IRC Deductibility of Invoices, Autonomous Taxation & Anti-Abuse Rules – CAAD Case 362/2017-T

ARBITRAL DECISION

The arbitrators Dr. Jorge Manuel Lopes de Sousa (arbitrator-president, designated by the other Arbitrators), Prof. Dr. Rui Duarte Morais and Dr. Maria Manuela do Nascimento Roseiro, designated, respectively, by the Claimant and the Respondent, to form the Arbitral Tribunal, constituted on 05-09-2017, hereby agree as follows:

1. REPORT

A…, S.A., legal entity no. … (hereinafter also referred to as A… or claimant), with registered office at Rua da …, Place of …, …, …-… … (hereinafter referred to as "Claimant"), submitted a request for arbitral pronouncement with a view to declaring unlawful the corporate income tax (IRC) assessment no. 2016…, reconciliation of accounts statement no. 2016… and compensatory interest assessment, relating to the fiscal year 2012, showing an amount of tax to be paid of € 465,436.53, of which € 225,746.33 corresponds to Autonomous Taxation (AT) and € 48,465.46 to compensatory interest, as well as the decision explicitly dismissing the administrative objection filed against such assessment.

The Respondent is the TAX AND CUSTOMS AUTHORITY.

The Claimant designated as Arbitrator Prof. Dr. Rui Duarte Morais, pursuant to article 6, no. 2, paragraph b), of RJAT.

The request for constitution of the Arbitral Tribunal was accepted by the President of CAAD and automatically notified to the Tax and Customs Authority on 06-06-2017.

Pursuant to article 6, no. 2, paragraph b) and no. 3 of RJAT, and within the period provided in article 13, no. 1 of RJAT, the highest official of the Tax Administration service designated as Arbitrator Dr. Maria Manuela do Nascimento Roseiro.

The Arbitrators designated by the Parties designated as President Arbitrator Cons. Jorge Lopes de Sousa, who accepted the designation.

Pursuant to and for the purposes of article 11, no. 7 of RJAT, the President of CAAD informed the Parties of this designation on 17-08-2017.

Thus, in accordance with article 11, no. 7 of RJAT, after the period provided in article 13, no. 1 of RJAT had elapsed without the Parties raising any objections, the Collective Arbitral Tribunal was constituted on 05-09-2017.

The Tax and Customs Authority submitted its Response, in which it argued that the request for arbitral pronouncement should be dismissed as unfounded.

On 27-11-2017, the holding of a hearing was dispensed with and it was decided that the proceedings would continue with written submissions.

The Parties presented their submissions.

The Arbitral Tribunal was regularly constituted and is competent.

The parties are duly represented, enjoy legal personality and capacity and are legitimately entitled to proceed (articles 4 and 10, no. 2, of the same legal instrument and article 1 of Ordinance no. 112-A/2011, of 22 March).

There are no nullities nor impediments to consideration of the merits of the case.

2. FACTS

2.1. Established Facts

The following facts are considered established:

• The Claimant is a joint stock company, with its principal business activity being the decoration of ceramic articles for domestic and ornamental use, corresponding to CAE code 23414 and which declared the commencement of activity on 1997-02-01. It also declares a secondary activity of "other printing," corresponding to CAE code 18120;

• The Claimant is engaged in the manufacture of faience, porcelain and fine stoneware articles and operates under the registered trademark "B…";

• The articles produced by the Claimant are, in their vast majority, coffee and tea cups (and their respective saucers);

• The Claimant develops projects for the design of cups and saucers and advises the client so that the final product — coffee or tea cup with communication alluding to the coffee roasting brand;

• The Claimant acquires raw materials — mainly cups and saucers — from various suppliers, most of them in the domestic market;

• The Claimant's principal suppliers are the Company C…, S.A. ("C…") and "D…, Lda.," with registered office at … ("D…"), which provide more than 50% of the Claimant's supplies;

• In the year 2012, the Claimant acquired supplies from abroad due to the inability of the national production market for cups and saucers to meet the Claimant's needs;

• For several years the Claimant has used a Chinese supplier/trader, shareholder in several local companies which, from Hong Kong and Malaysia, has secured, with Chinese and Malaysian producers, part of the Claimant's inventory;

• This supplier of the Claimant, E…, is a Chinese businessman with connections to industry and commerce in China and Hong Kong, who was managing partner of the companies F... Ltd./ G…, as well as of the companies H… and I… (hereinafter, only "H…/I…," which were the relevant suppliers in 2012) (document no. 8 attached to the request for arbitral pronouncement, the contents of which are reproduced herein);

• H…/I… has provided extended payment deferral for supplies (document no. 9 attached to the request for arbitral pronouncement, the contents of which are reproduced herein);

• Purchases of goods from H…/I… are documented by two invoices — which, for simplification, were referred to as "A" and "B" — these latter relating to services that are provided locally (in China) and are intended to place the goods in their condition upon leaving the local port;

• These invoices "B" relate to services such as local transit of goods, storage costs, port expenses, certificates of origin and packaging that are contracted locally by the suppliers and that the Claimant pays according to the specifications transmitted by them;

• The Tax and Customs Authority conducted an inspection procedure regarding the Claimant's acquisitions during the period 15-11-2012 to 31-03-2015, at the request of the Dutch customs authorities, and drew up the Report appearing in document no. 11 attached to the request for arbitral pronouncement, the contents of which are reproduced herein, referring to, among other things, the following:

[CONCLUSIONS OF ACTION]

Given the surrounding circumstances and factual matters described below, it can thus be concluded that:

The taxable person "A…, SA," Tax ID PT…, with tax domicile and commercial premises at Rua …– …| …| …-… … …, has as its principal activity the production of porcelain goods, essentially for coffee roasters.

In the period analyzed, comprised between 2012/11/15 and 2015/03/31, the PT company made extra-community purchases of goods, processed at PT customs, in an insignificant number [2 import operations supported by Single Administrative Document (DAU) - DAU no. …-…. (2012/03/01) and no. 2013PT… (2013/07/19)], totaling a countervalue of € 555.20 (five hundred and fifty-five euros and twenty cents).

Following the actions proposed in Information Sheet for Action (FIPA no.…), this procedure had as its objective, at the request of the Dutch customs authorities:

1. Confirm the veracity of 20 (twenty) commercial import operations (one from China and nineteen from Malaysia) processed in the Netherlands;

2. Confirm the authenticity of the certificates of origin supporting those operations;

3. Confirm the accounting record of those operations.

Requesting that we also provide, insofar as possible, the following information:

a) What was the reason that led the Portuguese company to import the same type of goods from Malaysia when previously it imported them from China?

b) Why were the pro forma invoices no. CT1079, CT1089 and CT1112 used several times?

c) Is it possible to determine the true origin of the goods?

d) Does the company "I…" manufacture the products it exported or is it a reseller?

e) Does the importing company have purchase/sale contracts for the goods in its possession?

f) Are the invoices genuine and authentic?

g) Did the importing company make any additional payments beyond the price indicated in the invoice?

h) To whom were the goods actually paid?

From the investigation it was confirmed:

1. The veracity of the commercial import operations that supported the 20 (twenty) DAUs for free circulation processed in the Netherlands, listed in FIPA no.…;

2. The accounting record of those operations;

From the investigation it also resulted that there was nothing to indicate otherwise regarding:

1. The authenticity of the certificates of origin supporting those operations.

The replies to the questions posed by the Dutch customs authorities [paragraphs a) to h)] are contained in section VIII ("Other Relevant Elements") of this report.

All records and accounting and customs documents supporting the twenty-two import operations in question (20 processed in the Netherlands and 2 processed in Portugal) were examined and copies of documents considered relevant for clarification of the requested information were collected.

Agreement was observed between the taxable person's accounting and customs documents and records and the administrative documents and records examined.

The taxable person "A…, SA," Tax ID PT…, had in its document archive all the accounting and customs documents in question.

(...)

REPLY TO FIPA NO. …

From the investigation, on the 3 (three) main issues detailed in FIPA no.…, it was confirmed:

1. The veracity of the commercial import operations that supported the 20 (twenty) DAUs for free circulation processed in the Netherlands, listed in FIPA no.…;

2. The accounting record of those operations;

It also resulted that there was nothing to indicate otherwise regarding:

1. The authenticity of the certificates of origin supporting those operations.

As for the specific questions posed by the Dutch customs authorities [paragraphs a) to h)], follows a summary of responses dedicated to each of these:

a) What was the reason that led the Portuguese company to import the same type of goods from Malaysia when previously it imported them from China?

