Summary
Full Decision
ARBITRAL DECISION
I. REPORT
The arbitrators, Judge José Poças Falcão (arbitrator-president), Doctor Maria Celeste Cardona and Doctor João Maricoto Monteiro (arbitrators), appointed by the Ethical Council of the Administrative Arbitration Centre to form the Arbitral Tribunal, constituted on 25-08-2014, agree as follows:
A Imobiliária, Ltd., taxpayer no. …, with registered office at …, of the parish of …, of the municipality of Guimarães, (hereinafter Claimant), filed a request for arbitral determination, pursuant to article 10 of Decree-Law no. 10/2011, of 20 January (Legal Regime of Arbitration in Tax Matters, hereinafter "LRATM") requesting the annulment of the tax assessed through the additional assessment no. 2012…, of 12-11-2012, in the amount of €810,650.86, comprising €738,684.85 of tax and €71,966.11 of compensatory interest, relating to corporate income tax (IRC) for 2009.
It alleged, in essence:
It was the owner of the rural property registered in the land registry of …, of the municipality of Guimarães, under article no. … and described in the Commercial Registry Office of Guimarães under no. ….
By promise to sell and purchase contract of 3 November 2009 the Claimant promised to sell to the company B Imobiliária, Ltd., taxpayer no. …, for the amount of € 3,689,071.09, three-quarters of the immovable property referred to in no. 1 (Doc. 3).
As stated in the second clause of such contract the Claimant received €875,033.97 with the execution of the promise to sell and purchase contract and the remaining €2,814,037.12 would be paid on the date of execution of the public deed.
It is also stated in the said second clause that the public deed of sale of the said immovable property would be executed in favour of C - Real Estate Management, S.A., "since the property cannot be divided and is intended to be resold three-quarters by the Second Party to the said C and the remaining one-quarter to the same C by the First Party, being the present contract executed by the Second Party in favour of a third party, namely C Real Estate Management, S.A., whereby it may only be formalized by public deed in favour of the same".
As stated in the third clause "the public deed shall be executed at a notary's office on the day, time and place to be designated by the Second Party which, for this purpose, shall notify the First Party.
It appears from the fourth clause that the contract was given the effectiveness provided for in article 830 of the Civil Code, that is, the second party could obtain a judgment that would produce the effects of the declaration of the defaulting party, whenever the nature of the obligation assumed did not oppose it.
On 19 November 2009 the Claimant (fifth party) executed with D (1st party), C – Real Estate Management, S.A. (2nd party), B Imobiliária, Ltd. (3rd party) and E, Ltd. (4th party) a promise to sell and purchase, payment and execution of subdivision infrastructure contract (Doc. 4).
As stated in the seventh clause of such contract the Claimant promised to sell without any encumbrances save those already registered in favour of D, the immovable properties listed in pages 16 of such contract, including the property registered in the rural land registry of … under article no. …, this for the amount of € 4,400,000.00.
With the receipt, from C, of the said amount of € 5,577,500.00, D considered its credits against the Claimant fully paid and the remainder of the price would be applied by D according to the following manner and priorities:
1 – In full payment of the credit referred to in subsection F (€13,121.02, plus accrued and future interest), of B, Ltd.;
2 – In payment of the credit described in subsection A (€224,901.00, plus accrued and future interest), of B, Ltd.;
3 – In payment of the credit referred to in subsection D (€2,211,809.00, plus accrued and future interest), of B, Ltd.;
4 - The remainder would be applied in partial payment of the credits referred to in subsection c) of which the Claimant was debtor, "but only on the date the purchase and sale deeds provided for in the Second and Fifth clauses were executed, D being able, in case of breach of this promise to sell and purchase contract and non-execution of the said purchase and sale deeds, to apply this amount in reimbursement to C of the amounts advanced by it as a deposit, referred to in the Third and Sixth clauses".
That is, with the execution of the purchase and sale deed, B, Ltd. would receive € 2,449,831.02 from C, plus accrued and future interest, that is the totality of the debt it had with D.
It appears from subsection O) of the last-mentioned contract that "the third, fourth and fifth parties (and their respective guarantors) are already in default in fulfilling their obligations to D, arising from the execution of those contracts and cannot gather financial means to timely discharge their accrued and future commitments.
For this reason, it is the intention of the third, fourth and fifth parties to cede to D or to a third party with its authorization, the ownership of some of its immovable properties and autonomous fractions which are encumbered with mortgages in its favour, so that, by that means, through the proceeds of their respective alienation, they may extinguish that liability".
On 19 November 2009 the Claimant executed, with C – Real Estate Management, S.A., taxpayer no. … the purchase and sale deed which includes the sale of the property registered in the rural land registry of …, of the municipality of Guimarães, under article no. …, for the amount of € 4,400,000.00 (Doc. 6).
In 2009, subsequently to this last date, the Claimant brought, in the Judicial Court of Guimarães, an action in which it asked the Court to condemn B – Imobiliária, Ltd., to pay to the Plaintiff the amount of € 2,814,037.12.
On 31/12/2009 the Claimant established a provision for risks and charges – Debt in ongoing judicial proceedings – B- Imobiliária, Ltd., in the amount of € 2,814,037.12.
Such action gave rise to case no. ….
Served with the action the Defendant did not file a defence, for which reason the Court, based on the provision in no. 1 of article 484 of the Civil Code, found proved the facts alleged by the Plaintiff and, by judgment of 22 March 2010, condemned the Defendant to pay the Plaintiff the amount claimed, plus interest from service until full payment.
Subsequently, the Claimant was subject to an inspection by the services of the Finance Directorate of Braga, whose final report gave rise to the assessment now being challenged and object of this impugnation.
According to the inspection report "the taxpayer and the client were debtors to D of various amounts relating to credit opening contracts, bank overdrafts, bank guarantees and other forms of financing".
Also according to the same report "the taxpayer was the owner of various immovable properties which it used to settle the debts (or at least part thereof) referred to above with D; it should be noted that these were debts of the taxpayer and the client".
