CAAD Arbitration on IRC and Operational Leasing: Tax Loss Adjustments for 2012-2013

ARBITRATION DECISION

The arbitrators José Poças Falcão (presiding arbitrator), António Pragal Colaço and Júlio Tormenta (associate arbitrators), appointed by the Ethics Council of the Administrative Arbitration Centre to form the Arbitral Tribunal, constituted on 23-02-2016, hereby agree as follows:

I. REPORT

1. "A…, LDA.", holder of NIPC…, with registered office at…, …-… ... (hereinafter referred to only as "A…" or "Claimant"), hereby, pursuant to the provisions of paragraph a) of section 1 of article 2, article 5, article 6, paragraph) section 1 of article 10, and subsequent articles of Decree-Law No. 10/2011, of 20 January, which approves the Legal Regime for Tax Arbitration ("LRTA"), in conjunction with the provisions of paragraphs a) and c) of article 99 and paragraph e) of section 1 of article 102 of the Tax Procedure and Process Code ("TPPC"), applicable ex vi paragraph a) of section 1 of the aforesaid Decree-Law, hereby submits a request for constitution of an Arbitral Tribunal to issue an arbitral ruling on the declaration of illegality of the acts of rejection of administrative appeals No. …2016… and No. …2016…, cf. Docs. Nos. 1 and 2 attached to the Initial Petition, issued in the course of Service Orders Nos. … and … of, respectively, 29 July 2015 and 2 December 2015, from the Tax Inspection Services of the Tax Authority of ... ("TIS"), cf. Docs. Nos. 3 and 4 attached to the Initial Petition, from which resulted the Corporate Income Tax ("CIT") assessments Nos. 2015… and 2015…, issued, respectively, on 24 August 2015 and 07 December 2015 (now attached as Docs. Nos. 5 and 6 attached to the Initial Petition), by reference to the taxation periods of 2012 and 2013, which reduced the value of the tax losses previously reported by the Claimant.

2. The request for constitution of the Arbitral Tribunal was made on 12-12-2016 and accepted by the President of the Administrative Arbitration Centre, and on 21-12-2016 the Respondent (hereinafter referred to as "Tax Authority") was automatically notified.

Pursuant to the provisions of paragraph a) of section 2 of article 6 and paragraph b) of section 1 of article 11 of the LRTA (Legal Regime for Tax Arbitration), as amended by article 228 of Law No. 66-B/2012, of 31 December, the Ethics Council appointed as arbitrators of the collective Arbitral Tribunal Judge José Poças Falcão, Dr. António Pragal Colaço and Dr. Júlio Tormenta, who communicated acceptance of the appointment within the applicable period.

Thus, in accordance with the provisions of paragraph c) of section 1 of article 11 of the LRTA, as amended by article 228 of Law No. 66-B/2012, of 31 December, the collective Arbitral Tribunal was constituted on 23-02-2016.

To substantiate its request, the Claimant argues, in summary:

a) The assessment notices above identified, Nos. 2015 … and 2015 …, issued, respectively, on 24 August 2015 and 07 December 2015, cf. Docs. Nos. 5 and 6 attached to the Initial Petition, by reference to the taxation periods of 2012 and 2013, underlying inspection actions, are tainted with illegality due to error in the legal assumptions and therefore cannot be maintained in the legal order;

b) The Claimant is a limited liability commercial company whose object is the hotel industry, tourist developments and similar activities, as well as the provision of inherent services, agricultural and wine-growing operations, industrialization of beverages and their trade; the Claimant's share capital is Euro 50,000 represented by the following shares: one, with a nominal value of Euro 40,000, belonging to B…; and another, with a nominal value of Euro 10,000, belonging to company C…, S.A. (hereinafter referred to only as "C…");

c) The Claimant is the holder of Authorization License for Use No. …/2009, relating to the "Building …, located in …", in the parish of …, which includes a restaurant, bar, gymnasium ("health club"), marina and ancillary building, outdoor swimming pools and mooring facilities, integrated into the tourist development "…–…";

d) It carried out works to implement tourist animation and leisure infrastructure, namely, "health center", tennis court, swimming pools, restaurants, etc., cf. article 17 of the Initial Petition, these having been financed with incentives from the Portuguese Tourism Institute, under the PRIME – incentive system for tourist products of strategic purpose (project …) and SI Innovation, cf. article 18 of the Initial Petition;

