Process: 236/2017-T

Date: February 21, 2018

Tax Type: IRS

Source: Original CAAD Decision

Summary

CAAD Arbitral Decision 236/2017-T addresses the critical tax classification issue of income derived from tourist exploitation concession contracts (contrato de cessão de exploração turística) under Portuguese IRS law. Two Irish-resident taxpayers challenged additional IRS assessments totaling €25,703.13 for tax years 2012-2014, following a tax inspection that reclassified their income from Category B (commercial/business income) to Category F (rental/property income). The claimants argued that their tourism exploitation activity constituted an entrepreneurial commercial activity under Article 3(1)(a) and Article 4(1)(h) of the IRS Code, warranting Category B treatment. They contested the Tax Authority's position that their role was merely passive property rental. The case raises fundamental questions about the substantiation requirements for tax inspection reports and the proper classification criteria for tourism-related real estate exploitation. The claimants challenged the lack of adequate reasoning in the inspection report supporting the income reclassification and, subsidiarily, argued that the Tax Authority failed to consider all deductible expenses under Category F. This decision provides important guidance on distinguishing between active commercial exploitation of tourist properties versus passive rental arrangements, the evidentiary standards required in tax inspection procedures, and the rights of non-resident taxpayers to access Portuguese tax arbitration. The case demonstrates CAAD's jurisdiction over non-resident taxpayers and establishes precedent for evaluating the nature of tourism exploitation contracts in determining proper IRS income categorization.

Full Decision

ARBITRAL DECISION

I. Report

A… and B…, taxpayers with numbers … and …, both residents in …, …, Ireland (hereinafter referred to as claimants) submitted, on 04/04/2017, a request for constitution of a single arbitral tribunal, pursuant to the combined provisions of articles 2 and 10 of Decree-Law no. 10/2011, of 20 January (Legal Regime of Arbitration in Tax Matters, hereinafter referred to only as RJAT), in which the Tax and Customs Authority (hereinafter referred to as respondent or AT) is required. The arbitral request has as its object the challenging of the additional IRS tax assessments, relating to the years 2012, 2013 and 2014, issued as a result of a prior inspection procedure that determined corrections to the taxable income of the years in question. The total amount corresponding to the assessments challenged is €25,703.13.

The request for constitution of the arbitral tribunal was accepted by the President of the CAAD on 05/04/2017 and, on the same date, was notified to the Tax and Customs Authority. Pursuant to the provisions of paragraph a) of no. 2 of article 6 and paragraph b) of no. 1 of article 11 of the RJAT, on 5/06/2017, the Ethics Council designated the undersigned as arbitrator of the single arbitral tribunal, who communicated acceptance of the appointment within the legally prescribed period, and notified the parties of this designation. These accepted the designation of the indicated arbitrator, whereby, in compliance with the provisions of paragraph c) of no. 1 of article 11 of the RJAT, the arbitral tribunal was constituted on 22–06–2017.

On 23-06-2017 an arbitral order was issued, pursuant to article 17 of the RJAT, and, accordingly, the AT was notified to submit its Response. On 02-08-2017 the Claimant joined to the case file documents nos. 10 to 11, referenced in the PI and on 02/10/2017 came to request the joining of the Concession Agreement for Tourism Exploitation.

On 13-09-2017 the AT submitted its Response, which is hereby given as fully reproduced, and joined the respective Administrative Proceeding (PA).

On 30-10-2017 an arbitral order was issued, considering what was requested by the AT in its response, notifying the Claimant to pronounce itself on the respondent's dispensation with the holding of the meeting provided for in article 18 of the RJAT, on the opportunity of producing testimonial evidence and, if affirmative, to indicate the factual matters to be examined from the witnesses. Within the fixed period, the Claimant manifested its interest in producing the indicated testimonial evidence and indicated the factual matters for examination.

By arbitral order of 16/10 the date of 06/11/2017 was fixed for the holding of the meeting provided for in article 18 of the RJAT, intended for the production of testimonial evidence, arguments and subsequent proceedings. On 19/10/2017 the Claimant submitted a request, with the agreement of the respondent, to the effect that the scheduled date for the meeting be postponed, moving to 21/11/2017, alleging that the witnesses, all residents in the Algarve, were indicated in other proceedings ongoing at the CAAD, whose examination was already scheduled for 21-11-2017, whereby, in this manner they would be heard in all proceedings, on the same date, avoiding future trips. In accordance with this, the arbitral tribunal issued an order on 24-10-2017, rendering the first fixed date for the diligence without effect, which was scheduled for 21-11-2017, as requested.

On 21-11-2017, at 14 hours, the meeting provided for in article 18 of the RJAT was held at the CAAD, the witnesses indicated by the Claimant were heard, namely: C… and D…, who gave their testimony. The claimant presented and requested the joining to the case file of a set of documentation relevant to the knowledge of the matter under discussion in the case, as evidenced in the respective minutes, which are hereby given as fully reproduced. The AT did not oppose the joining and waived the period for review. Upon completion of the examination, the parties stated that they preferred to submit written arguments, whereby the tribunal fixed for this purpose a period of equal and successive 15 days. Pursuant to article 21, no. 2 of the RJAT, the tribunal determined the extension of the period referred to in no. 1 of the cited article by two months, counting from the end thereof, taking into account that the proceeding was covered by two periods of judicial vacation and the difficulty of scheduling the meeting. It fixed 22 February as the date for the pronouncement of the arbitral decision.

It further notified the Claimant for payment of the subsequent arbitral fee and requested the parties to send the procedural documents in word format.

The Claimant joined to the case file its arguments on 07-12-2017 and the respondent on 15-12-2017.

