Process: 382/2017-T

Date: February 23, 2018

Tax Type: IRS

Source: Original CAAD Decision

Summary

CAAD arbitral award 382/2017-T addresses the controversial taxation of income allegedly derived from illicit activities under Portuguese IRS law. The taxpayer challenged additional IRS assessments totaling €86,063.75 for 2010-2012, arguing the Tax Authority (AT) improperly relied on evidence from a dismissed criminal investigation (NUIPC …/13…TELSB) and extrapolated from a non-final criminal conviction relating to different years (2007-2009). The central legal issue concerns the burden of proof under Article 74 of the General Tax Law (LGT) when taxing illicit income. The taxpayer contended that AT failed to prove the funds credited to accounts held by the taxpayer's children and sons-in-law constituted the taxpayer's income from illicit activities for the specific years under assessment. The claimant argued the dismissal of the criminal investigation precluded AT from using that evidence, as the Public Prosecutor found insufficient proof that amounts credited to the daughters' accounts represented values received by the accused. Furthermore, the taxpayer challenged AT's reliance on expert evidence from criminal proceedings conducted without adversarial hearing, violating Article 421 of the Civil Procedure Code regarding extraprocessual evidentiary value. The AT countered that criminal dismissal does not negate proof of illicit income obtained during the relevant tax periods, asserting it properly discharged its burden of proof through the Tax Inspection Report's findings on bank movements. This case illustrates critical tensions between criminal and tax proceedings, the temporal scope of evidence, the AT's duty to discover material truth independently, and procedural safeguards when taxing income from alleged illegal sources.

Full Decision

ARBITRAL AWARD

The arbitrators Fernanda Maçãs (arbitrator-president), Fernando Araújo and Rodrigo de Castro (arbitrator members), appointed by the Deontological Council of the Administrative Arbitration Centre to form the Arbitral Tribunal, agree as follows:

I – Report

The taxpayer A…, with tax identification number… (hereinafter "Claimant"), filed on 23 June 2017 a request for constitution of a Collective Arbitral Tribunal, in accordance with the combined provisions of articles 2, 5 and 10 of Decree-Law no. 10/2011, of 20 January (Legal Framework for Arbitration in Tax Matters, hereinafter "RJAT"), on the grounds set forth in sub-paragraphs a) and c) of article 99 of the Tax and Tax Procedure Code (hereinafter "CPPT"), in which the Tax and Customs Authority is the Respondent (hereinafter "TA" or "Respondent").

The Claimant seeks an arbitral pronouncement on the illegality of additional Personal Income Tax (IRS) assessments no. 2017…, no. 2017… and no. 2017…, relating to the years 2010, 2011 and 2012 and resulting from corrections carried out under service orders OI2016…, OI2016… and OI2016… of the Finance Directorate of…, all totalling €86,063.75.

The request for constitution of the Arbitral Tribunal was accepted by the President of CAAD and automatically notified to the TA on 29 June 2017.

Pursuant to sub-paragraph a) of paragraph 2 of article 6 and sub-paragraph b) of paragraph 1 of article 11 of the RJAT, as amended by article 228 of Law no. 66-B/2012, of 31 December, the Deontological Council appointed the arbitrators of the Collective Arbitral Tribunal, who communicated acceptance of the assignment within the applicable deadline, and notified the parties of this appointment on 11 August 2017.

The Collective Arbitral Tribunal was constituted on 29 August 2017.

To substantiate the request, the Claimant alleges, among other matters:

The assessment is illegal because its factual basis rested on a criminal investigation that was closed by dismissal, particularly because, in its view, the Respondent proceeded, already in the Tax Inspection Report, to a selective and partial use of the factuality established in that investigation.

More specifically, the Claimant notes that in the criminal investigation, the Public Prosecutor acknowledged that it remained insufficiently proven that the amounts credited to the accounts of the accused's daughters represented values received by him in the illicit activity of which he was accused – and it was from this insufficiency of proof that the decision to dismiss the investigation resulted.

It alleges that the TA intends further to draw conclusions that were not drawn in the criminal investigation, referring to proof that was not made, and thereby attempting to produce effects that the dismissal dispatch itself would have considered precluded.

Furthermore, the Claimant alleges that in the Tax Inspection Report it was illegally extrapolated from the conviction of the Claimant in criminal proceedings NUIPC …/07… TELSB (not final), which relates to facts occurring in the years 2007 to 2009, whereas the Tax Inspection Report is limited to facts in the years 2010 to 2012.

It would therefore be entirely illegitimate to attempt to extrapolate from a criminal conviction to prove illicit activity subsequent to the facts that were the subject of that conviction, especially when it comes to taxation of income on an annual basis, thus requiring relevant proof of facts for each year separately.

Thus, for the Claimant, it is either one or the other:

Either the TA's substantiation seeks to rest on the conviction achieved in proceedings NUIPC …/07… TELSB, and there is a lack of temporal coincidence, and thus a lack of proof for the years 2010 to 2012;

Or the TA's substantiation seeks to rest on the investigation NUIPC …/13… TELSB, and it must take account of the effects of the dismissal dispatch, which again leaves it without proof for the years 2010 to 2012.