e) It entered into a lease agreement for the premises on 2 July 2009 with C… (tenant), cf. Doc. 9 attached to the Initial Petition, pursuant to which there would be a temporary and paid transfer of the enjoyment of the "Building …, located in …", together with the operation of all establishments and respective equipment already installed therein, to C…; said contract was entered into for a period of 8 (eight) years, automatically renewing for periods of 5 (five) years, unless terminated by either party; the monthly rent initially agreed upon in the amount of € 23,330 (twenty-three thousand three hundred and thirty euros);

f) Pursuant to said lease agreement, C… obligated itself to guarantee full performance of the conditions stipulated in the incentive grant agreement entered into between the Claimant and the Portuguese Tourism Institute, namely, the sales volume and provision of services and creation of jobs provided for in the application, contributing to the proper execution of the commitments undertaken;

g) In view of the economic crisis that struck Portugal, market conditions, the clear gap between the expenses incurred by C… relating to the rent agreed with the Claimant and the revenues resulting from the business operation carried out by the latter, the project became deficit-ridden and C… found it unsustainable to maintain the amount of rent agreed with the Claimant in the monthly amount of € 23,330, having requested the renegotiation of the monthly rent value with the Claimant, which the latter accepted, cf. articles 23 to 27 of the Initial Petition;

h) On 13 October 2011, the Claimant and C… reached an agreement regarding the new monthly payments due for the lease, an agreement that was not formalized in writing (i.e., reduced to writing), as the said lease agreement was covered by an incentive program of the Portuguese Tourism Institute, and it was essential for the viability of the project to obtain formal approval from the Claimant of the new rent schedule from this entity, cf. article 28 of the Initial Petition;

i) The Claimant on 13 October 2011 requested from Turismo de Portugal the flexibility and restructuring of the incentive reimbursement schedule mentioned above, its request having been officially accepted in May 2014 although in October 2013, it had been communicated to the Claimant, in an informal manner, by the Portuguese Tourism Institute, that the request made by the latter would be approved, which indeed came to pass in May 2014. As a consequence of the information obtained in October 2013 by the Claimant from Turismo de Portugal, on 9 October 2013 there was the execution of an Amendment to the lease agreement for premises entered into (entered into on 2 July 2009), cf. Doc. 10 attached to the Initial Petition and articles 29 and 30 of the Initial Petition;

j) As a consequence of the renegotiation of the rents, the Claimant issued, on 31 December 2013, credit note No. …, in the amount of € 455,319.43 (four hundred fifty-five thousand three hundred nineteen euros and forty-three cents), such amount having been recognized for purposes of disregarding part of the revenues earned in the taxation periods of 2013, 2012 and 2011, which resulted in the non-taxation of such revenues in the periods in question;

k) The Claimant in the 2012 period, in the Accounting Normalization System ("ANS") account #2721040000 ("Debtors for Accrued Income") recorded the amount of € 266,363.96, having as counterpart the recording of a debit of equal value in ANS account #7211100000 (Rendering of Services), relating to income whose taxation was deferred in 2012. The amount of €266,363.96 covers the adjustments to the 2012 rents, as well as the deferral of the last three rents of the 2011 period, cf. articles 31 to 33 of the Initial Petition;

l) Likewise, according to the Claimant, with respect to the 2013 taxation period, the TIS states that "with these movements in account 7211100000 (regularization of account 272 and recognition of credit note), of the revenues earned in the year 2013 – relating to the rents of the "Building …, located in …", only the amount of € 91,323.29 was subject to taxation", which means that of the total amount of revenues earned in the 2013 period, in the amount of €297,774.26 (two hundred ninety-seven thousand seven hundred seventy-four euros and twenty-six cents), the amount of €91,323.29 was subject to taxation, revenues in the amount of Euro 206,450.97 were deferred in this period, thus recognizing the aforesaid credit note, with the corresponding deferral in the expense accounts at the level of C…, cf. articles 34 to 36 of the Initial Petition;

m) Regarding the years 2012 and 2013, there were discrepancies between the declared values relating to the volume of business, sales and rendering of services in periodic declarations for VAT, CIT and other tax purposes, and inspection actions were launched in the CIT area, cf. article 37 of the Initial Petition;

