CAAD Arbitration 255/2018-T: SGPS Financial Charges Deductibility Under Art. 32(2) EBF in IRC

ARBITRAL DECISION

The arbitrators Dr. Jorge Manuel Lopes de Sousa (arbitrator-president), Dr. Mariana Vargas and Prof. Doctor Luís Menezes Leitão, designated by the Deontological Council of the Centre for Administrative Arbitration to form the Arbitral Tribunal, constituted on 01-08-2018, agree on the following:

1. Report

A... SGPS, S.A., a company with registered office at Rua ..., no. ..., ..., ...-... ..., with the unique registration number and collective person number ..., (hereinafter referred to as the "Petitioner"), submitted an application for constitution of the collective arbitral tribunal, under the terms of Decree-Law no. 10/2011, of 20 January (hereinafter "RJAT"), with a view to declaring the illegality of the assessment of Corporate Income Tax (IRC) no. 2016..., statement of interest calculation no. 2016... and in the statement of account settlement no. 2016..., all relating to the fiscal year 2012.

The Petitioner further requests the annulment of the assessment, with the consequent reimbursement of the amounts paid plus compensatory interest.

The application for constitution of the arbitral tribunal was accepted by the President of CAAD and notified to the TAX AND CUSTOMS AUTHORITY on 22-05-2018.

Pursuant to the provisions of subparagraph a) of no. 2 of article 6 and subparagraph b) of no. 1 of article 11 of the RJAT, the Deontological Council designated as arbitrators the signatories, who communicated their acceptance of the appointment within the applicable deadline.

On 12-07-2018, the Parties were notified of this designation, having manifested no intention to challenge the designation of the arbitrators, in accordance with the combined provisions of article 11 no. 1 subparagraphs a) and b) of the RJAT and articles 6 and 7 of the Deontological Code.

Thus, in accordance with the provisions of subparagraph c) of no. 1 of article 11 of the RJAT, the collective arbitral tribunal was constituted on 01-08-2018.

The Tax and Customs Authority responded, arguing for the inadmissibility of the request for arbitral pronouncement.

By order of 08-10-2018 it was decided to dispense with the holding of the meeting provided for in article 18 of the RJAT and that the proceedings continue with optional pleadings.

Only the Petitioner submitted pleadings.

The arbitral tribunal was regularly constituted and is competent.

The parties have judicial personality and capacity, are legitimate (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 proceedings do not suffer from nullities.

It is necessary to decide.

2. Factual Basis

2.1. Established Facts

The following facts are considered proven:

• The Petitioner is a management company holding participations in the companies of the "Group A..." group;

• In the fiscal year 2012 the Petitioner was taxed, under Corporate Income Tax, under the special regime for taxation of groups of companies (RETGS), being the dominant company of the group:

• Regarding the fiscal year 2012 the Petitioner submitted the declaration of income model 22 of Corporate Income Tax for the group, in which it determined a negative fiscal result of €.3,096,857.88;

• The tax inspection services of the Finance Office of Porto carried out internal inspection actions on the Petitioner, as an individual company, under service order no. OI2016..., and as the dominant company of the "Group A...", under service order no. OI2016..., (tax inspection report contained in document no. 4 attached with the application for arbitral pronouncement, the contents of which are hereby reproduced);

• In the Draft Report in Service Order no. OI2016..., in the fiscal year 2012, the following correction was proposed in relation to tax matters:

III – DESCRIPTION OF FACTS AND GROUNDS FOR CORRECTIONS THAT ARE PURELY ARITHMETICAL TO TAXABLE MATTER

From the analysis of the declaration of Corporate Income Tax income model 22 for fiscal year 2012, we verified that the taxpayer in determining Taxable Profit did not proceed with any increase relating to financial charges incurred with the acquisition of capital shares, as provided for in no. 2 of art. 32 of the EBF.

In accordance with what is established in no. 2 of art. 32 of the EBF (with the wording at the date), "the gains and losses realized by SGPS and SCR through the onerous transmission, whatever the title by which it operates, of capital shares of which they are holders, provided that held for a period not less than one year, and likewise the financial charges incurred with their acquisition, do not contribute to the formation of the taxable profit of these companies". Wording given by Law no. 32-B/2002, of 30 December (State Budget Law for 2003).

With regard to the tax regime applicable to financial charges provided for in the article cited above, Circular 7/2004, of 30 March, of the Corporate Income Tax Services Department, comes to sanction the following understanding:

• Temporal scope of application (Point 5) – "it is applicable to financial charges incurred in taxation periods commenced after 1 January 2003, even though they relate to financing contracted before that date."

• Tax year in which corrections of financial charges should be made (Point 6)

(...) Financial charges should be disregarded as costs, for tax purposes, in the fiscal year to which they relate, that is, the tax correction of those that have been incurred with the acquisition of participations that are susceptible to benefiting from the special regime established in no. 2 of art. 31 of the EBF should be made, regardless of whether all conditions for the application of the special regime for taxation of gains have already been met. Should it be concluded, at the moment of transfer of the participations, that not all requirements for application of that regime are met, in that fiscal year the financial charges that were not considered as a cost in prior fiscal years shall be considered as a tax cost.

• Method to be used for purposes of allocation of financial charges to social participations (Point 7) –

(...) given the extreme difficulty of use, in this matter, of a method of direct or specific allocation and the possibility of manipulation that the same would allow, that allocation should be made on the basis of a formula that takes into account the following:

• Allocate the remunerated liabilities of the SGPS to the remunerated loans granted by these to the participating companies and other investments generating interest;

• Allocate the remainder to the remaining assets, namely social participations, proportionally to their respective acquisition cost.

Using the aforementioned formula we elaborated the calculations set forth below in order to calculate the value of financial charges incurred by "A... SGPS, S.A." with the acquisition of capital shares.

(1) Information extracted from the Balance Sheet contained in Annex A of the Annual Statement of Accounting and Tax Information submitted by the taxpayer.

(2) This information was taken from the balance sheet and notes 6 and 7 of the annex to the balance sheet and statement of results, having considered the following values:

(3) Financial participations point 7 of the Annex to the Balance Sheet and Statement of Results

(4) As mentioned in the Annex to the Balance Sheet and Statement of Results, "In the financial statements the equity method of accounting provided... was not applied.

