VAT Additional Assessment Annulled for Lack of Reasoning – CAAD Case 245/2016-T

ARBITRATION DECISION

I. REPORT

A…, Tax Identification Number (TIN)…, resident at Rua …, No. … –…, …, … (hereinafter referred to only as the Claimant), submitted on 27-04-2016 a request for constitution of a singular arbitral tribunal, in accordance with Articles 2 and 10 of Decree-Law No. 10/2011 of 20 January (Legal Regime for Tax Arbitration, hereinafter referred to only as LRTA), in conjunction with Article 102 of the Tax Procedure Code, in which the Tax and Customs Authority (hereinafter referred to only as the Respondent) is the respondent party.

The Claimant requests the annulment, on grounds of illegality, of the assessments for additional VAT for the fourth quarter of 2011 (2011-Q4) and the first three quarters of 2012 (2012-Q1, 2012-Q2 and 2012-Q3), and respective compensatory interest, in a total amount of € 15,649.60.

The request for constitution of the arbitral tribunal was accepted by the Honourable President of the CAAD on 28-04-2016 and communicated to the Tax and Customs Authority on that same date.

In accordance with the provisions of Article 6(2)(a) and Article 11(1)(b) of the LRTA, the Ethics Council appointed the undersigned as arbitrator of the singular arbitral tribunal, who communicated acceptance of the appointment within the applicable timeframe.

On 29-06-2016 the Parties were duly notified of this appointment and did not manifest their intention to challenge the arbitrator's appointment, in accordance with the combined provisions of Article 11(1)(a) and (b) of the LRTA and Articles 6 and 7 of the Code of Ethics.

In compliance with the provision of Article 11(1)(c) of the LRTA, the singular arbitral tribunal was constituted on 14-07-2016.

Following the Claimant's request to dispense with the examination of the witnesses initially called, the hearing provided for in Article 18 of the LRTA was waived and the parties were granted a period of 10 days to submit successive written pleadings, which both did.

II. THE CLAIMANT'S CLAIM

In the present proceedings, the Claimant requests the annulment of the following assessments for additional VAT for the periods from 2011-Q4 to 2012-Q3, and respective compensatory interest, in a total amount of € 15,649.60:

The contested assessments were made following an external inspection conducted by the inspection services of the Finance Directorate of …, for the years 2011 and 2012.

To support its claim, the Claimant imputes to the acts identified various defects that would imply their voidability, namely:

a) the lack of reasoning of the assessment acts, since "(…) there is no reference in the entire inspection report nor in the notifications to a single provision of the VAT Code allegedly violated, to justify the tax assessment acts for VAT and respective compensatory interest now being challenged. (…) The present claimant does not know (and another ordinary recipient would not know either) what the legal reasons are that justify the Tax Authority's understanding, and any ordinary recipient would not know them either, because there is no single reference or even a mere cross-reference to any provision that justifies the VAT assessments in question. In light of the above, nothing more is necessary to argue that the tax assessment acts for VAT should be annulled, on the grounds of Article 99(c) of the Tax Procedure Code" – cf. Articles 19, 25 and 26 of the request for arbitration.

b) the violation of Article 16(6)(c) of the VAT Code, since the sums received from B… which gave rise to the receipt notes issued as advance payment for expenses paid on behalf and in the name of the client were in fact used for payment of acquisition of goods and services in the name and on behalf of the client. As the Claimant states, "In the case at hand, the purchaser of the goods or services is B… – the entity to which the services were provided or that acquires the goods – and the invoices that evidence the sale of goods or provision of services were issued in the name of B… by the various suppliers. The present taxpayer merely received sums from B… and used those sums to pay, in the name and on behalf of B…, the goods and services acquired by B… from various suppliers of goods and services" – cf. Articles 30 and 31 of the initial request. To that extent, the factual situation in question is expressly excluded from the scope of VAT, pursuant to the provision invoked.

c) the violation of Article 116(1)(b) of the Personal Income Tax Code, which, in the Claimant's understanding, should be interpreted to mean that "(…) the legal obligation to document refers to the evidence of the 'amounts' received by the present claimant 'which, when properly documented do not affect the determination of income'; (it does not refer – as the Tax Authority incorrectly understands – to the evidence of B…'s expenses paid by the Claimant on behalf of B…, which expenses – costs – whether or not properly documented, never affect the determination of the present claimant)." – cf. Article 49 of the initial request. Therefore, having the Claimant documented such receipts through the issuance of the competent receipt notes, the obligation provided for in Article 116(1)(b) of the Personal Income Tax Code was fulfilled, and there is no justification for requalifying such receipts as fees.