A: According to statements from the official responsible (contact point) of the PT company "A... SA," Tax ID PT…, the change in country of origin (and supplier) of the goods in question is due to an act of good customs management of international trade operations, thus avoiding additional costs associated with the payment of anti-dumping duties (to which goods imported from China were subject).

b) Why were the pro forma invoices no. CT1079, CT1089 and CT1112 used several times?

A: These pro forma invoices (like all others mentioned in all the definitive invoices in question) are issued by a trading company (H…), embody a contractual agreement, and are followed by the definitive invoices mentioned in the DAUs processed in the Netherlands (mentioned in FIPA no.…).

c) Is it possible to determine the true origin of the goods?

A: From the investigation it resulted that there was nothing to indicate otherwise regarding the authenticity of the certificates of origin supporting the DAUs processed in the Netherlands (mentioned in FIPA no.…).

d) Does the company "I…" manufacture the products it exported or is it a reseller?

A: According to statements from the official responsible (contact point) of the PT company "A... SA," Tax ID PT…, and according to the Declaration issued by the MY company "I…," certified by MY company "J…" (stamped and signed by its Executive Administrator), the said MY company is a manufacturer of goods relating to the nineteen DAUs processed in the Netherlands (mentioned in FIPA no. … - with declared origin in Malaysia).

e) Does the importing company have purchase/sale contracts for the goods in its possession?

A: There is no formal and standardized contract. The process for acquiring goods deemed necessary begins with a "purchase order," embodied in an "order detail" with a trading company (H…), which seeks to find the best supplier (in accordance with required quality standards), sending a reply in the form of pro forma invoices which, once accepted, constitute the commercial agreement.

f) Are the invoices genuine and authentic?

A: Nothing indicates that any invoice supporting the DAUs processed in the Netherlands (mentioned in FIPA no.…) is not genuine and authentic. All these invoices are properly recorded in the accounting of the PT company "A... SA," Tax ID PT…. Their originals are contained in the respective accounting and customs file and are properly recorded.

g) Did the importing company make any additional payments beyond the price indicated in the invoice?

A: The payments relating to the commercial transactions supporting the DAUs processed in the Netherlands (mentioned in FIPA no.…), notably those made to the MY company "I…," are detailed in Table 4 of this report. No additional payment was identified that was not related to the commercial transactions recorded in the accounting of the PT company "A…, SA," Tax ID PT….

h) To whom were the goods actually paid?

A: The payments in question were made by international bank transfer to the order of the trading company "H…".

• The Tax and Customs Authority conducted a tax inspection action on the Claimant in compliance with Service Order No. 0l2015…, relating to IRC for fiscal year 2012;

• In this inspection action a Tax Inspection Report was drawn up appearing in document no. 2 attached to the request for arbitral pronouncement, the contents of which are reproduced herein, which refers to, among other things, the following:

III - DESCRIPTION OF FACTS AND BASIS FOR PURELY ARITHMETIC CORRECTIONS TO TAXABLE INCOME

III.1. Acquisitions of Raw Materials from the East

III.1.1. Description of Facts

As stated in point "II-3.6.1 Prior Preparation of Action" of this report, the taxable person belongs to the permanent monitoring register of this organizational unit. For this reason, tax inspection procedures are periodically initiated, the objective of which is to monitor compliance with its tax obligations.

As a consequence of these procedures, more specifically from the inspection procedure for the periods 2010 and 2011, conducted between 2013-01-22 and 2013-09-17, the following facts were identified:

• Corrections to taxable income for IRC purposes, by virtue of the accounting records showing duplicated expenses relating to services connected with acquisitions from the foreign market, namely the acquisitions of porcelain articles from the economic operator domiciled in the People's Republic of China;

• Reduction of gross margins for the periods 2009 and 2010;

• Declining trend of taxable profit since 2004 (with a marked inflection in 2011).

In this action, similarly to the tax inspection actions taken in the inspection procedure for the periods 2010 and 2011, proportionate and suitable procedures were undertaken in search of material truth, established as a principle of the tax inspection procedure by article 6 of RCPITA.

Thus, an analysis was conducted on supplies from abroad, especially acquisitions of porcelain articles (cups and saucers) from economic operators domiciled in the People's Republic of China.

Previously, it should be noted that, regarding porcelain acquisitions originating from the People's Republic of China, in 2004, the taxable person made an investment of USD 970,000.00 in partnership with the Chinese economic operator, F… LIMITED, (represented by E…): USD 670,000.00 the responsibility of the taxable person and USD 300,000.00 the responsibility of the Chinese partner.

This investment was governed by an Investment Contract, a photocopy of which is attached as ANNEX I - pages numbered 5 to 6.

In the period of 2012, the taxable person's supplier from the foreign market is the Chinese operator H….

However, according to clarifications provided by the taxable person, through its administrator, it is the same supplier in the Investment Contract, since Mr. E…, is also managing partner of H… (see ANNEX I – pages numbered 1 to 38, point 8 of clarifications-page 1).

It should be noted that, according to analysis of the invoices issued by H… and the Investment Contract, the companies F… /G… and H… have the same address (see ANNEX I - pages 5 and 6 and pages 9 to 38).

Furthermore, the bank account destination for payments made by the taxable person has been the same, at least since 2010. This conclusion was obtained from accounting elements relating to the inspection procedure for the periods 2010, 2011 and 2012.

The reasons for the company name changes are unknown, including, from December 2012, supplies are the responsibility of the company I… (hereinafter referred to simply as I…) with registered office in Malaysia, which also uses the same bank account domiciled in Hong Kong, which suggests it is the same supplier.

It should also be noted that, during the inspection procedure for the periods 2010 and 2011, the manager (at that time) of the taxable person stated that it is indeed the same supplier.

In that procedure he further stated that he was unaware of the reasons for frequent company name changes. He justified, however, the change of origin (Malaysia in preference to China) with issues of cost savings, on the part of goods purchasers, in customs duty charges, as a result of anti-dumping procedures, on goods originating in China, imposed by the Union European authorities, by Commission Regulation (EU) no. 1072/2012, of 14 November 2012. This regulation increased the charges resulting from the payment of customs duties: from a rate of 12% on the customs value increased to rates of 17.6% to 58.8%.

Given these preliminary considerations and the analysis of acquisitions from the People's Republic of China, it is verified that each supply is based on two invoices identified by a numbering that follows the following pattern: AN32XXXA and AN32XXXB (the space identified here by the set of characters XXX is for sequential numbering of documents: 001 to 023).

For the period analyzed, external acquisitions total 1,392,895.31 EUR (see the list in ANNEX II - 1 page), distributed among the following suppliers:

The description in the invoices of series A shows the references for cups and/or saucers supplied by the Chinese/Malaysian economic operator.

The description in the invoices of series B (until September 2012) consists of a set of items, detailed below:

From October 2012, the invoice of series B shows the following description without itemization:

TRANSPORTATION COST FROM CHAOZHOU TO SHENZHEN YANTIAN; WAREHOUSE CHARGE AND CONTAINERS LOADING IN SHENZHEN; TERMINAL CHARGE IN YANTIAN, SHENZHEN; CARTON BOXES; OTHER EXPENSES SUCH AS MONITORING, QUALITY CONTROL AND ORDERS FORMALIZATION:

Comparing the series B invoices issued until September 2012 with those issued from October 2012, items 3, 5 and 6 were removed from the description, adding "CARTON BOXES; OTHER EXPENSES SUCH AS MONITORING, QUALITY CONTROL AND ORDERS FORMALIZATION".

The foregoing paragraphs prompted deeper analysis of purchases from the People's Republic of China, with focus (1) on series B invoices issued until September 2012 and (2) on series A invoices issued from October 2012.

Series B Invoices, issued until September 2012

As a result of analysis, it is verified that the distribution of different amounts expressed in each series B invoice is homogeneous and consistent. That is, the absolute amounts of each invoice vary from supply to supply, but in relative terms, each of the items identified above is equal in all invoices of the series referred to, as evidenced through examples of the following invoices:

This finding prompted the need to identify the services itemized in the series B invoices.