(5) Other Assets = Total Assets – Remunerated Assets – Cost of acquisition of capital shares – Equity Equivalence

(6) Non-Remunerated Assets = Other Assets + Cost of acquisition of capital shares.

(7) Information that was obtained from the balance sheet and note 16 of the annex to the balance sheet and statement of results, having considered the following values:

(8) In accordance with Circular 7/2004 the 1st step of the method to be used for purposes of allocating financial charges to social participations is to allocate the remunerated liabilities of the SGPS to the remunerated loans granted by these to the participating companies and other investments generating interest, so in the case under analysis the remunerated liabilities attributable to remunerated loans amount to €.50,798,776.00.

(9) The value of the remunerated liabilities attributable to non-remunerated assets is obtained by subtracting from the total remunerated liabilities the value previously attributed to remunerated assets.

(10) After obtaining the value of remunerated liabilities attributable to the remaining assets (Non-remunerated Assets) we determined proportionally the value of remunerated liabilities attributable to Capital Shares (Acquisition Cost)

(11) Information obtained from account 681200.

(12) Proportional allocation of financial charges to remunerated liabilities attributable to remaining assets (Non-remunerated Assets).

(13) Proportional allocation of financial charges to remunerated liabilities attributable to Capital Shares (Acquisition cost).

In light of the foregoing, the taxpayer incurred in the fiscal year financial charges for the acquisition of participations amounting to € 110,906.64.

In accordance with what is established in no. 2 of art. 32 of the EBF they do not contribute to the formation of taxable profit, so they should be disregarded as costs.

Conclusion

The amount of € 110,906.64, relating to financial charges with the acquisition of capital shares, was improperly considered as a tax cost. The following table summarizes the determination of the corrected taxable result:

(...)

III - RIGHT TO A HEARING

The taxpayer was notified on 2016/10/17 (third day after the date of registration with CTT, which occurred on 2016/10/14), through letter no. 2016... of 2016/10/13, of the content of the draft tax inspection report, prepared pursuant to and for the purposes provided for in article 60 of the General Tax Law and article 60 of the Supplementary Rules of the Tax Inspection Procedure, having exercised the right to a hearing on 2016/11/02 (date of entry into the Finance Office of Porto), contesting the totality of the corrections proposed in the draft tax inspection report, invoking the following grounds to which we refer as follows:

1. The taxpayer argues that "the situation of the petitioner cannot be subsumed under the regime that is intended to be applied insofar as, by nature, there could not have been financial charges with the acquisition of participations", for the following two reasons:

1.1) With respect to the social participations held in companies B..., SA and C..., SA, "both with an acquisition date dating back to 1992", the taxpayer considers that "the participations of the aforementioned companies cannot be considered for purposes of correction as financial charges because they fall outside the temporal scope of application", as "to allocate in 2012 presumed financial charges to participations dating back to 1992, almost 20 years later, is not reasonable, proportional and manifestly contrary to the principle of non-retroactivity of Tax Law".

That is, the taxpayer understands that the holdings of social participations are prior to the introduction of the regime of disregard of financial charges in the acquisition of social participations, provided for in no. 2 of article 32 of the Tax Benefits Statute.

1.2) He further adds that "as a basic principle of Tax Law, the law applies only to the future and at the date of entry into force of the regime for taxation of gains/losses of SGPS and respective financial charges the participations had long been held", and that it is "completely implausible that financial charges with such antiquity could be recorded";

Regarding the taxpayer's argument that the application of the principle of non-retroactivity of tax law is being violated with respect to the application of no. 2 of article 32 of the Tax Benefits Statute to the participations held in companies B... and C..., which date back to 1992 and therefore are prior to 01-01-2013, it should be noted that:

With regard to this argument it is appropriate to recall that point 5 of circular no. 7/2004, states that the regime provided for in no. 2 of article 32 of the Tax Benefits Statute, "is applicable to financial charges incurred in taxation periods commenced after 1 January 2003, even though they relate to financing contracted before that date".

That is, there is no retroactivity in the application of tax law, since the regime provided for in no. 2 of article 32 of the Tax Benefits Statute will only apply with respect to financial charges incurred after the entry into force of Law no. 32-B/2002 of 30/12, which occurred on 2003/01/01.

Now in this inspection action, we are faced with a proposed correction relating to financial charges incurred in the fiscal year 2012, therefore subsequent to the entry into force of the regime of non-acceptance of those charges, introduced by no. 2 of article 32 of the Tax Benefits Statute, in the wording given by Law no. 32-B/2002, of 30/12, with no retroactivity thus existing in the application of tax law.

As for the argument of "it being implausible that financial charges with such antiquity could be recorded", it is to be reiterated that the financial charges that were corrected relate to the fiscal year 2012 and not to the fiscal year in which the financial participations were acquired.

2.) With respect to the participations of the remaining companies, "which are included in the financial investments of the company at a date after 2003", with the exception of those relating to companies D... and E..., these were not acquired, but result from subscription and capital contribution in companies subsequently established, so the taxpayer argues that "the situation of the Petitioner cannot be subsumed under the regime that is intended to be applied insofar as, by nature, there could not have been financial charges with the acquisition of participations";

The taxpayer also argues that the regime provided for in no. 2 of article 32 of the Tax Benefits Statute does not apply to the participations held by him, since they were not acquired (with the exception of those relating to companies D... and E...), but relate to companies subsequently established, in which he subscribed and made capital contributions, and thus are not in the presence of an acquisition, as provided for in that normative.

It is important to note that with the entry into force of no. 2 of article 32 of the Tax Benefits Statute, in the wording given by Law no. 32-B/2002, of 30/12, a tax benefit was established in favor of taxpayers which results in the non-consideration, in determining the taxable profit of Corporate Income Tax, of gains and losses realized by SGPS with the onerous transfer of social participations, provided that held for more than one year.

Simultaneously with the existence of that benefit, the legislator also intended to disregard the financial charges relating to the acquisition of those social participations, because if that were not the case, there would be a double benefit in favor of the taxpayer, which would result in the acceptance for tax purposes of costs that would not contribute to the obtaining of taxable income.

Thus it seems there are no doubts that the tax benefit and the disregarded financial charges mentioned in no. 2 of article 32 of the Tax Benefits Statute refer to the same reality, that is, the financial participations of which SGPS are holders, provided that held for a period not less than one year.