However, even if it were understood that the Claimant had not adequately complied with the obligations to record and organize the accounting required by Article 116 of the Personal Income Tax Code, such non-compliance would only be liable to a fine, and could not support any additional tax assessment, whether Personal Income Tax or VAT: "The alleged non-compliance with the aforementioned ancillary obligation is not grounds to support an additional tax assessment. In other words, to require an additional tax assessment, legally, it is necessary that the 'principal obligation of the taxpayer to effect payment of the tax obligation' be violated (cf. Article 31 of the General Tax Law), it is not sufficient the alleged non-compliance with an ancillary duty" – cf. Article 62 of the initial request.

d) the violation of Article 6 of the Administrative Tax Procedure Regulations, which imposed on the Respondent the duty of search for material truth, which is concretely reflected in the obligation of the Respondent "(…) to assess whether, in substance, the receipts of the amounts subject to the present analysis were intended to reimburse expenses paid by the claimant on behalf of B…, or whether such receipts were not associated with any reimbursement of expenses paid by the claimant on behalf of B… and for that reason should be considered for purposes of calculating the income earned by the taxpayer claimant and included in the VAT taxable base" – cf. Article 64 of the initial request.

e) the violation of the presumption of truthfulness of the declarations of taxpayers in accordance with Article 75 of the General Tax Law. In the Claimant's view, throughout the inspection report, the Respondent presented no fact or argument that would rebut the presumption of truthfulness of the receipt notes issued by the Claimant and the declarations issued by B…, in accordance with and for the purposes of the provision of Article 119(1)(b) of the Personal Income Tax Code.

f) the existence of reasonable doubt regarding the quantification of the tax fact. The activity carried out by the Claimant – valuation expert – involved not only costs with travel and accommodation, but also the issuance of certificates (of property registration and commercial registration) and other documents necessary for the exercise of property valuation expertise for movable and immovable goods. To that extent, "(…) it is not at all credible that during a year working exclusively for B… as a valuation expert, the present claimant did not spend €1 (to pay for a property registration certificate or to pay for a certified copy of any document) on behalf of his client B…" – cf. Article 88 of the initial request. This reasonable doubt as to the nature of such payments undermines the very operation of quantification of the tax fact, so that, under the provision of Article 100(1) of the Tax Procedure Code, it must be concluded that the contested tax act should be annulled.

In view of all that has been alleged, the Claimant concludes by requesting the annulment of the additional VAT assessments and corresponding compensatory interest "pursuant to Article 99(a), (c) and (d) of the Tax Procedure Code, on the grounds of defects of (i) incorrect qualification of tax facts, (ii) incorrect quantification of tax facts, (iii) lack of reasoning and (iv) breach of legal formalities."

III. THE RESPONDENT'S REPLY

In response, the Respondent contradicted the Claimant's allegations, concluding that the request for arbitration is unfounded, responding to each of the points raised by the Claimant as follows:

a) as regards the alleged lack of reasoning of the assessment acts, the Respondent considers that the Claimant could have resorted to the remedy provided for in Article 37 of the Tax Procedure Code so that a notification or certificate would be issued containing the elements that the Claimant considered to be lacking. Notwithstanding, the Respondent argues that the reasoning contained in the inspection report was so clear and comprehensible that it allowed the Claimant an adequate understanding of the reasons that justified the identified assessment acts, reasons which, incidentally, the Claimant specifically disputed in the request for arbitration.

b) Article 116(1)(b) of the Personal Income Tax Code imposes on the taxpayer the obligation to, within a total of receipts obtained, differentiate those which concern reimbursement of expenses incurred in the name and on behalf of clients, so that such amounts are not considered in the determination of taxable income, documenting those same expenses. As the Respondent states, "The requirement arising from the article in question does not permit that, in substitution for the documentation to justify the expenses, the taxpayer presents a mere declaration.(…) Now, having not proven that the sums received as advance payment on behalf and in the name of the client were in fact received as such, the services correctly considered them as fees and, consequently, taxed them both for Personal Income Tax and for VAT" – cf. Articles 52 and 55 of the reply.