The Position of the Claimant:

The Claimants presented this action having as its object the annulment of the following additional IRS assessments:

Additional assessment no. 2016… and respective compensatory interest, relating to the year 2012, in which the amount of €6,857.45 was assessed to be paid;

Additional IRS assessment no. 2016… and respective compensatory interest, relating to the year 2013, in which the amount of €8,643.28 was assessed to be paid;

Additional IRS assessment no. 2016… and respective compensatory interest, issued by reference to the year 2014, in which the amount of €10,202.40 was assessed to be paid, all in the global amount of €25,703.13.

The Claimants do not accept the tax acts identified above, nor the conclusions of the tax inspection procedure underlying them, for which reason they invoked, in summary, within the scope of the present arbitral request and fully demonstrated - as will be evident - the following arguments:

The lack of substantiation of the additional assessments made to the Claimants, due to the lack of substantiation of the Tax Inspection Report, regarding the corrections to the taxable income made to the Claimants;

The illegality of the additional IRS assessments, relating to the years 2012, 2013 and 2014 and respective compensatory interest, due to the fact that the activity exercised by the Claimants corresponds to the exercise of a commercial activity (Category B), pursuant to paragraph a), of no. 1, of article 3 and paragraph h), of no. 1, of article 4 of the IRS Code;

And, subsidiarily,

The partial illegality of the additional IRS assessments, due to the fact that the Tax Administration did not consider all deductible expenses under Category F.

It alleges, in summary, regarding the present case, that it is important that the taxable person recipient of a decision be minimally aware of the decision-making itinerary of the Tax Administration, whereby the violation of these requirements in the decision implies its illegality, grounds for subsequent annulment. It alleges that the Tax Administration understood, without more, that the action of the Claimants, especially of the male Claimant is passive and, for that reason the income he declared as being income of category B should instead be taxed as income of category F.

The Tax Inspection Services, by not sustaining in the Conclusions of the Final Tax Inspection Report, in a clear and unequivocal manner, the facts on which they based themselves to conclude that the income earned by the Claimants was income of Category F of the IRS, did not comply with the legal duty, constitutionally enshrined, of express, clear and complete substantiation of decisions that weigh upon them, and, therefore, the contested tax acts should be annulled.

By considering that the tourism exploratory activity by them exercised and the income generated within that scope were earned within the scope of an entrepreneurial activity (resulting from the exploitation of real estate), the Claimants treated the same within the scope of Category B of the IRS, by virtue of the principle of the preponderance of this Category in relation to income that falls within other categories of income, but that are obtained in connection with an entrepreneurial activity (in the case, a commercial activity of tourism exploitation).

Thus, according to the Claimants, the Tax Inspection Services understood that the income declared by the Claimants with reference to the years 2012, 2013 and 2014, were not income of category B, but rather of category F, because "(…) the owners had no intervention in obtaining the licensing. In this way the income that the taxable person earns comes from a merely passive manner, as a result of the pursuit of a commercial activity by the company C…", substantiation that appears insufficient.

The claimants further allege that even if it is admitted that the income obtained by the Claimants is indeed income of category F of the IRS Code, the reality is that the taxable income of the Claimant would never be in the amount assessed by the Tax Inspection Services. Contrary to the position assumed by the Tax Inspection Services in the Inspection Report notified to the Claimants and underlying the tax acts contested here, the following should be understood as deductible expenses from Category F income of the IRS: maintenance and conservation expenses relating to cleaning personnel, gardener's salary, electricity, water and gas, costs with house rental with equipment, repairs and paintings, insurance premiums and property administration costs.

The Position of the Respondent:

In the response submitted, which is hereby given as fully reproduced, the Respondent contests the grounds invoked by the Claimant, defends that the assessment acts are sufficiently substantiated and develops a set of arguments in defense of the legality of the assessments challenged and where, fundamentally, replies to the position already expressed by it in the course of the conclusions of the Tax Inspection Report, arguing for the non-verification of the alleged lack of substantiation of the IRS corrections, and for the absence of violation of the presuppositions on which the additional assessment was based, concluding, consequently, for the non-merits of the arbitral ruling request formulated by the Claimants.

It further alleges, in very brief summary, in defense of its position, that the use of the word "exercise" in the wording given to the norm, as opposed to the words used in article 8 of the IRS Code, to define what are income of category F, has underlying the practice of acts with a determined purpose which, in the case, would be that of obtaining profit. That the Claimant acquired a property, for a period of five years, having never practiced any act that indicated a will to exercise some type of exploitation of it, since neither was it at his disposal the possibility of not ceding this exploitation. It adds that the mere act of purchase of a property and its consequent and immediate assignment of exploitation to a third party, have to be subsumed to simple acts of management of particular patrimony, not constituting, in themselves, signs of exercise of activity of exploitation of property by the one who ceded the exploitation. Moreover, from the reading of the concession agreement for exploitation, it results clearly that the Claimant never assumes the functions of responsible for the operation of the accommodation, these functions being assumed by the Manager in its different aspects.

As for the pretension on the part of the Claimant, that all expenses with personnel salaries, cleaning, electricity, gas and water be accepted, since these were not accepted in the analysis effected in the inspection procedure, the Respondent states that, pursuant to article 41 no. 1 of the IRS Code, in the wording in force at the date of the facts, one has to evaluate whether those expenses referred to in abstract by the Claimant (not demonstrated) have the character of conservation and/or maintenance expenses that are incumbent upon the taxable person. The AT understands that the expenses mentioned by the Claimant do not constitute conservation expenses nor, either, maintenance expenses. And, regarding the expenses with salaries and with cleaning, it results from the tenor of the concession agreement that these charges are the responsibility of the Manager which means that they are not the responsibility of the Claimants.

These are, in summary, the arguments of the parties.

It remains to decide.

The arbitral tribunal was regularly constituted and is materially competent, in view of the provisions of articles 2, no. 1, paragraph a), and 30, no. 1, of the RJAT.

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

The proceeding does not suffer from nullities.