It is for this reason that circular no. 7/2004 establishes that "should it be concluded, at the moment of transfer of the participations, that not all requirements for application of that regime are met, in that fiscal year the financial charges that were not considered as a cost in prior fiscal years shall be considered as a tax cost".

It is thus ascertained that the disregard of financial charges is inextricably linked to the existence of a tax benefit with respect to the financial participations to which those charges relate, so that, should it be found that at the date of transfer of the financial participations there is no tax benefit, the respective charges should then be accepted for tax purposes.

Now there is no limitation to the application of no. 2 of article 32 of the Tax Benefits Statute, with all the conditions being met, with respect to the financial participations transferred by SGPS, even though they were not acquired, but resulted from capital contributions.

In this way, just as the transfer of financial participations resulting from capital contributions benefit from no. 2 of article 32 of the Tax Benefits Statute, with their respective gains or losses not contributing to the formation of taxable profit, the financial charges relating to those same participations are also not accepted for tax purposes, in accordance with the same normative.

In the opinion of these Services, there is only one limitation regarding the application of no. 3 of article 32 of the Tax Benefits Statute with respect to financial participations resulting from subscription of capital by virtue of the establishment of a company, which does not apply, however, to no. 2 of the same article.

It may also be added that when no. 2 of article 46 of the Corporate Income Tax Code (with the wording at the date) establishes that "Gains and losses are given by the difference between the realization value, net of charges inherent to it, and the acquisition value deducted from (...)", and even though the Corporate Income Tax Code does not establish the concept of acquisition value, this, in accordance with accounting standardization, includes the value of the capital subscribed in companies subsequently established.

It is thus verified that, although there is no true acquisition, since there was no prior transfer, the value of the capital contributions made are considered, for purposes of determining gains or losses, as acquisition value.

Now if this happens here, in the same way, there is no reason to consider that no. 2 of article 32 of the Tax Benefits Statute applies only to financial charges relating to financial participations acquired, that is, resulting from a prior transfer.

3.) The taxpayer argues that "As of 31.12.2004 there would be no corrections to make at the level of financial charges insofar as remunerated assets exceeded liabilities" and that "there were no acquisitions/establishments with sufficient materiality to generate the need to contract loans and incur financial charges".

Regarding this question, first it should be noted that this inspection action only covers the fiscal year 2012.

Moreover, the use of the method provided for in circular no. 7/2004 leads (given the principle that remunerated liabilities of SGPS should be allocated, first and foremost, to remunerated loans granted by these to participating companies) to the possibility of the existence of fiscal years in which there are corrections relating to financial charges and others in which there are no such corrections, depending on the relationship existing between the amounts of remunerated assets and liabilities existing on 31 December of each fiscal year.

Thus, the fact that there were no corrections to be made at the level of financial charges in 2004 cannot serve as a basis for the non-existence of corrections with the same reason in subsequent fiscal years.

4.) Finally the taxpayer invokes that "the deficit situation of the Petitioner in 2012 that generates the calculation of the present correction is brought about for reasons unrelated to the acquisition of social participations, insofar as the acquisition values recorded are residual", protesting, should his arguments not be accepted by the Inspection Services, "to present additional work intended for the actual allocation of financial charges by loans obtained".

Regarding this question there is to be noted:

First, that establishing no. 1 of article 68-A of the General Tax Law that "the tax administration is bound by the generic guidelines contained in circulars, regulations or instruments of identical nature, regardless of their form of communication, aimed at ensuring uniformity of interpretation and application of tax rules", thus the Tax Authority is bound to comply with what is provided in circular no. 7/2004.

Second, no. 7 of circular no. 7/2004 states that "as to the method to be used for purposes of allocating financial charges incurred in the acquisition of social participations, given the extreme difficulty of use, in this matter, of a method of direct or specific allocation and the possibility of manipulation that the same would allow, that allocation should be made on the basis of a formula that takes into account the following: remunerated liabilities of SGPS and SCR should be allocated, first and foremost, to remunerated loans granted by these to participating companies and other investments generating interest, allocating the remainder to the remaining assets, namely social participations, proportionally to their respective acquisition cost".

It is emphasized that the method proposed in this circular is the one described above, and results from:

• The difficulty of use, in this matter, of a method of direct allocation;

• And also the possibility of manipulation that the method of direct allocation would allow.

On the other hand, although the taxpayer protests "to present additional work intended for the actual allocation of financial charges by loans obtained", what is a fact is that he did not provide any concrete element that allows concluding that the financial charges attributable to social participations differ from those resulting from the application of what is provided in circular no. 7/2004, to which the Inspection Services are bound, so we cannot pronounce ourselves on the alleged facts.

• As a result of the inspection action the individual fiscal result of the Petitioner was altered, changing from a fiscal loss of € 83,093.82 to taxable profit of € 27,313.32;

• Following the correction to the taxable matter of the Petitioner as an individual company, an inspection was carried out on the Petitioner as the dominant company of the group, under Service Order no. OI2016..., in which the Tax Inspection Report was prepared, the contents of which are hereby reproduced, in which it states, among other things, the following:

III – DESCRIPTION OF FACTS AND GROUNDS FOR CORRECTIONS THAT ARE PURELY ARITHMETICAL TO TAXABLE MATTER

In the year 2012 the group "A...", was constituted by several entities through direct and indirect participations with the dominant entity being the company A... SGPS SA, with Tax ID no. ..., given that it held a direct or indirect participation of at least 90% of the participations and held more than 50% of the voting rights.

The entities that constituted the group and consequently were taxed under RETGS were as follows:

As determined by article 70 of the Corporate Income Tax Code, taxable profit is calculated by the dominant company, and is obtained through the algebraic sum of taxable profits and fiscal losses determined in the individual periodic declarations, (income declarations model 22), of each of the companies belonging to the group.

III.1) CORRECTIONS MADE IN THE SCOPE OF THE INDIVIDUAL ENTITIES THAT MAKE UP THE RETGS PERIMETER (2012).

III.1.1.1) Individual Entity "A...SGPS S.A. TAX ID....In the context of the internal inspection procedure for which service order OI2016... was issued, corrections were made to the declaration model 22 of the dominant company, in the amount of €110,906.64 by disregarding financial charges relating to the acquisition of capital shares in compliance with no. 2 of article 32 of the EBF.

Following the correction made, the taxable profit of € (83,093.82) was altered to €27,313.32.