For the Respondent, the allegation that the violation of Article 116(1)(b) of the Personal Income Tax Code would only give rise to a fine and could not justify any additional tax assessment is also not valid. Such understanding would imply violation of the provision of Article 31(2) of the General Tax Law, leading to the possibility "of leaving unscathed a tax assessment based on wrong assumptions, prejudicing the State, to apply only a fine" – cf. Article 59 of the reply.

c) there was no violation of Article 6 of the Administrative Tax Procedure Regulations, nor of the principle of the inquisitorial duty, with the Respondent having acted with due diligence by requesting the Claimant to present the supporting documents for expenses incurred in the name and on behalf of clients. Furthermore, notwithstanding the requests made by the inspection services, the Claimant failed to provide adequate and sufficient response to the requests for clarification made by the Respondent, in violation of the duty of cooperation, in accordance with Article 59(4) of the General Tax Law.

d) there was no violation of the presumption of truthfulness of the declarations of taxpayers in accordance with Article 75 of the General Tax Law, since this presumption does not apply whenever the declarations, accounting or records of the taxpayer reveal omissions, errors, inaccuracies or reasonable grounds for belief that they do not reflect the real taxable matter, as results from Article 75(2) of the General Tax Law. It happens that the Claimant's accounting records are not organized in accordance with commercial and tax legislation given the absence of documentary evidence of expenses in accordance with Article 116(1)(b) of the Personal Income Tax Code. Thus, the presumption invoked by the Claimant will not be applicable here.

e) as regards the existence of reasonable doubt regarding the quantification of the tax fact, the Respondent argues that the issue must be decided according to the rules governing the burden of proof, and that, in accordance with Article 74 of the General Tax Law, it fell to the Claimant to prove the facts it alleges and on which the right it invokes is based. The Claimant's failure to discharge its burden of proof cannot, contrary to what the Claimant intends, be valued as reasonable doubt that justifies the application of Article 100(1) of the Tax Procedure Code.

As for the alleged absence of consideration of costs in the activity carried out by the Claimant, the Respondent invokes that, being the Claimant subject to the simplified regime for determination of income, a legal presumption of costs is provided for, corresponding to 30% of the income obtained. These presumed costs subsumed the travel, accommodation and any other costs inherent to its activity.

For all of this, the Respondent concludes that the request for annulment made by the Claimant is entirely unfounded, and the contested assessment acts should remain in the legal order because they are valid and duly reasoned.

IV. PRELIMINARY RULING

The Arbitral Tribunal was regularly constituted and is competent.

The parties have tax and judicial capacity and are legitimate (Articles 4 and 10(2) of the same decree-law and Article 1 of Order No. 112-A/2011 of 22 March).

The proceedings do not suffer from any nullities and there is no obstacle to the examination of the merits of the case.

V. STATEMENT OF FACTS

A. Proven Facts

The following facts are considered proven:

1. In the years 2011 and 2012, the Claimant carried out the activity of "Valuation Experts", corresponding to code number …, of the table of activities of Article 151 of the Personal Income Tax Code.

2. The Claimant was covered by the simplified regime for Personal Income Tax.

3. The Claimant was covered by the normal regime with quarterly periodicity for VAT purposes.

4. In the years 2011 and 2012, the Claimant had as its sole client B…, S.A. ("B").

5. The Claimant was subject to an external inspection procedure, of limited scope (VAT and Personal Income Tax), concerning the years 2011 and 2012, initiated under Service Orders No. OI2015… and OI2015…, of 12-06-2015.

6. During the inspection, it was found that in 2011, the Claimant issued receipt notes as service provision in the amount of € 14,278.38, and as advance payment for payment of expenses in the name and on behalf of the client in the amount of € 71,113.71.

7. During the inspection, it was found that in 2012, the Claimant issued receipt notes as service provision in the amount of € 9,663.33, and as advance payment for payment of expenses in the name and on behalf of the client in the amount of € 47,250.85.