II. Factual Matter

With relevance for the decision, the following facts are considered proven:

On 28 August 2007, the Claimants entered into a purchase and sale contract with the company E…, S.A. (NIPC…), having as its object real estate designated "Apartment…", inscribed in the urban property register of the Union of Parishes of … and … under article…, under the letter C, located in the development "Apartments …", from then on being able to be possessors of the same, for all legal purposes (cf. Doc. 4 attached with the PI);

On the same date, the Claimants signed with E… a concession agreement for tourism exploitation of the unit … … identified above, reserving the right to appoint a managing entity, which later came to implement (cf. Clause 2.1. of Document 4 attached with the PI);

On 8 February 2008 the constitutive title of the "Apartments …" was deposited with the then General Directorate of Tourism (cf. Doc. 5 attached with the PI);

On 7 July 2008 a tourism use license for the development "Apartments …" was granted by the Municipal Council of … (cf. Doc. 6 attached with the PI);

Pursuant to the concession agreements for tourism exploitation, attached to the case file, it was established that the tourism exploitation of the unit would be implemented through the services of a managing entity (cf. Clause 2.1. of Doc. 4 attached with the PI);

The managing entity operates the tourist apartments of the unit F… (F…), as appears in the contract attached to the case file, which has responsibility for the provision of all services necessary for effecting this exploitation (cf. Clause 2.1. of Document 4 attached with the PI);

The managing entity (F…) provides all services included within the scope of the contract, on an exclusive basis (cf. Clause 2.1. of Document 4 attached with the PI);

It appears from the terms of the Contract that the Claimants, throughout the duration of the Contract, would not exploit, lease or in any other way make the unit available to third parties in exchange for payment, rent, remuneration or any other means of payment (including non-monetary or gratuitous character), nor disclose, by themselves or by third party, the unit as being, among others, available for occupation (cf. Clause 3.8. of Document 4 attached with the PI);

The following appear as duties of the managing entity (F…) of the tourist apartments:

Administrative management of the Tourism Exploitation Program;

Provision of Property Administration Services;

Provision of Property Maintenance Services;

Provision of Cleaning and Organization Services of the Unit;

(cf. Clause 2.2. of Document 4 attached with the PI)

The managing entity (F…) was obliged to manage the operational aspects (current management) inherent to the tourism exploitation of the apartments, namely the collection of payments due, expenses, management of reserves and determination of rates (cf. Clauses 3.1 to 3.13. of Document 4 attached with the PI);

The manager (F…) is responsible for the services of general administration of the units, being incumbent upon it to define the nature and object of the services to be provided, including accounting, sales and marketing, costs of travel agencies and/or commissions of tourism operators and respective expenses incurred, expenses with central services related to the Tourism Exploitation Program and expenses of reception services and other expenses related to it, perform routine maintenance services that may be freely considered necessary by it to keep the units appropriate for guest occupation, namely routine maintenance, such as changing bulbs, unclogging toilets, restoring/connecting circuits, and maintenance of gardens and landscape (cf. Clauses 4.1. and 5.1 of Document 4 attached with the PI);

It further results from the contract attached to the case file that, within the scope of the services of general administration of the units, the manager (F…) would have responsibility for cleaning and organization services of the units, namely, to provide household items and cleaning of the units, empty the trash, change towels, kitchen cloths and bedding, daily organization of the kitchen, dining and living rooms, bathrooms and bedrooms, cleaning after guest departure and an annual deep cleaning of the interior of the Units (cf. Clause 6.1 and Document D of Document 4 attached with the PI);

As consideration for all these services provided by the managing entity (F…), it receives remuneration corresponding to 25% (twenty-five percent) of the Gross Revenue of Tourism Exploitation, or any other percentage that may be agreed periodically between the manager and the male Claimant and the female Claimant (depending on the year in question) (cf. Clauses 2.3. and 7. of Document 4 attached with the PI);

The managing entity (F…) was responsible for the carrying out of acts of current management;

Still pursuant to the Contract attached to the case file the Claimants are responsible for the charges and expenses, pending or due, related to the Unit, including any taxes and charges collected by creditors or suppliers, namely, condominium charges, management costs and reserves, insurance premiums, auditor fees, telephone bills and other expenses and all costs with basic services (electricity, oil, gas, water) - (cf. Clause 4.4. of Document 4 attached with the PI);

The Claimants paid for the equipment and furniture for the Unit, equipping it with the standard furniture package, which represented an expense of €67,760.00 (cf. Clause 3.12. of Document 4 attached with the PI);

The manager (F…) was obliged to provide a monthly account report to the Claimants, within a period of 15 (fifteen) days from the end of the month in question, in addition to an annual audited report (report) of the Claimants' account; (cf. Clauses 11.1. and 11.2. of Document 4 attached with the PI);

Since 26 January 2012, the female Claimant has been engaged in the activity of tourism apartment exploitation, being registered for this purpose with CAE 55123 "tourist apartments without restaurant" and placed in the normal regime of quarterly periodicity in VAT and in the organized accounting system regime, by choice, under IRS (Category B) (cf. Document 3 attached in the arbitral meeting);

The male Claimant was registered for the exercise of the activity with CAE 55123 "tourist apartments without restaurant" and placed in the normal regime of quarterly periodicity in VAT and in the organized accounting system regime, by choice, under IRS (Category B), between 30 June 2008 and 31 August 2012, the date on which he ceased his activity (cf. Documents 1 and 2 attached in the arbitral meeting);

The property in question is assigned to "Services" (cf. Document 4 attached in the arbitral meeting);

With reference to the years 2012, 2013 and 2014, the Claimants jointly filed their income return Form 3 of IRS, from which resulted the respective tax assessments. (cf. tenor of the Inspection Report – Doc. 9 attached to the PI);

The Claimants were subsequently subject to a tax inspection procedure, directed to the analysis of the declarations made under IRS with reference to the years 2012, 2013 and 2014, in compliance with the Service Order no. OI2016…/ OI2016…/ OI2016…, of 10 August 2016, having been notified of the Draft Inspection Report, through Official Letter no. …, dated 4 October 2016 (cf. Doc. 7 attached with the PI);