The taxpayer was notified on 2016/10/17, through letter no. 2016... of 2016/10/13, of the content of the draft tax inspection report, prepared pursuant to and for the purposes provided for in article 60 of the General Tax Law and article 60 of the Supplementary Rules of the Tax Inspection Procedure, having exercised the right to a hearing on 2016/11/02.

As the arguments presented by the taxpayer were not accepted, the report/conclusions were prepared, which is hereby given as fully reproduced for all legal purposes, with the corrections contained in the respective Draft Inspection Report remaining unchanged, as attached. Dc1.

III.1.2) CORRECTIONS TO TAXABLE PROFIT AND THE TAXABLE MATTER DECLARED BY THE GROUP

Taking into account the foregoing, the fiscal result attributable to the group whose dominant company is A... SGPS, S.A, in the fiscal year 2012 shall be the following:

The following table expresses the corrections made and the value of tax to be paid by the group.

• Notwithstanding the correction produced at the individual level of the Petitioner, the fiscal loss was maintained in the sphere of the fiscal consolidated entity it dominates, there thus being no additional direct charge at the level of Corporate Income Tax via the correction in question;

• Following the inspection, the Tax and Customs Authority issued Corporate Income Tax assessment no. 2016..., statement of interest calculation no. 2016 ... and in the statement of account settlement no. 2016..., all relating to the fiscal year 2012, in which the correction to the taxable profit of the Petitioner is applied, in the amount of € 110,906.64;

• The Petitioner submitted a gracious claim to the assessment which was rejected on the basis of a draft decision, the contents of which are hereby reproduced, in which it states, among other things, the following:

I. OF THE CLAIMANT PARTY AND THE REQUEST

1. The taxpayer (hereinafter referred to as claimant), A... SGPS SA, TAX ID..., hereby, under the provisions of article 68 of the Code of Tax Procedure and Process, submits the present gracious claim relating to the official assessment of Corporate Income Tax (IRC) for the period 2012, described below:

Assessment of Corporate Income Tax No. 2016... and competent compensatory interest, embodied in the Statement of Compensation No. 2016..., in the amount of € 396.46.

Final payment date: 2017/02/08

Situation of the collection note: Paid through voluntary payment

II. OF PROCEDURAL REQUIREMENTS

1. Upon review of the present case files it is verified:

2.1. The claimant has judicial personality and capacity as a taxpayer, pursuant to the provisions of articles 15 and 16 of the General Tax Law (LGT) and the provision of article 3 of the Code of Tax Procedure and Process.

2.2. The gracious procedure under analysis is the proper means to react against the tax act of assessment identified above, pursuant to article 68 of the Code of Tax Procedure and Process.

2.3. The claimant is a party with interest in the procedure and has legitimacy for its filing, (article 18 and 65 of the General Tax Law and no. 1 of article 9 of the Code of Tax Procedure and Process).

2.4. The request in which the present petition is embodied is timely, in consonance with no. 1 of article 70, combined with subparagraph a) of no. 1 of article 102, both of the Code of Tax Procedure and Process.

2.5. It is competent to decide, pursuant to article 75 of the Code of Tax Procedure and Process, the Chief of Finance Services of ..., by delegation of competencies provided for in point 6.1 of Dispatch 2566/2017 of 28/03 of the Finance Director of Porto.

2.6. Finally, it is verified that no circumstance provided for either in subparagraphs a) and b) of no. 2 of article 56 of the General Tax Law, or in no. 2 of article 68 and in nos. 3 and 4 of article 111 of the Code of Tax Procedure and Process is known.

III. OF WHAT IS ALLEGED BY THE CLAIMANT

1. To substantiate the present request, the claimant alleges in its initial pleading (p.i.), which is hereby fully reproduced in its essential parts, that it is the dominant company of Group A..., subject to the Special Regime for Taxation of Groups of Companies (RETGS), the group being constituted, reporting to the fiscal year 2012, by the following companies:

3.1. A..., SGPS, S.A., TAX ID...;

3.2 F..., S.A., TAX ID...;

3.3. E…, S.A., TAX ID…;

3.4. G..., S.A., TAX ID...;

3.5. H…, S.A., TAX ID…;

3.6. B..., S.A., TAX ID…;

3.7. C..., S.A., TAX ID…;

3.8. I…, S.A., TAX ID… .

1. It was the subject of an inspection action with respect to Corporate Income Tax, relating to the fiscal year 2012, which resulted in a correction of € 110,906.64, by disregarding financial charges relating to the alleged acquisition of capital shares, in compliance with no. 2 of article 31 of the Tax Benefits Statute (EBF).

2. This correction resulted in the Statement of Assessment of Corporate Income Tax No. 2016..., Statement of Calculation of Interest No. 2016... and Statement of Account Settlement No. 2016..., in the total amount of € 396.46.

3. The claimant does not agree with the said correction, considering that the interpretation of the aforementioned no. 2 of article 31 of the Tax Benefits Statute by the Tax Inspection Services is contrary to the principle of legality.

4. It further considers that the administrative understanding of Circular 7/2004 of 30 March is not applicable to the case under review, since the financial charges incurred do not have any relationship with the acquisition of capital shares but with debts to credit institutions for other purposes and to Group companies in the form of advances and treasury operations.

5. For the foregoing, it requests that its claim be granted, with the consequent annulment of the assessment under appeal, as well as the reimbursement of the amount paid and the right to compensatory interest, under no. 1 of article 43 of the General Tax Law.

IV. APPRAISAL OF THE REQUEST

1. The claimant is the dominant company of a group of companies (Group A...) falling under, in the taxation period of 2012, with respect to Corporate Income Tax, in the Special Regime for Taxation of Groups of Companies (RETGS).

2. It was the subject of an inspection action under Service Order OI2016..., by the Tax Inspection Services of the Finance Office of Porto, which focused on the fiscal year 2012.

3. From the inspection action resulted the alteration of the taxable matter declared with respect to Corporate Income Tax, in the amount of € 110,906.64, through corrections of a purely arithmetical nature, carried out in the individual sphere of the claimant, as the dominant company of the group.

4. Having analyzed the Inspection Report, which the claimant attached to the case files (fls. 27 to 52), it was verified that the claimant, in its income declaration for the fiscal year 2012, did not proceed with any increase relating to financial charges incurred with the acquisition of capital shares, as provided for in no. 2 of article 32 of the Tax Benefits Statute (normative provision in force at the date of the facts).

