IRC Tax Deductibility of Costs and Financial Charges – CAAD Arbitration 42/2015-T

ARBITRAL AWARD

The arbitrators Dr. Jorge Manuel Lopes de Sousa (arbitrator-president), Prof. Doctor António Martins and Dr. Carla Castelo Trindade (arbitrators-associate members), designated by the Deontological Council of the Centre for Administrative Arbitration to form the Arbitral Tribunal, constituted on 31-03-2015, agree on the following:

1. Report

A…, LDA., NIPC …, with registered office in …, Building …, Office …, …-… … (hereinafter, "Claimant"), submitted, pursuant to articles 10 and 2, no. 1, subparagraph a), both of Decree-Law no. 10/2011, of 20 January (hereinafter "RJAT"), an application for constitution of the collective arbitral tribunal, in which the Tax and Customs Authority is Respondent, seeking the declaration of illegality of the additional assessment of Corporate Income Tax (hereinafter, "IRC"), identified with no. 2013 …, of 11-12-2013, in the amount of € 2,890,667.79 and of Statement of Interest Calculation, identified with no. 2013 …, of 12.12.2013, which, in accordance with the Statement of Account Adjustment, identified with no. 2013 …, gave rise to taxes payable in the amount of € 2,890,718.36.

The Claimant further seeks the condemnation of the Tax and Customs Authority to pay compensatory interest.

The application for constitution of the arbitral tribunal was accepted by the President of CAAD and automatically notified to the Tax and Customs Authority on 28-01-2015.

Pursuant to subparagraph a) of no. 2 of article 6 and subparagraph b) of no. 1 of article 11 of the RJAT, in the wording introduced by article 228 of Law no. 66-B/2012, of 31 December, the Deontological Council designated as arbitrators of the collective arbitral tribunal the signatories hereto, who communicated acceptance of the assignment within the applicable timeframe.

On 16-03-2015 the parties were duly notified of this designation and did not express any will to refuse the designation of arbitrators, in accordance with the combined provisions of article 11, no. 1, subparagraphs a) and b) of the RJAT and articles 6 and 7 of the Deontological Code.

Thus, in conformity with what is provided in subparagraph c) of no. 1 of article 11 of the RJAT, in the wording introduced by article 228 of Law no. 66-B/2012, of 31 December, the collective arbitral tribunal was constituted on 31-03-2015.

The Tax and Customs Authority responded, arguing that the claim should be dismissed.

On 17-06-2015, the meeting provided for in article 18 of the RJAT was held, in which testimonial evidence was produced and oral arguments were presented.

The arbitral tribunal was regularly constituted and is materially competent in the light of what is provided for in articles 2, no. 1, subparagraph a), and 30, no. 1, of the RJAT.

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

The proceedings do not suffer from any nullities and no exceptions have been raised.

Thus, there is no obstacle to examining the merits of the case.

2. Findings of Fact

2.1. Established Facts

On the basis of the elements contained in the file and the administrative proceedings attached to the records, the following facts are considered established:

a) An inspection action was carried out with respect to the Claimant concerning the fiscal years 2009, 2010 and 2011, which originated from a control action, through which the need for control of interest recorded in the company was proposed and approved at a higher level, relating for the most part to expenses for its own acquisition;

b) The inspection action was carried out through Service Orders nos. OI2013 …, OI2013 … and OI2013 …, of 06/03/2013;

c) The Claimant, in the said fiscal years, carried on the activity of "Accounting and audit activities; tax consultancy", CAE 69200 (until 27.01.2010) and from 28.01.2010 it is registered for the activity of "Activities of specialised medical practice, on an outpatient basis" - CAE 86220, having as secondary objective "Accounting and audit activities: tax consultancy" - CAE 69200.

d) In the course of the inspection action, the Tax and Customs Authority found that in the years 2009, 2010 and 2011, the Claimant incurred and recorded in its accounting costs (interest) from a bond loan and contributions, costs which the Tax and Customs Authority understood were not related to its business activity, nor served to maintain its income-producing source, having instead benefited a third party (B… Holding, S.A.R.L., previously C… S.A.R.L.), whereby it understood that such costs should not be accepted for purposes of calculating the tax result, in accordance with subparagraph c) of no. 1 of article 23 of the IRC Code;

e) The Claimant had as previous designations D…, Lda (until July 2008) and E…, Lda. (until December 2008);

f) Until 25 June 2007, this company was held by F… SGPS, S.A., and had practically no activity since its inception;

g) On 26 June 2007, this entity sold its shares in D... to the company C... S.A.R.L., with registered office in – …, … route …, in Luxembourg;

h) On the day of acquisition, C… proceeded to increase the capital of D..., changing from € 5,000.00 to € 40,896,711.00, as certified by the permanent Certificate of Commercial Registration and minutes no. 13 (Appendix 3 to the Tax Inspection Report, of 3 pages), this increase being carried out, according to the said minutes, in cash;

i) On 10 December 2007, C… proceeded to a new capital increase of D..., changing from € 40,896,711.00 to € 57,773,878.00, as certified by the permanent Certificate of Commercial Registration, this increase being carried out, according to the certificate, in cash;

j) In July 2008 the company D... altered its business name and registered office to E…, Lda. (hereinafter E…), changing the registered office, previously in …, and establishing itself in …, at the current registered office;

k) In December 2008, E..., through a merger, incorporated one of its holdings (A…, LDA - NIPC …), a holding acquired in August 2007, adopting its current designation / business name, which was the designation of its holding, assuming the functions and objectives of the incorporated company;

l) As a result of this merger, the Claimant became the direct holder of a series of companies in the healthcare sector (namely dialysis);

m) In December 2009, the Claimant proceeded to a merger by incorporation with the group companies, and from that date onwards dedicated itself to providing medical services;

n) A… LDA NIPC … ceased its activity due to the merger by incorporation with the Claimant;

o) Until its incorporation, A… LDA NIPC … carried on the activity of consultancy and provision of business services in the areas of administrative, financial and personnel management, accounting, computing, scientific research, vocational and commercial training of equipment, utensils and products intended for the healthcare sector, functioning as a purchasing centre and manager of a series of other companies, whose main objective was the treatment of renal patients;

p) A… LDA NIPC … began its activity on 19 October 1990 with the designation of G… - SGPS Lda with the objective of management of shareholdings in other companies as an indirect form of carrying on economic activities;

q) A… LDA NIPC … began its activity with share capital of € 1,047,475.58, divided into 3 shares, having as shareholders the companies H… and I…, the first of which held two shares valued at € 948,713.60 and € 98,637.28 and the third held the other valued at € 124.70;

r) On 22 December 2005, A… LDA NIPC … proceeded to a capital increase of € 100.00, with the participation of the company I… changing to € 224.70 and the share capital to € 1,047,575.56;

s) On 10 January 2006, A… LDA NIPC … altered its designation to J… Lda (hereinafter J…), and on 26 December of that same year it was subject to a division resulting in the company G… - SGPS Lda, with NIPC …;

t) On 1 August 2007, J… was acquired by D... for the amount of €122,611,711.00 (Appendix 4 to the Tax Inspection Report, of 3 pages), changing its designation to A… Lda on 4 December of that same year;

u) All information relating to this company is contained in the registration of the Commercial Registry (Appendix 5 to the Tax Inspection Report, of 10 pages);

v) A… LDA NIPC … held the totality of the capital of the following entities:

1. K…, S.A., NIPC: …
2. L… LDA, NIPC: …
3. M… LDA, NIPC: …
4. N… LDA, NIPC: …
5. O…., S.A. NIPC:…
6. P…. - ., S.A., NIPC: …
7. Q… S.A., NIPC:…
8. R…, S.A. NIPC: …
9. S… LDA, NIPC: …
10. T… LDA, NIPC: …
11. U… S.A., NIPC: …
12. V…, S.A., NIPC: …
13. W…, S.A., NIPC: …
14. X… S.A., NIPC: …

w) A… LDA, NIPC … also held partially the capital of the company Y… LDA, with NIPC …;

x) In December 2006, A… Lda - NIPC … was incorporated in its shareholding company (E... -, Lda - NIPC: …) through a process of merger by incorporation (Appendix 6 to the Tax Inspection Report, of 28 pages);

y) B… HOLDING, S.A.R.L. (with previous designation C... S.A.R.L.), NIPC …. With registered office in L -…,… route …, Luxembourg, is held by a venture capital company called Z…, with registered office in England and which served as a vehicle for the acquisition of the group AA in 2007, information which is contained in a request made by Z… to the Competition Authority of the European Commission in the context of the acquisition of the group AA… (Appendix 7 to the Tax Inspection Report, of 1 page).