The manner of settlement of the debts consisted, according to the report, in payment by delivery, by the Claimant, of these immovable properties to C, that is, in the sale of immovable properties from its inventory, to the latter.
In this way, according to the report, the taxpayer in settling debts that the client had with D, constituted itself as creditor of the latter in the amount settled of € 2,814,037.12.
And the Inspection report concludes:
"(...) 28.1 – The taxpayer sold the immovable properties to C;
28.2 – The taxpayer did not sell any immovable property or asset from its inventory to the client;
28.3 – In reality it did nothing more than use assets from its own inventory to settle debts of the Client, in what constitutes a mere operation of financing to the Client and which has nothing to do with its normal activity (...)".
The inspection report, despite having been aware of the promise to sell and purchase contract mentioned in nos. 2, 3, 4, 5 and 6 (doc. 1) of the present petition, makes no reference to it at any point in the report.
Namely that, as appears from the second clause, the three-quarters that B – Imobiliária, Ltd., the Client for the AT, promised to acquire would be sold to C, in favour of whom the final contract would be executed, "whereby it may only be formalized by a public deed executed in favour of the same".
Because, as stated in such second clause, "such property cannot be divided".
A division which is impossible in view of the provision in no. 1 of article 54 of Law 91/95, of 2/9 (Process of conversion of illegally developed urban areas), as amended by Law 64/2003, of 23/8, which now stipulates that "the execution of any acts or legal transactions inter vivos from which results or may result the constitution or increase of the number of co-owners of rural properties requires the favourable opinion of the municipal chamber of the location of the properties".
Being null, according to the same law, "the acts or legal transactions executed in violation of the provision in no. 1 of this article, the municipal chamber also having standing to promote the respective judicial declaration", as stated in no. 4 of the same legal norm.
Although from the facts pointed out above and from the reading of the purchase and sale deed it may appear that there exists a free legal transaction between all parties involved, the truth is that none of this occurred.
In fact, both the Claimant and B – Imobiliária, Ltd., were debtors to D, S.A., of amounts which both settled by payment by delivery.
But the terms in which such transaction was executed were completely imposed on the Claimant and B – Imobiliária, Ltd. by the creditor entity, as well as the amounts, the entities in whose name the contract should be executed and still the remaining elements making up the contract.
The Claimant, constrained from the outset to act according to the creditor's explicit requirement, was never in a position to be able to refrain from delivering three-quarters of the immovable property which it had promised to sell to B, Ltd., without receiving from the latter the entire agreed price.
Even having reservations as to whether the latter could immediately settle its credit.
Since the creditor (D) would never allow it to give the transaction a formal content and manner different from what in fact occurred.
Having imposed all the clauses contained in the contract which constitutes doc. 4.
Having even imposed the acquisition, by the Claimant, of the majority of the share capital of B, Ltd., which appears in subsection Q of doc. 4.
The consequence of not accepting the conditions imposed by D being the insolvency of the Claimant and B Imobiliária, Ltd., of which the Claimant held dominion.
With the consequent sale, within the context of insolvency, of the property for a value which might not even reach half of the value contained in the legal transaction, which was €4,000,000.00.
In view of the crisis which, already from that date, was occurring in the field of civil construction and the purchase and sale of immovable properties.
Under the simulated transaction (which was executed between the Claimant and C) there was another which the parties wished to execute, which was the sale from the Claimant to B – Imobiliária, Ltd. and from it to C.
A transaction which could not be executed for the reasons stated in nos. 25, 26, 27 and 28 of the present petition[1].
Simulation which aimed to circumvent the legal norms mentioned above.
Thus, in the exercise of 2009, by virtue of the provision in no. 1 of article 18 of the Corporate Income Tax Code, in the version in force at the time, the claimant was obliged to consider as income the totality of the sale of three-quarters of the immovable property, as it did, regardless of its receipt or payment, of which it only received € 875,033.97.
Therefore the establishment of the provision in the amount of € 2,814,037.12 was legal in view of the filing of a judicial action against the debtor.
For its part B – Imobiliária, Ltd., should have considered as income and as expenses the amount of € 3,689,071.09, the purchase and sale price of three-quarters of the immovable property, that is, the transaction, in terms of corporate income tax in this company, would be neutral.
The AT attributed full probative force to the purchase and sale deed executed on 19 November 2009, at D, located at …, in …, by the Licensed Notary F.
This means that such deed only makes full proof (until proof to the contrary, made through an incident of falsity) that the parties declared before the notary that they wished to transfer ownership of the immovable properties indicated in it from the Claimant to C – Real Estate Management, S.A., with registered office at …, in …, since only as to them did the notary's perceptions extend.
But it is not thereby proved that, behind such a purchase and sale deed, there was not already a transaction in which the Claimant had sold three-quarters of one of the alienated immovable properties and which, in view of the impossibility of establishing co-ownership, was executed without the intervention of B Imobiliária, Ltd., although however the amount corresponding to such sale entered the assets of the said company.
In truth, being indisputable that such a purchase and sale deed is an authentic document (cf. article 369 of the CC), this deed only makes full proof of the facts which are referred to as practiced by the authority or public official, as well as of the facts which have been attested in it based on the perceptions of the documenting entity (article 371, no. 1, of the same instrument).
To that zone of facts of the internal forum of the parties or of exterior facts, not occurring in the act of the deed and outside even the notary's office, do not extend the perceptions of the documenting official.
The authentic document makes full proof as to the materiality of the attested statements; but not as to the sincerity, truthfulness or validity of the declarations issued by the parties." (Antunes Varela, J Miguel Bezerra and Sampaio and Nora, in Manual of Civil Procedure, 2nd edition, pp. 520-522). See, in the same sense, by all, the judgment of the SAC of 14/2/2002, case no. 48,038, the judgment of 1-2-2005 in case no. 66/04 and the judgment of the Supreme Court of Justice of 25/3/04, case no. 4 B 370.
One of the principles of tax law is the prevalence of substance over form in legal transactions.
Which is embodied in various legal provisions, of which article 13 of Regulatory Decree no. 25/2009, of 14/9, relating to depreciations or amortizations of goods subject to financial leasing, is cited.