n) From the inspection actions relating to the years 2012 and 2013, the TIS concluded, through the Tax Inspection Reports notified to the Claimant, that the annulment of the revenues of 2012 and 2013, operated by the accounting entry of the credit note, in the total amount of Euro 455,319.43, had no accounting and tax framework, giving rise to the respective additional CIT assessments (relating to 2012 and 2013) with which the Claimant disagrees, having submitted for that purpose the respective administrative appeals (relating to 2012 and 2013), cf. Doc. 7 and 8 attached to the Initial Petition, these being the subject of rejection by the Tax Authority, cf. articles 38 to 40 of the Initial Petition;

o) As per the Tax Inspection Reports relating to 2012 and 2013 notified to the Claimant, the deferral of revenues in 2012 (in the amount of €266,363.96), the recognition of the credit note with the consequent reduction of revenues earned in the year 2013, resulting from the renegotiation of the payment conditions with C… relating to the lease of the premises "Building…" and the request for extension of the incentive reimbursement deadline from Turismo de Portugal, lack proper framework under the ANS and CIT, cf. article 41 of the Initial Petition;

p) The Tax Authority proceeded to issue CIT assessment No. 2015…, of 24 August 2015, correcting the taxable result for the 2012 taxation period (as per table below) and reducing the value of the tax loss previously reported by the Claimant:

Corrections by Tax Authority
2012

Taxable Result - Declared Model 22

• 274,619.23

Correction – Revenues annulled by the taxpayer without legal framework
266,363.96

Corrected Taxable Result

• 8,255.27

q) The Tax Authority proceeded to issue CIT assessment No. 2015…, of 7 December 2015, correcting the taxable result for the 2013 taxation period (as per table below), thereby reducing the value of the tax loss previously reported by the Claimant:

Corrections by Tax Authority
2013

Taxable Result - Declared Model 22
-206,846.36

Correction – Revenues annulled by the taxpayer without legal framework
206,450.97

Corrected Taxable Result
-395.39

r) The Claimant understands that the assessments relating to 2012 and 2013 are tainted with illegality due to error in the legal assumptions as well as the decisions rejecting the administrative appeals relating to the additional assessments suffer from defects of errors in both fact and law, cf. articles 44 to 46 of the Initial Petition;

s) It disagrees with the accounting-tax framework made by the Tax Authority of the operational lease that is the subject of the present arbitration, since in the administrative appeal it set forth the reasons why the recognition of the credit note with deferral of the revenues earned in the years 2012 and 2013 is properly framed within the ANS and consequently should be fiscally accepted, cf. article 49 of the Initial Petition;

t) The recognition of rents in a linear fashion, as the Tax Authority argues, does not reflect the timing of recognition of the economic benefits resulting from the operation of the business by C… – which was found to be manifestly increasing – and therefore an Amendment to the ongoing lease agreement was made, so that the monthly expense that C… would have with the rents would be incurred at a rate similar to that which would result from the revenues that C… would have from the operation of the tourist unit, as evidenced by the data relating to the sales volume of the "…–…" tourist development, as per the table presented below:

(in Euro)

Year
2009
2010
2011
2012
2013
2014

Sales Volume
130,977
348,340
830,430
2,055,377
1,803,067
1,634,667

u) It concludes that from the analysis of the data relating to the sales volume of the Claimant, it is easy to extract that on the date when, for all purposes, the effective renegotiation of the rents took place - 13 October 2011 - the sales volume of the tourist development showed a manifestly increasing trend. Additionally, that the sales volume recorded in 2013 is more than 2 times higher than that recorded in 2011 and about 5 times higher than that recorded in 2010, which proves, without a doubt, the need for rent renegotiation, in order to ensure a correct balance between the expense for rents borne by C… towards the Claimant and the respective benefit resulting from the operation of the tourist development, cf. articles 50 to 53 of the Initial Petition;