z) C... S.A.R.L. (hereinafter C…) proceeded in 2007 to the acquisition of the Claimant (A… LDA, with the business name at the time of acquisition D..., Lda) from the company F… SGPS, S.A.;

aa) D..., until its acquisition in 2007 by C… was an entity without any type of activity, having recorded small losses resulting from the administrative costs of its existence;

bb) Following its acquisition, they proceeded to a capital increase from € 5,000.00 to € 40,896,711.00, this increase being carried out in cash, according to the statement of the company manager (minutes no. 13, which is contained in document no. 6 attached with the application for arbitral decision, whose content is hereby reproduced);

cc) By examination of the accounting of D... for the years 2007 and 2008, carried out in the context of Service Orders nos. OI2010 …/…, the Tax and Customs Authority concluded that the requirement of realization in cash was never met, as there was no evidence of movements in the accounts of available funds during the fiscal year 2007 (Appendix 8 to the Tax Inspection Report, of 2 pages), as well as by the fact that, in accounting terms, the capital increase was effected not as counterpart of available funds, but rather by reflection in debts from third party accounts;

dd) On 28 June 2007, the entity D... proceeded to the issuance of a bond loan, in the amount of € 81,700,000.00, fully subscribed by the sole shareholder, C... S.A.R.L. (Appendix 9 to the Tax Inspection Report, of 12 pages);

ee) For this purpose, it was resolved on 27 June 2007, as per Minutes no. 14 of the company D... (Appendix 10 to the Tax Inspection Report, of 2 pages and document no. 7 attached with the application for arbitral decision, whose content is hereby reproduced), that, given the capitalization needs that the company would have to face in connection with the transactions it proposed to carry out and having the intention to proceed to pay the price under the contract for the sale of shares representing the totality of the share capital of company AA…, they would proceed to the issuance of a bond loan in the amount of € 81,700,000.00, which would be fully subscribed by the sole shareholder (C... S.A.R.L.);

ff) For the realization of the bond loan, there was also the participation of BB…, S.A., which proceeded to the payment of interest to the subscribing company C... S.A.R.L., and CC…, SA, which proceeded to the registration of this loan;

gg) Through examination of the accounting, the Tax and Customs Authority found that the € 81,700,000.00 never entered the accounts of the entity, this amount being recorded as debts of third parties as counterpart to loans;

hh) The acquisition of J… took place on 1 August 2007 for the price of €122,611,711.00 (Appendix 4 to the Tax Inspection Report);

ii) This operation was recorded in the accounting by a transfer of debtor balances — debts of third parties (shareholders for the capital increase and for the bond loan) to financial investments instead of an outflow of available funds, whereby the Tax and Customs Authority concluded that the monetary means relating to both the capital increase and the bond loan never entered the accounts of D... (Appendix 11 to the Tax Inspection Report, of 2 pages);

jj) With respect to the interest, as follows from the accounting of the years 2007 and 2008, it was paid through BB…, S.A., by the entity J…, the company acquired through that loan (Appendix 12 to the Tax Inspection Report, of 3 pages) with D... having no operational activity, serving only as a vehicle for the acquisition of J…;

kk) This same interest paid to the entity C… was not subject to taxation in Portugal pursuant to Decree-Law no. 193/2005, of 7 November;

ll) In the two years in which the examination of the accounting of D... was carried out in the context of the Service Orders nos. OI2010 …/…, the Tax and Customs Authority found that they had no relevant operational results, presenting losses resulting from negative financial results derived from the bond loan, which were paid by J… (the entity acquired by D...);

mm) In December 2008, A… l (formerly J…) was incorporated in E... (formerly D...) with effect from January of the following year (Appendix 6 to the Tax Inspection Report);

nn) Given the fact that the company E... (formerly D...) held the totality of the share capital of A… (formerly J…), this incorporation was carried out through a process of merger;

oo) With this operation, the entire patrimony of the incorporated company A… was transferred to its incorporating company, E...;

pp) In addition to the incorporation process of these two entities, the business name of the incorporating company was also altered to A…, Lda., thus adopting the designation of the incorporated company;

qq) With said incorporation, all assets and liabilities became integrated in a single entity, the incorporated entity, which generated revenue and/or gains, coming to bear the charges established between the entity C… and the entity D..., arising from the bond loan for the acquisition of the company J…;

rr) The amount of interest recorded and paid to the parent company in the current company is approximately 8.5 M€, in all fiscal years analyzed by the Tax and Customs Authority;

ss) On 10 October 2014, the Claimant was notified by the Tax and Customs Authority to prove the indispensability of the costs and/or expenses incurred with the interest supported by the bond loan for the obtaining of the revenue (Appendix 13 to the Tax Inspection Report, of 1 page);

tt) The Claimant replied to the notification on 18 October 2014, saying, in sum, the following:

• In 2007, Z… agreed to the acquisition of part of the business of group AA… dedicated to the provision of renal care services in various jurisdictions;

• To this end, it established a company with registered office in Luxembourg (B… Holdings SARL) with the purpose of acquiring or establishing companies in each of the jurisdictions in which J… had activity with the purpose of realizing the acquisition of the companies of group BB… or in case it was possible to acquire the assets and liabilities of these same entities.

• In Portugal, that operation resulted in the acquisition of company J… by D..., as it was in this company that the target of D... was found (dialysis clinics).

• For this, B… Holdings SARL provided the Portuguese company with capital and debt with the purpose to proceed with the acquisition of J….

• This route was chosen, among other reasons, because it is in line with best international practices, because it instills financial discipline by the pressure it exerts on results, and the exit of capital via debt is simpler than the distribution of dividends.

• It was the intention of the DD… group to acquire the clinics and not the companies, which in the Portuguese jurisdiction is not possible in view of the rules applicable to the Regional Health Administrations.

• It was also the intention of the group to simplify the structure of the shareholdings it held, which it did through a two-phase reorganization.

• This reorganization took place, in the first place, through the merger of J… into A… (ex-D...) and, in the second place, it proceeded with the merger of the remaining entities into A…, which had to obtain the approval of the Regional Health Administrations.

• The two mergers, regardless of having taken place on different dates, were effective as of 1 January 2009.

• From an economic-financial point of view, the merger brought economic benefits to the Group and, consequently, to the National Economy.

• With respect to the deductibility of the financial charges supported by the bond loan subscribed by the parent company:

"In sum, in order to attest the indispensability of a given expense for the generation of revenue or for the maintenance of the income-producing source, the following should be verified:

• The framing of the expense within the scope of the activity of the taxpayer and not of any other entity, even if related to it;

• A connection between the expense and the revenue subject to taxation, even if indirectly;

• The expense should have, in its origin and in its cause, the specific interest of the company or, in other words, should comply with criteria of economic rationality in view of statutory objectives and comply with the reasonableness and substantiation of management decisions at the time and in the circumstances in which they are made."

• As for the deductibility of the financial charges, on a date prior to the merger, the loan was contracted for the acquisition of J…, which was not entirely unrelated to the social purpose of the company.

The financial charges "were incurred in the strict pursuit of the activity of the Claimant ... and for its sole and exclusive benefit" and without such financing it would not have had the conditions to realize the acquisition of J…, "an acquisition which, together with the subsequent management of the respective shareholdings, constituted an important part of the activity of the Claimant in a moment prior to the merger."

• Without that acquisition, "it would be potentially deprived of a set of revenues" and that it did not benefit from the provisions of article 32 of the Tax Benefits Statute with respect to gains and losses realized, whereby the financial charges supported met the conditions to be considered as indispensable for the generation of revenue.