But also at the level of the rules of incidence, as appears from no. 1 of article 1 of the Code of Income Tax of Individuals, in providing for the taxation of income from unlawful acts.
As well as the mechanisms provided for in articles 38 and 39 of the General Tax Law in which, in the case of article 38, the ineffectiveness is provided for, in the tax sphere, of "acts or legal transactions essentially or principally directed, by artful or fraudulent means, and with abuse of legal forms, to the reduction, elimination or deferment in time of taxes that would be due as a result of facts, acts or legal transactions of identical economic purpose or to the obtaining of tax advantages which would not be achieved, totally or partially, without the use of such means, taxation then being effected in accordance with the norms applicable in their absence and the said tax advantages not being produced".
And no. 1 of article 39 of the same instrument which stipulates that "in case of simulation, taxation falls on the real legal transaction and not on the simulated legal transaction".
Now the legal transaction executed directly between the Claimant and C did not have as its purpose the reduction or elimination of the tax burden, but rather circumvent the impossibility of executing the legal transaction between the Claimant and B, Ltd., as to three-quarters of the property registered in the rural land registry of …, of the municipality of Guimarães, under no. …, in view of the provision in article 54 of Law 91/95, of 2/9, as amended by Law 64/2003, of 23/8.
Hence it is a simulated transaction, without the intervention of one of the vendors, B, Ltd., which implies that, as determined by no. 1 of article 39 of the General Tax Law, taxation shall fall on the real legal transaction and not on the simulated legal transaction.
All the more because B, Ltd. saw its assets enriched by €2,814,037.12 and the Claimant saw its assets impoverished by an equal amount.
Hence, based on article 39 of the General Tax Law, the correction made by the AT is illegal.
It is further added that – the claimant continues - :
The AT rejected the administrative complaint against the assessment at issue with the argument that the credit claimed and for which the provision was established does not result from the normal activity of the company.
Considering this as comprising the object of the articles of association which is "activities of real estate development on its own account".
Without taking into account that, pursuant to the provision in article 6 of the Code of Commercial Companies, the capacity of the company comprises the rights and obligations necessary or convenient to the pursuit of its purpose, excepting those which are forbidden to it by law or are inseparable from singular personality.
That is, all rights and obligations which prove, prima facie, indispensable or useful to the achievement of its purpose are included in the legal capacity of companies, purpose which, according to Coutinho de Abreu, at page 184 of Course of Commercial Law - Volume II, Edition of 2001, is the lucrative purpose, the intent to obtain profits to assign them to the partners.
And, according to the same Author and work, at page 195, it comes to say that the norm in the first part of no. 3 of article 6 of the Code of Commercial Companies admits two exceptions to the rule of incapacity of the company to provide free guarantees to debts of third entities: "there being justified own interest of the guaranteeing company" or the guaranteeing company being "in a relationship of domination or of group. They are also exceptions in consonance with the provision in no. 1 of article 6 - in those cases the provision of guarantees will show itself (prima facie, considering the moment of the practice of the act) necessary or convenient to the pursuit of the lucrative purpose of the guaranteeing company".
The provision of the guarantee, following the same author, is justified by the interest of the guaranteeing company when it appears objectively apt to satisfy the desire of every partner as such to obtain profits through that same company.
Now if it is certain that the Claimant was not in a relationship of group with B – Imobiliária, Ltd., it is certain that it was in a relationship of domination with it.
Since, as appears from the commercial registry certificate, with access code no. …, at the date of the facts the claimant held two quotas of € 12,719.34 in B – Imobiliária, Ltd., in a share capital of € 49,879.78, that is, it was the holder of 52% of the share capital.
B Imobiliária, Ltd. was, therefore, dependent on the Claimant because all the prerequisites of subsections a), b) and c) of no. 2 of article 486 of the Code of Commercial Companies were met.
Hence, any guarantees which might have been provided by the Claimant to B – Imobiliária, Ltd., would fall within the normal activity of the company, understood as its purpose, that is, the achievement of profits and their distribution among the partners.
In the order rejecting the administrative complaint the AT contends that the provisions established did not result from the normal activity of the Claimant.
And that, "administratively, it was assumed that, for the purposes of establishment of provisions, only credits resulting from commercial operations related to the sale of goods or services relating to the activity of the company are relevant, that is, operations involving ordinary transactions (IRC Manual for 2008)".
The AT forgets that, pursuant to no. 4 of article 68-A of the General Tax Law, it should review the generic guidance referred to in no. 1 of the same article, having regard, in particular, to the case law of the superior courts.
Case law which has held that the indispensability between costs and income must be assessed from a positive judgment of subsumption in the corporate activity: indispensable costs will be equivalent to expenses incurred in the interest of the company (cf., among others, judgment of the SAC of 30/11/2011, Case 107/11).
As well as Judgment no. 164/12, of 4-9-2013, of the SAC, in which it is stated that "we can today consider accepted by doctrine and case law a concept of indispensability which, definitively moving away from the idea of causality between expenses and income, places emphasis on the relationship of expenses with the activity pursued by the taxpayer, that is, considering that the said concept of indispensability is verified whenever expenses are incurred in the interest of the company, in the pursuit of its respective activities".
An indispensability which is well explained in the following excerpts from the Judgment of the TCA North, of 14/3/2013 in which it is stated "as António Moura Portugal refers - the solution adopted among us (at least in doctrine), in the wake of the understandings advocated by Italian doctrine, has been to interpret indispensability according to the corporate object", which this requirement of indispensability of costs for the realization of income or maintenance of the productive source was "initially associated with a condition of 'reasonableness' (article 26 of the Former Code of Commercial Companies)", and that if it is certain "that 'reasonableness' is present in some provisions of the Corporate Income Tax Code, expressly (23rd), ... it has ceased to be tolerable its use as a basis for quantitatively limiting the expenses incurred by taxpayers. (...) Indispensability should thus be assessed from a positive judgment of subsumption in corporate activity, which, by its nature, should not be subject to review by Tax Law, which should not interfere, much less evaluate the business decisions of the taxpayer. Only this conception is in accordance with the principles of freedom of business management and, at the same time, respects specific interests of tax law (which are at the basis of the express limitation that is made to the deductibility of certain expenses).