8. The receipt notes issued by the Claimant relating to advance payments for expenses in the name of the client make no mention of VAT.

9. On 30-09-2015, the Claimant sent B… a letter requesting "supporting documentation and proof that is contained in your accounting records and payment by your treasury of amounts in my name concerning charges and costs of professional activity in your bank."

10. On 28-10-2015, the Claimant was notified to present the supporting documents/proof of expenses paid in the name and on behalf of the client, for which receipt notes were issued in the years 2011 and 2012.

11. The Claimant did not present any supporting document of expenses incurred in the name and on behalf of B…, and has no copy thereof.

12. In the inspection report sent to the Claimant by Office No. …, of 11-12-2015, the services concluded as follows:

"It was found that the amounts received as advance payment for payment of expenses on behalf and in the name of the client were not properly documented, that is, the taxpayer did not have in its possession the supporting documents for such expenses, not complying with the provision of the aforementioned Article 116 of the Personal Income Tax Code.

(…)

Until the date of the preparation of this draft report, the taxpayer did not present the aforementioned supporting documents.

Not having the taxpayer proven that the amounts received as advance payment on behalf and in the name of the client were in fact received as such, they should be considered fees and taxed, both for VAT and Personal Income Tax."

1. The determination of taxable matter and taxes due was carried out as follows:

[Table content regarding tax calculations as per the original document]

1. During the inspection, the Claimant did not exercise its right to prior hearing, so the proposed corrections contained in the draft report became final corrections and gave rise to the contested assessments.

2. On 20-01-2012, B… issued a declaration concerning income paid to the Claimant in 2011 stating that it was paid as income from category B – Self-Employment in the amount of € 14,278.38, with withholding tax of € 3,069.84.

3. On 20-01-2013, B… issued a declaration concerning income paid to the Claimant in 2012 stating that it was paid as income from category B – Self-Employment in the amount of € 9,663.33, with withholding tax of € 2,077.62.

B. Unproven Facts

No other facts with relevance to the arbitration decision were proven.

C. Justification of Statement of Facts

The statement of facts given as proven is based on the documentary evidence invoked and not contested, including the administrative procedure included in the file by the Respondent.

VI. STATEMENT OF LAW

As mentioned above, in the request for arbitration, the Claimant contests the legality of the VAT assessment acts and compensatory interest for the periods from 2011-Q4 to 2012-Q3, alleging a series of defects which, if considered valid, would imply the annulment of those acts, with the further legal consequences.

Article 124 of the Tax Procedure Code, applicable via Article 29(1)(a) of the LRTA, establishes the order in which the judgment should examine the defects invoked by the challenging party, and from this order it follows that, "(…) once the existence of a defect capable of leading to the elimination of the act from the legal order with effective protection of the legal position of the challenging party is recognized (in particular, preventing the renewal of the act with the same purport), the examination of other defects imputed to the contested act shall be precluded, since, if it were always necessary to examine all defects imputed to the contested act, the order of their examination would be immaterial"[1].

It has been the understanding of the Supreme Administrative Court – of which examples are the judgments of 07/12/2010, case no. 0569/10, of 22/03/06, case no. 0916/04, of 24/01/2007, case no. 0939/06, and of 06/07/2011, case no. 0355/11 – that defects involving violation of law (strictly speaking) should be examined first, and only thereafter possible defects of form, because this will ensure more effective protection of the rights of taxpayers. However, this rule is not absolute and should be adjusted according to the concrete elements of the situation in judgment, so that reasons of logical order may require the prior examination of formal defects, without examination of defects of violation of law strictly speaking.

Having this framework in mind, the tribunal chooses to analyze, as a first priority, the alleged lack of reasoning of the inspection report.

Let us examine this:

According to what results from the inspection report, for Personal Income Tax purposes, the Respondent corrected the income declared by the Claimant in the years 2011 and 2012, under the provision of Article 116(1)(b) of the Personal Income Tax Code, since the Claimant – despite being requested to do so – did not present any documents supporting expenses incurred on behalf and in the name of B…, as the sole client, and which would have justified the advance payments received. Indeed, the Respondent understood that, inasmuch as the alleged expenses incurred in the name and on behalf of the client were not properly documented – as required by the aforementioned provision – the exclusion from taxation for Personal Income Tax purposes would not be applicable; accordingly, the amounts received and declared in the advance payment receipt notes as expenses on behalf would have to affect the determination of income for Personal Income Tax purposes. And it was thus that the Respondent proceeded, making it possible to quantify both the income and the tax due.