• With respect to the period after the merger, it cannot be questioned that the expenses are indispensable since (i) they are directly related to the activity of the taxpayer, as well as to its social purpose, (ii) they contribute to the generation of revenue subject to taxation and (iii) they are manifestly indispensable.

• The social purpose of A… became the following: "1 — Consultancy and provision of business services in the areas of administrative, financial and personnel management, accounting, computing, scientific research, vocational training, the marketing of equipment, utensils and products intended for the healthcare sector and the elaboration of studies and provision of medical care in all specialities, as well as the provision of related or similar services. 2 - The activities contained in the social purpose may be developed, wholly or partially, in an indirect manner, through the holding of shares or shareholdings in and in companies with identical or analogous purposes", maintained to this day.

• This change of activity had the objective of accommodating the activities developed by the incorporated companies, with A… coming to develop, through the merger, all activities developed by the incorporated companies.

• Thus, "the merger of J… into the Claimant did not result in the disappearance of any asset in the sphere of the latter (in particular shareholdings) that were at the origin of the bond loan that generated financial charges, but rather in the conversion of that asset into the set of assets and liabilities that those shares already represented."

• And as such the financial charges "necessarily fit within the activity of the Claimant after the merger, i.e., were intended, in substance, to finance the acquisition of the patrimony sufficient and necessary for the development, in its sphere, of the activity of providing renal care previously developed by the subsidiaries, individually."

• With respect to the indispensability of the expenses, it states that "without the bond loan the Claimant would not have "acquired" the assets and liabilities, in particular the business units providing renal healthcare services ...which are, in fact, the primary income-producing source subject to taxation of the Claimant at a later moment."

• "The activity developed by the Claimant, after the merger, included the provision of healthcare services, using the human and material resources, as well as the assets and liabilities, of the incorporated entities, which fits fully within its social purpose;

Without the financing in question, the acquisition of J… would not have been possible and, without it, the subsequent merger, which allowed the then Claimant to develop its income-generating activity subject to taxation;

• In truth, the financing in question can be seen as being intended, from the beginning, for the acquisition of the assets and liabilities that make up the entirety of the patrimony of the incorporated companies...;

• In effect, the merger should not be viewed as representing a change in the consolidated economic reality of the incorporating and incorporated companies, as it remains intact;

• There was, at no time, any confusion between the financial charges supported by the Claimant and the activity of third parties."

uu) In the Tax Inspection Report, whose content is hereby reproduced, the Tax and Customs Authority expressed itself in the following terms, among others:

III. 1.4 - From the examination of the operation and proposed corrections

III.1.4.1 - Costs with bond loan

With the incorporation of A…, Lda. (NIPC …), in its parent company E..., Lda. (NIPC …), all assets and liabilities were integrated in a single entity, with the cash-flows released by the activity and patrimony of the incorporated entity coming to bear the charges arising from the bond loan established between C… and D..., a loan which came to allow the acquisition of the company J….

In other words, with the merger, the [cash-flows] released by the activity of the incorporated company came to bear the costs with its own acquisition.

Now, article 23, no. 1 of the IRC Code provides that:

(...)

In the specific case, we have that the costs with the acquisition of the company J… (subsequently A…, Lda.), which had been incurred by D... (subsequently E..., Lda.), through the merger, came to be borne by the cash-flows generated by the acquired entity.

With the merger, the activity developed by the incorporating company came to correspond entirely to the activity that had already been carried out by the incorporated company, with the loan obtained by D... having as its sole objective the obtaining of capital for the acquisition of J….

E... (formerly D...) emerged only as a vehicle to realize the acquisition of J… to A…, Lda. (formerly J…).

Upon the Merger, E… (formerly D...) assumed the denomination of A…, Lda., which in practice translated, solely and only, in the cancellation of the registration of the taxpayer with the NIPC and registration n…..

Notwithstanding the cancellation of the registration of the taxpayer …, it is A…, Lda. (formerly J…), the company that continues its previous activity, now under NIPC … and not E..., since this company added nothing to the objective pursued by A…, Lda. (formerly J…), and which had as its epilogue the adoption of the business name A…, Lda.

The costs in question only served to reduce the tax result of the company resulting from the mergers, with no positive financial effect being achieved.

In conclusion, the use of the vehicle (D...) in the manner described, allowed that the financing cost which would have been borne by the Luxembourg company (C... S.A.R.L., now B… Holding, S.A.R.L.), in a direct acquisition, [would come] to be borne by the patrimony of the operational company (A…), being fully deducted from the result of this, following the incorporation of its patrimony in the vehicle company, with the respective fiscal impact (EBITDA), as analyzed in the point "II - 3.5.2 Balance Sheet and Income Statement".

In relation to a business structure with characteristics comparable to the case under analysis, the Centre for Administrative Arbitration (created by Decree-Law no. 10/2011 of 20 January) already had the opportunity to pronounce itself, in Process no. 14/2011-T, which had as arbitrators Dr. João Menezes Leitão, Professor Doctor Ana Paula Dourado and Judge Counselor Domingos Brandão de Pinho, the latter as arbitrator-president.

(...)

In the case of A…, the costs supported with the bond loan are not related to its business activity, nor did they serve to maintain the income-producing source. Such costs, although recorded in its accounting, do not benefit its activity nor its respective business interest, but rather benefit a third party (B… HOLDING, S.A.R.L., formerly C... S.A.R.L.), not being accepted for purposes of calculating the tax result, in accordance with subparagraph c) of no. 1 of article 23 of the IRC Code.

In this manner, to the tax profit/loss declared by the taxpayer we will correct the amount of interest relating to the bond loan, in accordance with subparagraph c) of no. 1 of article 23 of the IRC Code and taking into account the jurisprudence that pronounced itself on this matter, as mentioned above.

The amounts per fiscal year of these financial costs/charges are as follows (as per documents attached in Appendix 15, of 2 pages):

[Table with fiscal year breakdown]

III.1.4.2 - Charges with Contributions

Pursuant to subparagraphs j), k) and l) of section III.1.2, we have that with respect to interest, as follows from the accounting of the taxpayer of the years 2007 and 2008, the same were paid through BB…, S.A., by the entity J…, the company acquired through that loan, because D... never had an operational activity, as already previously described and as evidenced by the operations recorded in the accounting of the entity and reflected in the analytical trial balances of fiscal years 2007 and 2008 of D... (cf. Appendix 16, of 9 pages), where there are only mere records in financial cost and revenue accounts.

Now, in those same fiscal years (2007 and 2008), C…, in addition to the bond loan, proceeded to make loans through contributions to various group companies, with J… being the largest recipient of these contributions, in the amount of € 37,359,426.00 (Appendix 17, of 6 pages).

Thus, we have that J… received contributions from C… and interest from a bond loan whose parties were C... (creditor) and D... (debtor), with these interest being a credit of J… to D…. We note that this credit to D... did not produce any revenue, notwithstanding the fact that, as a result of this, J…. is bearing a charge with a contribution interest to meet the payment of interest that should be an actual charge of the parent company D….

Schematically, we have the following:

[Organizational chart showing relationships]

The amount of interest that J… paid to C… (responsibility of the parent D...) in the fiscal years 2007 and 2008 totals the sum of € 11,664,656.99 (Appendix 12), divided between € 3,874,826.75 for 2007 and € 7,789,830.24 for 2008. This amount constituted a credit of D… over J… (contributions), in that the latter did not have financial means to liquidate the interest on the bond loan.

With the merger, the amounts of debts between the Portuguese companies were cancelled, maintaining only the record of the debt to the Luxembourg company in the amount of € 47,399,162.66 relating to contributions, this amount being influenced by the amount mentioned above (€ 11,664,656.99) relating to the payment of the bond loan interest in fiscal years 2007 and 2008 by J….

Thus, and pursuant to the provisions of subparagraph c) of no. 1 of article 23 of the IRC Code, we will proceed to correct the interest supported relating to contributions in the proportion of € 11,664,656.99 against the value of the contribution debt (€ 47,399,656.99).