Recalling that the burden of proof rests, in this case, on the TA, pursuant to article 74 of the General Tax Law, the Claimant insists that it remained unproven, for the reference period, that the funds credited to the accounts of the Claimant's children and sons-in-law were effectively income of the Claimant – and not of those individuals – it being insufficient, for purposes of discovering the material truth, to attach to the Tax Inspection Report, as the Respondent did, the report drawn up by the Asset Recovery Office of the Judicial Police.

The Respondent would thus have abdicated its functional duty of discovering the material truth, by limiting itself to incorporating in the Tax Inspection Report the report appended to investigation NUIPC …/13… TELSB, without re-verifying the information it contained.

From this it follows, in the Claimant's view, that the evidence obtained in investigation NUIPC …/13… TELSB could not even serve as the beginning of proof in the Tax Inspection Report, because, pursuant to article 421 of the Code of Civil Procedure (extraprocessual value of evidence), it was not produced with full adversarial hearing, being expert evidence that was not even communicated to the Claimant.

The Claimant notes that the TA did not even resort to indirect assessment to prove the existence of illicit activity in the years 2010 to 2012, as it could have done under article 87, 1, f) of the General Tax Law – preferring, in its view, to infer from a conviction in criminal proceedings relating to conduct in earlier years.

In the absence of such proof, being inadmissible in the Tax Inspection Report, the Claimant maintains that annulment of the contested act is warranted, pursuant to article 100 of the CPPT.

Subsidiarily, the Claimant is prepared to demonstrate what it alleges to be inconsistencies and falsehoods in the Tax Inspection Report, particularly regarding the movement of bank accounts, the ownership of balances, the justification of all financial movements, whether its own or those of the accounts of its daughters and sons-in-law.

And proceeds to a detailed explanation of the movements, between the years 2010 to 2012, of eight accounts owned by the Claimant and its spouse, its daughters and sons-in-law:

PT50…

PT50…

PT50…

PT50…

PT50…

PT50…

PT50…

PT50…

Given that it has paid the tax and maintains that there was an error attributable to the services resulting in payment of the tax debt in an amount greater than that legally due, the Claimant claims indemnificatory interest, pursuant to articles 43 of the General Tax Law and 61, 2 of the CPPT.

The Respondent filed its Reply on 2 October 2017 and the complete Administrative File on 23 October.

In its Reply, the Respondent argues, among other matters:

The disputed assessments constitute a correct application of the Law, suffering from no defect, and the claim for arbitral pronouncement should be judged unfounded.

The dismissal of investigation NUIPC …/13… TELSB means that the factual requirements for accusation of the crime that was under investigation were not met, namely the crime of money laundering, not that proof was not made of the obtaining by the Claimant, within the relevant period, of income from illicit activity which he deposited in his bank accounts and in bank accounts in which the names of his daughters appear as account holders.

It made the proof incumbent on it and which is contained in the Tax Inspection Report. It discharged its burden of proof and even obtained the Claimant's collaboration during the inspection action, collaboration from which there even resulted amendments to the corrections initially proposed.

The Respondent rejects that in the inspection action or in the Tax Inspection Report resulting therefrom, information relating to years prior to 2010, or evidence obtained in other proceedings, whether expert evidence or other, was used.

The Respondent understands that the facts grouped under the heading "Bank Movements" at pages 14 to 132 of the claim for arbitral pronouncement are not proven, with some even being disregarded in the Tax Inspection Report, and cannot constitute facts of interest to the present proceedings.

And, in conclusion of its Reply, the Respondent presents its objections to the testimonial evidence, which it understands can add nothing to the documentary evidence, nor can it supply the lack of documentary support where it occurs.

In a Motion filed on 3 October 2017, the Claimant noted that the Administrative File attached by the Respondent to its Reply of 2 October 2017 was incomplete, and requested that the complete copy of that Administrative File be joined to the record, pursuant to article 17, 2 of the RJAT.

The Arbitral Order of 7 October 2017 requested that the Respondent join the complete copy of the Administrative File to the record.

In a Motion of 9 October 2017, the Claimant requested convocation of the meeting provided for in article 18, 1, a) and b) of the RJAT, as it understood that after the TA's Reply, certain preliminary questions remained to be clarified, notably relating to the Administrative File and Testimonial Evidence.

In a Motion of 23 October 2017 the Respondent came to comply with the determination of the Arbitral Order of 7 October 2017, remitting the complete Administrative File.

The Arbitral Order of 23 October 2017 ordered notification to the Claimant regarding the joining of missing elements in the Administrative File.

In a Motion of 26 October 2017, the Claimant requested the joining of new documents to the Administrative File, considering it still incomplete.

The Arbitral Order of 29 October 2017 requested from the Respondent the complete Administrative File, but ordered disregard of the arguments put forth by the Claimant in its Motion of 26 October 2017. The same Order dispensed with the meeting provided for in article 18 of the RJAT and set a date for the hearing.

In a Motion of 31 October 2017 the Claimant requested notification of one of the listed witnesses.

In a Motion of 7 November 2017 the Respondent, reiterating its view regarding the uselessness of testimonial evidence, requested that the witness be able to give its deposition by videoconference, or be allowed to be examined only in the afternoon, given the distance involved in its travel to the Tribunal.

The Arbitral Order of 8 November 2017 granted the request for testimonial deposition by videoconference.