The following facts are proven by documents presented at the meeting held on 21-11-2017:

Beginning of activity of the male Claimant, on 30.06.2008 as being classified with CAE 55123 "tourist apartments without restaurant" and placed in the normal regime of quarterly periodicity in VAT, as well as his declaration of cessation of activity; (cf. Documents 1 and 2 attached in the arbitral meeting);

Beginning of activity of the female Claimant, on 26.01.2012 as being classified with CAE 55123 "tourist apartments without restaurant" and placed in the normal regime of quarterly periodicity in VAT (cf. Document 3 attached in the arbitral meeting);

Description and registration in the urban property register, as per the property register booklet of the property, which proves that it is assigned to "services" (cf. Document 4 attached in the arbitral meeting);

In an identical case, relating to three owners of the same tourism development (G…, H… and I…), from the respective draft inspection report effected, and, as well as, from the final tax inspection report, the AT understood that the classification of the owners in question under Category B was correct (cf. Documents 5, 6, 7, 8, 9 and 10 attached in the arbitral meeting);

The classification of the Claimants - in the normal regime of quarterly periodicity in VAT and, under IRS, in Category B in the organized accounting system regime - as per instructions that the tax representative of the Claimants, heard as a witness, obtained from the Administration as well as from the company that operates the development, as per the position assumed by the IVA Services Directorate in the binding information process no. …, of 09.10.2012 (cf. Document 11 attached in the arbitral meeting);

The same meaning also results from the binding information, from the IVA Services Directorate in which it is stated that the type of business in question configures a "concession for exploitation of an accommodation unit that is part of a tourism development, classified in paragraph c) of the same regulation and, as such, covered by the concept of provision of services, in accordance with paragraph a) of no. 1 of article 1, combined with no. 1 of article 4 of the IVA Code, with the "Remuneration of the Grantor by the grant of the accommodation unit" subject to tax assessment at the rate defined in paragraph c) of no. 1 of article 18 of the said Code" (cf. Document 12 attached in the arbitral meeting);

Following the issuance of Circular no. 5/2013, of 2 July 2013 and already during the course of 2014, the Claimants had access to a binding information, in which the IVA Services Directorate stated that the type of business in question configures a "concession for exploitation of an accommodation unit that is part of a tourism development, classified in paragraph c) of the same regulation and, as such, covered by the concept of provision of services, in accordance with paragraph a) of no. 1 of article 1, combined with no. 1 of article 4 of the IVA Code, with the "Remuneration of the Grantor by the grant of the accommodation unit" subject to tax assessment at the rate defined in paragraph c) of no. 1 of article 18 of the said Code" (cf. Document 11 attached in the arbitral meeting);

In the Draft Inspection Report, corrections to the taxable income of the Claimants were proposed, of €75,889.13 for the year 2012, of €19,189.66 for the year 2013 and, also, of €37,811.16 for the year 2014, due to the reclassification of the income obtained by the Claimants from Category B to Category F, based on the administrative guidance contained in Circular no. 5/2013, of 2 July 2013 (cf. page 22 of Doc. 7 attached with the PI);

The Claimants submitted, on 19 October 2016, their request for prior hearing (cf. Doc. 8 attached with the PI);

The Claimants were subsequently notified of the Final Inspection Report, in which the Tax Inspection Services maintained the corrections to the taxable income as initially proposed (cf. Doc. 9 attached to the initial petition);

In accordance with the conclusions set forth in the Inspection Report, the Claimants were notified of the additional IRS assessments, relating to the years 2012, 2013 and 2014, namely:

Additional IRS assessment no. 2016… and respective compensatory interest, relating to the year 2012, in which the amount of €6,857.45 was assessed to be paid;

Additional IRS assessment no. 2016… and respective compensatory interest, relating to the year 2013, in which the amount of €8,643.28 was assessed to be paid;

Additional IRS assessment no. 2016… and respective compensatory interest, issued by reference to the year 2014, in which the amount of €10,202.40 was assessed to be paid, all in the global amount of €25,703.13.

(cf. Documents 1, 2 and 3 attached with the PI).

On 04-04-2017 the Claimants submitted a request for arbitral ruling, in which they challenge the assessments identified above, and request their annulment.

  1. Unproven Facts

There are no other unproven facts to consider with relevance for the final decision.

  1. Substantiation of the Proven Factual Matter

As regards the factual matter the Tribunal does not have to pronounce itself on everything that was alleged by the parties, it being incumbent upon it, rather, the duty to select the facts that matter for the decision and to discriminate the proven matter from the unproven - (cf. art. 123, no. 2, of the CPPT and article 607, no. 3 of the CPC, applicable by virtue of article 29, no. 1, paragraphs a) and e), of the RJAT).

Thus, the facts relevant to the judgment of the case are chosen and cut out based on their legal relevance, which is established in view of the various plausible solutions of the question(s) of Law (cf. previous article 511, no. 1, of the CPC, corresponding to the current article 596, applicable by virtue of article 29, no. 1, paragraph e), of the RJAT).

Thus, taking into account the positions assumed by the parties, in light of article 110/7 of the CPPT, the documentary evidence and the PA attached to the case file, the facts listed above were considered proven with relevance for the decision.

The proven facts are based on the documentary evidence attached to the case file by the Claimant, confirmed by the administrative proceeding attached by the AT, as specified in the indication of each of the points of the factual matter considered proven. Their authenticity and correspondence to reality were not questioned.

The facts set out in paragraphs g) to p) were further confirmed by the tenor of the testimony of the witnesses heard at the meeting held on 21-11-2017.

III. Matters of Law

  1. The questions under consideration in this request for arbitral ruling are the following:

A) The defect of lack of substantiation of the assessments challenged;

B) The classification and qualification of the category of income in question (category B or Category F of IRS);

C) Subsidiarily, to know whether, if the income described in the case file is considered classifiable as Category F, should the expenses alleged by the Claimant be considered deductible in the respective category.

