Process: 496/2016-T

Date: July 6, 2017

Tax Type: IRC

Source: Original CAAD Decision

Summary

CAAD Decision 496/2016-T addresses the dual tax consequences under Article 88 of the Portuguese Corporate Income Tax Code (CIRC) when companies make payments to entities in privileged tax regimes. The case involved A, Lda, a retail watch and jewelry company, which paid €1,071,231.96 to B…, SA, a Panamanian company. The Portuguese Tax Authority applied 35% autonomous taxation under Article 88(8) CIRC and simultaneously refused to accept these payments as deductible expenses. The taxpayer challenged both the additional IRC assessment and compensatory interest at the Centre for Administrative Arbitration (CAAD). The arbitral tribunal, composed of three arbitrators appointed by CAAD's Deontological Council, examined whether the taxpayer proved that payments corresponded to actual commercial operations. Despite witness testimony, the company failed to demonstrate the genuine existence of the underlying transactions. Key evidentiary gaps included missing transport invoices from the logistics provider, inconsistencies between storage declarations and transport documents, and inadequate documentation of the alleged watch reserves and credit operations. The decision illustrates the stringent burden of proof taxpayers face when claiming expenses related to tax haven jurisdictions. Under Portuguese tax law, Article 88(8) CIRC creates a presumption against payments to privileged tax regimes, requiring taxpayers to overcome this presumption with comprehensive documentation proving genuine business purpose and actual delivery of goods or services. The tribunal confirmed both the autonomous taxation treatment and the expense disallowance, validating the Tax Authority's dual correction mechanism designed to combat profit shifting and base erosion through transactions with low-tax jurisdictions.

Full Decision

ARBITRAL DECISION

The arbitrators, Advisor Maria Fernanda Maçãs (presiding arbitrator), Prof. Dr. Luís Meneses Leitão and Dr. Paulo Lourenço (member arbitrators), appointed by the Deontological Council of the Centre for Administrative Arbitration to form the Arbitral Tribunal, hereby decide as follows:

1. REPORT

A…, Lda, legal entity no. …, with registered office at Avenue …, no. …, …, …-… Porto, filed a request for constitution of the collective arbitral tribunal, pursuant to the combined provisions of articles 2° and 10° of Decree-Law no. 10/2011, of 20 January (Legal Framework for Arbitration in Tax Matters, hereinafter referred to as RJAT), wherein the Tax and Customs Authority is the Respondent, with a view to obtaining a declaration of illegality of the additional corporate income tax assessment relating to the financial year 2012 (assessment no. 2016 …), as well as the respective compensatory interest (assessments no. 2016 … and 2016 …).

The request for constitution of the arbitral tribunal was accepted by the President of CAAD and automatically notified to the Tax and Customs Authority on 8 August 2016.

Pursuant to paragraph (a) of section 2 of article 6° and paragraph (b) of section 1 of article 11° of the RJAT, as amended by article 228° of Law no. 66-B/2012, of 31 December, the Deontological Council appointed as arbitrators of the collective arbitral tribunal Her Excellency Advisor Maria Fernanda Maçãs, Prof. Dr. Luís Meneses Leitão and Dr. Paulo Lourenço, who communicated acceptance of their mandate within the applicable deadline.

On 19 October 2016 both parties were duly notified of this appointment, and neither manifested an intention to refuse, pursuant to the combined articles 11°, section 1, paragraphs (a) and (b) of the RJAT and articles 6° and 7° of the Code of Ethics.

Thus, in accordance with the provisions of paragraph (c) of section 1 of article 11° of the RJAT, as amended by article 228° of Law no. 66-B/2012, of 31 December, the collective arbitral tribunal was constituted on 7 November 2016.

The Tax and Customs Authority filed its response, contending that the request should be dismissed.

By order of 14 December 2016, the Claimant was notified to identify the alleged facts in relation to which it intended to hear the witnesses listed, which it did by means of an application filed on 21 December 2016.

The tribunal, noting the absence of any justifying reason for the meeting referred to in article 18° of the RJAT, ordered by order of 3 January 2017 the dispensing thereof and set 19 January 2017 for the examination of the witnesses.