The Portuguese translation of the different items in the description of series B invoices is as follows:

That is, from the analysis of the description of series B invoices, it is concluded that they are intended to reflect to the taxable person the different costs of transporting goods from the factory in China to the Port of Leixões, in Matosinhos.

However, according to analysis conducted in the inspection procedure for previous periods, it will be necessary to know the conditions defined for the acquisition of the goods.

Thus, the conclusions obtained in the inspection report for the periods 2010 and 2011, credentialed by Olxxxxxxxx, relating to the conditions defined for the acquisition of goods are transcribed:

And there we must refer to series A invoices, where it is expressed that the contractual terms are sustained by FOB (Free on Board) conditions.

International commercial operations originate from a purchase and sale contract executed between the importer and the exporter, in which the clauses by which the respective commercial operation will be governed are stipulated. INCOTERMS (International Commercial Terms) can be considered as a set of International rules of a non-binding character, which the International Chamber of Commerce brought together and defined based on practices more or less standardized by merchants. INCOTERMS basically define the location where the seller is responsible for the goods and what charges are at his expense and which will thus be included in the price.

The functions of INCOTERMS are essentially as follows:

1. They define the transfer of charges. The seller knows exactly the moment and location up to which he must assume the charges relating to his sales contract and thus include them in the price. This procedure allows the buyer to recognize exactly the charges he must add to the purchase price in order to compare with other national and international offers.

2. They define the transfer of risk. The buyer knows exactly the moment and location from which the risks that goods incur during transport are at his account. For this reason, INCOTERMS define the moment and location from which the seller's responsibility ends and the buyer's begins.

3. They define the location from which the goods will depart. INCOTERMS indicate the exact location where the seller must place the goods and thus the location where the buyer will pick them up.

Incoterms follow a standardized classification, which is basically as follows:

Group E (Departure): EXW

Determines a single term representing the minimum obligation on the part of the seller, through which the seller places the goods at the disposal of the buyer at the seller's own premises.

Group F (Respective main transport): FCA, FAS, FOB

The seller must deliver the goods to the carrier designated by the buyer at the location and term determined.

Group C (Main transport paid): CFR, CIF, CPT, CIP

The seller must contract the carrier, but without assuming the risk of loss or damage to the goods nor any additional cost arising from shipment and dispatch. The CIF and CIP conditions mean that the seller must contract transport insurance. It should be noted that Group C is identical to Group F, as regards compliance with the contract; in both cases the seller fulfills the contract in the country of shipment or dispatch for export. As a consequence, Group C refers to shipment contracts. Like Group F, and not arrival at destination contracts exclusive to Group D. It is the seller who contracts the carrier and insurance (CIF and CIP), but the risks of loss or damage to the goods, as well as any additional expense after shipment, are at the buyer's account.

Group D (Arrival): DAF, DES, DEQ, DOU, DDP

The seller bears all costs and risks until delivering the goods in the country of destination. The difference between this and Groups E, F and C is that the risk for the seller extends until the moment of delivery at the location established in the country of import.

The seller has no obligation toward the buyer to contract transport insurance, since it is the seller himself who bears the risks until the moment of delivery at the location established.

It is also important to note that parties wishing to use INCOTERMS must specify this in contracts.

Concerning the FOB conditions already referred to often, the distribution of charges between buyer and seller can be summarized in the following table:

The comparison of the items presented in the table relating to the description in the series B invoice (until September 2012) with those presented in Table 17 of the transcription of the previous report allows the following to be verified:

a) The taxable person is bearing charges which, in accordance with INCOTERMS, in particular FOB rules, are the seller's responsibility (Chinese economic operator). By way of example, compare the item identified as item 1, in the table relating to the description in the series B invoice (Transportation cost from CHAOZHOU to SHENZHEN YANTIAN), with the responsibility for this same charge under FOB rules summarized in Table 17, more specifically in code 3.

b) In the description of series B invoices, there is no apparent distribution of items identified as items 2 and 4 (Warehouse charge and container loading in SHENZHEN and Terminal charge in YANTIAN, SHENZHEN, respectively) as suggested by the interpretation of code 5 of Table 17.

c) According to Table 17, the charge for freight from the Chinese port to the Portuguese port will be the taxable person's responsibility (see code 6). This fact is confirmed by analysis conducted on the invoices from supplier K…, and their respective accounting entry in the taxable person, which made it possible to conclude that the charges resulting from the freight Yantian/Rotterdam/Leixões were recorded in account "31221 exempt." ANNEX III (pages numbered 1 to 61) contains the list of invoices from supplier H… and supplier K…, prepared to highlight this fact and which constitutes proof of duplication of service expense.

Thus, the acceptability of item 3 presented in the table relating to the description in series 8 invoices is questionable - Freight from SHENZHEN YANTIAN to Leixões.

Reinforcing this fact, and analyzing the description in the invoices issued by supplier K…, the meanings of the different items and inherent services debited are highlighted:

1. BL Pack. Port fee and Operation Pack: relate to local expenses in Portugal;

2. Local transportation and Fuel tax: relating to transport from Port of Leixões to customer's premises;

3. Freight: transport from Yantian (China) to Rotterdam (Holland);

4. ERC: emergency risk charge (payable to the ship owner);

5. STF: Suez transit fee (fee for passage through the Suez Canal);

6. THC/D: terminal handling charge;

7. EU Freight: transport from Rotterdam (Holland) to Leixões (Portugal), from K…, photocopies of documents in Dutch are presented, from which the following elements stand out that reinforce the fact that there was duplication of expenses:

8. Toestemming tot wegvoering: consent to disembarkation (in Rotterdam);

9. Land verzend/ultv: transport country/export (China);

10. Goederencode: code of goods.

This is a supporting document for clearance in the Netherlands, which accompanies the charges debited by K… to L…, relating to products originating in China and with reference to code 69111000. For identification of products with this code, and in order to dispense with the extensive translation of its description, we consulted the website of the National Statistics Institute (INE), which contains the "Combined Nomenclature of the European Union", and the code referred to relates to "Crockery, other articles for domestic use and articles of hygiene or toilet, of porcelain: articles for table or kitchen service".

Thus, and in conclusion to paragraph c) (charge for freight from the Chinese port to the Portuguese port of Leixões), it is verified that the values debited by K… are related to the services for transport of cups and/or saucers from the People's Republic of China to Portugal, with passage through Rotterdam, so the values debited in the H… series B invoices related to freight from SHENZHEN YANTIAN to LEIXÕES cannot be accepted for tax purposes.

d) With regard to item 5 of the table relating to the description in the series B invoice (Gift box), its meaning refers to a gift box offered by the seller, but debited to the customer (and with his knowledge). Such a situation does not seem credible to us and is therefore very unlikely.

e) Concerning the certificate of origin (item 6 of the table relating to the description in the series B invoice), it is a document that allows national exporters to attest to the origin of their products. It is a document provided by the exporter and used by the importer, for proof of the origin of the goods, and therefore constitutes also a seller's charge.

(2) Series B invoices, issued from October 2012

As stated, from October 2012, series B invoices show the following description:

TRANPORTATION COST FROM CHAOZHOU TO SHENZHEN YANTIAN; WAREHOUSE CHARGE AND CONTAINERS LOADING IN SHENZHEN; TERMINAL CHARGE IN YANTIAN, SHENZHEN; CARTON BOXES; OTHER EXPENSES SUCH AS MONITORING, QUALITY CONTROL AND ORDERS FORMALIZATION:

Translating to Portuguese:

Transportation cost from CHAOZHOU to SHENZHEN YANTIAN; Warehouse charge and container loading in SHENZHEN; Terminal charge in YANTIAN, SHENZHEN; Carton boxes; Other charges such as monitoring, quality control and orders formalization:

The analysis conducted on series B invoices issued until September 2012, namely the transcription of conclusions obtained in the inspection report (drawn up during the inspection procedure for the periods 2010 and 2011) relating to conditions defined for international commercial operations, can be extrapolated to the analysis now in question, as demonstrated in the following paragraphs.

As already mentioned, international commercial operations originate from a contract between the importer and the exporter and in which the clauses by which the commercial operations will be governed are stipulated (INCOTERMS),

The functions and standardized classification of INCOTERMS are recovered: Group E: EXW; Group F: FCA, FAS, FOB; ...