Essential costs are therefore equivalent to expenses incurred in the interest of the company. The tax deductibility of the cost should depend only on a justified relationship with the productive activity of the company and this indispensability is verified "whenever - by operation of the theory of the specialty of legal persons - the corporate operations fall within its capacity, by subsumption to its respective corporate purpose and, in particular, whenever they are connected with the obtaining of profit even if in an indirect or mediate manner" (in Tax Deductibility of Costs in Portuguese Tax Case Law, Coimbra Editora, 2004, pp. 113 et seq)".
Also Rui Duarte Morais, although sustaining that the requirement of "indispensability", as a condition of acceptance of the tax cost cannot be referred to the nature of the expense, but rather to the circumstances in which it occurred, understands that "If the assumption of the expense which gives rise to the cost was presided over by a genuine business motivation - the understanding of the partners and/or managers of the company, the only ones to whom it falls to decide on corporate interest - the cost is indispensable. When it must be concluded that the expense was determined by other motivations (personal interest of the partners, administrators, creditors, other companies in the same group, commercial partners, etc.), then such cost should not be had as indispensable" (in Notes on Corporate Income Tax, Almedina, Coimbra, 2007, p.87)
Now there is no doubt that the provisions established in 2009 were related to the normal activity of the company since they had as their basis the sale which the Claimant made to B – Imobiliária, Ltd., of three-quarters of a rural property, of which the latter paid only part of the price, which it subsequently sold to C, having received the entirety of the price.
Without having paid to the Claimant the remaining part of the contracted price.
The cost disregarded by the AT was caused by a genuine business motivation, which was the avoidance of insolvency of the Claimant and B – Imobiliária, Ltd., a company of which the Claimant held the majority of the share capital, and not by the personal interest of the partners, hence, according to the teachings of Rui Duarte Morais, it should be concluded that it is indispensable.
The Claimants did not proceed with the appointment of an arbitrator, whereby, under the provision in article 6, no. 2, subsection a), of the LRATM, the signatories were appointed by the President of the Ethical Council of CAAC to make up the present collective Arbitral Tribunal, having accepted in accordance with the legal provisions.
On 07-08-2014 the parties were duly notified of this appointment, having not manifested the will to refuse the appointment of the arbitrators, pursuant to the combined provision of article 11, no. 1, subsections a) and b) of the LRATM and articles 6 and 7 of the Ethical Code.
Thus, in conformity with the provision in subsection c) of no. 1 of article 11 of Decree-Law no. 10/2011, of 20 January, as amended by article 228 of Law no. 66-B/2012, of 31 December, the collective arbitral tribunal was constituted on 25-08-2014.
On 01-10-2014, the Tax and Customs Authority presented its response, contending that the request for arbitral determination should be judged as without foundation.
It alleged, in particular:
The now claimant petitioned in the action it refers to, satisfaction of a credit of 2,814,037.12€ which it claimed to have against the company B Imobiliária Ltd.
The provision was, therefore, established based on the fact that the credit had been claimed judicially, there being, then, risk of uncollectibility thereof (since, at that time, the Court had not yet recognized it as having the right thereto[2]).
That is, the provision was established pursuant to subsection b), of no. 1 of the then article 35 of the Corporate Income Tax Code, the norm which governed "provision for doubtful debt receivables".
And not as the taxpayer later came to argue "provision for ongoing judicial proceedings"[3] or, pursuant to subsection c) of the then article 34 of the Corporate Income Tax Code, provisions which are intended "to cover obligations or charges arising from ongoing judicial proceedings due to facts which would determine their inclusion among the costs of the exercise".
In view of the deduction of the provision, the tax inspection proceeded to analyze the said credit claimed in court, of 2,814,037.12€.
This, since, pursuant to subsection a) of no. 1 of the then article 34 of the Corporate Income Tax Code, could be deducted for tax purposes the provisions which had "as their purpose the coverage of credits resulting from normal activity which at the end of the exercise could be considered doubtful receivables".
It was verified that the credit sub judice arises from payment by delivery which the now claimant made of certain immovable properties of its own (from its inventory) in order to settle debts which B Ltd. had with D (hereinafter D).
The now Claimant sold those immovable properties to C Real Estate Management, S.A. (hereinafter designated as "C") and "part of that sale" was used to settle debts which B had with D.
Being that the other part served to settle debts of the claimant itself with D[4], as appears from the accounting of the now claimant. (See the document attached to the response with no. 7 – copy of sale support document "3/2009", where reference is made to the payment by delivery sub judice and it is made explicit that, by that means, it "Settles the entirety of the debt which we had with D and part of the debt of B Imob. Ltd.").
The now claimant constituted itself, then, as creditor of B Imobiliária Ltd. for the values, by that means, paid by it.
There are included the liabilities of B Imobiliária, Ltd., which the now Claimant satisfied and which it later came to claim in civil court, of 2,814,037.12€
That is, the credit which it provisioned and whose acceptance as a tax cost is at issue in the present proceedings.
Whereby the credit against "B" did not result from the normal activity of the now claimant.
The said "Promise to sell and purchase contract, payment and contract for execution of subdivision infrastructure" and the deed of sale which concretized it[5] – the now claimant, following the same, recorded accountingly that sale in its account "71 – sales".
Having, on 31-12-2009, credited that account "71-sales"[6] by the amounts, above mentioned, of 1,177,500.00€ and 4,400,000.00€. (See document attached to this response with no. 8 - extract from account 71 sales).
That is, the now claimant accounted for the said sale of the immovable properties to C.
It therefore follows confirmed that the now claimant merely substituted itself for B, Ltd., in the payment of the debts which the latter had with D.
On 20-10-2014, the meeting provided for in article 18 of the LRATM took place, at which, having heard the Parties and with their agreement, the examination of witnesses listed by the Claimant was dispensed with, and a time period for successive written submissions was set.
The Parties submitted written submissions which added nothing essential to the positions assumed in their respective pleadings.