Having established the factual matter, as stated above, it is important to know the questions of law raised by the parties, starting, necessarily, with the defect of form invoked by the Claimant.

  1. Article 124 of the CPPT provides, applicable by virtue of art. 29, no. 1, paragraph a), of the RJAT, the following:

"1. In the decision, the court will assess defects that lead to the declaration of non-existence or nullity of the impugned act first and, afterwards, the defects argued that lead to its annulment.

  1. In the said groups the assessment of defects is made in the following order:

a) In the first group, that of defects whose merits determine, according to the prudent discretion of the judge, more stable or effective protection of the interests injured;

b) In the second group, that indicated by the appellant, whenever it establishes between them a relationship of subsidiarity and no other defects are argued by the Public Prosecutor or, in the other cases, that fixed in the previous paragraph."

This legal provision establishes a priority for the knowledge of the defects of the impugned act. Thus, should be known, first and foremost, the defects whose merits determine, according to the prudent discretion of the judge, more stable or effective protection of the interests injured, which leads us to question the understanding to be given to this criterion. According to jurisprudence of the Supreme Administrative Court (STA), this principle would lead to giving priority to knowledge of the substantial defects of the act over the formal defects, since the latter do not prevent the renewal of the act, it being certain that this seems to be the understanding that favors the most effective protection of the interests injured.

  1. Citing expressly some jurisprudence of the STA, which synthesizes the understanding of this Superior Court, it follows, among others, from the decision rendered on 17.11.2010, the following: "(…) the jurisprudence of this Supreme Court has repeatedly explained, within the scope of the interpretation of the normative content of the analogous rule contained in article 57 of the LPTA, that although the most effective protection of the interests of the appellant imposes, in principle, the priority knowledge of the substantial defects or of substance in relation to the defects of form, namely the defect of lack of substantiation (since the verification of this does not prevent the renewal of the act with equal legal configuration, naturally purged of the defect that led to the annulment)."

  2. It further results from this jurisprudence of the STA, reaffirmed in many other decisions, that this rule is not absolute, since it can happen that, for example, only the substantiation of the act can reveal substantive defects through the clarification of the factual and legal framework on which the impugned act was based. What is to say that, invoked the defect of lack of substantiation, in the event that this is actually verified, the Court may not be in a position to proceed with the knowledge of the substantive defects, because it does not have all the elements available and essential to do so. The precedence of the defect of form can be justified when the inquiry into the concrete motivation of the act proves indispensable to the control of the substantial defects of the act.

It is concluded, therefore, that the most effective protection of the appellant's interests can pass through the priority knowledge of the defects of form, specifically the defect of lack of substantiation, whenever the discovery of the motivation of the act may offer elements necessary to the judgment of the verification of the substantive defects, which happens whenever there is an absolute lack of substantiation (of fact and/or of law), therefore implying the impossibility of knowledge of the facts on which the act was based and/or its legal framework, preventing the jurisdictional control of the substantive defects.

  1. It is settled that substantiation is a legal requirement, which is imposed for any administrative or tax act, being the tax assessment a type of tax act in relation to which this requirement is imposed with maximum rigor, taking into account the effects it produces in the legal sphere of the taxable person. It is further recalled that it is a constitutional imposition by virtue of the provision in article 268, no. 3, of the Constitution of the Portuguese Republic (CRP), reaffirmed in article 77 of the General Tax Law (LGT). From this latter norm it follows, indeed, that although the duty of substantiation is not limited only to acts unfavorable to the taxpayer, in relation to these greater density is required. It is now settled in both doctrine and national jurisprudence, including arbitral jurisprudence, that the substantiation legally required must have the following characteristics:

a. Officialism: must always proceed from the initiative of the administration, with substantiations not being admissible on request;

b. Contemporaneity: must be contemporaneous with the practice of the act, with substantiations not being able to be deferred or on request;

c. Clarity: must be comprehensible by an average recipient, avoiding polysemic concepts or deeply technical ones;

d. Completeness: must contain all essential elements that were determinative of the decision made, this characteristic unfolding into the duty of justification (legal norms and factuality – domain of legality) and the duty of motivation (domain of discretionality or opportunity, when a valuation is necessary).

  1. The duty of substantiation aims to permit the interested parties knowledge of the reasons that led the administrative or tax authority to act or decide, in order to convince its recipient of the legality underlying it, permitting it to understand its raison d'être. It thus aims to permit that the recipient may, consciously, assess its acceptance or its challenge. This has been asserted incessantly by the jurisprudence of the superior courts, reiterating that substantiation should provide the recipient of the act with the reconstruction of the cognitive and evaluative itinerary traveled by the entity that practiced the act, in order to clearly reveal the reasons that led it to that concrete decision.

  2. Having said this, at the level of the procedure of internal inspection or audit, initiated by the AT, article 63, no. 1, of the RCPIT provides that the tax acts or in tax matters that result from the report may be substantiated on the basis of its conclusions, through adherence or agreement with these, having in all cases the entity competent for their practice to substantiate the divergence from the conclusions of the report. The importance of the factual and legal motivation contained in the tax audit procedure is of fundamental importance, given that this itinerary will later influence the tax decision. That is the raison d'être of the requirement of the audit procedure and the guarantees provided therein, among which stands out the exercise of the right of hearing, which must precede the making of the final decision of the procedure.

  3. Returning to the concrete case, the essential core of the substantiation, with the reference to the legal norms of reference and their interpretation by the AT, by reference to the Tax Inspection Report that served as the basis for the assessments challenged is reproduced with sufficient clarity. One may not agree with the substantiation itself, but the factuality that occurred is reflected in the Inspection Report and as well as the reading that the AT draws from the application of the law to these facts. That is, it is clearly perceptible that the understanding of the AT regarding the correct classification of the income in question led it to qualify them as category F and not B, as appeared in the declaration presented by the Claimants.