5. In accordance with this provision, "The gains and losses realized by SGPS, SCR and ICR of capital shares of which they are holders, provided that held for a period not less than one year, and likewise the financial charges incurred with their acquisition do not contribute to the formation of the taxable profit of these companies."

6. The wording of no. 2 of article 32 of the Tax Benefits Statute corresponded to article 31 of the Tax Benefits Statute in force prior to its republication by Decree-Law no. 108/2008 of 26/06.

7. Circular 7/2004 of 30 March of the Corporate Income Tax Services Department came to clarify the methodology to be used in determining financial charges incurred with the acquisition of capital shares.

8. Thus, with respect to SGPS, SCR and ICR for purposes of determining the amount of financial charges incurred with the acquisition of social shares the indirect allocation method provided for in point 7 should be applied, through which the remunerated liabilities of the aforementioned entities should be allocated, first and foremost, to remunerated loans granted by these to participating companies and other investments generating interest, allocating the remainder to the remaining assets, namely social participations, proportionally to their respective acquisition cost.

9. The claimant argues in §40 to § 46 that the acquisition date of the capital stock of B... and C... dates back to 1992, so it considers that they cannot be considered for the calculation of non-deductible financial charges, as they cannot be classified under a legislative regime that came into force 10 years later, being unable to record financial charges with such antiquity.

10. Having analyzed the Inspection Report, the corrections proposed with respect to the participations held in these companies were duly substantiated by Point 5 of Circular 7/2004, which indicates that "it is applicable to financial charges incurred in taxation periods commenced after 1 January 2003, even though they relate to financing contracted before that date".

11. Thus, we are not faced with retroactivity in the application of no. 2 of article 32 of the Tax Benefits Statute, since in the case under review, the correction made referred to financial charges incurred in the fiscal year 2012.

12. As to what is alleged with respect to the participations of the "(...) companies that are included in the financial investments of the company at a date after 2003", the claimant indicates that with the exception of the company D..., whose shares were acquired, "(...) were established with own capital without any resort to financing."

13. In its view the situation of the claimant cannot be subsumed under the regime provided for in no. 2 of article 32 of the Tax Benefits Statute, by there having been no financial charges with the acquisition of the participations.

14. Regarding this question it should be noted that with the entry into force of no. 2 of article 31 of the Tax Benefits Statute, in the wording given by Law no. 32-B/2002, of 30/12 (later article 32) a tax benefit was established in favor of taxpayers which results in the non-consideration, in determining the taxable profit of Corporate Income Tax, of gains and losses realized by SGPS with the onerous transfer of social participations, provided that held for more than one year.

15. Together with the existence of that benefit the legislator also intended to disregard the financial charges relating to the acquisition of those social participations, because if that were not the case, there would be a double benefit in favor of the taxpayer, which would result in the acceptance for tax purposes of costs that would not contribute to the obtaining of taxable income.

16. It seems there are no doubts that the tax benefit and the disregarded financial charges mentioned in no. 2 of article 32 of the Tax Benefits Statute refer to the same reality, that is, the financial participations of which SGPS are holders, provided that held for a period not less than one year.

17. It is for this reason that Circular 7/2004 establishes that "should it be concluded, at the moment of transfer of the participations, that not all requirements for application of that regime are met, in that fiscal year the financial charges that were not considered as a cost in prior fiscal years shall be considered as a tax cost."

18. It is thus ascertained that the disregard of financial charges is inextricably linked to the existence of a tax benefit with respect to the financial participations to which those charges relate, so that should it be found that at the date of transfer of the financial participations there is no tax benefit, the respective charges should then be accepted for tax purposes.

19. There is thus no limitation to the application of no. 2 of article 32 of the Tax Benefits Statute, with all the conditions being met, with respect to the financial participations transferred by SGPS, even though they were not acquired, but resulted from capital contributions.

20. In this way, just as the transfer of financial participations resulting from capital contributions benefit from no. 2 of article 32 of the Tax Benefits Statute, with their respective gains or losses not contributing to the formation of taxable profit, the financial charges relating to those same participations are also not accepted for tax purposes, in accordance with the same normative.

21. It is further added that when no. 2 of article 46 of the Corporate Income Tax Code (with the wording in force at the date of the fact) establishes that "Gains and losses are given by the difference between the realization value, net of charges inherent to it, and the acquisition value deducted from (...)" and even though the Corporate Income Tax Code does not establish the concept of acquisition value, this, in accordance with accounting standardization, includes the value of the capital subscribed in companies subsequently established.

22. It is thus verified that, although there is no true acquisition, since there was no prior transfer, the value of the capital contributions made are considered, for purposes of determining gains or losses, as acquisition value.

23. There is thus no reason to consider that no. 2 of article 32 of the Tax Benefits Statute applies only to financial charges relating to financial participations acquired, that is, resulting from a prior transfer.

24. The claimant also states that as of 31/12/2004 there were no corrections to be made at the level of financial charges insofar as remunerated assets exceeded liabilities and that there were no acquisitions/establishments with sufficient materiality to generate the need to contract loans and incur financial charges, being that the deficit situation of the claimant in 2012 that generates the calculation of the present correction is brought about for reasons unrelated to the acquisition of social participations, insofar as the acquisition values recorded are residual.

25. It should be noted that the correction now claimed refers exclusively to the fiscal year 2012, the use of the method provided for in circular no. 7/2004 leads (given the principle that remunerated liabilities of SGPS should be allocated, first and foremost, to remunerated loans granted by these to participating companies) to the possibility of the existence of fiscal years in which there are corrections relating to financial charges and others in which there are no such corrections, depending on the relationship existing between the amounts of remunerated assets and liabilities existing on 31 December of each fiscal year.

26. It should also be mentioned that the tax administration is bound by the generic guidelines contained in circulars, regulations or instruments of identical nature regardless of their form of communication, aimed at ensuring uniformity of interpretation and application of tax rules, as provided for in no. 1 of article 68-A of the General Tax Law.

27. In this way, the Tax Authority is bound to comply with Circular 7/2004, in particular no. 7, which indicates that "as to the method to be used for purposes of allocating financial charges incurred in the acquisition of social participations, given the extreme difficulty of use, in this matter, of a method of direct or specific allocation and the possibility of manipulation that the same would allow, that allocation should be made on the basis of a formula that takes into account the following: remunerated liabilities of SGPS and SCR should be allocated, first and foremost, to remunerated loans granted by these to participating companies and other investments generating interest, allocating the remainder to the remaining assets, namely social participations, proportionally to their respective acquisition cost.