And that is all that is stated by the Respondent.

For VAT purposes, in order to determine any possible tax liability, the Respondent presents the calculations that justify the amounts of tax assessed, but at no time invokes the legal grounds for such correction, with express indication of the provisions of the VAT Code applicable. The Respondent merely invokes Articles 27 (whose heading is "Payment of the tax calculated by the taxpayer") and 41 (whose heading is "Time limit for filing periodic declarations") of the VAT Code, assuming it to be tax calculated by the taxpayer but not paid to the State.

Now, as shown by the evidence and results from the receipt notes issued by the Claimant, the sums received as advance payment do not include any reference to VAT, so the issue in question does not fall under the non-payment to the State of tax calculated; on the contrary, it is a situation of tax which, in the Respondent's understanding, should have been calculated (and was not), despite the Respondent not identifying the legal framework and the provisions of the VAT Code that permit justifying such pretension.

In fact, the inspection report is completely silent on this matter, with no reference to the legal provisions regarding VAT that justify the assessments made, contrary to what occurred for Personal Income Tax purposes.

On the rules of reasoning for tax acts, Article 77(1) and (2) of the General Tax Law provide, in implementation of Article 268(3) of the Constitution of the Portuguese Republic, as follows:

"1. The decision of the procedure is always reasoned by means of a brief statement of the reasons of fact and law that motivated it, and the reasoning may consist of mere declaration of agreement with the grounds of previous opinions, information or proposals, including those which form part of the tax inspection report.

1. The reasoning of tax acts may be done summarily, but should always contain the applicable legal provisions, the qualification and quantification of the tax facts and the operations for determining the taxable matter and the tax." (emphasis added).

It thus expressly results from the law that the tax act, in particular the additional assessment act, to be properly reasoned must contain, in addition to the reasons of fact, the reasons of law that support the conduct of the Tax Authority, that is, it must contain reference to the legal framework and the applicable legal provisions. None of this occurred in the present case, as demonstrated above.

Against this understanding, the Respondent invokes various decisions of the Supreme Administrative Court, in particular the judgment of 25-05-1993, rendered in case no. 27387, in which that court concluded that "Given the merely instrumental purpose pursued by the reasoning of administrative acts, it should be understood that this will be assured whenever, despite the absence of an express reference to any legal precept or legal principle, the decision in question falls unquestionably within a certain legal framework perfectly cognizable from the standpoint of the ordinary recipient". In the Respondent's view, the failure to expressly and specifically invoke the applicable legal provisions does not necessarily imply violation of the duty of reasoning provided for in Article 77 of the General Tax Law. Provided that the reasoning contains an adequate description of the situation and the facts, so that it can be understood and grasped by its recipient, the objective of the duty of reasoning is fulfilled, without this implying any loss of rights of defense and response for the taxpayer. Containing the act a reference to the elements that allow its recipient to understand the cognitive and evaluative itinerary followed by its author, that is, when the recipient can know the reasons that led the author of the act to decide in that manner and not another, the act must be considered as reasoned, evaluating the reasoning as sufficient and adequate.

Not disagreeing entirely with this position of the Respondent, the truth is that, if no mention is made of the applicable legal provisions, it cannot be said that the recipient of the tax act can, notwithstanding and despite this omission, know and understand the cognitive and evaluative itinerary. And it cannot understand precisely for that reason: because an essential component of the act is omitted and not stated.

As also decided by the Supreme Administrative Court in the judgment of 18-04-1996, rendered in case no. 36830, "The act suffers from a defect of lack of legal reasoning if it does not contain, either in itself or in the information to which it refers, citation of the legal precepts or invocation of the legal principles that determined the rejection of the applicant's claim."

The same understanding is derived from the decision of the Supreme Administrative Court of 28-01-1998, rendered in case no. 21331, "Given that the object of the decision of the review commission referred to in the VAT Code is only the quantification of taxable matter in VAT, which is a question of fact and not a question of law, the reasoning of the decision of the president of that commission, when there is no agreement among the members, need not indicate the applicable legal provisions, since this requirement is only made by Article 82 of the Code of Civil Procedure for the reasoning of tax acts." (emphasis added).