In a Motion of 9 November 2017 the Claimant insisted on the advantage of obtaining the witness's testimony in person.

By Motion of 10 November 2017 the Respondent joined additional documents to complement the information contained in the Administrative File.

In a Motion of 13 November 2017 the Claimant commented on the admissibility and probative force of these documents, invoking article 415 of the Code of Civil Procedure.

The Arbitral Order of 14 November 2017 denied the Motion filed by the Claimant on 9 November 2017, and requested that the Respondent provide the witness with all relevant documentation with a view to obtaining its deposition by videoconference.

In a Motion of 20 November 2017 the Respondent requested that the Claimant specify what type of documents it intended to examine the witness about, given that the deposition could only cover documentation with which the witness had been in contact – unless expert testimony was intended, which would occur if the witness were heard regarding the documentation attached to the claim for arbitral pronouncement.

In a Motion of 22 November 2017 the Respondent indicated the contact address of the witness for purposes of conducting the videoconference.

In a Motion of 23 November 2017 the Claimant, in response to the Respondent's Motion of 20 November 2017, clarified that it indeed intended to hear the witness regarding the documentation attached to the claim for arbitral pronouncement, as it understood this necessary to know the factuality underlying the disputed assessment.

On 29 November 2017 the hearing took place.

At the hearing, the listed witnesses were examined and the Claimant's request to join additional documents was granted.

The parties were given 15 days for successive written arguments.

The Tribunal set 28 February 2018 as the date for pronouncement of the arbitral decision.

The parties filed arguments.

II – Preliminary Examination

30.1. The TA appointed its representatives in the proceedings and the Claimant joined a power of attorney, with the Parties thus being properly represented.

30.2. The Parties have legal personality and capacity and have legitimacy, pursuant to articles 4 and 10, paragraph 2, of the RJAT and article 1 of Ordinance no. 112-A/2011, of 22 March.

30.3. The proceedings do not suffer from nullities and no preliminary or subsequent questions have been raised that are prejudicial or exceptional in nature and which would prevent appreciation of the merits of the case, with the conditions being met for a final decision to be rendered.

III – Merits

III.1 – Factual Matters

§1. Facts Proven

With relevance to the appreciation and decision of the merits issues raised, the following facts are taken as established and proven:

The Claimant is a Personal Income Tax (IRS) taxpayer, resident in Portuguese territory, determining its business and professional income based on the simplified system.

The Claimant is the holder, jointly with B…, of bank accounts PT50… (at Bank C… – C…) and PT50… (Bank D…).

The Claimant was convicted on 20 January 2016 in criminal proceedings NUIPC …/07… TELSB for the commission, during the years 2007 to 2009, of the crime of smuggling (sale of tobacco outside government control and inspection), by sentence not final.

The Claimant was constituted as a defendant on 28 April 2015 in criminal investigation NUIPC …/13… TELSB (initiated with a certificate extracted from the investigation proceedings NUIPC …/07… TELSB), having been subject to financial and patrimonial investigations carried out in that same investigation, intended to ascertain the possible commission of the crime of money laundering, resulting in the Financial and Patrimonial Investigation Report of the Judicial Police identified as "NAI…", which constitutes an appendix to investigation NUIPC …/13… TELSB.

This investigation proceeding NUIPC …/13… TELSB was closed by a Dismissal Order issued on 22 March 2016, on the grounds that, among other reasons, "From the investigative steps undertaken it was not sufficiently proven that the amounts credited to the accounts of the defendant's daughters represented values received by him from his illicit activity and for which he was accused. Indeed, most of these credits were made in cash, so that, by this fact and given the absence of any other evidence, it is not possible to determine in concrete its origin, particularly the existence of a direct relationship between the amounts deposited in the daughters' accounts and the illicit activity allegedly perpetrated by him" (Dismissal Order of the DCIAP, at page 7, attached as Doc. No. 8).

Later in that order it is concluded that the data collected did not allow for the attribution of the crime of money laundering, provided for in article 368-A of the Criminal Code, concluding "that it was more a matter of a benefiting from the proceeds of the crime (which the defendant might have used to make gifts to his daughters) than, strictly speaking, the concealment of those values aimed at disturbing the criminal investigation" and that "there exists, in the patrimonial sphere of defendant A… and his daughters, property incongruent with declared income, which, pursuant to article 7 of Law no. 5/2002 of 11/01, could be presumed to constitute proceeds of criminal activity".

The Claimant's Personal Income Tax assessment relating to the years 2010, 2011 and 2012 was subject to an internal inspection action carried out by the Tax Inspection Services of the Finance Directorate of…, under Service Orders nos. OI2016…, OI2016… and OI2016…, between 28 November and 28 December 2016.

The Tax Inspection Report (hereinafter, "TIR") officially fixed income obtained by the Claimant in the years 2010, 2011 and 2012, and subject to Personal Income Tax, respectively at €73,885.60, €36,750.75 and €129,507.15, by purely arithmetic corrections.

The TIR bases its factuality on the said criminal investigation NUIPC …/13…TELSB, and on the results of the financial and patrimonial investigations described in the Report prepared by the Asset Recovery Office (ARO) of the Judicial Police ("NAI…"), appended to investigation NUIPC …/13… TELSB, relating to the period from 28 April 2010 to 28 April 2015, which became, as Appendix 2, part of the TIR.