The Claimant and the Respondent presented their submissions on 3 February 2017 and 20 February 2017, respectively.

The arbitral tribunal was duly constituted and is materially competent, in accordance with the provisions of articles 2°, section 1, paragraph (a), and 30°, section 1, of Decree-Law no. 10/2011, of 20 January.

The parties have legal personality and capacity, are entitled to proceed and are properly represented (articles 4° and 10°, section 2, of the same instrument and article 1° of Regulation no. 112-A/2011, of 22 March).

The proceedings do not suffer from any defects, and the exception raised by the Respondent, relating to the incontestability of the corporate income tax assessment no. 2012 …, was expressly acknowledged by the Claimant, for which reason there is no need to consider it.

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

2. FACTUAL MATTER

According to the Inspection Report, which is the basis of the assessment now challenged, the Tax Authority takes the view that the payments made by the Claimant to company B…, SA, in the amount of € 1,071,231.96 (one million seventy-one thousand two hundred and thirty-one euros and ninety-six cents), should be subject to autonomous taxation at the rate of 35%, in accordance with section 8 of article 88° of the Corporate Income Tax Code, in addition to not being admissible as expenses of the business.

2.1. Proven Facts

The following facts are deemed proven and relevant to the proper decision of the case:

A) The Claimant is a commercial company whose business purpose consists of the retail trade in watches and jewellery and ornamental articles;

B) By means of inspection order no. 012015 …, the Claimant was subject to an inspection action in relation to the financial year 2011, carried out by the Inspection Services of the Finance Directorate of Porto;

C) The inspection order was issued with the purpose of verifying and examining the transactions underlying the payments made, in the year 2011, in the amount of € 1,071,231.96 (one million seventy-one thousand two hundred and thirty-one euros and ninety-six cents), to non-resident entities subject to a privileged tax regime;

D) The payments were concretely made to company B…, SA, a legal entity with registered office in …, …, in Panama, a country included in the list referred to in the Regulation which enumerates countries, territories and regions with privileged tax regimes;

E) The Claimant was notified, on 7 October 2015, to present copies of cheques from account no. …, of C… and to specify the transactions underlying the payments or, alternatively, to authorize the Tax Authority to consult the aforementioned documents;

F) The Claimant delivered a declaration authorizing the Tax Authority to consult or request from the banking entity copies of the aforementioned cheques, which were deposited in an account held in the name of D…;

G) On 30 November 2015, the Claimant was again notified to present a copy of any contracts concluded with B…, SA, as well as the invoices which gave rise to the return of the goods and the supporting documents for the opening of credit, in the year 2011, in favour of the company previously mentioned;

H) On 12 January 2016, the Claimant was again notified to present the proof of shipment and transport of the goods contained in the documents issued in favour of B…, SA, as well as the reserves of the watches which were the basis of the advances made by that entity;

I) The company E…, Lda did not issue invoices to the Claimant for the transport of the goods to the warehouse and from the warehouse to the Claimant's premises;

J) The company E…, Lda did not issue invoices to the Claimant for the storage of the goods;

K) The documents filed in the accounts of the Claimant and the declaration of company E…, Lda state that the watches were stored for more than one year in the facilities of the latter, whereas the transport guide no. …, of F…, also filed, states that the watches were returned to Porto, coming from ….

2.2. Unproven Facts

Notwithstanding the testimony presented, the Claimant failed to demonstrate the actual existence of the transactions in question, and there are no other relevant facts that have not been proven.

2.3. Justification for the Determination of the Factual Matter

With regard to the proven factual matter, the tribunal's conviction was based on the free assessment of the positions taken by the parties, on the content of the documents attached to the proceedings and on the arbitral proceedings file.

3. LEGAL MATTER

The sole issue at stake in the present proceedings is to assess whether the additional assessment no. 2016 … and the assessments no. 2016 … and no. 2016 …, the last two of which relate to the respective compensatory interest, have legal foundation or not.