• In the year 2012, the Petitioner carried out the treasury operations that appear in document no. 5 attached with the application for arbitral pronouncement, the contents of which are hereby reproduced;

• In a tax inspection relating to the year 2008, the Petitioner exercised the right to a hearing in the terms appearing in document no. 6 attached with the application for arbitral pronouncement, the contents of which are hereby reproduced, in which it states that the financial charges incurred do not have any relationship with the acquisition of social participations;

• The Petitioner made payment of the amount of € 396.49 determined in the assessment under challenge (statement by the Petitioner that is not questioned by the Tax and Customs Authority);

• On 21-05-2018, the Petitioner submitted the application for arbitral pronouncement that gave rise to the present proceedings.

2.2. Unproven Facts and Grounds for the Decision on Factual Matters

It was not proven that the financial charges incurred by the Petitioner in 2012 are connected with the acquisition of social participations.

The facts were established as proven on the basis of the documents attached with the initial pleading and which form part of the administrative file.

As for payment of the amount assessed, the Petitioner makes such a statement, which is not questioned by the Tax and Customs Authority in its Response.

3. Matters of Law

The Petitioner as an individual company incurred financial charges in the period of 2012, which it considered as a tax expense in its entirety in the respective income declaration, not proceeding with the increase of any amount of non-deductible charges, for purposes of article 32, no. 2, of the Tax Benefits Statute.

The Tax and Customs Authority decided to apply the indirect method of determining the allocation of financial charges to the acquisition of social participations, making the correction to the taxable matter of the Petitioner which is the subject of the present proceedings.

The Petitioner argues, in summary, that it did not incur financial charges with the acquisition of social participations, that the determination of non-allocation is possible, and that the application of the method provided for in point of Circular no. 7/2004 is illegal.

3.1 Appraisal of the Question

The Tax and Customs Authority made a correction considering an increase to the taxable result, on the basis of the application of article 32, no. 2, of the Tax Benefits Statute (EBF), in the wording introduced by Law no. 64-B/2011, of 30 December (which corresponds to article 31, no. 2, in the wording prior to the republication effected by Decree-Law no. 108/2008, of 26 June).

Article 32, no. 2, of the Tax Benefits Statute establishes the following:

2 - The gains and losses realized by SGPS of capital shares of which they are holders, provided that held for a period not less than one year, and likewise the financial charges incurred with their acquisition do not contribute to the formation of the taxable profit of these companies.

The Corporate Income Tax Services Department issued, for purposes of interpretation and application of this provision, Circular no. 7/2004, of 30 March, establishing in its nos. 6 and 7, the following:

Tax year in which corrections of financial charges should be made

1. With respect to the tax year in which financial charges should be disregarded as costs, for tax purposes, the correction should be made, in the tax year to which they relate, of those that have been incurred with the acquisition of participations that are susceptible to benefiting from the special regime established in no. 2 of article 31 of the Tax Benefits Statute, regardless of whether all conditions for the application of the special regime for taxation of gains have already been met. Should it be concluded, at the moment of transfer of the participations, that not all requirements for application of that regime are met, in that tax year the financial charges that were not considered as a cost in prior tax years shall be considered as a tax cost. ( [1] )

Method to be used for purposes of allocation of financial charges to social participations

1. As to the method to be used for purposes of allocating financial charges incurred in the acquisition of social participations, given the extreme difficulty of use, in this matter, of a method of direct or specific allocation and the possibility of manipulation that the same would allow, that allocation should be made on the basis of a formula that takes into account the following: remunerated liabilities of SGPS and SCR should be allocated, first and foremost, to remunerated loans granted by these to participating companies and other investments generating interest, allocating the remainder to the remaining assets, namely social participations, proportionally to their respective acquisition cost.

The Petitioner in income declaration model 22 relating to the fiscal year 2012 did not indicate any amount as non-deductible financial charges pursuant to article 32, no. 2 of the Tax Benefits Statute.

The general regime for the relevance of gains and losses and financial charges for the formation of taxable profit of entities subject to Corporate Income Tax resulted in the contribution of gains and financial charges in their entirety [articles 20, no. 1, subparagraph h), and 23, no. 1, subparagraph a), of the Corporate Income Tax Code in the wording resulting from Decree-Law no. 159/2009, of 13 July), and in the contribution of losses at 50% [pursuant to articles 23, no. 1, in l) and 45, no. 3, of the same Code].

For SGPS, article 32, no. 2, of the Tax Benefits Statute (in addition to other situations provided for in its no. 3), established a special regime, which did not necessarily reduce to a benefit, which resulted, generally, in the non-relevance for the formation of taxable profit of SGPS of gains and losses realized from capital shares held for at least one year, accompanied by the non-contribution for the formation of taxable profit of financial charges incurred with their acquisition.

In no. 2 of article 32 of the Tax Benefits Statute it is established that there do not contribute to the formation of taxable profit "financial charges incurred with their acquisition", referring to capital shares, so it must be concluded that its literal tenor indicates that only the financial charges that are connected with the acquisition of social participations are encompassed by the non-deductibility established therein.

Beyond this being the interpretation that results from the literal tenor, it is corroborated by the explanation for its introduction in the Tax Benefits Statute that was given in the Report for the State Budget for 2003 (Law no. 32-B/2002, of 30 December).

In fact, as referred to in Circular no. 7/2004, the regime of this provision was introduced in the Tax Benefits Statute by Law no. 32-B/2002, of 30 December, which approved the State Budget for 2003, giving new wording to article 31, whose regime came to be contained in article 32 following the renumbering effected by Decree-Law no. 108/2008, of 26 June.

In Bill no. 28-IX, which came to result in the State Budget Law for 2003, the text of that article 31, no. 2, was contained with wording identical to that in force in 2012 (in article 32, no. 2), the only difference being the addition of the reference to "ICR" (abbreviation of "venture capital investors"), which is irrelevant for the interpretation of the provision.