In that Report "NAI…" there appears, by financial and patrimonial analysis, the existence of a total patrimonial advantage, in the period 2010 to 2015, of €72,402.75 for the Claimant, and of €360,847.65 for the daughters (€106,034.30 + €254,813.35).

The TIR showed a contrast between the income declared by the Claimant and the credit movements in its bank accounts and in the bank accounts held by its daughters (in euros):

2010 2011 2012 Totals
Income declaration of the Claimant's family unit 6,581.70 6,581.70 6,581.70 19,745.10
Credit movements in the Claimant's accounts 12,052.24 57,047.61 18,248.42 87,348.27
Income declaration of the Claimant's daughters' family units 50,646.74 73,783.60 82,311.98 206,742.32
Credit movements in the Claimant's daughters' accounts 154,634.58 121,826.05 263,505.66 539,586.32

The TIR thus showed a disparity between declared income and credit movements in bank accounts (in euros):

2010 2011 2012
Difference between credit movements and declared income (Claimant) 5,470.54 50,465.91 11,666.72
Difference between credit movements and declared income (Claimant's daughters) 103,987.84 48,042.45 181,193.68
Annual totals of difference 109,458.38 98,508.36 192,860.40

The same disparity is verified between those credit movements and the assets assessed in the Report "NAI…" (which assesses, for the period 2010 to 2015, the Claimant's assets at €41,357.66 as to real property, and €28,460.00 as to personal property).

Applying the coefficient 0.70 to those annual totals pursuant to article 31, 2 of the Personal Income Tax Code, the consideration of income from illicit activity was €76,620.87, €68,955.85 and €135,002.28, respectively for the years 2010, 2011 and 2012.

The Claimant was notified on 4 January 2017 to exercise the right to be heard on the proposed TIR, and the Claimant exercised that right on 25 January 2017.

In view of the clarifications provided and the justifications presented by the Claimant, with the justification of credits in the amount of €38,903.07 in 2011 and €653.90 in 2012, and also considering the difference in coefficients between business and professional income, on the one hand, and agricultural income on the other, the aforementioned values of €73,885.60, €36,750.75 and €129,507.15 were arrived at as taxable income for correction purposes.

The TIR received a favorable opinion from the Team Leader on 3 February 2017 and an Order of Agreement from the Finance Director on 13 February 2017.

Following the Inspection, the Claimant was presented with the following additional Personal Income Tax assessments: for 2010, assessment no. 2017…, in the amount of €21,135.13; for 2011, assessment no. 2017…, in the amount of €9,172.44; for 2012, assessment no. 2017…, in the amount of €42,932.04. And also: compensatory interest for 2010, Assessment no. 2017…, in the amount of €4,782.90; compensatory interest for 2011, Assessment no. 2017…, in the amount of €1,717.88; compensatory interest for 2012, Assessment no. 2017…, in the amount of €6,323.36. Totalling €86,063.75.

The Financial and Patrimonial Investigation Report of the Judicial Police identified as "NAI…", requested by the DCIAP in the context of the criminal investigation NUIPC …/13… TRLSB, is composed of 3 "Appendices":

Appendix A – procedural documents that originated the investigation

Appendix B – vol. I, II, III and IV (bank information)

Appendix C – TA and IRN information.

The tax inspection report relied only on a certificate extracted from the Report prepared by the ARO (Appendix A of page 48), there having been no access to the information contained in those appendices, particularly regarding the documents supporting the financial flows that form an integral part thereof (documents joined to the record and witness testimony).

The Finance Inspector, Ms. E…, of the Criminal Investigation Unit of the Finance Directorate of…, prepared an "Information" dated 21.11.2016 which states: "It is further noted that the documents supporting the financial flows are contained in the above-mentioned investigation proceeding, so that, should it be concluded that the Asset Recovery Office (ARO) report is insufficient, a certificate of the bank documents contained in the proceeding should be requested" (Information dated 21.11.2016).

The Finance Director of… (Ms. O…) agreed with this Information and sent a letter to the DCIAP requesting a certificate of the financial flow documents to which the report referred, but the Public Prosecutor denied the request for sending a copy of the bank documentation on the grounds of legal impediment, as it requires prior processing of the procedure aimed at lifting banking secrecy, in accordance with the jurisprudence of the Supreme Administrative Court (cf. order of 19.12.2016 - cf. letter no. …).

The account holders involved were not heard (the Claimant, the spouse, the daughters F… and G… and husbands (testimonial evidence - Dr. H… and Lieutenant-Colonel I…)).

In the ARO report the borrowings contracted are not disregarded/deducted; nor the mobilization and demobilization of time deposit accounts and other financial applications (erroneously classified as income) (testimonial evidence – testimony of Lieutenant-Colonel I…).

By way of example of the error in analysis of the (lawful) income obtained in the period in question, the witness told the Arbitral Tribunal that 2012 was the year in which he earned the most income (salaries) from the Army because he had been on a mission in Lebanon (testimony of witness Lieutenant-Colonel I…).

However, the ARO report indicates, with reference to that year, that it would have been the year in which the witness earned the least income – specifically 15,395.27€), due to lack of knowledge (error) that the income declared for tax purposes does not correspond to the income earned, due to the most significant portion being "exempt" from tax (cf. document no. 105 presented by the witness himself to corroborate his testimony).