The arbitral tribunal was regularly constituted and is materially competent, in view of the provision in articles 2, no. 1, subsection a), and 30, no. 1, of the LRATM.
The parties have legal personality and capacity and are legitimated (arts. 4 and 10, no. 2, of the same instrument and art. 1 of Ordinance no. 112-A/2011, of 22 March).
The proceedings do not suffer from nullities and no issues were raised which could obstruct the appreciation of the merits of the case.
II. GROUNDS
Proven Facts
Based on the elements contained in the file and in the administrative proceedings attached to the records, the following essential facts are considered proven, with relevance for appreciating the issues raised:
a) The Claimant was incorporated in 1998 having as its corporate purpose (since 2006) real estate development and the purchase and sale of immovable property and as partners and managers the Gentlemen G, H, I and J.
b) On 5-9-2009, the Claimant acquired from the said H a quota of €12,719.34 of the company B Imobiliária Ltd., taxpayer no. … and acquired from J another quota of 12,719.34€ of the same company, remaining with approximately 51% of the capital thereof [as appears from the commercial registry certificate, with access code no. …, at the date of the facts the claimant held two quotas of €12,719.34 in B – Imobiliária, Ltd., in a share capital of €49,879.78], that is, was the holder of 52% of the share capital]
c) By promise to sell and purchase contract of 3 November 2009 the Claimant promised to sell to the company B Imobiliária, Ltd., for the amount of € 3,689,071.09, three-quarters of the immovable property registered in the rural land registry of …, of the municipality of Guimarães, under article no. … and described in the Commercial Registry Office of Guimarães under no. ….
d) The said promise contract provided for payment of €875,033.97 with the execution of the promise to sell and purchase contract and the remaining €2,814,037.12 on the date of execution of the public deed.
e) Such deed would be executed with C Real Estate Management, S.A., (whereby it was a contract for the benefit of a third party), the deed to be scheduled by the company B Imobiliária Ltd.,
f) On 19 November 2009 the Claimant executed with D, C – Real Estate Management, S.A., B Imobiliária, Ltd. and E, Ltd. a promise to sell and purchase, payment and execution of subdivision infrastructure contract.
g) Such contract also provided for the regularization of the liabilities of those companies to D, S.A., by means of payment by delivery of immovable properties of its ownership to C – Real Estate Management, S.A., which would subsequently settle the debts with D.
h) The company B Imobiliária, Ltd. owed D the amount of €5,869,083.01 and the company A Ltd., now Claimant, owed D €1,888,428.90.
i) Thus and within the scope of such contract,
i. the company B Imobiliária Ltd. promised to sell to C thirteen fractions of an urban property and eighteen fractions of another urban property for the price of € 2,251,200.00; and
ii. the now Claimant, A Imobiliária Ltd, promised to sell to C eight immovable properties (among which the property identified in subsection c) above, to which a value of € 4,400,000.00 was assigned) for a total price of € 5,577,500.00;
j) The "Whereas" clause "O" of such contract specifically refers that: "The Fifth Party A Imobiliária S.A. is the holder of two quotas with a unit value of 12,719.34€ in the share capital of the third party B Imobiliária, Ltd., corresponding to 51% of that capital and, as such, it is in its interest to bear, at its own expense, part of the liability of B Imobiliária, Ltd., to D"
k) With the receipt, from C, of the said amount of € 5,577,500.00, D considered its credits against the Claimant fully paid and the remainder of the price would be applied by D according to the following manner and priorities:
i. In full payment of the credit of €13,121.02 (plus accrued and future interest), of B, Ltd.;
ii. In payment of the credit of €224,901.00 (plus accrued and future interest), of B, Ltd.;
iii. In payment of the credit of €2,211,809.00 (plus accrued and future interest), of B, Ltd..
iv. The remainder being applied in partial payment of the credits of which the Claimant was debtor, but "only on the date the purchase and sale deeds provided for in the Second and Fifth clauses were executed, D being able, in case of breach of this promise to sell and purchase contract and non-execution of the said purchase and sale deeds, to apply this amount in reimbursement to C of the amounts advanced by it as a deposit, referred to in the Third and Sixth clauses".
l) On 19 November 2009 the Claimant executed, with C – Real Estate Management, S.A., taxpayer no. … the purchase and sale deed which includes the sale of the property identified in subsection c) above, for the amount of € 4,400,000.00.
m) Still in that year of 2009, the Claimant brought, in the Judicial Court of Guimarães, an action in which it asked the Court to condemn B – Imobiliária, Ltd., to pay to the Plaintiff the amount of € 2,814,037.12.
n) The company B, Ltd. did not file a defence to such action, whereby it was condemned in the petition.
o) On 31/12/2009 the Claimant established a provision for risks and charges – Debt in ongoing judicial proceedings – B - Imobiliária, Ltd., in the amount of € 2,814,037.12 (recorded as an expense in the claimant's accounting - Account 6723 – Provisions for the exercise – Ongoing judicial proceedings - € 2,814,037.12).
p) The now claimant was subject to an inspective action, opened by service order no. OI…, of 2012-04-19, and having as its object the corporate income tax of the exercise of 2009
q) From the inspective action resulted corrections to the Taxable Income of the Claimant, resulting from the non-acceptance as a tax cost of provision for doubtful receivables – credits in litigation, in the amount of € 2,814,037.12.
r) From that correction resulted the additional assessment no. 2012…, of 12-11-2012, in the amount of €810,650.86, comprising €738,684.85 of tax and €71,966.11 of compensatory interest
s) The now claimant presented, on 13-03-2013, an administrative complaint against that assessment (complaint no. …).
t) The complaint was rejected by order of the Adjunct Finance Director of 17-03-2014.
u) From that decision, the Claimant presented the present arbitral impugnation, requesting the annulment of the tax impugned, that is, the annulment of the mentioned additional assessment no. 2012….
v) The claimant is registered for the exercise of real estate development activity (development of building projects), having begun its activity on 2-4-1998
Facts Not Proven
There are no other facts, proven and/or not proven, alleged or of official knowledge, essential for appreciation of the merits of the petition.