v) The accounting treatment resulting from the renegotiation of the rents is perfectly aligned with paragraph 43 of ACFR 9, contrary to what the Tax Authority argues. In fact, according to paragraph 43 of ACFR 9, it used the option provided for in said paragraph "(…) unless another systematic basis is more representative of the pattern of the timing in which the benefit of the use of the leased asset is diminished by an incentive granted by the lessor" (emphasis and bold font by the Claimant)", that is, to recognize the revenue from the lease on a more representative systematic basis of the economic benefit. Thus, it deferred these revenues and proceeded to recognize the corresponding credit note, so as to reflect a correct balance between the expense with rents borne by C… towards the A… (Claimant) and the respective benefit resulting from the operation of the "…–…" development (hereinafter referred to as "development"). The recognition of rents in a linear fashion did not, in any way, reflect the timing of recognition of the economic benefits resulting from the operation of the business by C…, which, moreover, was making the business completely unviable, so the parties agreed on another basis for recognition of the revenue, namely through increasing rents. It disagrees with the Tax Authority's position that, given that the Amendment to the lease agreement made on 9 October 2009 did not result in any change in the sphere of the lessor (Claimant) to the total value of the contract, the services rendered and to be rendered under the lease agreement remained unchanged and the expenses borne by the lessor (Claimant) are of a fixed amount (those relating to depreciation of the leased property and to the rents paid by the Claimant to D…, SA with NIPC … resulting from a sub-lease agreement relating to a parcel of land intended for the construction of "Building…"), the deferral of revenues carried out by the Claimant should not have occurred. What is at issue is whether or not the Claimant complied with the accounting standard, in particular, with the provisions of paragraph 43 of ACFR 9, cf. articles 54 to 64 of the Initial Petition;

w) It understands that the fact that the contract price remains unchanged after the renegotiation does not prevent the parties from recording the rents received accounting-wise on the basis of a different systematic basis, the application of the option provided for in the last part of paragraph 43 of ACFR 9 being dependent, in fact, not on any change in the contract value, but solely on the model that best reflects the benefit derived from the use of the leased asset;

x) Moreover, it asserts that only the Claimant has the necessary competence to assess whether or not the chosen model reflects in the best way the benefit derived from the use of the leased asset, for the reasons and grounds expressed in articles 76 to 78 of the Initial Petition;

y) Having regard to the above, the Amendment entered into between the parties and the consequent adoption of an increasing rent schedule ensured that the accounting recognition of the rent expense in the sphere of C… was carried out at a rate similar to that at which the benefit resulting from the operation of the business was being recognized in the sphere of C…, ensuring compliance with the accounting principle of matching between revenues and expenses provided for in paragraph 93 of the Conceptual Framework (CF) of the ANS;

z) It also understands that the failure to consider the effects resulting from the Amendment to the lease agreement, reflected in the corrections made as a consequence of the inspection actions carried out by the Tax Authority, constitutes a violation and disregard of the principle of freedom of contract and private autonomy carried out by the latter;

aa) It understands that it was under the freedom of contract and autonomy of will prevailing in the Portuguese legal order that both the Claimant and C… negotiated the new rent schedule in October 2011 and that the Amendment formalized (reduced to writing) on 9 October 2013 merely served to formalize that intention already expressed in 2011. This was not a mere "expectation" of rent renegotiation in 2011, but rather a true intention of contractual renegotiation of the rents due to the deficit situation of the project, which led C… to take the initiative of proposing the contractual renegotiation to the Claimant, accepted by the latter, with the consequent accounting reflection (in particular pursuant to paragraph 43 of ACFR 9) and tax effect;

bb) It disagrees with the Tax Authority's position that, with respect to the 2012 and 2013 taxation periods, given that an Amendment was executed by the two parties, Claimant and C…, there was an alteration/manipulation of the tax results, thus not valuing the parties' intention under the principles of freedom of contract and private autonomy, cf. articles 80 to 102 of the Initial Petition;

cc) It understands that pursuant to section 1 of article 17 of Ordinance No. 1146-C/2001, of 21 December, there should also be a corresponding adjustment at the level of C…, through a reduction in the taxable profit in the sphere of the latter, as a consequence of the recognition of a tax expense in the amounts of € 266,363.96 and €206,450.97 relating to the taxation periods of 2012 and 2013 respectively, should the Claimant's request for arbitral ruling be upheld;

dd) It disagrees with the argument made by the Tax Authority of lack of standing, pursuant to article 9 of the TPPC, on the part of the Claimant for the latter to make the request for corresponding adjustment, since the adjustment to occur in case of the Claimant's petition being upheld will occur in the sphere of C…;

ee) It understands that the argument made by the Tax Authority of lack of standing on the part of the Claimant for the tax results (of 2012 and 2013) of C… to be corrected in case of the Claimant's petition being upheld is a false issue, since once the petition is upheld and final judgment is rendered, it imposes on the Tax Authority, within a period of 180 days, the obligation to effect that corresponding adjustment, since both the Respondent and C… are in a situation of related parties and are tax residents in Portugal;

ff) It requests:

(1) The annulment of the decisions rejecting the Administrative Appeals; and

(2) The annulment of the tax acts of additional CIT assessment Nos. 2015 … and 2015 …, relating to the years 2012 and 2013, and the restoration of the proper tax situation of the Claimant through the annulment of the corrections made in the CIT context, in the total amount of Euro 472,814.93 (four hundred seventy-two thousand, eight hundred fourteen euros and ninety-three cents).

With the Initial Petition were attached 10 (ten) documents.

1. The Tax Authority submitted a Response with objections arguing, in summary:

a) The subject matter of the request for arbitral ruling filed by the Claimant is against the acts of rejection of the administrative appeals No. …2016… and …2016…, which concerned the additional CIT assessments No. 2015… and 2015 …, relating to the years 2012 and 2013, respectively, cf. article 1 of the Response;

b) The Claimant understands that the assessment notices above identified, underlying inspection actions, are tainted with illegality due to error in the legal assumptions and therefore cannot be maintained in the legal order, cf. article 2 of the Response;

c) There is a disagreement between the Claimant and the Tax Authority as to whether the Claimant complied or not with the accounting standard, more specifically the provisions of paragraph 43 of ACFR 9, cf. article 3 of the Response;

d) The Claimant understands that, given an asset leased in an increasing manner, the revenue from the operational lease having as its object that asset should be recognized in an increasing manner, as this is the basis most consistent with the physical use of that asset, cf. article 4 of the Response;

e) The Claimant understands that as a result of the renegotiation of the rent schedule, there is a place for recording the deferral of the resulting revenues and that the fact that the contract price remains unchanged does nothing to prevent the parties from renegotiating a different systematic basis for recognition of the rents, the application of the option provided for in the last part of paragraph 43 of ACFR 9 being dependent not on any change in the contract value, but solely on the model that best reflects the benefit derived from the use of the leased asset. Consequently, the recognition of the revenue in its sphere is in line with ACFR 9 and the Conceptual Framework of the ANS, so that, by not considering such revenue, the Tax Authority acted in manifest disregard of the principle of freedom of contract and private autonomy, cf. articles 5 to 7 of the Response;

f) The Claimant requests:

(1) The annulment of the decisions rejecting the Administrative Appeals, and;

(2) The annulment of the tax act of additional CIT assessment No. 2015 … and 2015…, relating to the years 2012 and 2013, and the restoration of the proper tax situation of the Claimant through the annulment of the corrections made in the CIT context, in the total amount of € 472,814.93, with a view to maintaining in the legal order the acts impugned, cf. articles 8 and 9 of the Response;

g) The Claimant is a commercial company dedicated to the hotel industry, tourist developments and similar activities and the provision of inherent services, agricultural and wine-growing operations, industrialization of beverages and their trade, cf. article 11 of the Response;

h) On 31 December 2013, its share capital was €50,000.00, represented by two shares, one with a nominal value of €40,000.00, belonging to B… and another with a nominal value of €10,000.00 belonging to company C…, SA (hereinafter C…), cf. article 12 of the Response;

i) The Claimant, in the context of its activity, is the holder of Authorization License for Use No. …/2009, relating to the "Building…, located in …" (hereinafter referred to as "Building…"), in the parish of…, which includes a restaurant, bar, gymnasium ("health club"), marina and ancillary building, outdoor swimming pools and mooring facilities, integrated into the "…–…" tourist development, cf. article 13 of the Response;

j) On 02-07-2009, the Claimant entered into a lease agreement with C… whose object, as set forth in the first clause, consisted of the temporary transfer of the enjoyment of the building "Building …, located in …", together with the operation of the premises and equipment already installed therein, to C… so that therein the latter could develop hotel and restaurant activities, for a period of 8 (eight) years, at a monthly price of €23,330.00 to which VAT would be added at the legal rate in effect, cf. article 14 of the Response;