The witness also gave other examples, now relating to cash entries in accounts from the maturity of applications (savings) and financial insurance constituted before 2010 – considered by the TA as income obtained in the period 2010-2012, namely:

Movement 493 – settlement of financial insurance "January 2009 – ICAENN", in the amount of 30,081.38€, constituted on 19.01.2009 (cf. document no. 106 presented by the witness himself to corroborate his testimony);

Movement 577 – settlement of savings PT 50…, in the amount of 24,478.33€, whose existence prior to 2010 is proven by document no. … presented by the witness himself to corroborate his testimony;

Movement 645 – settlement of financial insurance "J… 3% policy…", in the amount of 26,740.65€, constituted on 26.01.2009 (cf. document no. 108 presented by the witness himself to corroborate his testimony);

Movement 715 – transfer of savings account "K… increasing no.…", in the amount of 25,000.00€, whose existence prior to 2010 is proven by document no. 109 presented by the witness himself to corroborate his testimony (this document proves the transfer as well as the constitution of the savings);

The same witness also gave examples of the "duplicate" consideration of the same money, notably in account no. 9 L…: i) Movement 651 – bank transfer of 51,110.00€ from account no. 6, which corresponds to the mirror movement (Mov. 855) of entry into account no. 9; ii) Movement 654 – bank transfer of 499€ from account no. 6, which corresponds to the mirror movement (Mov. 857) of entry into account no. 9; iii) Movement 858 – check deposit of 2,100€ from account no. 7 (cf. document 101 referred to above presented by the witness); iv) Movement 860 – check deposit of 10,250€ from account no. 7 (cf. document 102 referred to above presented by the witness); v) Movement 862 – check deposit of 16,100€ from account no. 7 (cf. document 103 referred to above presented by witness Lieutenant-Colonel I…).

Apart from these 5 credit movements there is only one more credit movement in this account, in the amount of 32,900€, which corresponds to financial support provided by the father of brother-in-law M… (cf. Doc. no. 89 and 90 of the PI). Nevertheless, the ARO report indicates as income obtained in that account the amount of 61,350.00€ (which is not intelligible).

That witness also stated that, in addition to being an employee of the Portuguese Army, he is responsible for the license of the construction company "N…", having exhibited in the hearing supporting documents (whose joining to the record was admitted by the Tribunal) of the income earned from that company (cf. Document no. 112 supporting movement 109; Document no. 113 supporting movement 208; Document no. 114 supporting movement 247; Document no. 115 supporting movement 253, thus demonstrating that it was not a matter of income from the Claimant's activity.

  1. The Claimant filed, on 31 March 2017, a request for suspension of the enforcement proceedings for coercive collection of the assessment acts, pursuant to and for the purposes of article 169, 2 of the CPPT, which request was denied.

  2. The Claimant paid, on 18 May 2017, the tax and the increase, in the amount of €84,441.66.

  3. The Claimant filed, on 23 June 2017, the claim for arbitral pronouncement.

§2. Facts Considered Not Proven

There are no other facts with relevance to the appreciation of the merits of the case that have not been proven.

§3. Substantiation of Factual Matters

The judgment of the factual matters was based on the appreciation of the position assumed by the parties, the documentary evidence filed with the record by the Claimant, and also on the administrative file.

Critical analysis of the testimonial evidence produced at the hearing was also taken into account.

The first witness (H…, Assistant Tax Inspector of the Finance Directorate of…) corroborated, particularly regarding the nature of the Inspection action and the corrections underlying the disputed assessments, that it was an inspection of internal nature and that the corrections were purely arithmetic, as they understood that the Financial and Patrimonial Investigation Report sent by the Judicial Police contained sufficient matter for purposes of taxation.

Regarding the 2nd witness called, I…, Lieutenant-Colonel and son-in-law of the Claimant, after taking an oath to tell the truth despite his degree of relationship, answered the questions posed, having stated he had knowledge of the entire proceeding, although he was never heard either by the Judicial Police or by the TA. He further stated that he had prepared the entire proceeding relating to bank movements between the accounts of the Claimant, the witness, his wife, sister and brother-in-law, alleging and joining some additional documents, with a view to proving that the amounts in question resulted from his salaries and savings.

He requested that the Tribunal join several documents that he considers relevant to prove, in relation to certain amounts credited in the bank accounts in question, that it was not a matter of income from the Claimant's activity, which was granted by the Tribunal.

Both witnesses testified, in substance, in a coherent and sustained manner.

The first witness testified with impartiality and demonstrated direct knowledge of the facts relating to the tax procedure.

The second testified with assertiveness and revealing perfect knowledge of the bank movements.

III.2 – Matters of Law

III.2.1. The Illegality of Additional Personal Income Tax Assessments Due to Error in Factual and Legal Presuppositions

The Claimant alleges that the tax acts suffer from illegality, due to manifest error in the factual and legal presuppositions, namely:

Non-existence of taxable facts (quod probandum est);

Erroneous qualification as income (bank movements);

Error in the interpretation and application of legal norms (by means of resorting to direct assessment through technical corrections, while intending that the same function as indirect assessment in the manner of article 89-A General Tax Law);

Procedural defects (e.g., violation of the inquisitorial principle, through omission of inspection acts).