The Respondent invokes in this regard the provisions of article 88°, section 8 of the CIRC, which, in the wording in force at the date of the facts, provided that there shall be subject to autonomous taxation "expenses corresponding to amounts paid or owed, for any reason whatsoever, to natural or legal persons resident outside Portuguese territory and subject therein to a clearly more favorable tax regime, as defined in accordance with the Code, unless the taxpayer can prove that they correspond to operations actually carried out and do not have an abnormal character or an exaggerated amount."

This provision must be read together with the former article 65°, now article 23°-A, section 1, paragraph r) of the CIRC, which provides that the following are not accepted as costs: "amounts paid or owed, for any reason whatsoever, to natural or legal persons resident outside Portuguese territory and subject therein to a clearly more favorable tax regime, unless the taxpayer proves that such charges correspond to operations actually carried out and do not have an abnormal character or an exaggerated amount."

In such cases, article 65°, sections 3 and 4, now article 23°-A, section 8 of the CIRC, requires that the Tax Authority notify the taxpayer to produce the evidence previously mentioned, and for this purpose a period of no less than 30 days must be set. This notification shall also serve to exclude the taxpayer from subjection to autonomous taxation. Thus, if the mentioned evidence is not provided, these payments shall not be accepted as costs and shall be subject to autonomous taxation.

Now, as the Respondent rightly emphasized, the Claimant manifestly failed to produce such evidence. Given that the payments in question amount to the considerable sum of € 1,071,231.96 to an entity, B…, S.A., based in a territory subject to a clearly more favorable tax regime, it would be expected that the Claimant would present convincing evidence of the justification for these transactions. The Claimant, however, did not do so. It stated that there were no contracts whatsoever, claimed that the Panamanian entity made it considerable advances for "merchandise reserve" and submitted invoices for the return of goods of much smaller amount, but never delivered any correspondence relating to the transaction. At the same time, it failed to conclusively demonstrate by means of transport guides and storage invoices what it claimed regarding the safekeeping of the watches for such a prolonged period and their shipment and return.

The testimony given at the hearing before the Arbitral Tribunal was also not enlightening with respect to the actual carrying out of the transaction and its normal and non-exaggerated nature.

Thus, it must be concluded that the taxpayer did not produce the evidence to which it was obliged by the former articles 65° and 88°, section 8 of the CIRC. It is a fact that the case law of this Arbitration Centre has held that the Tax Authority is not relieved of the obligation to collaborate in such evidence, precisely because of the duty to state reasons for its decisions (see Awards 10/2012-T and 146/2013-T and, in the doctrine, ANTÓNIO MOURA PORTUGAL, "The deductibility of expenses in the tax case law of CAAD" in CAAD Newsletter, no. 1, 2015, pp. 25-28).

In this case, however, the Respondent made three notifications to the Claimant to clarify the facts, requested information from C… and also gathered data from E…, Lda. The data it gathered demonstrated that the account to which the payments were made was not held by the said B…, SA, but by D…, that there were no purchase orders and exchange of correspondence requesting the reservation of the goods and that the freight forwarder does not have facilities suitable for the storage of merchandise of such high value, and it is therefore not understandable why the same remained there without being invoiced or shipped for more than one year, only being returned later.

We therefore find that the Tax Authority fulfilled the duty to state reasons to which it was obliged, and it was the Claimant that failed to produce the evidence incumbent upon it regarding the veracity and normal and non-exaggerated character of these transactions.

There is accordingly no divergence between the justification of the Claimant in the proceedings and that which accompanied the assessment, nor does the Claimant have grounds for its alleged violation of the right to a fair trial.

For this reason, no valid grounds can be perceived for challenging the autonomous taxation and the settlement properly effected by the Respondent, and therefore the Claimant shall pay it.

5. DECISION

Having regard to the foregoing, it is hereby decided to dismiss the request for a declaration of illegality of the additional assessment no. 2016 … and of the assessments no. 2016 … and no. 2016 …, relating to compensatory interest, and the Respondent is absolved of the claim.

6. VALUE OF THE PROCEEDINGS

In accordance with section 2 of article 315° of the Code of Civil Procedure, paragraph (a) of section 1 of article 97°-A of the Tax Tribunal Procedure Code and section 2 of article 3° of the Rules on Costs in Tax Arbitration Proceedings, the value of the proceedings is fixed at € 432,232.01.