From the tenor of the prior hearing, as well as from the challenge contained in the present arbitral request, it is also concluded that the grounds that led to the assessments (rightly or wrongly) were understood with sufficient clarity by the Claimants.

It is not seen, therefore, that there has been non-compliance with the duty of substantiation, provided for in no. 3, of article 268 of the CRP and article 77 of the LGT, regarding the duty of substantiation of the inspection report and the assessment acts. The same is to be said regarding the alleged inconsistency that one may wish to impute to the reading of the law made there, which will have to do with the verification of possible non-conformity with the law, pursuant to paragraph a) of article 99 of the CPPT.

  1. Moving now to the analysis of the defect of violation of law by error as to the factual and legal presuppositions, in light of the proven factual matter, this tribunal understands that the correct qualification of the category of income in issue must take into account the manner in which the income is produced and distributed, to know whether we are dealing with income that should be qualified as category B or category F, both of the IRS.

  2. To this end, the parties appealed to arbitral decisions, and rendered by Superior Courts, concerning identical situations, decided in divergent manner. This demonstrates that the guiding thread for the decision passes essentially through the configuration of each concrete case, in light of the established factual matter. It will be fundamental, therefore, to take into account the terms underlying the obtaining of the income, the concrete conditions in which the same are generated, the responsibilities, control and risk of the business, assumed by the Claimants.

To this end, in light of the established factual matter, there is no doubt that the Claimants controlled and followed the activity, assumed its risk and, within the scope of a tourism exploitation contract had clear expectations of profit with the tourism exploitation of the unit in question. They equally assumed responsibilities for the costs (at least in part) of this exploitation. They therefore ran risks with the business that are not typical of a lease contract or equivalent, as the AT claims, in classifying the income earned as category F.

  1. It is concluded, therefore, in light of the factual matter established in the present case file, in all much similar to that appreciated within the scope of the arbitral proceeding no. 271/2017-T, of 21 November 2017, that "taking into account that the form of organization of the management of tourism exploitation adopted by the Claimants is configured as being the necessary (whether by imposition of law or by will of the parties), by promoting a higher level of income, even if the content of Circular 5/2013, of 02.07.2013, were to be applied to the assessments here in question, in light of the proven factual matter (…), it is not clear that one should conclude that, in this case, the exploitation of the accommodation unit is not done directly by the Claimants (in a way that can be considered as equivalent), since there is a very immediate control (fortnightly) of the holders of the accommodation units over the evolution of revenues and expenses" and that "(…) from the concession agreement for exploitation it does not seem clear that the entire activity of the tourism exploitation of the accommodation unit is entrusted to the managing entity"

  2. It is added to what is stated above, that at the level of the Taxpayer Registration Management System, what stands out from the proven factual matter is that there appear to exist divergences between the IVA Administration Services and the IR Administration Services. In fact, it was proven in the case file, both by document and by the testimony of the witnesses examined, that the AT accepted as correct the registration of activity of the Claimants, and considered them as relevant and appropriate under IVA, in accordance, moreover, with instructions and binding information emanating from the administration itself. This is a relevant and crucial question, because apparently there seems to be divergence in the application of paragraph a) of no. 29) of article 9 of the IVA Code, on the one hand, and of paragraph a) of no. 2 of article 8 of the IRS Code, on the other.

  3. Now, there is no doubt that the AT profiled, at least for a certain period of time, an understanding that led it to accept the classification of the Tax Service where the declaration is presented, considered under IVA that classification as appropriate. The expectation of the Claimants was, naturally, to have a certain tax classification, accepted by the AT, and on that assumption they trusted in the law and in the interpretation then profiled by the AT. And, it is to be said, that what is at stake is not only the confidence of the Claimants but also of all the national economic agents who develop their activity in the area of tourism investment.

By Document no. 9 attached to the case file at the meeting of 21-11-2017 it is concluded that the inspection was ordered as a consequence of the request for VAT refund deducted by the Claimants. What leads us to intuit that the position of the AT regarding the concrete situation of the Claimants was guided by criteria of opportunity or convenience and not of legality. That is, as the Claimants well allege, it is not understood how the same Administration can have a different understanding on the same fundamental question (type of activity and income in question) for purposes of incidence of IVA, on the one hand, and of IR on the other. It is not acceptable that a certain factual situation be classified in category B or F, depending on mere criteria of convenience.

  1. As the Claimants well allege, "the position of the Claimants, regarding VAT, since the IRS Services Directorate had never pronounced itself on the subject before the publication of Circular no. 5/2013 -, was already supported by the IVA Services Directorate in the binding information process no. 3626, of 09.10.2012, in which it is stated that a lease contract with inclusion of services configures "thus, an operation subject to VAT assessment at the rate defined in paragraph c) of no. 1 of article 18 of the said Code" (…)

After the issuance of Circular no. 5/2013, of 2 July 2013 and already during the course of 2014, the tax representative of the Claimants had access to a binding information, in which the IVA Services Directorate stated that the type of business in question configures a "concession for exploitation of an accommodation unit that is part of a tourism development, classified in paragraph c) of the same regulation and, as such, covered by the concept of provision of services, in accordance with paragraph a) of no. 1 of article 1, combined with no. 1 of article 4 of the IVA Code, with the "Remuneration of the Grantor by the grant of the accommodation unit" subject to tax assessment at the rate defined in paragraph c) of no. 1 of article 18 of the said Code" (…)

For a matter of coherence of the system and of good faith action on the part of the AT, it must be concluded that (i) either the income of the Claimants is classified as being entrepreneurial income (Category B) and, as such, is subject to VAT, (ii) or the income of the Claimants is classified as being real estate income and, for that reason, is not subject to VAT, whereby since the AT is one, being the same alien to its (dis)organization internal, the tax treatment to be given to its income - in concrete to the tax facts underlying them - must also be one and coherent, not being able to be used one criterion for the IRS and another criterion for the VAT; (…)"

  1. It is further added that, from the factual matter established in the present case file, it results unequivocally that the property in question was handed over by the Claimants to the managing entity (F…), with the purpose of this assuring its management and exploitation, in the intent to profit from this exploitation. It is a fraction inserted in a development conceived, with a business model thought and structured to promote the exploitation of the development, attracting foreign investment, with a view to obtaining profit and not rent. In fact, a simple and linear analysis of the concession agreement for tourism exploitation attached to the case file makes it possible to conclude that there is no guaranteed rent to the claimants. There is, rather, a will declared and expressed in the contractual clauses of these to profit from the tourism exploitation of that fraction, while an accommodation unit integrated in a tourism development, with occupation effected by third parties under an accommodation regime, within the scope of a hotel activity.