The Tax Inspection Report (hereinafter, "TIR") officially fixed income obtained by the Claimant in the years 2010, 2011 and 2012, and subject to Personal Income Tax, respectively at €73,885.60, €36,750.75 and €129,507.15, by purely arithmetic corrections.

For this purpose that report was based on the information contained in the "Financial and Patrimonial Investigation Report of the Judicial Police" (Asset Recovery Office - ARO), in the context of an investigation into the commission of the crime of money laundering, under criminal investigation proceeding no. …/13… TELSB.

From the investigation carried out and its conclusions it was verified that there were deposits of substantial monetary amounts in the accounts held by the Claimant and by his spouse, as well as in bank accounts held by his daughters G… and F….

In the inspection report one can read, at a given point, the following:

"The taxpayer is classified for the exercise of activities related to agriculture, forestry, animal exploitation and forest exploitation, having been convicted of the crime of qualified smuggling (decision not yet final), in accordance with the sentence delivered in proceedings …/07… TELSB, delivered on 2016-01-20.

"Taking into account the income declared by the taxpayer (…) and no other sources of income being known to him, developing the same illicit activities (having been accused of the commission of several crimes and convicted of the commission of the crime of qualified smuggling), we can conclude that the amounts declared in the bank accounts held by him and by his spouse are related to the activities developed by the taxpayer, whether lawful activities or illicit activities".

Regarding the amounts detected in the daughters' accounts, one can read, among other matters, in the said report, that in those "accounts there were cash entries in a fractional manner and over time, and no other sources of income being known to their daughters and respective spouses except the income from dependent work, income which is declared in their respective income declarations, the origin of these amounts appears to have another origin than the account holders themselves. (…) As in the investigation proceeding no elements were found that would allow concluding that the taxpayer's daughters developed the said illicit activities that were the subject of accusation against their father, or other activities whether lawful or illicit, it will be considered that these monetary amounts belonged to the taxpayer under analysis, which were deposited by him or at his order in the accounts held by his daughters. Thus considering that the activity that gave rise to such deposit entries was developed only by the taxpayer under analysis, the income from that activity can only be imputed to him".

The Respondent understands that the corrections made have their basis in the facts ascertained by the "financial and patrimonial investigation report appended to investigation no. …/13…TELSB, which, although not proving sufficient to fill the criminal framework to which the Claimant was indicted, were still sufficient to justify the corrections proposed in the draft Tax Inspection Report" (point 15 of Reply).

Let us see.

As we have seen, the "TIR" officially fixed the income obtained by the Claimant in the years 2010, 2011 and 2012, and subject to Personal Income Tax, by purely arithmetic corrections, based, in the first place, on the presumption that the credit movements in deposit accounts held by him, by his spouse and daughters result from or are related to the activities developed by him, whether "lawful activities" or "illicit activities".

Firstly, in the corrections that underlay the additional assessments now contested there was no disaggregation between income resulting from either "lawful" or "illicit" activities.

On the other hand, it is true that the illicit character of the obtaining of income or the acquisition or transfer of property does not prevent its taxation when such acts meet the requirements of the applicable incidence rules (article 10 of the General Tax Law).

It should be emphasized, however, that the requirements for application of this rule are not met in the present case, as we shall demonstrate.

As appears from the facts established as proven, the Claimant was convicted on 20 January 2016 in criminal proceedings NUIPC …/07… TELSB for committing, during the years 2007 to 2009, the crime of smuggling (sale of tobacco outside government control and inspection), by sentence not final. The Claimant was constituted as a defendant on 28 April 2015 in criminal investigation NUIPC …/13… TELSB (initiated with a certificate extracted from the investigation proceedings NUIPC …/07… TELSB), having been subject to financial and patrimonial investigations carried out in that same investigation, intended to ascertain the possible commission of the crime of money laundering. This investigation proceeding was closed by a Dismissal Order issued on 22 March 2016, because "from the investigative steps undertaken it was not sufficiently proven that the amounts credited to the accounts of the defendant's daughters represented values received by him from his illicit activity and for which he was accused. Indeed, most of these credits were made in cash, so that, by this fact and given the absence of any other evidence, it is not possible to determine in concrete its origin, particularly the existence of a direct relationship between the amounts deposited in the daughters' accounts and the illicit activity allegedly perpetrated by him" (page 7 of the said order).

Thus, beyond the lack of disaggregation between income from "lawful" and "illicit" activity, the facts relating to the sale of tobacco outside government control and inspection occurred between 2007 and 2009, whereas the tax inspection proceeding was instituted to investigate income allegedly obtained in the years 2010, 2011 and 2012.

This means that the Respondent considered it proven that "illicit" activity existed on the part of the Claimant in the years 2010, 211 and 212, based on the alleged "illicit" activity occurring in the years 2007 to 2009 and on the certificate of page… extracted from investigation NUIPC …/13…TELSB, which was the subject of a dismissal order.

Given the foregoing, if we add that even in relation to the criminal case it has not yet become final, the requirements that would substantiate the taxation of "illicit" activity are lacking.

The corrections that support the assessments at issue are based on the presumption that certain bank flows result from illicit activities of the Claimant without any justification, whether factual or legal.