Regarding FOB conditions, Table 17 showing the distribution of charges between buyer and seller is also recovered:

It was already stated that series A invoices express the contractual terms in FOB conditions and as such the exporter should assume the charges related to the sale and include them in the price.

Comparing the said Table 17 with the description in series B invoices, it is concluded that the taxable person is bearing costs which, in accordance with FOB conditions (emphasize: expressed in series A invoices, see ANNEX pages 28v, 29v and 30v) are exporter charges.

Note that under FOB conditions (see Table 17): (1) the "Transportation cost from CHAOZHOU to SHENZHEN YANTIAN; (2) the "Warehouse charge and container loading in SHENZHEN"; (3) the "Terminal charge in YANTIAN, SHENZHEN"; (4) Carton boxes; and (5) Other charges such as: monitoring, quality control and orders formalization are the responsibility of the seller and not the buyer.

The foregoing in points (1) Series B invoices issued until September 2012 and (2) Series B invoices issued from October 2012 allows the conclusion that it is not possible to accept as tax deductible the totality of the charges shown in series B invoices, because, as demonstrated, they do not comply with the letter and spirit of the rule contained in article 23 of the IRC Code, which provides that only charges that "...are proven to be indispensable for the realization of income subject to tax or for the maintenance of the productive source..." can be fiscally accepted.

III.1.2. Calculation of corrections relating to charges in series B invoices

As already stated, the charges in series B invoices cannot be accepted as expenses.

These charges were accounted for in account 31 (purchases) and subsequently transferred to CMVMC.

CMVMC is represented by the following calculation formula:

CMVMC = Opening inventory + Purchases +/- Inventory adjustments - Closing inventory.

Thus, in calculating CMVMC, the value of charges in series B invoices must be purged. That is, it is necessary to extract from opening and closing inventory, and from purchases, the value corresponding to series B invoice charges.

Regarding the value recorded in the purchases account, the value in question is 640,236.28 EUR, as already mentioned in point "III.1.1. Description of Facts" of this report, more specifically in the table relating to external acquisitions where it is itemized by supplier and, within these, by invoice series.

Regarding the calculation of the value of opening and closing inventory, raw materials from suppliers H… and I…, the same was determined with the collaboration of the taxable person, through its technical/operational director, M…, as follows:

1.1. The inventories for the periods 31/12 of 2011 and 2012 are organized according to supplier and, within this, according to the article (see document prepared from the Inventories in accounting - ANNEX IV - pages numbered 1 to 4)

1.2. Thus, suppliers from the East (H…/I…) (with Code 3133, cups with code A1 and saucers with code A2,

1.3. From the aforementioned inventories, the articles with those codes were extracted and a list was prepared where the counts and their respective values on 2011/12/31 and 2012/12/31 appear (see ANNEX IV - pages numbered 5 to 10),

1.4. The unit price (P. Unit.) of each article in inventory, according to the information provided by the aforementioned employee, reduced to sworn declarations (ANNEX IV - page 11), is given by the following formula:

P. Unit. in Inventory = (P. Unit. in series A invoice + P. Unit. in series B invoice (*)) x 1.229

(*) Obtained by the proportion of quantities in the respective series A invoice

1.5. By way of example, the article with reference "A1.3133.0002 - Coffee Cup CHO Model 4 NS - 80 c.c." shown in the first line of the Inventory of 2011-12-31 has 43,200 units at a P. Unit. of 0.210 EUR.

1.5.1. The analysis of series A10 invoices allows the conclusion that the P. Unit. of said article is 0.093 EUR.

1.5.2. Thus, using the formula above evidenced, the P. Unit. related to the series B invoice can be determined;

0.210 EUR = (0.093 EUR + P. Unit. in series B invoice) x 1.22 o ** P. Unit. in series B invoice = 0.0796 EUR

1.5.3. Having determined the P. Unit. according to the previous point, the value relating to the coefficient 1.22 applied to the P. Unit. must be added:

0.0972 = 0.0796 EUR x 1.22

1.6. Having determined the P. Unit. according to the previous point, it will only remain to multiply this by the quantity in stock (to obtain the value that must be purged from inventory). Performing the calculations (still in the example) it is verified that the value that must be purged from Opening Inventory relating to "article A1.3133.0002 - Coffee Cup CHO Model 4 NS - 80 c.c." is 4,196.88 EUR (43,200 x 0.0972).

The values thus determined are found in ANNEX IV (pages numbered 12 to 15) - and total the following values:

• Value of Opening Inventory related to series B invoice = 883,954.87 EUR

• Value of Closing Inventory related to series B invoice = 698,002.02 EUR

It should be noted that, if the quantities and P. Unit. existing for a particular article code are the same on the dates 2011-12-31 and 2012-12-31, nothing was determined insofar as the value thereof was also unchanged (that is: Opening Inventory equals Closing Inventory) and consequently CMVMC is also not altered.

The correction for IRC purposes in the CMVMC item will be in the amount of 826,189.13 EUR (883,954.87 + 640,236.28 - 698,002.02), under article 23 of the IRC Code.

III.1.3. Autonomous Taxation

Despite the presence of acquisitions of goods (porcelain) from economic operators based in the People's Republic of China and Malaysia, the payments for these supplies were made to an account domiciled in the Special Administrative Region of Hong Kong of the same People's Republic of China.

The Portuguese Government included Hong Kong in the list of countries, territories and regions with privileged tax regimes, clearly more favorable (see Ordinance no. 150/2004, of 13 February, amended by Ordinance no. 292/2011, of 8 November, see no. 31, article 1).

As determined by article 65, no. 1 of the IRC Code (legislation in force at the date of the facts):

Not deductible for purposes of determining taxable income are amounts paid or owed, in any capacity, to natural or legal persons resident outside the Portuguese territory and there subject to a clearly more favorable tax regime, except if the taxable person can prove that such charges correspond to operations actually carried out and do not have an abnormal character or an exaggerated amount, (italics ours).

Article 65, no. 4 of the aforementioned article further provides that "The proof referred to in no. 1 must take place after notification of the taxable person, made with a minimum advance of 30 days."

In these terms, the taxable person was personally notified, through its administrator, N…, (ANNEX I - page 4v), pursuant to no. 4 of article 65 of the IRC Code, to present proof that "payments made in the period 2012 to entity H… (...) correspond to operations actually carried out and do not have an abnormal character or an exaggerated amount".

The response to said notification (see the same ANNEX I - pages numbered 1 to 38) states the following:

1. Points 1 to 14 show coherence with the facts described in point "II-3.7 Analysis of Activity" of this report, from which no facts emerge that would warrant any further annotation.

2. Points 15 to 24 emphasize the fact that the economic operator from the People's Republic of China is the supplier that offers, in addition to the best price for its supplies, the best payment conditions (quite extended terms, generally 12 months). Such facts do not warrant altering the position of the Tax Authority, by virtue of the fact that the price and payment conditions of purchases in the period targeted by the inspection procedure have never been questioned.

3. In points 25 to 28, in addition to presenting all invoices relating to purchases made from operator H… and thereby wishing to demonstrate the effectiveness and normal character of the operations, it relates facts connected with purchases, namely the charges associated with the transport thereof from the factory to the port of shipment (SHENZEN) and which are debited to the taxable person in series B invoices. Regarding this fact, as mentioned and demonstrated in point "III.1.1. Description of Facts," it is important to note that:

a) Although the taxable person in its response does not include the charges supported and documented in series B invoices issued until September 2012, it is a fact that they contain charges that could not have coexisted in space and time with similar expenses debited by another supplier (K…);

b) As best documented by consultation of series A invoices presented by the taxable person itself and contained in ANNEX I, the conditions governing the commercial operations between the taxable person and the supplier from the People's Republic of China were defined as FOB (series A invoices expressly show "FOB YANTIAN" or "fob malaysia") and therefore the charges borne up to the shipment wharf are included in the price shown in the series A invoice, and therefore cannot appear reflected in another document.

1. In point 29 the taxable person states that the amounts paid to H… are not exaggerated (even adding the prices of raw materials (series A invoices) and services (series B invoices). This fact, and as already mentioned in point 2 of this response, does not warrant altering the Tax Authority's position, by virtue of the fact that the price has never been questioned.