In the said Report for the State Budget for 2003 ( [2] ), after noting a decline in the execution of the 2002 budget with respect to Corporate Income Tax ( [3] ) the introduction of several measures is announced aimed at "expansion of the taxable base and measures of moralization and neutrality", among which that of the non-deductibility of financial charges of nature directly associated with the acquisition of capital shares by SGPS, which is announced in the following terms:

"It establishes the disregard of deductibility, for purposes of determining taxable profit, of financial charges of nature directly associated with the acquisition of capital shares by SGPS";

It is thus unequivocal that the intention was that only financial charges directly associated with the acquisition of capital shares be encompassed by the non-deductibility.

By that express reference in the Report to the need for financial charges to be directly associated with the acquisition of capital shares (which is also expressed in the text of the provision through the reference to "financial charges with its acquisition"), it is concluded that it is not sufficient, to determine the non-deductibility of financial charges, the verification that the SGPS holds capital participations and incurred financial charges, being necessary to demonstrate that there is a direct relationship between certain financial charges and the acquisition of certain social participations.

It is a corollary of this interpretation, imposed by the literal tenor of article 32, no. 2, that, if certain participations were not acquired with liabilities generating financial charges (namely, those obtained through in-kind contributions or with use of own capital), they are irrelevant for the purpose of the application of that provision, in the part that refers to the non-deductibility of financial charges.

It is also a corollary of this interpretation that, with respect to social participations acquired with financing generating charges, only the charges derived from financing relating to their acquisition are non-deductible.

There is thus no legal support for setting aside the rule of deductibility of financial charges, which is contained in subparagraph c) of no. 1 of article 23 of the Corporate Income Tax Code, with respect to charges that are not directly associated with the acquisition of social participations.

For this reason, it is clear, in light of the letter of the latter part of no. 1 of article 32 and the explanation given in the Report for the State Budget for 2003, that the non-deductibility of charges applies only to those that are directly derived from financing used for acquisition of social participations.

This being the regime that is provided for in law, it cannot be altered through regulatory means, as provisions created by acts of legislative nature cannot be, with external effect, interpreted, supplemented, modified, suspended or revoked by acts of another nature (article 112, no. 5, of the Constitution). Moreover, as the Petitioner also argues, article 32, no. 2, of the Tax Benefits Statute is a provision that deals with tax incidence, in a broad sense, by decisively influencing the determination of taxable matter, so it is included in the reservation of law, pursuant to articles 103, no. 2, and 165, no. 1, subparagraph i), of the Constitution. For this reason, point 7 of Circular no. 7/2004 violates the principle of legality, as the Petitioner argues.

On the other hand, as the Petitioner refers, it was not demonstrated that it had incurred any financial charges with the acquisition of capital shares. It being on the Tax and Customs Authority that "the burden of proving the facts constitutive of the rights of the tax administration" rests (article 74, no. 1, of the General Tax Law), the lack of such proof requires that it be procedurally presumed that financial charges falling within no. 2 of article 32 of the Tax Benefits Statute were not incurred. Indeed, article 75 of the General Tax Law leads to the same solution, by establishing that "the declarations of taxpayers presented in accordance with the law are presumed true and made in good faith, as well as the data and determinations recorded in their accounts or accounting records, when these are organized in accordance with commercial and tax legislation, without prejudice to other requirements upon which the deductibility of expenses depends".

For this reason, one is faced, at a minimum, with a situation of well-founded doubt about the existence of financial charges falling within no. 2 of article 32 of the Tax Benefits Statute, which, pursuant to article 100, no. 1, of the Code of Tax Procedure and Process, justifies the annulment of the tax act.

Thus, it suffices that the correction made has been based on the method referred to in point 7 of Circular no. 7/2004, not provided for in law, to conclude the illegality of the correction made.

In fact, pursuant to the provisions of article 81 of the General Tax Law, taxable matter is assessed or calculated directly according to the criteria specific to each tax, the tax administration only being able to proceed to indirect assessment in the cases and conditions expressly provided for in articles 87 and following of the General Tax Law.

For this reason, should it be understood that the Petitioner omitted some accounting obligation that would require it to show the allocation of financial charges incurred, one would be faced with a situation of "impossibility of proof and direct and exact quantification of elements essential to the correct determination of taxable matter", provided for in subparagraph b) of no. 1 of article 87 and in subparagraph a) of article 88 of the General Tax Law, in which the determination of taxable matter can only be effected, by indirect methods, on the basis of the elements indicated in article 90 of the same Law and with application of the procedures provided for in its article 91.

Beyond not having used any criterion for determination of taxable matter provided for in article 90 of the General Tax Law, the Tax and Customs Authority used a method provided for in point 7 of Circular no. 7/2004, which is "an indirect method, presumptive, of allocation of financial charges in violation of articles 87 to 90 of the General Tax Law and for this reason illegal", as understood by the Supreme Administrative Court, in the decisions of 08-03-2017, rendered in case no. 0227/16, of 31-05-2017, rendered in case no. 01229/15 and of 31-05-2017, rendered in case no. 01229/15: "point 7 of Circular no. 7/2004, of 30.03, of the Corporate Income Tax Services Department, establishes an indirect method, presumptive, of allocation of financial charges in violation of articles 87 to 90 of the General Tax Law and for this reason illegal".

The use of this method "violates the principle of tax legality" (decision of the Supreme Administrative Court of 29-11-2017, rendered in case no. 01292/16).

For this reason, it is to be concluded, as the Supreme Administrative Court in the decisions of 24-01-2018, rendered in case no. 0745/15, and of 31-01-2018, rendered in case no. 01157/17: "the act of self-assessment of Corporate Income Tax carried out in obedience to the instructions contained in point 7 of Circular no. 7/2004, of 30.03, of the Corporate Income Tax Services Department, is affected by a defect of violation of law, insofar as it establishes an illegal method of allocation of financial charges incurred with the acquisition of social participations".

Thus, following this case law, from the outset because the Tax and Customs Authority made application of an illegal indirect method of determining taxable matter, it is to be concluded that the assessment under challenge is affected by a defect of violation of law, in the part relating to the application of article 32, no. 2, of the Tax Benefits Statute.

This defect, as well as that of error regarding the factual assumptions, justifies the annulment of the correction made and of the assessment that applied it, pursuant to article 163, no. 1, of the Code of Administrative Procedure subsidiarily applicable pursuant to article 2, subparagraph c), of the General Tax Law.