The amounts of interest supported in the fiscal years under analysis and recorded as period expenses in the account "691155 - Interest group companies - payable" were as follows (Appendix 18, of 8 pages):

[Table with amounts]

This operation gives us the percentage of 24.61%, which applying to the amounts recorded in account 691155 gives us the following corrections:

[Table with corrections]

vv) The Claimant pronounced itself on the Draft Tax Inspection Report, but the Tax and Customs Authority maintained the position previously taken;

ww) As a consequence of the corrections proposed in the Tax Inspection Report, the Tax and Customs Authority prepared the IRC assessment and compensatory interest with no. 2013 …, of 11-12-2013, in the amount of € 2,890,667.79 and the Statement of Interest Calculation, identified with no. 2013 …, of 12-12-2013, which, in accordance with the Statement of Account Adjustment, identified with no. 2013 …, gave rise to taxes payable in the amount of € 2,890,718.36 (documents nos. 1, 2 and 3 attached with the application for arbitral decision, whose contents are hereby reproduced);

xx) On 11-04-2014, the Claimant filed a gracious complaint concerning the acts referred to in the preceding subparagraph;

yy) By decision of 05-09-2014, issued by the Deputy Director of Finance, in substitution, of the Finance Directorate of Lisbon, the Claimant was notified to exercise the right to be heard in the gracious complaint, which it did;

zz) By decision of 20-10-2014, issued by the Deputy Director of Finance, in substitution, of the Finance Directorate of Lisbon, the gracious complaint was dismissed, expressing agreement with information contained in the Administrative File (document designated "PA11-pdf"), whose content is hereby reproduced, in which it states, among others, the following:

2 - Costs with the bond loan:

2.1 - The claimant alleges that there was an economic motivation for the operations of acquisition of the operational assets of Group BB… in Portugal and that the bond loan was contracted with the purpose of financing this acquisition.

However, in the Tax Inspection Report, this economic motivation or the purpose of the loan is not questioned, but it is concluded that those acquisition operations did not benefit the claimant, which resulted from the merger with the acquired companies, but the holder of its capital.

2.2 - The argument that the claimant had an activity of management of shareholdings is also not justified and that the interest on the bond loan was recorded as costs within the scope of this activity.

This type of activity counterbalances the costs of the financing it obtains, with the revenue from shareholdings in other companies, such as distributed profits or gains. However, in the present case, with respect to the holding of shares in J…/A…, Lda, such activity could no longer exist in fiscal year 2009, as the merger had already occurred.

2.3 - The result of the operations of acquisition of the companies that held the operational assets and activities of Group BB… in Portugal was the obtaining by B… Holding SARL of the shareholding representing the totality of the capital of the company resulting from the merger (the claimant), which incorporated these companies and assets.

2.4 - It is also pointed out in the complaint that the case dealt with in the Arbitral Award mentioned in the report (Process no. 14/2011-T) differs from the case here under analysis in that in the award it is a reverse merger and there the entity contracting the loan is not the one bearing the financial costs of it.

However, it does not appear that the differences are relevant to the analysis of the case here in question, given that, in this, the merged companies were controlled directly or indirectly 100% by C…/B… Holding (cf. points 6 and 8 of the merger project -fl. 331-verso and 332) and the conclusion in the award was not that the financial costs were incurred for the benefit of one or another of the companies that merged, but for the benefit of the company "D...", holder of the company resulting from the merger.

2.5 - Given the above, it is to be concluded, as in the Tax Inspection Report, that the costs supported with the bond loan, although recorded in the accounting of the claimant, did not benefit the activity of the claimant nor its respective business interest, but rather benefit a third party, B… Holding SARL, whereby they should not be considered "indispensable for the realization of revenue or gains subject to taxation or for the maintenance of the income-producing source", for purposes of application of no. 1 of article 23 of the IRC Code.

Thus the said correction is to be maintained.

3 - Charges with contributions:

3.1 - Contrary to what is alleged in the complaint, the statement in the report that the amount of €47,399,162.66 was influenced by the sum of € 11,664,656.99 appears to be correct.

3.2 - In effect, it is stated in the report (cf. points ll-2.3-a and b above) that in fiscal years 2007 and 2008, C…, in addition to the bond loan, proceeded to make loans through contributions to various group companies, with J… via D..., being allocated the amount of € 37,359,426.00.

It is also stated in the report (cf. points 11-2.3-c and e above) that the amount of interest on the bond loan paid by J… to C… in 2007 and 2008, € 11,664,656.99, gave rise to a credit of J… over D... (since the issuer is D...) and a credit of D... over J… (since the latter needed funds) and that these credits were cancelled when the merger took place, leaving the amount of € 47,399,162.66 owed to C…/B… Holding.

The information provided in the complaint, although more detailed, does not appear to contradict this analysis.

3.3 - The value of € 11,664,656.99 influenced that of € 47,399,162.66 in the following sense: the financing of the expense relating to interest on the bond loan (used in the acquisition, for the benefit of a third party, of J… activities in Portugal - cf. point 3.2), was reflected in the value of the financing needed by the claimant, whereby a part of the interest borne in 2009 by the claimant for financing from C…/B… Holding (in the proportion of 11,664,656.99 / 47,399,162.66 = 24.61%) is not revealed to be indispensable for purposes of application of no. 1 of article 23 of the CIRC.

Thus, also in this case the correction should be maintained.

4 - As to the allegation of lack of substantiation, and given the above, it is not concluded that the report lacks the reasons why the financial charges in question were not considered deductible in calculating the taxable profit of the fiscal year.

5 - Given that, as stated above in points 2 to 4, the claimant's claim is not well-founded, the dismissal of the request is proposed, with the additional assessment in question remaining valid.

IV - PRIOR HEARING

1 - The claimant was notified of the project dismissal decision, as appears in fls. 399 to 402 of the file, to exercise the right to prior hearing provided for in article 60 of the General Tax Law. With the notification a photocopy of the draft decision was sent, whose information was reproduced in the previous points.

2 - In prior hearing, the claimant submits a statement (fls. 403 to 416) in which it reiterates what was previously alleged, not attaching new documents.

3 - As to what is now alleged, it is to be noted that:

a) Costs with the bond loan:

As was made evident in the report, prior to the merger, the company D.../E... served as a vehicle in the project to acquire the group J… in Portugal through the various operations described in the report (without operational activity - cf. points ll-2.2-befacima).

Thus, in fiscal year 2009, after the merger that gave rise to the claimant company (which occurred in December/2008), it was the cash-flows released by the activity of the incorporated company that came to bear the costs with its own acquisition (cf. point III.1.4.1 of the report -fl. 303).

It was for this reason, namely, because those acquisition operations did not benefit the claimant, but the holder of its capital, that the costs of the bond loan were added in calculating the taxable profit of the claimant, and not because the economic motivation of the acquisition project of group BB… was questioned.

b) Charges with contributions:

The claimant invokes the documents submitted with the complaint and intended to document this point (docs nos. 9 to 14 - fls. 254 to 274 - cf. points l-2-b and II-3 above), specifying the reasons for the debts between the various companies, especially those prior to the merger, and reiterating what was alleged.

It is also argued that the charges in question differ in no way from the remaining charges with contributions. However, the correction did not result from the nature of the charges in question. As stated, both in the report and in the draft decision, the correction relates to the contribution interest corresponding to the part of the contributions needed for the financing of costs with the bond loan, which, as mentioned in the previous point, did not benefit the claimant, but the holder of its capital.

4 - As to the request for the provision of clarifications, orally, on the arguments and documentation (point 50 of the statement), it is to be noted that it is a fundamental rule of the gracious complaint procedure the limitation of the means of proof to documentary form and to the official elements that the services have available, without prejudice to other proceedings, the tax administration not being, however, bound by the initiative of the author of the request (articles 69, al. e) of the Code of Tax Procedure and Process and 58 of the General Tax Law).