2. In points 30 to 33 it makes a comparison between the taxable person's specific case (purchases from the People's Republic of China operator) and a report prepared by the DELOITTE company (doc. 6 of the response to notification). On this fact, and unless better advised, it is important to note the following:

a) From analysis of the referred report entitled "Benchmarking Report," it is verified that its objective is to support analysis of the cost structure of companies that import goods, namely the relevance of the purchase of goods abroad (accounting reflected in the CMVMC account) in relation to the total of other expenses that can be debited abroad.

b) More specifically, the referred report shows a study that sought to assess the relationship of the CMVMC and FSE components versus other operating expenses (except personnel expenses) in determining the price of goods imported, in the sector of "Wholesale trade in ceramic and glass crockery and cleaning products" (CAE 4644).

c) The results obtained from the study show that the cost structure of companies developing this activity should approximate the values of 61.60% for the percentage of CMVMC / Operating costs (except personnel expenses) and 31.31% for the percentage of FSE / Operating costs (except personnel expenses).

d) The taxable person extrapolates this conclusion to the charges considered in series B invoices, stating that these represent 45% of total costs and raw materials represent 55%.

e) It adds that in the CMVMC of the companies in the study the cost of transport is considered (in accordance with SNC), and therefore for the comparison to be reliable, at least the cost of transport from the factory to the Chinese port (which represents 25% of the total services) must be purged from the services (contained in the series B invoice). It concludes that the weighting of services in total costs (raw materials and services) drops about 10 percentage points, thus obtaining the percentage of 35% for services in relation to total costs, that is, in line with the average percentage of FSE obtained in operating costs in the referred study.

f) Previously, note the fact that the companies targeted in the study do not belong to the taxable person's CAE.

g) However, even if the study pertained to companies with the same classification, the extrapolation made by the taxable person cannot be done. The only comparison this study would allow was to verify whether the cost structure in the taxable person's accounting is similar to that of the study, that is, whether the CMVMC item and the FSE item in the taxable person's accounting present respectively about 61.60% and 31.31% of operating costs (except personnel expenses).

h) It should also be noted that the taxable person's accounting also reflects (correctly) the transport costs related to the acquisition of raw materials in accounts for inventory (supplier K…), as provided by Accounting and Financial Reporting Standard no. 18 (NCRL 18) paragraphs 10-22 which include in the purchase price import duties and other taxes, transport costs, handling and other costs directly attributed to the acquisition of goods, materials and services.

i) Therefore, it is not understandable for analysis of the facts in question here, the reference to the referred study.

1. Finally (points 34 to 41) the taxable person states that on 2012-02-24 the Agreement between the Portuguese Republic and the Special Administrative Region of Hong Kong of the People's Republic of China to Avoid Double Taxation and Prevent Tax Evasion in Income Tax Matters (Agreement to Avoid Double Taxation - CDT) was approved and entered into force on 2012-06-01. It adds that under article 25 of the referred Agreement, the Tax Authority may request its counterpart in Hong Kong "information it deems relevant regarding bank accounts that are used in the transactions" here in question.

a) As can be inferred from the aforementioned no. 1 of article 65 of the IRC Code, the burden of proof that "...charges correspond to operations actually carried out and do not have an abnormal character or an exaggerated amount" rests with the taxable person and not the Tax Authority.

b) However, even if the Tax Authority had access to the bank accounts, by itself, that analysis would not prevent the facts in question here.

c) The Tax Authority, in analyzing the facts, at no time states that the bank transfers did not occur. In fact, it is because they were realized that the question of article 65 is raised.

d) What the Tax Authority questions is the fact that the charges in series B invoices do not support operations actually carried out because, as demonstrated in point "III.1.1. Description of Facts," they do not comply with the letter and spirit of the rule contained in article 23 of the IRC Code, which provides that only charges that "...are proven to be indispensable for the realization of income subject to tax or for the maintenance of the productive source..." can be fiscally accepted.

From the foregoing, and in conjunction with the arguments mentioned throughout this report, it is concluded that, in response to our personal notification made on 2015-11-04, the taxable person presented no new elements to the proceedings, namely, elements capable of proving that the payments of series B invoices correspond to operations actually carried out. Charges borne and payments made that, as stated, are in duplication with others debited by supplier K… and also in contradiction with the FOB conditions agreed between buyer (taxable person) and seller (H…/I…).

In these terms, and because the taxable person did not prove, pursuant to no. 1 of article 65 of the IRC Code, that "expenses corresponding to amounts paid or owed, in any capacity, to natural or legal persons resident outside the Portuguese territory and there subject to a clearly more favorable tax regime (...) correspond to operations actually carried out," such expenses are not deductible for purposes of determining taxable income as provided in the first part of said article and the taxable person incurs autonomous taxation at a rate of 35% on the amount of such expenses, as provided by no. 8 of article 88 of the IRC Code.

Being autonomous taxation calculated from the perspective of the expense incurred, the payments made in the period analyzed were determined.

Taking into account the account statements relating to supplier H…, and with the collaboration of the accounting department, a list was prepared showing the invoices paid in each internal bank journal document, contained in the accounting (ANNEX V - pages numbered 1 to 6).

From analysis of the respective internal documents it is concluded that the various transfers made correspond to payments that always include both series A invoice and series B invoice.

Thus, in the following table only series B invoices are highlighted, with the objective of calculating autonomous taxation:

Thus, the following autonomous taxation results:

(...)

• Following the inspection action, the Tax and Customs Authority issued IRC assessment no. 2016…, dated 16-05-2016, with compensation number 2016…, reconciliation of accounts statement no. 2016… and compensatory interest assessments nos. 2016… and 2016…, relating to fiscal year 2012, showing an amount of tax to be paid of € 465,436.53, of which € 225,746.33 corresponds to Autonomous Taxation (AT) and € 48,465.46 to compensatory interest (document no. 1 attached to the request for arbitral pronouncement, the contents of which are reproduced herein);

• On 14-11-2016, the Claimant filed an administrative objection to the aforementioned assessments (document no. 4 attached to the request for arbitral pronouncement, the contents of which are reproduced herein);

• By letter dated 26-01-2017, the Claimant was notified to exercise the right to be heard on the preliminary decision on the administrative objection, a copy of which appears in document no. 5 attached to the request for arbitral pronouncement, the contents of which are reproduced herein, which refers, among other things, to the following:

INFORMATION

1. According to information contained in the databases of the Tax Authority, as well as information provided by the taxable person, the same was subject to an external inspection procedure, credentialed by service order OI2016…, for fiscal year 2012, as a result of which the following was considered, with relevance for this objection:

1.1. By virtue of the taxable person's accounting records showing certain expenses in duplicate contained in series "A" and series "B" invoices, from Chinese operators "H…" (invoices issued until September 2012) and "I…" (invoices issued from October 2012), relating to services connected with acquisitions from the foreign market, namely acquisitions of porcelain articles from the economic operator domiciled in the People's Republic of China, fact which will result in the disregard of those charges borne by the claimant (documented by series B invoices aforementioned) leading to a correction to taxable income for IRC purposes in the amount of 826,189.13 €, under the provisions of article 23 of CIRC;

1.2. Although there are acquisitions of goods (porcelain) from economic operators based in the People's Republic of China and Malaysia, the payments for these supplies were made to a bank account domiciled in the Special Administrative Region of Hong Kong of the People's Republic of China, which is included in the list of countries, territories and regions with privileged tax regimes, clearly more favorable, as provided in no. 31 of article 1 of Ordinance no. 282/2011, of 8 November, amended by Ordinance no. 150/2004, of 13 February, fact which will result in autonomous taxation of those payments in the total amount of 199,625.29 €, under the provisions of no. 1 of article 65 and no. 8 of article 88, both of CIRC.

1. Having been notified of IRC assessment no. 2016… reconciliation of accounts statement no. 2016… and compensatory interest statement in the amount of Tax to be paid of 465,436.53 €, relating to the period 2012, A…, S.A., NIPC…, in a petition signed by its constituted representative, with power of attorney attached to the file, O…, Attorney-at-Law, Tax ID…, objected thereto, alleging in summary:

2.1. That its modus operandi incorporates three phases:

• Acquisition of raw materials (cups and saucers);

• Transformation of raw materials, consisting of the decoration of said cups, according to the instructions of its clients (P…, Q…, R… and others);

• Sale of finished product.