Grounds for the Establishment of the Factual Matter
The proven facts are based on the documentary evidence attached to the proceedings, whether by the Claimant or by the Respondent, namely those attached by the request for arbitral determination and response with attachment of the administrative proceedings, respectively, all analyzed critically and in conjunction with the absence of dispute by the parties as to the reality of the essential alleged and documented facts.
The Law
It should be noted preliminarily that the factual matter on which the Tribunal has the duty to render a decision is not all that was alleged and proved, but only and solely that considered relevant or with interest or relevance for the decision (Cf. articles 591, 592, 596 and 607 of the Civil Procedure Code and 123-2 of the Tax Procedure Code, applicable by virtue of article 29 of the LRATM).
Furthermore, nor is the Tribunal obliged to analyze all the legal arguments invoked by the parties in their pleadings and/or submissions but only and solely must analyze and decide the issues proposed in the cause of action and in the claims.
The essential issue object of the proceedings centers on whether or not the additional corporate income tax assessment resulting from corrections to the claimant's taxable income, as a result of the non-acceptance as a tax cost of "provision for doubtful debt receivables – credits in litigation", in the amount of €2,814,037.12, is well-founded.
The substance or reality of the transaction which matters for tax purposes and which is demonstrated and confessed by the claimant, is that it wished and effected a payment by delivery to D, by means of the delivery of immovable property, of debts which it had contracted within the scope of its activity, as well as debts of third entities, held and administered by the same natural persons.
The third company which benefited partially from the payment by delivery in that it thus saw its debt to D extinguished (B, Ltd.) and which at the date was held in approximately 52%[7] by the claimant, did not pay the latter the debt thus contracted and which was the real cause of the judicial action filed and uncontested, with the consequent condemnatory judgment.
As a result of that action a provision was established, entered as an expense for tax purposes.
In the view of the AT, the costs arising from the provision which was established in function of the failure to pay by the third entity were not effected within the scope of its respective activity, and therefore cannot be accepted as a cost for tax purposes.
In truth, the question of the admissibility or not of the establishment of provisions deductible from taxable income, is obviously and intimately linked with the question of the indispensability of costs for the purposes of the provision in article 23, of the Corporate Income Tax Code and with the intimate connection with the normal activity of the taxpayer.
For ease of exposition the provision in no. 1 of that norm is transcribed [version at the time (2009)]:
Article 23
Costs or losses
1 - Costs or losses are those which are demonstrably indispensable for the realization of income or gains subject to tax or for the maintenance of the productive source, in particular the following:
a) Charges relating to the production or acquisition of any goods or services, such as materials used, labour, energy and other general manufacturing, maintenance and repair expenses;
b) Distribution and sales charges, comprising those for transport, advertising and placement of goods;
c) Charges of a financial nature, such as interest on borrowed capital applied in operations, discounts, premiums, transfers, exchange differences, expenses with credit operations, collection of debts and issuance of shares, bonds and other securities and redemption premiums;
d) Charges of an administrative nature, such as remuneration, allowances, pensions or complementary retirement benefits, current consumption material, transport and communications, rents, litigation, insurance, including life insurance and "Life" branch operations, contributions to retirement savings funds, contributions to pension funds and to any supplementary social security schemes;
e) Charges for analysis, rationalization, research and consultation;
f) Tax and paratax charges;
g) Reintegrations and amortizations;
h) Provisions;
i) Realized losses;
j) Indemnities resulting from events whose risk is not insurable.
(...)
Hence it results that, for a given expense of a legal person, to be deducted for corporate income tax purposes, two prerequisites must be met:
a) The proof of that expense;
b) Its indispensability for the exercise of the activity of the legal person in question.
Now, the credit of the claimant resulting from the payment of a third party's debt – being, therefore, outside the scope of its normal activity – the indispensability of that cost or expense is irremediably affected, being certain that no facts are alleged and/or demonstrated which could lead to an eventual judgment of indispensability.
In truth, and as has been decided in other proceedings which have run their course at the CAAC, the requirement of indispensability of expenses for the realization of income subject to tax or for the maintenance of the productive source, established by article 23 of the Corporate Income Tax Code, has been the object of due legal treatment by case law[8].
Thus the Supreme Administrative Court has come to declare, as regards the meaning and functioning of the requirement of indispensability of costs for tax purposes, that the requirement of indispensability of a cost must be interpreted as an indeterminate concept requiring case-by-case consideration, as a result of an analysis of business economic perspective, in the perception of a relationship of economic causality between the assumption of a cost and its realization in the interest of the company, having regard to the corporate object of the commercial entity in question (Cf. Judgments of the SAC of 15 June 2011 and 29 March 2006, as well as the judgment of the TAC South of 16 October 2014).
"Essential costs are equivalent to expenses incurred in the interest of the company or, in other words, in all acts abstractly subsumable in a profit-making profile. [...] The essential expense is equivalent to any cost realized in order to obtain income and which represents an economic decline for the company. As a rule, therefore, tax deductibility depends only on a causal and justified relationship with the productive activity of the company" (Tomás Tavares, "On the relationship of partial dependence between accounting and tax law in the determination of the taxable income of legal persons: some reflections at the level of costs", Science and Technical Tax, 396, pp. 136 et seq.).
In other words: costs will not be indispensable only if they do not have a causal and justified relationship with the productive activity of the company. This is the understanding which has been followed by the Tax Contention Section of the Supreme Administrative Court [Among many others, undertaking an exhaustive treatment of the subject, see the judgment of 30 November 2011, rendered in case no. 107/11, published in the Appendix to the Official Gazette of 16 July 2012 (http://dre.pt/pdfgratisac/2011/32240.pdf), pages 2185 to 2189, also available at http://www.dgsi.pt/].
Thus, "(…)the control to be exercised by the AT over the verification of this requirement of indispensability must be by the negative, that is, the AT should only disregard as tax costs those which clearly do not have the capacity to generate increases in gains, the competent administrative agent determining the taxable matter not being able to 'arrogate itself as manager and qualify indispensability at the level of good and bad management, according to its feeling or personal sense; it is sufficient that it be an operation carried out as an act of management, without entering into the appreciation of its effects, positive or negative, of the expense or charge assumed for the results of the realization of income or for the maintenance of the productive source (…)" (Vítor Faveiro, Fundamental Notions of Portuguese Tax Law, volume II, page 601.).