On the other hand, it not having been proven that the Petitioner had incurred, in 2012, financial charges related to the acquisition of social participations, the consideration of the remaining questions raised on this correction, including the questions of unconstitutionality that the Tax and Customs Authority raises on the assumption that financial charges connected with such acquisition were incurred, is precluded as being futile.

3.2. Calculation of Compensatory Interest

The calculation of compensatory interest has as its prerequisite the assessment of Corporate Income Tax (article 35, no. 8, of the General Tax Law), so it is affected by the defect that affects this.

4. Reimbursement of Amount Paid and Compensatory Interest

The Petitioner paid the amount fixed in the assessment under challenge in the amount of € 396.46.

Following the annulment of the assessment made, the Petitioner is entitled to reimbursement of the amount improperly paid, which follows from the annulment of the assessment, and is supported by articles 24, no. 1, subparagraph b), of the RJAT and 100 of the General Tax Law.

In accordance with the provisions of subparagraph b) of article 24 of the RJAT, the arbitral decision on the merits of the claim to which no appeal or challenge applies binds the Tax Administration from the end of the deadline provided for appeal or challenge, this Administration having to, in the exact terms of the proceeding of the arbitral decision in favor of the taxpayer and until the end of the deadline provided for the voluntary execution of decisions of tax courts, "restore the situation that would exist if the tax act subject of the arbitral decision had not been carried out, adopting the acts and operations necessary for that purpose", which is in harmony with the provision in article 100 of the General Tax Law [applicable by force of the provision in subparagraph a) of no. 1 of article 29 of the RJAT] which establishes that "the tax administration is obliged, in case of total or partial proceeding of a claim, judicial challenge or appeal in favor of the taxpayer, to immediately and fully restore the legality of the act or situation subject of the dispute, including the payment of compensatory interest, where applicable, from the end of the deadline for execution of the decision".

Although article 2, no. 1, subparagraphs a) and b), of the RJAT uses the expression "declaration of illegality" to define the competence of the arbitral tribunals functioning in the CAAD, not making reference to condemnatory decisions, it should be understood that the competences include the powers that, in judicial challenge proceedings, are attributed to tax courts, this being the interpretation that accords 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 directive, that "the arbitral tax procedure must constitute an alternative procedural means to judicial challenge proceedings and to the action for recognition of a right or legitimate interest in tax matters".

Judicial challenge proceedings, despite being essentially a process of annulment of tax acts, allows for the condemnation of the Tax Administration to pay compensatory interest, as can be inferred from article 43, no. 1, of the General Tax Law, in which it is established that "compensatory interest is due when it is determined, in a gracious claim 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" and article 61, no. 4 of the Code of Tax Procedure and Process (in the wording given by Law no. 55-A/2010, of 31 December, which corresponds to no. 2 in the original wording), which "if the decision recognizing the right to compensatory interest is judicial, the deadline for payment is counted from the beginning of the deadline for its voluntary execution".

Thus, no. 5 of article 24 of the RJAT, in saying that "payment of interest is due, irrespective of its nature, pursuant to the terms provided for in the general tax law and in the Code of Tax Procedure and Process", should be understood as allowing for the recognition of the right to compensatory interest in the arbitral process.

The substantive regime of the right to compensatory interest is regulated in article 43 of the General Tax Law, which establishes, as far as relevant here, the following:

Article 43

Improper Payment of Tax Obligation

1 – Compensatory interest is due when it is determined, in a gracious claim 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.

2 – It is also considered to be an error attributable to the services in cases where, despite the assessment being made based on the taxpayer's declaration, this has followed, in its completion, the generic guidelines of the tax administration, duly published.

The illegality of the correction and subsequent assessment is attributable to the Tax Administration, which carried them out on its own initiative.

Thus, the Petitioner is entitled to compensatory interest calculated on the amount to be reimbursed, pursuant to the terms of articles 43, nos. 1 and 4, and 35, no. 10, of the General Tax Law, 61, no. 5, of the Code of Tax Procedure and Process, 559 of the Civil Code and Ordinance no. 291/2003, of 8 April, at the legal default rate, and counted from the date payment was made until the date of processing of the respective credit note.

5. Decision

In accordance with the foregoing, this Arbitral Tribunal agrees to:

• Determine that the application for arbitral pronouncement is well-founded;

• Annul the correction to the taxable matter of the Petitioner in the amount of € 110,906.64 and the acts that applied it, which are the Corporate Income Tax assessment no. 2016..., the statement of calculation of compensatory interest no. 2016 ... and the statement of account settlement no. 2016..., all relating to the fiscal year 2012;

• Condemn the Tax and Customs Authority to pay and reimburse the Petitioner the amount paid corresponding plus compensatory interest, pursuant to the terms of point 4 of this decision.

6. Value of the Case

In accordance with the provisions of article 306, no. 2, of the Code of Civil Procedure and 97-A, no. 1, subparagraph a), of the Code of Tax Procedure and Process and 3, no. 2, of the Regulation of Fees in Arbitration Proceedings in Tax Matters, the value of the case is fixed at € 110,906.64.

7. Costs

Pursuant to article 22, no. 4, of the RJAT, the amount of costs is fixed at € 3,060.00, pursuant to Table I attached to the Regulation of Fees in Arbitration Proceedings in Tax Matters, to be borne by the Tax and Customs Authority.

Lisbon, 19-11-2018

The Arbitrators

(Jorge Lopes de Sousa)

(Mariana Vargas)

(Luís Menezes Leitão)

[1] Article 31, no. 2, of the Tax Benefits Statute corresponds to article 32, no. 2, following the renumbering effected by Decree-Law no. 108/2008, of 26 June.

[2] Available at:
http://www.dgo.pt/politicaorcamental/Paginas/OEpagina.aspx?Ano=2003&TipoOE=Or%u00e7amento+Estado+Aprovado&TipoDocumentos=Lei+%2F+Mapas+Lei+%2F+Relat%u00f3rio

[3] It is stated in the Report for the State Budget for 2003, page 51:

"the execution of the 2002 budget indicates a decline in revenue resulting from the reduction in results presented by some of the largest companies in 2001, being foreseeable that this trend will continue to worsen in 2002, which will determine a further decline in 2003 revenue. This trend will be aggravated by the impact of the reduction in the nominal Corporate Income Tax rate from 32% to 30% effective from 01/01/2002, which may be partially offset by the increase in special installment payment amounts".