5 - Given the above in previous points, and taking into account the facts and grounds invoked in the draft decision, it is proposed that the request be decided in the same sense of dismissal (cf. point 111-5 above);

aaa) On 18-12-2013, the Claimant paid the sum of € 2,534,121.90, relating to the assessed amount in question, with waiver of payment of compensatory interest (document no. 4 attached with the application for arbitral decision, whose content is hereby reproduced);

bbb) On 27-01-2015, the Claimant filed the application for constitution of the arbitral tribunal that gave rise to the present proceedings.

2.2. Unproven Facts

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

2.3. Substantiation of the Determination of Findings of Fact

The proven facts are based on the Tax Inspection Report and on the documents attached with the initial petition, there being no controversy about them.

3. Matters of Law

3.1. Positions of the Parties

3.1.1 Position of the Tax and Customs Authority (AT)

For the AT, the inspection action with respect to the Claimant resulted from the need to control large financial charges with very significant weight relative to the revenues recorded, which would originate in debt contracted for the acquisition of shareholdings in companies subsequently incorporated by merger. As stated in the RIT, the Claimant had as its original company designation D, Lda and was initially based in the Free Trade Zone of Madeira, with activity in the provision of accounting and economic services, business consultancy and direction and other financial and economic activities. On 26 June 2007, F… SGPS, S.A., sold its shares in D... to the company C... S.A.R.L., with registered office in Luxembourg, which subsequently altered its designation to B… HOLDING.

In July 2008, the company D... altered its business name and registered office to E..., Lda. (hereinafter E...), changing the registered office, previously in the Free Trade Zone of Madeira and establishing itself in Sintra, at the current registered office. In December 2008, the incorporation of A… (formerly J…) in E..., (formerly D...) took place with effect from January of the following year. Said incorporation was carried out through a merger process and, through this operation, the entire patrimony of the incorporated company A… was transferred to its incorporating company, E.... The business name of the incorporating company was also altered to A…, Lda., thus having the incorporating company adopt the social designation of the incorporated company.

In this context, the incorporated entity, which generated revenue or gains, came to bear the charges established between the entity C… and the entity D..., arising from the bond loan for the acquisition of company J…. The amount of interest recorded and paid to the parent company is approximately 8.5 M€, in the fiscal years analyzed. That is, and for the AT, with the merger the revenue generated by the activity of the incorporated company came to bear the costs with its own acquisition, it being certain that the funds were not used in its respective exploitation. It was considered accordingly that they were not deductible in accordance with the provision of article 23 of the CIRC.

With the merger, therefore, the amounts of debts between the Portuguese companies were cancelled, maintaining only the record of the debt to the Luxembourg company in the amount of € 47,399,162.66 relating to contributions, this amount still being influenced, according to the AT, by the sum of € 11,664,656.99 relating to the payment of the bond loan interest in fiscal years 2007 and 2008 by J….

The specific correction effected with respect to this last point relates to the contribution interest corresponding to the part of the contributions needed to finance costs with the bond loan, which would not benefit the Claimant. As results from the RIT, no evidence was found that unequivocally demonstrate that the amount of € 11,664,656.99 is not included in the value of the contributions, all the more so as the company J…, Lda. paid these interest directly on behalf of the company D..., Lda. due to this company not having financial means to proceed to the liquidation of the interest. Thus, and for the AT, in the absence of this demonstration, the basis of the correction reduces itself to that of the correction relating to the bond loan.

It follows, therefore, for the Respondent, from the cited provision of the CIRC, that in determining the taxable income of each taxpayer, not all and any expenses are accepted, but only those that show themselves to be indispensable for the realization of revenue or gains subject to taxation or to maintain the income-producing source. Therefore, for the financial charges supported to be accepted as a fiscal expense, it is necessary that the same meet three requirements: substantiation (justification), indispensability for the realization of revenue or gains subject to taxation.

In the view of the AT, to accept the deductibility of the financial charges associated with the financing of the acquisition of the shareholdings of the companies, whose activities generate the revenue and gains that make possible the deduction of those expenses, would be to deny the principle of balancing between expenses and revenues that is inherent in no. 1 of article 23 of the IRC Code. Thus, and in the specific case, the non-deductibility of the financial charges supported by A…, Lda with the bond loan subscribed by B… Holding, S.A.R.L. (ex-C..., S.A.R.L.), intended to finance the acquisition of shares of company J…, Lda, in the taxation periods of 2009, 2010 and 2011, has as legal basis the failure to meet the conditions of substantive nature on which no. 1 of article 23 of the IRC Code makes dependent the deductibility of expenses and losses, as has been interpreted by doctrine and jurisprudence.

In fact, with respect to financial charges, that provision requires, according to the Respondent, as for the generality of expenses, that the expenses and losses, deductible for the determination of taxable profit, be indispensable for the obtaining of revenues and gains subject to taxation or that they be indispensable for the maintenance of the income-producing source and specifies, in its subparagraph c) of no. 1, the expenses of "financial nature, such as interest on foreign capital applied in the operation". Effectively, with the merger operations, in the context of which the company E…, Lda (former D..., Lda) incorporated the company A…, Lda (former J..., Lda), and its shareholding companies, despite being upstream mergers, they implied, from the AT's perspective, an integral transmutation of the incorporating company that legally remained but whose activity came to correspond entirely to the activities that had already been carried out by the incorporated companies.

The fact that the financial charges, at a time prior to the merger, were deductible, in the sphere of company D..., Lda. or in E..., Lda., does not entitle one to conclude that this treatment remained guaranteed after the merger, as, as mentioned above, the analysis of the fulfillment of the requirement of indispensability is carried out in each taxation period, that is, as the charges are supported and recorded. What occurred with the merger operations was that, as a consequence of the extinction of the social shares held by company E..., Lda. (ex. D…), the activity previously developed to which the bond loan was associated did not have continuity, what subsisted was only the operational activity developed by the companies that had belonged to Group BB…, in whose exploitation the funds obtained with that financing were not applied and, therefore, the financial charges supported did not contribute to the generation of the revenue or earnings of the renal care activities.

3.1.2 Position of the Claimant

The Claimant alleges that, from a management perspective, it did not make sense for the operations of the B… group in Portugal to be dispersed among 16 different companies.

Thus, the merger between the Claimant and A… Lda, and subsequently with the operational companies (e.g., K…, S.A., L…, Lda., M… Lda., R…, S.A.) had very specific economic objectives. It further alleges that the acquisition of the assets underlying the business could not be done, by virtue of regulatory reasons applicable in the healthcare sector, in a direct manner.

With respect to the expenses supported with the bond loan, the Claimant refutes the AT's thesis, it being its understanding that such charges relate, in a clear manner, to the activity or interest of the Claimant. It further contends that said financing was even more intensive in equity, compared to similar operations, as for every two euros of debt one euro of equity was realized.

In the view of the Claimant, without the mergers and the financing that occurred, it could not exist today, in its area of exploitation, a tax and accounting result identical to that which it has generated. Without the charges it bears, the Claimant states that it could not have acquired J…, and would not thereby reach the dimension and economic structure that it today presents. The Claimant summarizes that, "the financial charges whose indispensability must be assessed were incurred in the pursuit of the activity of the Claimant, since, without this financing, the Claimant would not have had the conditions to realize the acquisition of J…, an acquisition which, together with the subsequent management of the respective shareholdings, constituted an important part of its activity".

It also alleges that it was the Claimant that contracted the bond loan and that the charges arising therefrom were established in its sphere. And that, with the merger, this reality did not change.

With the merger, in the view of the Claimant, a true acquisition of assets and liabilities, distinct from shareholdings, and generating operational results took place. Thus, the interest paid results from operations which, following their realization, brought into the Claimant's sphere the assets (means of obtaining revenue) the debts (financial support for such means), all this with a clear economic rationality.

That is, the assets and the capital (in this case, the debt) that finance them aggregated in the same entity, not making, according to the Claimant, sense the AT's thesis of separating such operations or economic effects. It cites, in support of its thesis, arbitral decisions that would go in the direction it proposes.