k) The contract establishes the payment of a monthly rent which, according to clause three, would be subject to annual adjustment from 2010 onward, in accordance with the adjustment coefficient in effect in the prior year, for non-residential leases. Ownership of the assets transferred for operation was not transferred and is not provided for in said lease agreement, cf. articles 15 and 16 of the Response;

l) Said lease agreement was covered by an incentive program of the Portuguese Tourism Institute, so the Claimant, on 13 October 2011, requested from this Institute the restructuring of the incentive reimbursement schedule, and its request was officially accepted in May 2014, cf. article 17 of the Response;

m) The Claimant recorded a deferral of revenues from rents in its financial statements, in the amount of €472,814.93, recording as a credit in ANS account # 27210400000 (Debtors for Accrued Income) and as a debit in account #7211100000 (Rendering of Services), this amount covering the deferral of the last three rents of 2011 and the adjustments to the rents of 2012 and 2013, cf. article 18 of the Response;

n) A credit note No. … was issued on 31 December 2013 by the Claimant, in the amount of €455,319.43, so as to disregard the revenues relating to the taxation periods of 2011, 2012 and 2013, thus regularizing account #272 and recording movements in account #72111000000, as a result of this regularization and the recognition of the credit note, cf. article 19 of the Response;

o) The Claimant was subject to an inspection action that covered the 2012 and 2013 taxation periods, in the CIT area, under Service Orders OI … and OI 2015…, respectively, cf. articles 20 and 22 of the Response;

p) During tax inspection, with respect to the recognition of revenue deferrals relating to the lease agreement for premises, the following clarifications were obtained:

(1) Request for extension of the incentive reimbursement of the project … … ("Building …, located in …") - temporal recomposition of the rents agreed upon by the parties involved;

(2) Rent renegotiation agreement with C… through an Amendment to the lease agreement of the premises "…", given that C… alleged the unsustainability of the business. This Amendment aimed to alter the monthly payments that changed from constant monthly payments to increasing monthly payments throughout the term of the contract, cf. article 23 of the Response;

q) In effect, the recording in 2012 of the amounts in ANS account 272 - Debtors for Accrued Income - according to the Claimant, was based on the request submitted to Turismo de Portugal for restructuring of the incentive reimbursement plan for the project … … (…).

This request was addressed to Turismo de Portugal on 13 October 2011 and was approved in May 2014, cf. article 26 of the Response.

r) In 2011, the Claimant did not record in its financial statements any deferral of revenue, having accounted as revenue 12 rents of 23,330.00. That is, the Claimant justifies the deferral of rents by the request to Turismo de Portugal, however it does not explain why it did not defer any amount in 2011. It was only in 2012 that it recorded the deferrals relating to the three months of 2011, cf. articles 26 and 28 of the Response;

s) In accordance with clause one of the contractual Amendment, a reduction was agreed in the rents from 2011 to 2020 which would be compensated by an increase in the rents from 2021 to 2028. The percentages of reduction and increase would apply to the monthly value of €23,330.00, cf. articles 28 and 29 of the Response;

t) In article 30 of the Response are contained the initial annual rent values (excl. VAT) and the annual values thereof resulting from the Amendment made in 2013 to the lease agreement for premises entered into between the Claimant and C… for the time period 2011-2028. The total value of the contract remained unchanged at € 6,207,087;

u) According to the Respondent, the recognition of the credit note, referred to in point 20 of the Response, with the consequent reduction of revenues earned in the years 2012 and 2013, lack proper framework, both under the ANS and under the CIT, as argued during tax inspection by the TIS with the grounds set out in article 32 of the Response whose content is hereby fully reproduced, cf. article 32 of the Response;

v) From the tax inspections conducted, the following was concluded:

Regarding the 2012 fiscal year:

"Given the above, we conclude that the annulment of revenues for the 2012 fiscal year operated by the accounting of revenues to be recognized recorded in the account - ANS account 272 – Debtors for Accrued Income, in the total amount of €266,364.00, does not present accounting and tax framework and therefore its correction in the CIT context is proceeded with, as follows presented:

2012

The disregard in the 2012 fiscal year of the revenues subject to deferral by the entity results in the following alteration to the tax result for this fiscal year:

The agreement in question, were it to be accepted for tax purposes, would have as a consequence the alteration/manipulation of the tax results, allowing the deferral in time of the tax results due."