That is: being the rule the freedom of economic initiative and taxation of companies must fall fundamentally on their real income (cf. art. 104, no. 2, of the Constitution), the norm of no. 1 of art. 23 of the Corporate Income Tax Code, by limiting the relevance of costs to "those demonstrably indispensable for the realization of income or gains subject to tax or for the maintenance of the productive source" must be understood as allowing the tax relevance of all expenses actually concretized which are potentially adequate to provide income or gains, regardless of the result (success or failure) which they in fact provided.
The very wording of that no. 1 of art. 23 points decisively in that direction with the use of the future tense "will be", rather than the past tense "were": the appropriate perspective for assessing the indispensability of expenses for obtaining income is that of the economic agent at the moment it acted, when there is only the possibility that the business options to be taken come to produce income and not that of the tax authority, acting in the presence of the results obtained, assessing the relevance which the expenses actually had for them to be achieved.
In this light, it is to be concluded that expenses are to be considered indispensable for the realization of income which, at the moment they are realized, appear as potentially generating income, which has as a corollary that tax relevance of a cost can only be eliminated when it is to be concluded, in the face of the rules of common experience, that it did not have the capacity to generate income, that is, when it is demonstrated that the act which generates the costs cannot be considered as an act of management, because it cannot be expected, with acceptable probability, that from the expense made there can result an income (Cf. judgment of 15 June 2012 of CAAC, rendered in case no. 29/2012-T, available at http://www.caad.org.pt/.
In the case sub judice, it is important to emphasize, for the judgment of indispensability of costs, that there would have to exist a relationship of economic causality between the assumption of a cost and its realization in the interest of the requesting company.
In the relationship of economic causality of the cost with the interest of the company, the business interest which is assessed is that of the company itself which fiscally deducts the cost (Cf. judgment of 10 July 2002, of the SAC).
And the costs provided for in article 23 of the Corporate Income Tax Code must relate to the company itself, whereby for a given sum to be considered a cost thereof it is necessary that the respective activity be developed by it itself, not by other companies even if in a relationship of domination.
With respect to provisions for coverage of credits which do not present doubt or risk of collection, read subsection d) of no. 3 of 34 of the Corporate Income Tax Code (version in force at the time):
"Credits against companies participated in more than 10% of the capital are not considered doubtful receivables, save in the cases provided for in subsections a) and b) of no. 1 (…)".
Subsection a) of no. 1 of this article 34 of the Corporate Income Tax Code interestingly provides as follows.
"Credits are doubtful receivables those in which the risk of uncollectibility is considered duly justified, which occurs in [the case in which] the debtor has pending special proceedings for company recovery and creditor protection or execution proceedings, bankruptcy or insolvency (…)".
And subsection b) of no. 1 of the same article 34 adds that, for the purposes of establishment of provision, doubtful receivable credits are «credits [which] have been claimed judicially».
That is: if it is not a case of credits in relation to which «the debtor has pending special proceedings for company recovery and creditor protection or execution proceedings, bankruptcy or insolvency», nor does it occur that «the credits have been claimed judicially», one must conclude, in view of the terms of subsections a) and b) of no. 1 of the cited article 34 of the Corporate Income Tax Code, that the situation does not present itself as one of those in which «the risk of uncollectibility is considered duly justified».
However, the central hypothesis provided for in subsection d) of no. 3 of 34 of the Corporate Income Tax Code is that «Credits against companies participated in more than 10% of the capital are not considered doubtful receivables (…)».
And what are understood as companies or companies participated or affiliated, under the heading "Affiliated companies", article 482 of the Code of Commercial Companies states are considered affiliated companies: a)- Companies in a relationship of simple participation; b)- Companies in a relationship of reciprocal participations; c)- Companies in a relationship of domination; d)- Companies in a relationship of group.
For its part, article 486 of the Code of Commercial Companies, under the heading "Companies in a relationship of domination", provides, in its no. 1, as follows.
"It is considered that two companies are in a relationship of domination when one of them, called the dominant one, can exercise, directly or through companies or persons which meet the requirements indicated in article 483, no. 2, over the other, called the dependent one, a dominant influence".
Under the heading "Company in a relationship of simple participation", article 483 of the Code of Commercial Companies, in its no. 2, provides as follows.
"The holding of quotas or shares by a company is equated, for the purposes of the preceding no., with the holding of quotas or shares by a company which is dependent on it, directly or indirectly, or with it is in a relationship of group, and of shares of which a person is a holder on account of any of those companies".
We can thus say that, from a legal standpoint, a company (the principal or dominant one) is in a relationship of participation or domination with another (the dependent one), when it can exercise over it a dominant influence, directly or indirectly through companies which are dependent on it, directly or indirectly, or which with it are in a relationship of group, or likewise through persons who are holders of shares on account of any of those companies.
And, then, we should reasonably conclude that the "companies participated" in more than 10% of the capital – and in relation to which, says subsection d) of no. 3 of the cited article 34 of the Corporate Income Tax Code the credits held over them are not considered doubtful receivables –, are the "companies participated" in any legitimate manner to be able to exercise a dominant influence over them: directly or indirectly, through other companies or even through natural persons.
This is, in our opinion, the interpretation imposed by the reason for the law: unacceptability as a tax cost of provisions relating to credits which do not present risk of uncollectibility, as evidently occurs with credits which dominant companies have over their dependent companies in more than 10% of their share capital.
It should also be noted that "provisions" can be defined as estimated costs present in the exercise to which future expenses of uncertain amount or eventual future occurrence correspond.
It is, however, essential still, for a valid and legal establishment of provisions, that the risk (if and when it exists, obviously) of uncollectibility of credits underlying the same (provisions), result from normal activity of the creditor company (taxpayer).
Making it more concrete: the tax legislator, faced with the aforesaid business reality (the risk of uncollectibility) accepts as deductible costs the establishment of provisions, establishing specific criteria for their recognition, one of which – relevant for the case sub judice – is that the provisioned credit results from the normal activity of the taxpayer.