We follow here the guidance of António Lima Guerreiro[2], when he argues that reasoning must always contain the indication of the applicable legal norms, and reasoning that does not contain them should be considered insufficient, even if it is unequivocal. And this insufficiency constitutes grounds for voidability of the tax act.

The reasoning of the tax act is a duty incumbent on the Respondent, corresponding to a guarantee and a right of taxpayers. Reasoning fulfills a function of justifying the legitimacy and rationality of the administration, so it cannot be considered as merely a formal element that can be dispensed with when its absence or insufficiency does not result in the recipient's lack of defense. It must, therefore, in obedience to the provision of Article 77 of the General Tax Law, express, even if summarily, the reasons that moved the Tax Authority to have the conduct it had and also to state the reasons why it took a certain decision, with express mention of the legal norms that legitimized such conduct, because only thus will the taxpayer recipient know the cognitive and evaluative itinerary and be convinced of the legality and rigor of the Tax Authority or be in a position to contest it correctly[3].

For all of this, this Tribunal considers that the inspection report sent to the Claimant and on the basis of which the contested assessments were made does not meet the legal requirements of reasoning provided for in Article 77 of the General Tax Law, insofar as it does not include "a brief statement of the reasons (…) of law" that motivated them, nor the adequate indication of the applicable legal provisions, thus not complying with the mandate of Article 268(3) of the Constitution of the Portuguese Republic.

Against this understanding, the Respondent's allegation that the Claimant could have resorted to the remedy of Article 37 of the Tax Procedure Code and that, having failed to do so, such defect would have been cured, is not valid.

Indeed, contrary to what the Respondent appears to argue, the regime of Article 37 of the Tax Procedure Code grants the taxpayer a right for cases in which the communication of the act suffers from any of the deficiencies listed therein; it does not impose on it an obligation to behave in a manner designed to allow the Tax Authority to subsequently reason an act that is not properly reasoned. That is, it is a remedy to remedy defects in the notification itself (and which puts into question its effectiveness, without necessarily contending with the validity of the act that is the subject of the notification) and not omissions or insufficiencies of the act itself, as is the case here. To argue, moreover, such a position would put into question the very regime of Article 268(3) of the Constitution of the Portuguese Republic.

In view of the foregoing, the VAT assessment acts and compensatory interest should be annulled due to the defect of lack of reasoning, in violation of the provisions of Article 77(1) and (2) of the General Tax Law and Article 99(c) of the Tax Procedure Code, applicable by cross-reference in Article 29 of the LRTA.

Concluding as to the annulment of the VAT assessments and respective compensatory interest, the examination of the other defects that the Claimant imputes to the acts in question is precluded, as being unnecessary according to the foregoing.

VII. DECISION

In accordance with the foregoing, this Arbitral Tribunal decides to uphold the request for arbitration and, consequently, annuls the additional VAT assessments for the periods 2011-Q4, 2012-Q1, 2012-Q2 and 2012-Q3, and respective compensatory interest, in a total amount of € 15,649.60.

Value of the case: In accordance with Article 306(2) of the Civil Procedure Code and Article 97-A(1)(a) of the Tax Procedure Code and Article 3(2) of the Regulation on Costs in Tax Arbitration Proceedings, the value of the case is fixed at € 15,649.60.

Costs: In accordance with Article 22(4) of the LRTA, the amount of costs is fixed at € 918.00, in accordance with Table I attached to the Regulation on Costs in Tax Arbitration Proceedings, to be borne by the Tax and Customs Authority.

Let this arbitration decision be registered and served on the parties.

Lisbon, 06-01-2017

The Singular Arbitrator

(Maria Forte Vaz)

[1] Cf. Jorge Lopes de Sousa, Guide to Tax Arbitration, Coord. Nuno Villa-Lobos and Mónica Brito Vieira, Almedina, 2013, pp. 202 and 203.

[2] Cf. Annotated General Tax Law, Rei dos Livros Publishers, 2000, p. 340.

[3] Cf. judgment of the Central Administrative Court North of 14-07-2010, rendered in case no. 00013/02.