2.2. In the period of 2012, its supplier of raw material was H… (hereinafter referred to simply as H…).

2.3. The objecting party accepted, at the request of that entity, the division of the invoice for products between goods, "A" invoices, and services rendered/commission, "B" invoices, according to a fixed percentage of 45%.

2.4. From "A" series invoices appeared the expression FOB (free on board) which means that the seller will bear all expenses and the responsibility and cost of transport and other things until the terminal of goods exit, however it is not true that the parties agreed to comply with this contractual model.

2.5. As for "B" series invoices, what was agreed was that they include transport services, control, special packing of goods and commission for intermediation in the business, translated into the following items:

1. Transportation Cost from Chaozhou to Shenzhen Yantian - cost of transporting goods from the factory in China to the shipment port;

2. Warehouse Charge and Containers Loading in Shenzhen – warehousing at the shipment port;

3. Freight From Shenzhen Yantian to Leixões - Freight from the shipment port to Leixões;

4. Terminal Charge In Yantian, Shenzhen - costs of terminal occupancy at the shipment port;

5. Gift boxes;

6. Certificate of Origin - certificates of origin.

2.6. As already acknowledged, these services might not correspond, in exact terms, to the value actually spent on each of them, but, overall, they were within a normal range of variation of the proportion of services actually provided by said suppliers in the total value of the import.

2.7. As for the first two items, they correspond to costs actually reflected and borne by the objecting party. For being an absolutely necessary cost the transport from the Chaozhou factory to the shipment port, or if the price for it is included in the price of the goods or is outside that price and the objecting party would have to pay for it regardless of whether it contracts it directly with the transporter or indirectly through G….

2.8. As for item 3, clearly that designation does not correspond to that exact service, but rather to quality control services along the route and commissions paid to that trading company. That imprecise terminology could point to a duplication of costs, given the existence of a company hired by the objecting party for this purpose "K…". It is not the transport service proper that item applies to, which is why from September 2012 onwards it was requested that G…/H… alter the terms relating to said service, from "Freight From Shenzhen Yantian to Leixões" to "Other expenses such as monitoring, quality control and orders formalization", thus correcting the error regarding transport services included in said invoice.

2.9. Regarding Items 4 and 6, these are services actually provided and described in a manner completely consistent with reality, relating to the need for the very goods purchased, since its quality and fragility require additional care with its packing and transport which are reflected in packagings that go beyond the normal packing required by short/medium distance transports. Thus, in September 2012, the designation of "Gift boxes" was replaced by "carton boxes".

2.10. Also item 6 "Certificate of Origin" documents that attest to the origin of the goods sold, are included in the price, not only because such documents are mandatory to obtain in China, but also given their importance for the activity of the objecting party in the use of quality products and it is its responsibility to issue and pay for them.

2.11. As for the question of FOB contracts, when the parties set a particular Incoterm they define the transfer of charges, that is "the moment and location up to which the seller should assume the charges relating to the sales contract and thus include them in the price". That services contracted by the seller, whether the contract is FOB or CIF or other, are always reflected to the buyer, either indirectly in the price or directly through a specific service invoice. If the seller prefers to invoice services separately for reasons related to its own local context, what matters for the objecting party is the price it will pay, this price should be a market price, and the price of the supplies in question is entirely market price. What matters is to know whether the objecting party inflated its costs artificially - it is clear that it did not - and not whether it is compatible with the FOB standard an autonomous invoicing of services that the seller is obliged to contract, but not bear economically, hence we are faced with expenses fully deductible.

2.12. As for the duplication of transport, despite it appearing in the said services invoice the transport from Shenzhen to Leixões was not being charged by H… to the objecting party, for, as can be verified, in 2012, the price of supplies did not change as a function of the removal of this description from the corresponding invoices, which means it was not part of the overall price of the supplies in question. There is no duplication because there are other services that were not being written in the invoice before 2012, but were being provided.

2.13. Regarding the alteration of the description of invoices the objecting party wanted to express with the indication of a global value for all services, that this attribution of individual value to each of the services is completely indifferent, since the seller's commitment is always the same - to provide all services required by the supply of goods, as well as that same supply, for a certain global price, and that global price is actually lower than that corresponding to the same supply obtained in Portugal.

2.14. From the incorrect deduction from the Cost of Goods Sold and Materials Consumed, of the amount of 148,985.00 € (826,189.13 € - 826,189.13/1.22), resulting from the multiplication by a factor of 1.22 of the services recorded in series "B" invoices by the portion of the unit price of goods, which constitutes the non-acceptance of any deduction with the cost of transport/import from China to Portugal, transport that appears in the invoices from "K…".

2.15. That despite bearing the charges that would be at the supplier's expense, the prices practiced remain competitive, and cannot be considered abnormal or exaggerated, attaching for this purpose a study prepared by consultant Deloitte.

2.16. Regarding autonomous taxation, it is not evident how the conditions provided in no. 8 of article 88 of CIRC can be considered fulfilled, since proof was made that the services in question existed, are perfectly normal and are not exaggerated.

2.17. That in the year 2012 the Convention on Double Taxation entered into force between Portugal/Hong Kong, so that autonomous taxation of payments made by the objecting party to an account based in Hong Kong violates that DTC, and should be immediately revoked.

2.18. Concluding that the objection should be granted and the contested tax assessment act revoked, with the consequent legal effects.

1. From analysis of the inspection report referred to in 1, we find that duplicated expenses were detected in the objecting party's accounting contained in series "A" and series "B" invoices, from Chinese operators "H…" (invoices issued until September 2012) and "I…" (invoices issued from October 2012), relating to services connected with acquisitions from the foreign market, namely acquisitions of porcelain articles from the economic operator domiciled in the People's Republic of China.

2. The acquisitions made by the objecting party from the operators listed in 3, in the period analyzed, are documented by invoices distributed in two series, one "A" and another "B". Series "A" shows expenses with acquisitions of cups and saucers, containing the expression "FOB" (free on board), while series "B", issued until September 2012, shows expenses with "Transportation Cost From Chaozhou to Shenzhen Yantian", "Warehouse Charge and Containers Loading in Shenzhen", "Freight From Shenzhen Yantian to Leixões", "Terminal Charge In Yantian, Shenzhen", "Gift Box" and "Certificate of Origin", and from October 2012 show expenses with "Transportation Cost From Chaozhou to Shenzhen Yantian", "Warehouse Charge and Containers Loading in Shenzhen" "Terminal Charge in Yantian, Shenzhen", "Carton Boxes", "Other Expenses Such as Monitoring, Quality Control and Orders Formalization".

3. The expression "FOB", Free On Board, affixed to series "A" of the invoices referred to in 4 designates a method of distribution of responsibilities, rights and costs between buyer and seller in the trade of goods. The term, included in the listing of Incoterm (International Commercial Terms), established by the International Chamber of Commerce as contractual formulas that set rights and obligations for both exporter and importer, establishing with precision what is included in the price negotiated between both parties. Under the FOB method, the remitter of the goods (exporter) is responsible for the costs of transport and insurance of the cargo only until it is shipped on the ship. The buyer (importer) becomes responsible for payment of transport and insurance from then on.

4. From the foregoing in 4 and in accordance with what is described in 5, it is verified that the descriptions affixed to series "B" invoices (1) the "Transportation cost from CHAOZHOU to SHENZHEN YANTIAN; (2) the "Warehouse charge and container loading in SHENZHEN"; (4) the "Terminal charge in YANTIAN, SHENZHEN"; (5) Carton boxes and (6) Other charges such as monitoring, quality control and orders formalization, are, under FOB conditions, accepted by buyer/importer (objecting party) and seller/exporter (operators identified in 3), the responsibility of the seller and not the buyer.

5. Furthermore, the expense with Item (3) freight transport of goods from the Shenzhen Yantian port to the Leixões port is already borne by the objecting party, as evidenced by the invoices issued by "K…" to the objecting party and contained in its accounting.

6. From this it follows not only a duplication of expenses but also a lack of correspondence between the services described in the invoices and the services actually provided and paid, which implies the non-consideration of these for tax purposes. "Costs or losses of the company thus constitute the negative elements of the results account, which are tax deductible when, being duly proven, they are indispensable for the realization of income or for the maintenance of the productive source of the company in question. The absence of any of these requirements implies the non-consideration of said elements as costs, thus the respective amounts must be added to the accounting result." Decision of the Central Administrative Court of the South, case 05327/12 of 22-01-2015.