As to the question of the charges with contributions, the Claimant alleges that its debt to C… was in no way influenced by the 11,664 million euros that the AT raises in question in the inspection report. In the Petition, a detailed explanation is made of the origin of such amount (arts. 278 and seq.), concluding the Claimant that: "Contrary to what the AT asserts, that amount did not inflate, nor influence, the amount of the Claimant's debt to its shareholder, nor had any impact on its calculation. Whereby the charges corresponding to it are in no way distinguished from the charges (...) with the other contributions of C… to the Claimant".

3.2. Analysis and Decision

3.2.1 Legal Foundations: Interpretation of Article 23 of the CIRC and the Question of "Indispensability" of Expenses

In the taxation of business revenue - in particular in entities subject to Corporate Income Tax (IRC) - it is in article 17, no. 1, of the CIRC that the concept of taxable profit is defined, it being determined that "the taxable profit [...] is constituted by the algebraic sum of the net result of the fiscal year and the positive and negative variations in patrimony verified in the same period and not reflected in that result, determined on the basis of accounting and possibly corrected in accordance with this Code".

In a relationship of dependence, albeit partial, between tax result and result determined by accounting, the CIRC establishes as the basis for determining the taxable result the profit or loss determined by accounting. However, and aiming to safeguard the public interest underlying taxation, it imposes certain requirements on the fiscal consideration of revenues and costs.

It is in the part of costs that such requirements emerge more developed, with article 23 being the provision that establishes the general principle of their acceptance. At the time of the facts, article 23 of the CIRC provided (of which the respective no. 1 is hereafter transcribed, with emphasis by the tribunal):

Article 23

Costs or Losses

1 — Costs or losses are considered those that are demonstrably indispensable for the realization of revenues or gains subject to taxation or for the maintenance of the income-producing source, in particular the following:

a) Those relating to the production or acquisition of any goods or services, such as materials used, labor, energy and other general costs of production, preservation and repair;

b) Distribution and sale charges, encompassing transport, advertising and placement of goods and products;

c) Charges of a financial nature, such as interest on foreign capital applied in the operation, discounts, premiums, transfers, exchange rate differences, costs with credit operations, collection of debts and issuance of shares, bonds and other securities, redemption premiums;

d) Charges of an administrative nature, such as remunerations, allowances, pensions or retirement complements, current consumption material, transport and communications, rents, litigation, insurance, including life insurance and life branch operations, contributions to savings-retirement funds, contributions to pension funds and for any complementary social security schemes;

e) Those relating to analyses, rationalization, investigation and consultation;

f) Of a fiscal and parafiscal nature;

g) Depreciations and amortizations;

h) Provisions;

i) Realized losses;

j) Indemnities resulting from events whose risk is not insurable.

Thus emerges in this provision a nuclear requirement in the admissibility of costs (expenses) for fiscal purposes: their indispensability. What should be understood by "indispensability"? Jurisprudence has, among us, a fairly settled analysis of how this concept should be understood. Let us see.

In the Award rendered with respect to process 03022/09 – Award of 6 October 2009 – the TCAS treats extensively the concept of indispensability and does so in the following terms:

"But how should the concept of indispensability be assessed? Accepting that we are faced with a vague concept needing to be filled and accepting that we are not, in that filling, faced with any power of discretion (in terms of technical discretionality) on the part of the Tax Administration, it is important to note the terms in which the law frames such a concept. (...)

Appealing to the study of TOMÁS TAVARES (...) we will say, as the author points out, it appears evident that from the legal notion of cost provided by article 23 of the CIRC it does not follow that the Tax Administration can put in question the principle of freedom of management, scrutinizing the merit and expediency of the economic decisions of company management and considering that only those from which directly accrue benefits to the company or which prove convenient for the company can be fiscally assumed.

The indispensability to which article 23 refers (...) requires, solely, an economic causal relationship, in the sense that it is sufficient that the cost be realized in the interest of the company, in order, direct or indirectly, to the obtaining of profits. (...) And outside the concept of indispensability will be only the acts not conforming to the social scope, those that do not fit within the interest of the company, especially because they do not aim at profit".

Also on this matter, and having as reference a decision of the TCA Norte - process 00624/05.0BEPRT, Award of 12 January 2012 – it is affirmed:

"In the consideration and filling of this indeterminate concept – indispensability - it is required that the analysis of a specific cost be made in function of the company's business activity, that is, in function of its objective within the scope of the company's activity; indispensable costs will be equivalent to expenses incurred in the interest of the company. The criterion of indispensability was created by the legislator precisely to prevent the fiscal consideration of expenses which, despite being recorded as costs, do not fit within the scope of the company's activity, which were incurred not for its pursuit but for other outside interests".

Finally, in Award of 29-03-2006 - Process no. 1236/05 – the STA sustains that:

"The concept of indispensability, being indeterminate, has been filled by jurisprudence on a case-by-case basis (...). The rule is that expenses correctly recorded in accounting are fiscal costs; the criterion of indispensability was created by the legislator, not to allow the Administration to intrude in company management, dictating how it should apply its means, but to prevent the fiscal consideration of expenses that, even though recorded as costs, do not fit within the scope of the taxpayer's activity, were incurred not for its pursuit but for other outside interests. Strictly speaking, these are not true costs of the company, but expenses that, having in view their object, were abusively recorded as such. Without the Administration being able to assess the indispensability of costs in light of criteria relating to their expediency and merit".

And, further on, this award states

"that, under penalty of violation of the principle of contributive capacity, the Administration can only exclude expenses not directly ruled out by law under strong motivation that convinces that they were incurred beyond the social objective, or, at least, with clear excess, deviating, in the face of the objective needs and capabilities of the company".

Being the link to the activity or interest of the company the decisive element that jurisprudence has emphasized, see some doctrine on the same question.

Thus, RUI MORAIS, sustains:

"The invocation of the rule of indispensability of costs can never be made to substitute the judgment of expediency and merit of the charges assumed, as resulted from the decision of the corporate bodies, with another judgment, also of a business nature made by the fiscal administration or by the courts".

And continues:

"We cannot regard as good the orientation of certain jurisprudence that refuses the fiscal accreditation of certain costs because it is not possible to establish a direct correlation with the obtaining of concrete revenues. Taken to the extreme such an understanding, we would have to have that charges with research would be fiscally deductible only when such research proved successful, when, as a result, the company began to sell new goods and services…"

To conclude in the following way:

"We defend that the question of whether a cost should or should not be regarded as indispensable should be resolved from the objective intent of the transaction, that is, from the business purpose test…We think it is reasonably clear the scope of the norm: to refuse fiscal participation in some of the charges supported by the taxpayer… If the assumption of the charge was accompanied by a genuine business motivation… the cost is indispensable. When it is to be concluded that the charge was determined by other motivations (personal interest of shareholders, administrators, creditors, other companies in the same group, business partners, etc) then such cost should not be regarded as indispensable."

J.L. SALDANHA SANCHES, affirms:

"…to know whether a certain cost corresponds, or does not correspond, to the more effective defense of the interests of the company is a question that cannot be resolved by the attribution of a power of intervention of the State…in order to make a judgment of merit on a certain business management option, just as it cannot validate the qualification of the expense as a cost by subjecting it to the condition of the subsequent verification of the actual generation of revenues".

The legal interpretation of the concept of "indispensability", as it then appeared in article 23 of the CIRC, has been, as doctrine and jurisprudence show, equated to costs incurred in the interest of the company; to expenses supported within the scope of activities arising from its corporate purpose. Only when expenses result from decisions that do not meet such requirements should they then be disregarded.

Now, having corporate entities a purpose or social objective defined in their statutes, with a view to achieving the end for which such collective entities are formed – the obtaining of a surplus to be distributed among shareholders – then the management acts that contribute to such end must constitute the activity of the companies.

Productive activity should not be understood in a restrictive sense, but rather in a broad sense, meaning activity related to an income-producing source of the entity bearing the costs. In seeking the meaning of the concept of company activity, it cannot be limited to mere or simple operations of production of goods or services. To say that a cost must verify a relationship with the activity can only mean to verify a relationship with global economic operations, of exploitation, or with operations or acts of management that fit within the pursuit of the proper interest of the entity assuming such costs.