Moreover, as appears from the facts established as proven, the Tax Inspection did not have access to the financial/bank information relating to the documents supporting the financial flows contained in the criminal investigation proceeding. An attempt was even made to send a letter to the DCIAP requesting a certificate of the bank documents supporting the flows to which the report referred, but that request was refused on the grounds that it requires prior processing of the procedure aimed at lifting banking secrecy.

The Tax Administration did not pursue that course and decided instead on direct taxation, through technical corrections, selecting the elements it understood to be appropriate for the Claimant's taxation, even using movements from third parties' accounts, without these being heard.

Thus, the inspection report limited itself to basing itself on the bank information contained in the Report prepared by the Asset Recovery Office of the Judicial Police (where "bank accounts are identified" where "deposits/transfers were made". Also in the dismissal order of the investigation proceeding "the bank accounts and credit movements in the accounts held by the taxpayer's daughters are listed".

Even if it were to be admitted that from the facts investigated and contained in the mentioned Report one could reasonably presume, in accordance with the rules of common experience and ordinary life, that the income thus obtained did not come exclusively from agricultural activity (lawful activity), in case of doubt, and dealing with a natural presumption, we should always rule in favor of the taxpayer.

As provided for in article 74 of the General Tax Law, "the burden of proof of the facts constitutive of the rights of the tax administration or taxpayers rests on whoever invokes them", so it was on the Respondent that the duty to prove the fact subject to tax, that is, the verification of the requirements of the incidence of the tax in question, would rest.

More specifically, in the present case it rests on the Respondent to demonstrate that the amounts credited to the accounts of the Claimant's daughters and sons-in-law represent values received by him in his activity (source of income) and the date of their receipt. That is, it was also incumbent on the Respondent to demonstrate that those amounts had been obtained by the Claimant in the years 2010, 2011 and 2012 and as a result of his agricultural activity.

Now, in the present case, as appears from the facts established as proven, even within the inspection proceeding and in the context of the right to be heard, the Claimant demonstrated the origin of some financial flows, erroneously qualified even in the ARO Report and erroneously reproduced in the inspection proceeding as income belonging to the Claimant.

It also results from the facts established as proven that at the hearing it was verified that the Tax and Customs Authority errs in the appreciation and qualification of the amounts and financial flows of the various bank accounts involved. (points 24 to 31 of the factual section).

Consequently, in a situation of doubt, the decision should always be made in a sense favorable to the Claimant, that is, against the party on whom the burden of proof rests.

Given the foregoing, the Claimant is correct regarding the alleged error in the factual and legal presuppositions regarding the application of article 10 of the Personal Income Tax Code, error in fact regarding the qualification and origin of income (derived from the incorrect assessment of financial/bank flows) and failure to discharge the burden of proof that rested on the Respondent.

Having this Tribunal found the violation of law invoked by the Claimant to be well-founded, with the consequent annulment of the disputed assessments, the consideration of the other defects alleged is rendered unnecessary.

Indeed, the establishment of an order of consideration of defects is only justified by the eventual well-foundedness of the priority defects making unnecessary the consideration of the remainder, for, if it were always necessary to consider all defects, the order of their consideration would be irrelevant.

Therefore, the Respondent not being correct, the Claimant's request should be granted, with the consequent annulment of the additional Personal Income Tax assessments relating to the years 2010, 2011 and 2012 and respective compensatory interest, in the global amount of €86,063.75.

III.2.2. Indemnificatory Interest

The Claimant further requests that the Tribunal condemn the TA to payment of indemnificatory interest, calculated from the date of payment of the disputed assessments, based on error attributable to the services, pursuant to articles 43, no. 1, and 61 of the CPPT.

Pursuant to the combined terms of article 43, nos. 1 and 2 of the General Tax Law and article 61, no. 5 of the CPPT, the TA shall be condemned to payment of indemnificatory interest when, due to an error (of fact or of law) attributable to such services, the taxpayer improperly pays a tax and this is subsequently found to be improper due to the tax act or acts of assessment being annulled as a result of judicial challenge – as is the case here.

Furthermore, it is stated in the cited norms that indemnificatory interest is calculated from the date of payment of the tax until the issuance of the respective credit note, being calculated in accordance with the application of the rate provided for in articles 43, no. 4 and 35, no. 10 of the General Tax Law and article 559, no. 1, of the Civil Code.

Thus, because it is verified that the additional Personal Income Tax assessments in question are improper due to being illegal, the Claimant's right to indemnificatory interest at the legal default rate cannot but be recognized, pursuant to the terms previously referred to.

IV. Decision

In view of all the foregoing, it is decided:

To find the claim for arbitral pronouncement of declaration of illegality of the additional Personal Income Tax assessments relating to the years 2010, 2011 and 2012 to be well-founded;

To annul the additional assessments mentioned;

To condemn the Tax and Customs Authority to payment of indemnificatory interest pursuant to law, for the deprivation of the amounts that were improperly exacted and paid by the Claimant;

To condemn the Respondent to payment of costs.

V. Value of the Case

The value of the case is fixed at €86,063.75, pursuant to the provisions of article 97-A of the CPPT, applicable by virtue of article 29, no. 1, sub-paragraph a), of the RJAT and article 3, no. 2, of the Regulation of Costs in Tax Arbitration Proceedings (RCPAT).