7. In calculating the corrections to CMVMC relating to charges in series "B" invoices, only the value corresponding to the items in this invoice series was purged, according to formula, unit prices and factor (1.22), relating to the value attributed to the different articles relating to costs with the transport of articles from the East to Portugal and other values relating to the import process, provided by the taxable person.

8. The documents/invoices, as the basis of accounting, must reflect the services actually provided and the exact values thereof. It is not sufficient to allege that the charges recorded in an invoice are normal values, not exaggerated, lower than those practiced in the national market and indispensable for the exercise of the activity. It is necessary that the services described in the invoices actually correspond to the services provided and paid.

9. From autonomous taxation of payments made to an account domiciled in the Special Administrative Region of Hong Kong of acquisitions made from economic operators based in the People's Republic of China. Having the objecting party not proven the nature and existence of the operations, coupled with the fact that the account to which payments for these operations were made is domiciled in an administrative region considered, under no. 1, paragraph 31 of Ordinance no. 150/2004, of 13-02, as a territory subject to a privileged tax regime, those payments should be autonomously taxed at the rate provided in no. 8 of article 88 of CIRC. The conditions for autonomous taxation provided in this article are cumulative, so that when it is verified that the operations described in the invoices do not correspond to those actually provided, the obligation for such taxation is immediately verified.

10. From the violation of the Convention on Double Taxation entered into between Portugal and Hong Kong regarding payments made by the objecting party to an account domiciled in the Special Administrative Region of Hong Kong. The inspection report does not challenge the payments or tax them autonomously only because they were made to that territory subject to a privileged tax regime. What is questioned is the fact that the taxable person, under the provisions of no. 1 of article 65 of CIRC, did not prove that "...such charges correspond to operations actually carried out and do not have an abnormal character or exaggerated amount." Therefore, when the correspondence between the described operations and those actually provided is not verified, the conditions for their autonomous taxation at the rate of 35% are met under the provisions of no. 8 of article 88 of CIRC.

In light of the foregoing, it is proposed to reject the objection.

• The Claimant did not comment on the preliminary decision on the administrative objection;

• By order dated 02-03-2017, the Director of Finance rejected the administrative objection with the grounds of the preliminary decision (document no. 6 attached to the request for arbitral pronouncement, the contents of which are reproduced herein);

• The Claimant entered into a contract with G… whose copy was attached with the Claimant's submissions, the contents of which are reproduced herein;

• The Claimant does not contract any local service relating to the services provided by the trader referred to, with that trader responsible for warehousing, local transport, quality control, obtaining certificates of origin;

• The Tax Inspection Report conducted on the Claimant regarding fiscal years 2010 and 2011 has the contents shown in document no. 1 attached to the Claimant's submissions, which is reproduced herein;

• The contract governing the relationship between the Claimant and the trader referred to is that shown in document no. 1 attached by the Claimant with the submissions, the contents of which are reproduced herein, which refers, among other things, to the following, with the Claimant being the first party and the Chinese company the second:

Clause 1

(Object)

This agreement has as its object the supply of porcelain, service rendering:

transport services, storage, handling, loading and unloading at the port of origin, quality control of purchased goods, obtaining the certificate of origin, packing and packaging, insurances, for the second to the first party.

Clause 2

(Place of delivery/Service provided)

The goods object of this agreement will be delivered to the Port of Leixões, Portugal, and the services provided take place at the place of loading/shipment of the goods.

Clause 4

(Price and payment conditions)

1- The total change of this agreement will be the one described on the enclosed list (annex 1) which is an integral part of this agreement and which can be revised annually;

2- The payment of the price indicated in number one will be made by swift transfer to the IBAN to be indicated by the second party;

3- For payment, the second party shall present to the first party the corresponding invoices which payment terms cannot be less than 90 days.

Clause 10

(Special condition)

1- As far as transport is concerned, which includes the respective insurances, will be included on the services defined on Clause 1, until the maximum of 35% of the amount of those services, and those will be assumed by the first party.

2- The amounts indicated on number 1 of this clause will be revised annually and adjusted to the market conditions.

3- The percentage of cost to be borne must be an autonomous item of the invoice.

Clause 15

(Other charges)

All the expenses arisen from the supply of the goods and services shall be borne by the second part, except the one on clause 10.

• The clauses of the contract were translated by the Tax and Customs Authority in the Tax Inspection Report relating to the inspection action for fiscal years 2010 and 2011, as follows:

Clause 1 (Object): Supply of porcelain and provision of services (transport, warehousing, handling, loading and unloading at the port of origin; quality control, obtaining certificate of origin, packing and conditioning, insurance) from the second to the first party;

Clause 2 (Place of delivery / service provided): The goods object of this agreement will be delivered to the port of Leixões and the services provided at the place of loading/shipment of goods;

Clause 4 (Price and payment conditions): The total charge of this agreement will be that described in the attached list;

Clause 10 (Special condition) Regarding transport, which includes the respective insurances, will be included in the services indicated in clause 1 up to a maximum of 35% of the total services, and those charges will be assumed by the first party. The percentage of cost to be borne must be an autonomous item of the invoice;

Clause 15 (Other charges) All expenses arising from the supply of goods and services provided must be borne by the second party, except those mentioned in clause 10.

• The boxes designated in series B invoices as "gift boxes" are not a gift from the seller, being carton boxes suitable for the transport of fragile goods, and having from October 2012 onwards been indicated as "carton boxes" (testimony of witness Dr. N… and document no. 14 attached to the request for arbitral pronouncement, the contents of which are reproduced herein);

• The Claimant was concerned with the global price of acquisitions, resulting from invoices of the two types, not being concerned with the itemization of the values of charges that appeared in them (testimony of witness Dr. N…);

• Series A invoices relate to factory prices and series B invoices relate to activities that were not included in that price (testimony of witness Dr. S…);

• The Claimant paid the cost of invoices of the two types, which together did not exceed the values that from the start were contracted (testimony of witness Dr. S…);

• From the sums of the values of the two invoices it resulted that the prices of goods were still lower than those of acquisitions in the national market (testimony of witness Dr. S…);

• The transport of goods was carried out by company K…, and payment was made by the Claimant;

• On 05-06-2017, the Claimant presented the request for constitution of arbitral tribunal that gave rise to this proceeding.

2.2. Unproven Facts and Reasoning on Factual Matters

The facts were considered proven based on documents attached by the Claimant and those in the administrative file, as well as testimony of witnesses questioned in the hearing, whose credibility is not questioned by the Tax and Customs Authority.

The witnesses appeared to testify with impartiality and with knowledge of the facts they reported.

It was not proven that the values indicated as being for transport between SHENZHEN YANTIAN and LEIXÕES, referred to in series B invoices issued until September 2012, related to services of "monitoring, quality control and orders formalization," which came to be referred to in invoices issued from October 2012. Indeed, the description of the invoices points to the direction that it is transportation expenses and does not at all align with services of these types.

However, it was also not proven that from October 2012 onwards these services of "monitoring, quality control and orders formalization" were not carried out.

3. LEGAL MATTERS

In 2012, the Claimant made acquisitions of porcelain articles from the economic operator domiciled in the People's Republic of China (although the company underwent name changes), pursuant to execution of a contract shown in document no. 1 attached to the submissions.

The acquisitions were documented by invoices distributed in two series, one "A" and another "B": series "A" refers to expenses with acquisitions of cups and saucers, appearing in the same the expression "FOB" (free on board); series "B", issued until September 2012, refer to expenses with "Transportation Cost From Chaozhou to Shenzhen Yantian", "Warehouse Charge and Containers Loading in Shenzhen", "Freight From Shenzhen Yantian to Leixões", "Terminal Charge In Yantian, Shenzhen", "Gift Box" and "Certificate of Origin"; from October 2012 series B invoices refer to expenses with "Transportation Cost From Chaozhou to Shenzhen Yantian", "Warehouse Charge and Containers Loading in Shenzhen" "Terminal Charge in Yantian, Shenzhen", "Carton Boxes", "Other Expenses Such as Monitoring, Quality Control and Orders Formalization".