In that sense, the activity of a company will consist in the operations resulting from the use of its patrimony, in particular its assets and the management of its liabilities. That is, in the way its management will use business patrimony within the scope of the various operations (productive, commercial, investment and disinvestment, general financing, acquisition of financial participations and others) which, in their entirety, allow the entity in question to fulfill its economic purpose: the pursuit (immediately or in the long term) of an economic surplus (profit).

The point that this tribunal wishes to emphasize is the following: the "activity" of a company does not exhaust itself, as often seems to emerge from some interpretations, in the set of operational acts. "Activity" is also the set of operations that have the purpose of realizing investments or the sale of assets, the acquisition of financial participations and their subsequent sale, the application of liquidity in investments or short-term securities and their management, the receipts and payments resulting from operational or non-operational revenues and expenses, and many others not expressly referred to here.

Company management has, in its essence, the purpose of obtaining a surplus from the use of assets held by business-economic entities. Such assets are, even through their normative-accounting classification, divided into different types. Tangible fixed assets/fixed assets (e.g., machines used in production), intangible (e.g., manufacturing patents), financial assets (e.g., shareholdings), non-current assets held for sale (e.g., a machine that ceased to be used in production and is intended to be sold in the short term), inventories/stocks (e.g., raw materials) and so on.

Constituting this vast array of assets the means management has to generate revenues and surpluses, it is natural that the purchase of physical assets for investments and their eventual sale (disinvestment), the purchase and sale of financial participations, the application of liquidity, the receipts and payments of the activity, all of this is part of what are considered normal or appropriate acts of company management.

The meaning and economic scope of such operations depend on the economic-financial characteristics of the entities but, on a general level, all of them are subsumed in objectives and instruments of business management, because all fit within the scope or purpose of the activity developed.

In summary conclusion of this point, the business activity that generates deductible costs is that which translates into operations that have a purpose, an intent (and not an obligatory immediate causal nexus) of obtaining revenue or the purpose of maintaining the potential of an income-producing source.

3.2.2 The Application of the Concept of Indispensability in the Case of A…

As results from the proceedings, the Claimant (A…) resulted from the merger of, essentially, three types of entities.

At a first level, there were companies that dedicated themselves to the provision of healthcare services, in particular to the diagnosis and treatment of renal diseases (e.g., K…, S.A; L…, Lda, M…, Lda). At a second level, these companies were held by the company J… Lda, which held, in Portugal, the entities integrated into the Swedish Group BB2…, which operated worldwide in this area of provision of healthcare services.

At a certain moment, the entity then designated D Lda, acquired the business of Group BB in Portugal (embodied in the entities mentioned above). For this, D... was provided with financial means (equity and debt) by the company C…, with registered office in Luxembourg.

D... (now under the guise of the Claimant A…) then became indebted to its shareholder and paid it therefore financial charges resulting from the debt with which it had been financed to acquire the assets used for the business that group BB… operated in Portugal.

Following various corporate reorganization operations, A… merged with J… (which had meanwhile come to be designated A… Lda), and, finally, the various companies already mentioned (e.g., K…, S.A; L…, Lda, M…, Lda) were also merged. In sum, in the end, the Claimant incorporated both the former J… … Lda and the operational companies that it held.

The essential question to be decided thus consists in knowing whether article 23 of the CIRC implies, as the AT alleges, that the financial charges paid by the Claimant to C… (B… Holding) are not deductible, for not respecting the requirement of indispensability as it then appeared in that legal provision.

For the AT, the interest paid by the Claimant would not respect its activity, but rather the activity or interest of its shareholder. Thus, they could not contribute to the taxable result of the Claimant, for they departed from its own social interest or its own activity.

As the AT states: "In other words, to accept the deductibility of the financial charges associated with the financing of the acquisition of the shareholdings of the companies, whose activities generate the revenues and gains that make possible the deduction of those charges, would be to deny the principle of balancing between expenses and revenues that is inherent in no. 1 of article 23 of the IRC Code".

Now the STA, in the context of Process 0779/12, in a recent Award of 24-09-2014, sets aside the interpretation of article 23 of the CIRC as requiring an obligatory connection, a balancing or a relationship between costs and revenues. Let us see:

"I - In the understanding that doctrine and jurisprudence have come to adopt for the purpose of determining the indispensability of a cost (cf. art. 23 of the CIRC in the wording in force in 2001), the AT cannot scrutinize the merit and expediency of the economic decisions of company management, under penalty of intruding in the freedom and autonomy of management of the company.

II - Thus, a cost will be accepted fiscally if, in a judgment reported to the moment in which it was effected, it is appropriate to the productive structure of the company and to the obtaining of profits, even if it should subsequently prove to be an unfruitful or economically ruinous economic operation, and the AT can only disregard as fiscal costs those that do not fit within the scope of the taxpayer's activity and were incurred, not in the interest of this, but for the pursuit of outside objectives (when it is to be concluded, in the face of the rules of common experience that it did not have the potential to generate revenues).

III - Since the taxpayer is a company that dedicates itself to the construction of buildings, cannot the AT disregard the costs relating to the acquisition of two properties on the grounds of lack of demonstration of indispensability, even if this business should prove to be economically unrentable due to its sale for a price six times less than that for which they were acquired having generated a loss."

It does not hold, therefore, that the fiscal acceptance of an expense must respect a principle of balancing (or connection) with revenues.

Next the AT argues that: "With respect to financial charges, that provision requires, as for the generality of expenses, that the expenses and losses, deductible for the determination of taxable profit, be indispensable for the obtaining of revenues and gains subject to taxation and for the maintenance of the income-producing source and specifies, in its subparagraph c) of no. 1, the expenses of "financial nature, such as interest on foreign capital applied in the operation". (emphasis by the AT).

This question of the application of capital in the operation, recurrent in the AT's argument, merits analysis. Let us see.

Now, article 23 provided, at the time (emphasis by the tribunal):

1— Costs or losses are considered those that are demonstrably indispensable for the realization of revenues or gains subject to taxation or for the maintenance of the income-producing source, in particular the following:

a) Those relating to the production or acquisition of any goods or services, such as materials used, labor, energy and other general costs of production, preservation and repair;

b) Distribution and sale charges, encompassing transport, advertising and placement of goods and products;

c) Charges of a financial nature, such as interest on foreign capital applied in the operation, discounts, premiums, transfers, exchange rate differences, costs with credit operations, collection of debts and issuance of shares, bonds and other securities, redemption premiums;

It is thought to be visible that the AT's thesis, according to which only financial charges resulting from capital applied in the operation would be deductible (and even then it would lack definition of what is meant by "operation") does not result from the law. The terms "in particular" and "such as", which we have emphasized, make clear that financial charges resulting from capital applied in the operation are deductible, but do not exhaust the universe of deductible financial charges. These will be so, even when not applied in said operation; provided they pass the general test of indispensability, are substantiated and are not ruled out by another legal-fiscal norm.

Now, the concept of indispensability, as seen, is consensually interpreted as implying that expenses relate to the activity or interest of the company. Thus, financial charges that fit within this, even if not applied in activities considered operational or of "operation", can meet conditions of indispensability.

And, as will be seen below, the financial charges here disputed are related to the activity of the Claimant, as they result from the financing of assets held by it and which even generate revenues of an operational nature.

The AT further advances, regarding the dismissal of financial charges, for not being inherent to the proper interest of the Claimant, in summary, (articles 69, 71 and 90 of the Response, emphasis by the AT):

"In the case of A…, the costs supported with the loan are not related to its business activity, nor did they serve to maintain the income-producing source. Such costs, although recorded in its accounting, do not benefit its activity nor its respective business interest, but rather benefit a third party (B… HOLDING S.A.R.L., former C... S.A.R.L) not being accepted for purposes of calculating the tax result, in accordance with subparagraph c) of no. 1 of article 23 of the IRC Code.

Effectively, with the merger operations, in the context of which the company E..., Lda (former D..., Lda) incorporated the company A…, Lda (former J…, Lda), and its shareholding companies, despite being upstream mergers, they implied, in fact, an integral transmutation of the incorporating company that legally remained but whose activity came to correspond entirely to the activities that had already been carried out by the incorporated companies.

