no. 2 of article 3 of the Regulation of Fees in Tax Arbitration Proceedings.

5. COSTS

The arbitration fee is fixed at € 918.00 to be borne by the Respondent in accordance with articles 12, no. 2, and 22, no. 4, both of the RJAT, and article 4, no. 4, of the Regulation of Fees in Tax Arbitration Proceedings and the Table I attached to the same.

Notify accordingly.

Lisbon, 26 September 2019

The Arbitrator

Jónatas E. M. Machado

Frequently Asked Questions

Automatically Created

How is the acquisition value of a property determined for IRS purposes when purchased through a financial leasing (locação financeira) contract?
For IRS purposes, when property is acquired through financial leasing (locação financeira), the acquisition value is generally determined by the residual value paid upon exercising the purchase option at the end of the leasing contract. According to the Tax Authority's position in this case, only the final payment made to acquire ownership (the residual value of €9,975.96) constitutes the acquisition value, not the initial leasing value or rental payments. However, taxpayers may argue that capital amortization portions included in rental payments should also be considered part of the acquisition cost, though this requires proper documentation and proof.
What are the IRS tax implications of assigning a contractual position (cessão de posição contratual) in a financial leasing agreement in Portugal?
When a contractual position in a financial leasing agreement is assigned (cessão de posição contratual), the IRS implications depend on whether the assignee later exercises the purchase option. The assignment itself transfers rights and obligations under the contract. For capital gains calculation purposes, the key issue is determining what acquisition costs the final purchaser can claim. Portuguese tax law generally does not permit taxpayers to include expenses incurred by previous contractual position holders (assignors) in their own acquisition value. Only costs directly incurred by the taxpayer claiming the deduction are typically deductible, though inheritance situations may present exceptions.
Can a taxpayer challenge an IRS tax assessment related to property capital gains through CAAD tax arbitration?
Yes, taxpayers can challenge IRS assessments related to property capital gains through CAAD (Centro de Arbitragem Administrativa) tax arbitration. However, they must first exhaust administrative remedies by filing a gracious complaint (reclamação graciosa) with the Tax Authority. Only after receiving an unfavorable decision on the administrative complaint, or if the statutory deadline passes without decision, can the taxpayer request arbitration at CAAD. The arbitration request must be filed within 90 days of notification of the administrative complaint decision or from the expiration of the legal deadline for such decision, in accordance with the RJAT (Regime Jurídico da Arbitragem Tributária).
How does Portuguese tax law treat the transfer of property acquired under a leasing contract for capital gains tax calculation?
Portuguese tax law treats property acquired under a leasing contract by considering the acquisition value as the amount paid to exercise the purchase option (residual value) at the end of the contract term. For capital gains tax calculation under IRS, this residual value becomes the base acquisition cost. The sale price minus the acquisition value (residual value paid) and deductible expenses determines the taxable capital gain. Taxpayers cannot generally include rental payments made during the leasing period unless they can prove these payments contained capital amortization components and that they personally made these payments. Proper documentation is essential to support any claimed acquisition costs beyond the residual value.
What is the process for filing a gracious complaint (reclamação graciosa) before submitting a request for tax arbitration at CAAD?
The process for filing a gracious complaint (reclamação graciosa) before CAAD arbitration requires: (1) submitting the complaint to the Tax Authority within 120 days of notification of the tax assessment being challenged; (2) the Tax Authority must decide within a specific timeframe or the complaint is deemed rejected by administrative silence; (3) the taxpayer must respect the right to prior hearing (audiência prévia) if the Tax Authority issues a draft decision; (4) after receiving the final decision on the gracious complaint, or after the legal deadline expires without decision, the taxpayer has 90 days to request arbitration at CAAD. The arbitration request must identify the contested act, present legal and factual grounds, and specify the relief sought. Payment of the disputed tax is not required to access CAAD arbitration.