It was, in the case, the understanding of the Tax and Customs Authority (AT) that, as regards the exercise of 2009 of the claimant, the provision of €2,814,037.12 could not be accepted as a tax cost in light of the provision in articles 34-1/a) and 35-1/b), of the Corporate Income Tax Code (in the version then in force).
In truth, as was alleged by the claimant and appeared from its accounting, it was a provision for doubtful receivables, being that such credit had been the object of a judicial action, uncontested, filed by the claimant against B - Imobiliária, Ltd., a company in which the claimant participated in more than 50% of its capital.
That is: the provision was established based on subsection a) of no. 1 of article 34 ["(...) the following provisions can be deducted for tax purposes: a) Those which have as their purpose the coverage of credits resulting from normal activity which at the end of the exercise can be considered doubtful receivables and are evidenced as such in the accounting (...)" (underlined and highlighted) and on subsection b) of no. 1 of article 35, of the Corporate Income Tax Code ["(...)1 - For the purposes of establishment of the provision provided for in subsection a) of no. 1 of the preceding article, doubtful receivable credits are those in which the risk of uncollectibility is considered duly justified, which occurs in the following cases:
a) (…)
b) The credits have been claimed judicially (…)" (Corporate Income Tax Code - version of 2009).
Well then: as is alleged by the claimant and appears documented, the provisioned credit, disregarded by the AT for the purposes of determination of taxable income, results from an effective, real and unquestionable payment by delivery of a third party's debt (the commercial company B– Imobiliária, Ltd., a company which was in a relationship of domination with the claimant and designated "client" in the Tax Inspection report), which thereby became debtor to the claimant.
The cause of the debt of B– Imobiliária, Ltd. to the claimant A – Imobiliária, Ltd., is not resulting from the normal activity of this company because it does not fall within its corporate object [real estate development (development of building projects – CAE …)].
It should also be emphasized that the formal accounting entry of the provision in the account "6723 – Provisions for risks and charges – Ongoing judicial proceedings" could not also be considered, because, in light of the then current Official Chart of Accounts, that entry aimed to accommodate the provisions "(...) for the amount of expected costs, whenever there are pending judicial proceedings awaiting resolution and when it is expected that we will lose the cases (highlighted) (...)" (Cf. Carlos Santiago, Official Chart of Accounts Commented – 14th Ed./2008, Texto Editora).
Concluding: either because the provision was established outside the scope of the claimant's normal activity, or because it was effected on the basis of a judicial claim without meeting the necessary legal presuppositions or requirements, the value provisioned and accounted as an expense, in the amount of €2,814,037.12 will indeed have to be added back to taxable income and, consequently, the additional corporate income tax assessment and the compensatory interest assessment are valid.
Hence the request for arbitral determination must be entirely unsuccessful.
III. DECISION
In view of the foregoing, the arbitrators making up this Arbitral Tribunal agree that:
– to judge entirely without foundation the petition for declaration of illegality and consequent annulment of the additional assessment no. 2013 … and the compensatory interest assessment no. 2013 … and the account settlement no. 2013 …, relating to the exercise of 2009, thereby absolving the Tax and Customs Authority and
– to condemn the Claimant in the costs of the proceedings.
Value of the Proceedings
In accordance with the provision in art. 306, no. 2, of the Civil Procedure Code and 97-A, no. 1, subsection a), of the Tax Procedure Code and 3, no. 2, of the Regulation of Costs in Tax Arbitration Proceedings, the value of the proceedings is fixed at € 810,650.86
Costs
Pursuant to art. 22, no. 4, of the LRATM, the amount of costs is fixed at € 11,628.00, in accordance with Table I attached to the Regulation of Costs in Tax Arbitration Proceedings, entirely at the charge of the claimant.
Lisbon and CAAC, 23 February 2015
The Arbitrators
(José Poças Falcão)
(Maria Celeste Cardona)
(João Maricoto Monteiro)
[1] 25th
Namely that, as appears from the second clause, the three-quarters that B – Imobiliária, Ltd., the Client for the AT, promised to acquire would be sold to C, in favour of whom the final contract would be executed, "whereby it may only be formalized by a public deed executed in favour of the same".
[2] Not having B Imobiliária, Ltd. filed a defence, by judgment of 22-3-2010 the facts alleged in the petition were considered confessed and the action was judged well-founded, the said B Imobiliária, Ltd., being condemned to pay to A Imobiliária, Ltd., now arbitral claimant, the amount claimed of 2,814,037.12€, as well as interest from service (which had also been claimed).
[3] It said so, namely, in the exercise of the right to be heard which it came to exercise in the scope of the inspection proceedings (attached to the Administrative Records).
[4] Because of payment of these debts, D made possible the cancellation of the mortgages which encumbered the immovable properties in question.
[5] As regards the now claimant.
[6] Or, more specifically, "account 71223 Sales".
[7] At the date of the facts the claimant held two quotas of € 12,719.34 in B – Imobiliária, Ltd., in a share capital of € 49,879.78],
[8] The question of the indispensability of costs for the purposes of article 23 of the Corporate Income Tax Code has been the object of doctrinal and case law analysis.
Thus and as emphasizes António Moura Portugal ("Tax Deductibility of Costs in Portuguese Tax Case Law", in particular, pages 171/172), "The deductibility or acceptance of costs contained in the balance sheet has ceased to be a question of fact and becomes a question of law, with repercussions at the level of the burden of proof, which no longer falls on the taxpayer" (highlighted).
Further on the same Author emphasizes:
"The legal solution of acceptance of the accounting of the taxpayer endows the taxpayer's records with a presumption of truthfulness, in the sense that it is accepted that this information reflects a faithful and true situation of the company's patrimonial situation, shifting the burden of proof of the incongruence or falsity of that information as a faithful representation to the Tax Authority".
Indeed this principle is also reflected in the scope of the General Tax Law, in articles 74 and 75 which refer, respectively, to the burden of proof and to the declaration and other elements of the taxpayer.
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