In turn, the Claimants do not receive any rent from the managing entity (F…) as consideration (which results evidenced in the contract), which merely provides a set of services necessary for the exploitation of the properties while accommodation units of a tourism unit. For this provision of services it collects a contractualized value, which the Claimants bear, assuming the risk of being able to gain or lose with the business.

It is further to be noted that the property generating the income was registered in the register, pursuant to article 13 of the IMI Code, considering it assigned to "services" and not to housing in view of the various possibilities of assignment that appear in article 6 of the IMI Code.

  1. In light of what is stated above, and without need for further considerations, this tribunal concludes that the category of income in issue does not meet the presuppositions of real estate income, but rather of entrepreneurial income, whereby they do not fall under category F but rather under category B of IRS. The Claimants are right when they allege that "within the scope of paragraph a) of no. 1 of article 3 of the IRS Code, having the legislator used the expression "activity" without delimiting (restrictively) its extension, it is evident that it intended to include all income obtained, in any way, from the direct exploitation or through the contracting of services to realize the income in question. (…) The term "activity" also comprises the set of operations that have as their purpose the realization of investments and the choice of the appropriate form of management, which in the concrete case becomes even more relevant, considering that the Claimants are non-resident taxable persons."

Also at the level of the classification of the property generating the income is it verified that it was registered in the register pursuant to article 13 of the IMI Code, considering it assigned to "services" and not to housing. This is the understanding appropriate to the necessary compatibility between the VAT and IR regime.

  1. It is further added that, as was stated in the arbitral decision rendered in proceeding 271/2017 –T, the AT, through the IVA Administration Services Directorate, seems to continue to maintain the same classification of the income here in issue: "concession for exploitation of an accommodation unit that is part of a tourism development, classified in paragraph c) of no. 1 of article 18 of the IVA Code and, as such, covered by the concept of provision of services, in accordance with paragraph a) of no. 1 of article 1, combined with no. 1 of article 4 of the IVA Code, with the "remuneration of the grantor by the grant of the accommodation unit" subject to tax assessment at the rate defined in paragraph c) of no. 1 of article 18 of the said Code".

Now, as was rightly decided in this arbitral decision, to whose understanding this tribunal adheres, "this position is only configured, in the analysis of this TAS, consistent with the consideration that it is a matter of income classifiable in no. 1 of article 3 of the IRS Code and in paragraph h) of no. 1 of article 4 of the IRS Code (and paragraph a) of no. 29) of article 9 of the IVA Code), that is, income resulting from a commercial activity, similar to the hotel industry, likely to integrate category B of income in IRS, given that they are earned by individuals.

In fact, it is evident that the Claimants, in light of the proven factual matter, not only acted in good faith and on the basis of a plausible interpretation of the tax law, but acted in accordance with express indications of the AT that bind it (registration in force in the Taxpayer Registration Management System and in accordance with the result of a prior inspection).

A word regarding the manner in which the current management of the Claimants' accommodation unit (and other owners of accommodation units of the development) is organized: through a managing entity, by mandate (as indeed the AT itself classified it).

Naturally, in a tourism development with a large number of accommodation units, with dozens or hundreds of owners of autonomous fractions, the best way to promote the increase in revenues and the decrease in expenses must pass through action together in the exploitation. An owner of a fraction, in isolation, could never obtain so high a degree of occupancy, with quality standards and uniformity, competitive.

Regardless of whether it results from legal or contractual source, the type of organization of the tourism development adopted (current management of the units, together, by a single entity mandated for this purpose) would be the one that could best promote revenues and would allow the optimization of expenses, and could even contribute to an increase in tax revenues, whether they are considered as income of category F or of category B of the IRS.

The form of organization at the level of current management, by itself, does not seem to us to be determinative for purposes of the qualification of an income, in one category or another (rules of subjection to tax) in view of what is stated in no. 3 of article 11 of the LGT, which orders consideration of the economic substance and not the form.

Taking into account that the form of organization of the management of tourism exploitation adopted by the Claimants is configured as being the necessary (whether by imposition of law or by will of the parties), by promoting a higher level of income, even if the content of Circular 5/2013, of 02.07.2013, were to be applied to the assessments here in question, in light of the proven factual matter (point 3 - f) of the established matter), it is not clear that one should conclude that, in this case, the exploitation of the accommodation unit is not done directly by the Claimants (in a way that can be considered as equivalent), since there is a very immediate control (fortnightly) of the holders of the accommodation units over the evolution of revenues and expenses.

On the other hand, from the concession agreement for exploitation, it does not seem clear that the entire activity of the tourism exploitation of the accommodation unit is entrusted to the managing entity."

  1. For all that is stated above, and without need for further developments, it is concluded that the decision of the AT, in classifying the income in question as income of category F of IR and in promoting the corrections that led to the tax assessments challenged, suffers from error as to the factual and legal presuppositions.

Accordingly, and in light of the stated, since the assessments that are the object of the present arbitral action suffer from errors in the presuppositions of fact, and consequent error of law, the same should be annulled, with the arbitral request being merited and the knowledge of the remaining questions posed being prejudiced.