The Tax and Customs Authority understood that the descriptions in series "B" invoices refer to seller's charges and not the buyer's, therefore "the charges in series B invoices cannot be accepted as expenses," because "they are not in compliance with the letter and spirit of the rule contained in article 23 of the IRC Code, which provides that only charges that "...are proven to be indispensable for the realization of income subject to tax or for the maintenance of the productive source..." can be fiscally accepted."

Furthermore, the Tax and Customs Authority understood that autonomous taxation provided in no. 8 of article 88 of CIRC, relating to article 65, no. 1 of the same Code, is to be applied to the values in series "B" invoices, because the payments were made to a company based in Hong Kong (a territory listed in the countries, territories and regions with privileged tax regimes) and the Claimant "presented no (...) elements capable of proving that the payments of series B invoices correspond to operations actually carried out. Charges borne and payments made that (...) are in duplication with others debited by supplier K… and also in contradiction with the FOB conditions agreed between buyer (taxable person) and seller (H…/I…)".

3.1. Question of Non-Deductibility of Charges Referred to in Series "B" Invoices, under Article 23, No. 1, of CIRC

The Tax and Customs Authority dismissed the relevance as an expense of series "B" invoices on the basis of article 23, no. 1, of CIRC, which in the version in force in 2012, establishes that "charges that are proven to be indispensable for the realization of income subject to tax or for the maintenance of the productive source are considered as expenses."

In the case at hand, the Tax and Customs Authority understood that the charges referred to in series "B" invoices could not be considered indispensable, as it understood, in summary, regarding those issued until September 2012, that:

– some charges should be borne by the seller, under the FOB goods shipment regime ("free on board"), indicated in series "A" invoices, namely the following indicated in Table 17 contained in the Tax Inspection Report:

• "packaging and verification (production, control, quality, measures, weights, etc.)"
• "loading (in the seller's warehouse)";
• "internal transport (from the factory to the port, airport, TIR terminal)";
• "export customs formalities";
• "local expenses - origin (handling at port, airport, TIR terminal)".

– the cost for freight from the Chinese port to the Portuguese port should be borne by the taxable person, as it was, through payments it made to K…, thus constituting a duplication;

– the "gift boxes" will be a gift from the seller;

– the certificate of origin is provided by the exporter, thus constituting a seller's charge.

Regarding series "B" invoices issued from October 2012, the Tax and Customs Authority also understood that they are exporter charges, "under FOB conditions (see Table 17): (1) the "Transportation cost from CHAOZHOU to SHENZHEN YANTIAN; (2) the "Warehouse charge and container loading in SHENZHEN"; (3) the "Terminal charge in YANTIAN, SHENZHEN"; (4) Carton boxes; and (5) Other charges such as: monitoring, quality control and orders formalization".

Based on this analysis, the Tax and Customs Authority concluded that "the foregoing in points (1) Series B invoices issued until September 2012 and (2) Series B invoices issued from October 2012 allows the conclusion that it is not possible to accept as tax deductible the totality of the charges shown in series B invoices, because, as demonstrated, they do not comply with the letter and spirit of the rule contained in article 23 of the IRC Code".

The Claimant defends, in summary, the following:

– the Tax Authority never questions the contracting of the transport service from the Chaozhou factory to the shipment port since it is an absolutely necessary cost, as the goods must be transported to a port in China from where they are shipped to Portugal;

– regarding the cost for freight from the Chinese port to the Portuguese port it should not appear in the invoices, but it is not to the transport service — proper — that the item applies to, it is not transport, but rather a range of local services related to the preparation and execution of goods shipment, namely product monitoring and control and also commissions paid in sales, as was made explicit in the invoices issued from October 2012;

– the "gift box" is necessary for goods shipment;

– the "Certificate of Origin" is a service provided;

– these are necessary expenses and therefore must be considered deductible under article 23, no. 1, of CIRC.

Article 17 of CIRC establishes that "the taxable profit of legal persons and other entities mentioned in paragraph a) of no. 1 of article 3 is constituted by the algebraic sum of the net result of the period and the positive and negative patrimonial variations verified in the same period and not reflected in that result, determined on the basis of accounting and eventually corrected under the terms of this Code".

Article 23 of CIRC in the version prior to Decree-Law no. 159/2009, of 13 July (in force until the end of 2009), establishes that "costs or losses that are proven to be indispensable for the realization of income or gains subject to tax or for the maintenance of the productive source are considered as such".

As has been understood, the concept of indispensability of costs contained in article 23, no. 1, of CIRC, does not require a causal link between costs and income, it being sufficient that expenses have a relationship with the object of the company, are incurred within the scope of its activity or demonstrate a business purpose.

Being on the basis of accounting that article 17 directs to attend, in the first place, to determine taxable profit, it is on the basis of the contents of the invoices recorded in accounting, which enjoy a presumption of veracity (article 75, no. 1, of LGT), that the type of services or goods to which the expenses relate must be ascertained, if facts are not proven that allow the conclusion that the facts referred to in them do not correspond to reality.

Article 23, no. 1, of CIRC does not require that the expenses be paid in accordance with what has been contractually agreed, but only that they be proven to be indispensable for the realization of taxable income or for the maintenance of the productive source.

The principle of the independence of the accounts must be respected, and the fact that an invoice is received and accounted for is a strong indication that the services or goods mentioned therein have been actually provided or delivered, given the presumption of veracity attaching to accounting documents.

The question to be resolved is whether the expenses recorded in series B invoices are indispensable for the realization of taxable income or for the maintenance of the productive source.

Given the proven facts, namely the contract entered into between the Claimant and the supplier, which expressly provides in Clause 10 that part of the transport costs "will be included on the services defined on Clause 1, until the maximum of 35% of the amount of those services, and those will be assumed by the first party," and further given the testimony of witnesses, designating that the Claimant was concerned with the global price of acquisitions and not the itemization of charges, and that it paid for the services listed in the invoices, it must be concluded that the expenses in series B invoices correspond to services indispensable for the acquisition of the goods and for the Claimant's business activity.

The fact that the description of the services in the series B invoices varies between those issued until September 2012 and those issued from October 2012 does not mean that the services ceased to be provided or were not actually provided. Indeed, given the credible testimony of the Claimant's witnesses, it can be concluded that the services continued to be provided throughout the period and that the change in description was due to clarification of what the services consisted of.

3.2. Question of Autonomous Taxation

Article 65, no. 1, of CIRC establishes that amounts paid or owed to persons resident outside the Portuguese territory and there subject to a clearly more favorable tax regime are not deductible unless the taxable person proves that such charges correspond to operations actually carried out and do not have an abnormal character or an exaggerated amount.

Article 88, no. 8, of CIRC establishes that payments that do not satisfy the conditions of article 65, no. 1, shall be subject to autonomous taxation at a rate of 35%.

The question that arises is whether the payments made to the supplier based in Hong Kong should be considered subject to autonomous taxation.

Given the findings regarding series B invoices, namely that they correspond to services indispensable for the Claimant's business activity, as detailed above, it must be concluded that the Claimant has proven that the payments correspond to operations actually carried out.

Regarding whether the amounts paid are abnormal or exaggerated, given the testimony of the Claimant's witnesses stating that the prices paid were market prices and were lower than those practiced in the national market, it must be concluded that the Claimant has proven that the amounts are not abnormal or exaggerated.

Therefore, the conditions of article 65, no. 1, of CIRC are satisfied, and the payments made to the supplier based in Hong Kong are not subject to autonomous taxation.

Moreover, the application of article 65, no. 1, and article 88, no. 8, of CIRC to payments for series B invoices would constitute a violation of the Double Taxation Treaty between Portugal and Hong Kong, which provides protections against such situations.

DECISION

For the foregoing reasons, the Arbitral Tribunal unanimously decides:

I. To grant the Claimant's request, revoking the IRC assessment no. 2016…, the reconciliation of accounts statement no. 2016…, and the compensatory interest assessments, relating to fiscal year 2012.

II. The respondent shall refund the amounts paid by the Claimant, with the addition of legal interest.

III. The costs of the arbitration proceeding shall be borne by the respondent.

Costs shall be as provided by law.

Lisbon, [date]

Dr. Jorge Manuel Lopes de Sousa
Arbitrator-President

Prof. Dr. Rui Duarte Morais
Arbitrator

Dr. Maria Manuela do Nascimento Roseiro
Arbitrator