7. COSTS

Pursuant to section 2 of article 12° and section 4 of article 22° of the RJAT and article 4° of the Rules on Costs in Tax Arbitration Proceedings, the amount of costs is fixed at € 7,038 in accordance with Table I annexed to the Rules on Costs in Tax Arbitration Proceedings, which costs shall be borne entirely by the Claimant.

Record and notify.

Lisbon, 6 July 2017

The Arbitrators,

Maria Fernanda Maçãs

Luís Meneses Leitão

Paulo Lourenço

Frequently Asked Questions

Automatically Created

What is autonomous taxation under Article 88 of the Portuguese Corporate Tax Code (CIRC)?
Autonomous taxation under Article 88 CIRC is a special tax regime that applies to certain corporate expenses regardless of whether the company has taxable profits. Section 8 of Article 88 specifically targets payments made to entities resident in countries with privileged tax regimes (tax havens). The taxation rate is 35% of the payment amount and applies independently of the regular IRC calculation. This autonomous tax cannot be deducted from IRC liability and represents an additional tax burden. The taxpayer can avoid this taxation by proving that the payments correspond to actual commercial operations with genuine business substance and were made at arm's length conditions.
When can the Tax Authority refuse to accept expenses as deductible costs for IRC purposes?
The Tax Authority can refuse to accept expenses as deductible IRC costs when the taxpayer fails to meet the requirements of Article 23 of the CIRC, which requires expenses to be necessary for obtaining or maintaining taxable income and properly documented. Specifically regarding payments to privileged tax regime jurisdictions under Article 88(8), expenses are non-deductible unless the taxpayer proves: (1) the payments correspond to real commercial operations, (2) the operations were actually carried out, and (3) the transactions comply with transfer pricing rules. The burden of proof lies entirely with the taxpayer, who must provide comprehensive documentation including contracts, invoices, transport documents, and evidence of actual delivery of goods or services.
How does the CAAD tax arbitration process work for challenging IRC additional assessments?
The CAAD arbitration process for IRC assessments begins with filing a request for constitution of an arbitral tribunal within the statutory deadline (typically 90 days from notification of the tax assessment). After acceptance by CAAD's President, the Deontological Council appoints a three-member arbitral tribunal. Both parties are notified and may refuse arbitrators for valid reasons. Once constituted, the Tax Authority files a response defending the assessment. The tribunal may order witness examination and hear both parties' submissions. The process is governed by the RJAT (Decree-Law 10/2011) and typically concludes within 6-12 months. The arbitral decision is binding and has the same effect as a judicial decision, though appeals to administrative courts are possible on limited grounds.
What are the legal consequences of non-deductible expenses under Portuguese corporate income tax law?
Non-deductible expenses under Portuguese corporate income tax law have several legal consequences. First, they increase the taxable base for IRC purposes, as they cannot be deducted when calculating taxable profit. Second, when expenses relate to payments to privileged tax regime jurisdictions under Article 88(8) CIRC, they trigger autonomous taxation at 35% in addition to being non-deductible. This creates a double tax effect: the expense increases taxable profit (taxed at regular IRC rates up to 21% plus municipal surcharge) and simultaneously suffers 35% autonomous taxation on the gross payment amount. Third, the tax corrections generate compensatory interest charges from the original tax payment deadline until actual payment, calculated at the legal interest rate.
Can a taxpayer challenge compensatory interest charged on additional IRC tax assessments at CAAD?
Yes, taxpayers can challenge both the principal additional IRC assessment and the related compensatory interest at CAAD. The arbitral jurisdiction extends to all tax acts related to the contested assessment, including compensatory interest calculations. In this case, the claimant challenged assessment no. 2016… (additional IRC) plus assessments no. 2016… and no. 2016… (compensatory interest). Compensatory interest is considered an accessory of the principal tax debt, so when the tribunal examines the legality of the underlying tax assessment, it simultaneously reviews the compensatory interest. If the principal assessment is annulled, the compensatory interest automatically falls. However, the interest can also be challenged independently on calculation errors or incorrect application of interest rates.