As for the request for indemnity interest formulated by the Claimant:

  1. Article 43, no. 1, of the LGT provides that indemnity interest is due when it is determined that there was error imputable to the services from which results payment of the tax debt in an amount superior to what is legally due.

In the case, the errors that affect the assessments now annulled are imputable to the Tax and Customs Authority, which practiced them on its own initiative, contrary to what is provided for in the law.

The Claimant has, therefore, the right to be reimbursed of the amount improperly paid (pursuant to the provisions of articles 100 of the LGT and no. 1 of article 24 of the RJAT) and, further, to be indemnified for the improper payment through the payment of indemnity interest, by the Respondent, from the date of payment of the amount, until reimbursement, at the legal supplemental rate, pursuant to nos. 1 and 4 of article 43 and no. 10 of article 35 of the LGT, article 559 of the Civil Code and Ordinance no. 291/2003, of 8 April.

IV - DECISION

In such terms this Arbitral Tribunal decides:

To adjudge the arbitral request filed as well-founded and, in consequence, to annul all additional IRS assessments challenged and object of the arbitral request, in the total value of €25,703.13.

To condemn the Respondent in the restitution of all amounts improperly paid by the Claimant in compliance with the acts now annulled, accrued with indemnity interest, pursuant to the terms fixed above, until the date of issuance of the respective credit note.

To condemn the Respondent in the payment of the costs of the proceeding.

Value of the proceeding: pursuant to the provisions of article 306, no. 2, of the CPC and 97-A, no. 1, paragraph a), of the CPPT and 3, no. 2, of the Regulations on Costs in Tax Arbitration Proceedings, the value of the proceeding is fixed at €25,703.13, corresponding to the value of the assessment challenged.

Costs: pursuant to no. 4 of article 22 of the RJAT, the amount of costs is fixed at €1,530.00, pursuant to Table I attached to the Regulations on Costs in Tax Arbitration Proceedings, to the charge of the losing party.

Let it be registered and notified.

Lisbon, 21-02-2018

                                                       The Arbitral Tribunal,

(Maria do Rosário Anjos – Single Arbitrator)

Frequently Asked Questions

Automatically Created

How are income payments from tourist exploitation contracts classified for IRS purposes in Portugal?
Income from tourist exploitation contracts in Portugal is classified based on the nature of the activity performed. If the taxpayer actively manages and operates the tourist property as a commercial enterprise, providing services beyond mere property rental, the income may qualify as Category B (commercial/business income) under Articles 3(1)(a) and 4(1)(h) of the IRS Code. However, if the activity is deemed passive property rental without significant entrepreneurial involvement, the Tax Authority may reclassify it as Category F (rental/property income) under Article 8 of the IRS Code. The distinction depends on factors including the level of commercial activity, service provision, entrepreneurial risk, and the taxpayer's active participation in operations.
What is a contrato de cessão de exploração turística and how is it taxed under Portuguese tax law?
A contrato de cessão de exploração turística (tourist exploitation concession contract) is an agreement whereby property owners grant rights to exploit real estate for tourism purposes in exchange for periodic payments. Under Portuguese tax law, the taxation treatment depends on whether the arrangement constitutes active commercial exploitation or passive rental. If structured as an entrepreneurial activity with active management, income is taxed under Category B with deductible business expenses and potentially favorable tax regimes. If classified as passive rental income, it falls under Category F with more limited expense deductions and different tax rates. The Tax Authority examines the contract terms, the taxpayer's involvement, services provided, and risk allocation to determine proper classification.
Can non-resident taxpayers in Portugal challenge additional IRS tax assessments through CAAD arbitration?
Yes, non-resident taxpayers can challenge additional IRS tax assessments through CAAD (Centro de Arbitragem Administrativa) arbitration under the RJAT (Legal Regime of Arbitration in Tax Matters - Decree-Law 10/2011). As demonstrated in Decision 236/2017-T, Irish-resident taxpayers successfully initiated arbitral proceedings against the Portuguese Tax Authority. Non-residents have the same arbitration rights as residents for challenging tax assessments, including additional liquidations resulting from tax inspections. The procedure requires submitting an arbitral request within the legal deadline, payment of arbitral fees, and compliance with RJAT procedural requirements. CAAD provides an alternative to judicial tax courts, offering faster resolution and specialized tax arbitrators.
What corrections to taxable income can the Portuguese Tax Authority make following a tax inspection on rental income?
Following a tax inspection on rental income, the Portuguese Tax Authority can make several corrections to taxable income including: (1) reclassifying income categories (e.g., from Category B business income to Category F rental income or vice versa); (2) adjusting declared income amounts based on inspection findings; (3) disallowing or limiting deductible expenses that lack proper documentation or don't meet legal requirements; (4) including unreported income discovered during inspection; (5) correcting calculation errors in tax returns; and (6) adjusting tax rates or deductions applied. These corrections result in additional tax assessments (liquidações adicionais) plus compensatory interest. Taxpayers can challenge these corrections through administrative appeals or CAAD arbitration, arguing substantiation deficiencies, incorrect legal classification, or improper expense disallowance.
What is the CAAD arbitral procedure for disputing IRS additional tax assessments in Portugal?
The CAAD arbitral procedure for disputing IRS additional assessments follows the RJAT framework: (1) Taxpayer submits an arbitral request within 90 days of notification, identifying challenged acts and grounds; (2) CAAD President accepts the request and notifies the Tax Authority; (3) An arbitrator is designated by the Ethics Council within 30 days; (4) Parties accept the arbitrator designation, constituting the tribunal; (5) Tax Authority submits its Response with the administrative file; (6) The tribunal may order Article 18 RJAT meetings for witness testimony and evidence; (7) Parties present oral or written arguments; (8) The arbitrator issues a binding decision within legally prescribed deadlines, which can be extended. The procedure includes payment of arbitral fees, document submission, witness examination opportunities, and full adversarial rights for both parties.