Effectively, what occurred with the merger operations was that, as a consequence of the extinction of the social shares held by company E..., Lda. (ex. D…), the activity previously developed to which the bond loan was associated did not have continuity, what subsisted was only the operational activity developed by the companies that had belonged to Group BB…, in whose exploitation the funds obtained with that financing were not applied and, therefore, the financial charges supported did not contribute to the generation of the revenues or earnings of the renal care activities."

The AT has no reason when it puts in question the deductibility of the financial charges, in the Claimant's context, on the ground that these are disconnected from its activity, from its own interest, and that the funds obtained were not applied in the operation.

Indeed, as a consequence of the merger operations, the same company (the Claimant) came to hold, as patrimony elements recorded or recognized in its balance sheet, the assets and liabilities of the operational companies (e.g. K…, S.A; L…, Lda, M…, Lda) and continued to record, also in its balance sheet, the equity and financial liabilities that supported the shareholdings that previously represented this set of patrimony elements.

This means that, before the merger, A… held, on the right side of the balance sheet, sources of financing provided by C… (now B… Holding) paying interest on those sources that embodied debt; and, in its assets, shareholdings in the operational entities. With the merger, the same entity (the Claimant) continues to hold the liabilities already referred to (debts to the shareholder C…) and replaced the shareholdings - which were cancelled with the merger - now coming to recognize the assets and liabilities of the operational companies whose acquisition, it will be recalled, constituted the essential cause of the Claimant's indebtedness to C… (B… Holding).

In sum: the merger maintains in the Claimant the financing for which it paid interest, and had as a patrimonial consequence the joining, in the same balance sheet, of the assets that such debt financed and continued to finance. No longer financial assets, but their real translation into assets and liabilities of an operational nature.

It is therefore clear that the Claimant's debt to the parent company – and the interest resulting therefrom – fits within the interest or activity of A…. There is a clear economic link between the debt that generates interest and the assets and liabilities that such debt supports.

Furthermore, such assets and liabilities (financial debt) come to be recognized in the balance sheet of the same entity. Thus, the Tribunal does not see how - in the AT's thesis - the fact that the debt originates from funds that C… ceded to the Claimant can lead, without more, to the failure to respect the requirement of indispensability then provided for in article 23 of the CIRC.

When the AT states that "what subsisted was only the operational activity developed by the companies that had belonged to Group BB…, in whose exploitation the funds obtained with that financing were not applied", it does not take into account that the ownership of the operational activity referred to in company A… was only possible by paying to group BB… an acquisition price that implied the financing in bond loans and contributions that generated the interest paid.

Even in a strict perspective of economic nexus between revenues and expenses, it exists. The revenues derived from the business are related to the interest paid for its acquisition. From a patrimonial perspective, there is even greater proximity between assets and capital that finances them, now recorded in the same entity. Not putting in question the AT the economic purpose of the corporate reorganization operations carried out, the disregard of the paid interest has no support in article 23 of the CIRC.

One could even venture that, it being true that in many reorganization operations the assets appear in a determined entity and the debt that finances them could be in another, in the case in question the merger led to a joining of assets and liabilities whose management operations fit, certainly, within the interest or activity of the Claimant.

As to the topic of contributions, and the sum of € 11,664,656.99, the AT states that:

"As results from the RIT, no evidence was found that unequivocally demonstrate that the amount of € 11,664,656.99 is not included in the value of the contributions, all the more so as the company J…, Lda. paid these interest directly on behalf of the company D..., Lda. due to this company not having financial means to proceed to the liquidation of the interest. Thus, in the absence of this demonstration, the basis of the correction reduces itself to that of the correction relating to the bond loan".

Now, both the application for arbitral decision presented by the Claimant and the testimonial evidence put in question the AT's thesis, without the AT, in its Response, in arguments or by another means, having rebutted in a convincing manner the positions and explanations of the Claimant regarding said € 11,664,656.99.

Moreover, stating the AT that "in the absence of this demonstration, the basis of the correction reduces itself to that of the correction relating to the bond loan", and understanding the Tribunal that there is no reason to disregard the interest on the bond loan, then this conclusion affects also the correction effected by the AT as regards contributions, whereby the correction is illegal and, consequently, the assessment must be annulled, for breach of law, in particular article 23, no. 1, of the CIRC, to the extent it is based on it.

4. Compensatory Interest

The Claimant requests that compensatory interest be paid from the date of the undue payment of the tax liability.

In accordance with the provision in subparagraph b) of article 24 of the RJAT, the arbitral decision on the merits of the claim to which no appeal or challenge applies binds the tax administration from the end of the period provided for appeal or challenge, the latter having, in the exact terms of the success of the arbitral decision in favor of the taxpayer and until the end of the period provided for the voluntary execution of the judgments of the tax courts, "to restore the situation that would exist if the tax act which is the object of the arbitral decision had not been carried out, adopting the acts and operations necessary for the effect", which is in keeping with what is provided in article 100 of the LGT [applicable by virtue of the provision in subparagraph a) of no. 1 of article 29 of the RJAT] which establishes that "the tax administration is obliged, in the event of full or partial success of a complaint, judicial challenge or appeal in favor of the taxpayer, to the immediate and full restoration of the legality of the act or situation that is the subject of the dispute, comprising the payment of compensatory interest, if applicable, from the end of the period for the execution of the decision".

Although article 2, no. 1, subparagraphs a) and b), of the RJAT uses the expression "declaration of illegality" to define the competence of the arbitral tribunals functioning in the CAAD, making no reference to condemning decisions, it should be understood that it comprises in its competences the powers which in judicial challenge proceedings are attributed to tax courts, this being the interpretation that is in harmony with the sense of the legislative authorization on which the Government based itself for approving the RJAT, in which it proclaims, as a first directive, that "the arbitral tax process must constitute an alternative procedural means to the process of judicial challenge and to the action for the recognition of a right or legitimate interest in tax matters".

The process of judicial challenge, despite being essentially a process of annulment of tax acts, admits the condemnation of the Tax Administration in the payment of compensatory interest, as is inferred from article 43, no. 1, of the LGT, in which it is established that "compensatory interest is due when it is determined, in a gracious complaint or judicial challenge, that there was error attributable to the services from which results payment of the tax debt in an amount higher than legally due" and from article 61, no. 4 of the CPPT (in the wording given by Law no. 55-A/2010, of 31 December, which corresponds to no. 2 [of the current wording]) which provides that "the court may, at the request of the taxpayer, condemn the tax administration to the payment of interest owed to him for the delay in the enforcement of the decision".

Accordingly, and in the exercise of the powers attributed by article 2, no. 1, subparagraphs a) and b), of the RJAT, the Tribunal concludes that the Claimant is also entitled to compensatory interest from 18 December 2013 (the date of the undue payment of the tax assessment) until the date of full restoration of the situation that existed prior to the issuance of the illegal assessment.

The rate of compensatory interest is determined in accordance with article 38 of the LGT, at the rate in force at the time the obligation arises, which in this case corresponds to the rate applicable in December 2013.

5. DECISION

In view of the foregoing and in accordance with the powers conferred on this Tribunal, we decide:

1. To declare illegal, for violation of article 23, no. 1, of the Corporate Income Tax Code, the assessment of Corporate Income Tax and compensatory interest with no. 2013 …, of 11-12-2013, in the amount of € 2,890,667.79 and the Statement of Interest Calculation, identified with no. 2013 …, of 12-12-2013, issued to A…, NIPC …, and to annul them.

2. To condemn the Tax and Customs Authority to restore the situation that would exist if the said assessment had not been issued, adopting the necessary acts and operations, including the payment of compensatory interest calculated at the rate in force in December 2013, from 18 December 2013 until the date of full restoration of the prior situation.

3. To order that this award, which shall be final, be notified to the parties and to the Tax and Customs Authority in accordance with the procedural rules applicable.

Thus is it decided.

Lisbon, 30 September 2015.

(Signed)

Dr. Jorge Manuel Lopes de Sousa
Arbitrator-President

Prof. Doctor António Martins
Arbitrator

Dr. Carla Castelo Trindade
Arbitrator