VI. Costs

Costs charged to the Respondent, given that the present claim was judged unfounded, in the amount of €2,754.00, pursuant to Table I of the RCPAT, and in compliance with articles 12, no. 2, and 22, no. 4, both of the RJAT.

Lisbon, 23 February 2018

The Arbitrators

Maria Fernanda Maçãs

(President)

Fernando Araújo

José Rodrigo de Castro

Frequently Asked Questions

Automatically Created

Can the Portuguese Tax Authority (AT) use evidence from an archived criminal inquiry to issue additional IRS tax assessments?
Yes, the Portuguese Tax Authority can use evidence from archived criminal inquiries to support IRS assessments, but with significant limitations. The dismissal of criminal proceedings does not automatically invalidate tax evidence, as criminal and tax proceedings have different standards of proof and objectives. However, AT bears the burden of proof under Article 74 of the General Tax Law when taxing illicit income, meaning it cannot simply incorporate criminal investigation findings without independent verification. The evidence must be obtained with proper procedural safeguards, including adversarial hearing rights. AT cannot rely solely on expert evidence from criminal proceedings that was not communicated to the taxpayer, as this violates Article 421 of the Civil Procedure Code regarding extraprocessual evidentiary value. The dismissal specifically for insufficiency of proof creates particular challenges for AT's use of that same evidence in tax proceedings.
What is the burden of proof required for taxing income from illicit activities under Portuguese IRS rules?
Under Portuguese law, when taxing income from illicit activities, the Tax Authority bears the burden of proof pursuant to Article 74 of the General Tax Law (LGT). AT must prove: (1) the taxpayer obtained income from illicit activities during the specific tax years under assessment; (2) the amounts constitute taxable income under IRS rules; and (3) the factual basis supporting the corrections made. This burden cannot be discharged merely by referencing criminal investigations or convictions from different time periods. IRS taxation operates on an annual basis, requiring relevant proof of illicit income for each year separately. AT must independently verify facts and cannot abdicate its functional duty to discover material truth by simply incorporating reports from criminal proceedings. If AT cannot meet this evidentiary standard through direct proof, it may resort to indirect assessment methods under Article 87(1)(f) of the LGT, but even then must establish a proper factual foundation.
How does the archival of a criminal investigation affect the validity of related tax assessments in Portugal?
The archival (dismissal) of a criminal investigation does not automatically invalidate related tax assessments, but significantly affects the evidentiary foundation. Criminal dismissal for insufficiency of proof means the criminal standard was not met, but tax proceedings have autonomous evidentiary requirements. However, when dismissal specifically concludes that certain facts remained unproven (such as that amounts credited to accounts represented income from illicit activity), AT cannot simply adopt contrary conclusions without independent proof. The Tax Authority must conduct its own factual verification and cannot rely on presumptions contradicted by the criminal dismissal. Evidence gathered during the dismissed criminal investigation may inform tax assessments, but AT bears the burden of proving the facts necessary for taxation, independent of the criminal proceedings' outcome. Taxpayers can challenge assessments arguing AT failed to discharge this burden, particularly when the same evidence deemed insufficient in criminal proceedings is used as the sole basis for tax corrections.
What legal grounds can taxpayers invoke to challenge additional IRS tax liquidations before a CAAD arbitral tribunal?
Taxpayers can invoke multiple legal grounds to challenge additional IRS assessments before CAAD arbitral tribunals under Articles 2, 5, and 10 of the RJAT (Legal Framework for Arbitration in Tax Matters) combined with Article 99 of the CPPT. Key grounds include: (1) violation of the burden of proof rules (Article 74 LGT) - arguing AT failed to prove the factual basis for corrections; (2) improper use of evidence from criminal proceedings without adversarial hearing (Article 421 CPC); (3) temporal mismatch - challenging extrapolation from convictions relating to different tax years when IRS requires annual taxation; (4) failure to independently verify material truth - arguing AT abdicated its duty by merely incorporating criminal investigation reports; (5) procedural violations in the inspection process; (6) substantive illegality of the assessment (Article 100 CPPT). Taxpayers may also present evidence demonstrating inconsistencies in the Tax Inspection Report regarding bank movements, ownership of balances, and justification of financial transactions to rebut AT's factual conclusions.
Does a non-final criminal conviction support the Tax Authority's corrections to IRS returns for prior tax years?
A non-final criminal conviction provides limited support for Tax Authority corrections to IRS returns for different tax years. Portuguese tax law operates on an annual basis, requiring proof of income for each specific year under assessment. A conviction relating to years 2007-2009 does not establish proof of illicit income for subsequent years 2010-2012 without additional independent evidence for those periods. Extrapolating from prior criminal conduct to prove illicit activity in later years violates the principle requiring relevant proof for each tax year separately. The conviction's non-final status further weakens its evidentiary value, as the criminal findings remain subject to appeal and potential reversal. While criminal convictions may provide contextual information, AT cannot use them as a substitute for meeting its burden of proof regarding income obtained during the specific tax years under assessment. AT must demonstrate through independent investigation and evidence that illicit income was obtained in each year being taxed, not merely infer continued illegality from prior convictions.