Regarding the 2013 fiscal year:

"Given the above, we conclude that the annulment of revenue for the 2013 fiscal year operated by the accounting of the credit note, in the total amount of €927,412.69, does not present accounting and tax framework and therefore its correction is proceeded with in the total amount of €927,412.69

It should be noted that the amount of €434,430.00 constitute revenues already subject to taxation in the 2012 fiscal year, correction effected through OI2014… . This amount was considered, by the taxpayer, revenue of 2013 operated by the regularization of account 272 – revenues to be recognized and subject to regularization (annulment) through the credit note under analysis.

2013

The disregard in the 2013 fiscal year of the revenues subject to annulment by the entity results in the following alteration to the tax result for this fiscal year:" cf. articles 32 and 33 of the Response;

w) The Claimant was notified through Service Orders No. … of 06/07/2015 and No. … of 06/11/2015 relating, respectively, to the Draft Tax Inspection Report for the 2012 and 2013 taxation periods, to exercise the right to be heard pursuant to article 60 of the General Tax Code and the Tax Inspection Procedure Regulation, having not exercised it. The corrections proposed by the TIS relating to 2012 and 2013, respectively, in the amounts of € 266,363.98 and €206,450.97, were maintained, cf. article 34 of the Response;

x) On 04/01/2016 and 06/04/2016, it filed administrative appeals with the Tax Authority of ..., contesting the corrections made regarding the years 2012 and 2013, which were instituted under Nos. …2016… and …2016…, respectively. The administrative appeals were rejected on the grounds set out in article 36 of the Response and which are considered herein fully reproduced, cf. articles 34 to 36 of the Response;

y) The Respondent invokes the Conceptual Framework (CF) of the Accounting Normalization System (ANS), namely as regards §22, §90 and §93 to conclude that revenues, as is the case with rents resulting from the lease agreement entered into between the Claimant and C…, should be recognized in the financial statements when there has occurred an increase in future economic benefits related to an increase in assets or a decrease in liabilities and which can be measured with reliability. On the other hand, the financial statements are prepared in accordance with the accruals basis in which the effects should be recognized in the periods in which the events (or transactions) that gave rise to them occur, and there should likewise be a matching between revenues and expenses, cf. articles 40 to 43 of the Response;

z) The lease agreement entered into between the Claimant and C… is an operational lease agreement and is subject to the accounting standard of ACFR 9, in particular to the provisions of paragraphs 42 to 50 of said ACFR, cf. articles 44 and 45 of the Response;

aa) The Respondent likewise argues that the Claimant, as the lessor entity, did not comply with the provisions of paragraph 43 of ACFR 9 as the revenue from rents resulting from the operational lease agreement relating to the "Building …" should have been accounted for on a linear basis during the period of the lease, which did not occur, since the recognition of the rents was effected in accordance with the conditions agreed for payment of the rents and also due to the fact that the use of the leased asset did not undergo any alteration in terms of capacity for utilization at the level of the lessee; on the other hand, the Claimant, as the lessor entity, did not grant any incentive to the lessee, which would have translated into a reduction in the consideration receivable in the full execution of the contract, which if verified could remove the rule of linear recognition of rents, but which was not the case as the value of the contract remained unchanged as is acknowledged by the Claimant in the Initial Petition, cf. articles 46 to 50 of the Response;

bb) Additionally, paragraph 44 of ACFR 9 establishes that "the revenue from lease (excluding receipts of services provided such as insurance and maintenance) is recognized on a linear basis during the period of the lease even if the receipts are not (…)" which reinforces the idea that the recognition of the revenue (from the rents of the operational lease) should not lose its linear basis, simply due to the fact that the receipts are also not linear, cf. articles 51 and 52 of the Response;

cc) On the other hand, the Claimant contradicts itself when in the Initial Petition it states "(…) it cannot, however, be overlooked that in cases where the lease payments are not constant throughout the contract, being increasing or decreasing, the revenue from the operational lease should be recognized on a constant basis unless another basis is more consistent with the physical use of the asset that is the subject of operational lease."; now the Amendment to the lease agreement implied that the consideration for the same is not linear, quite the contrary, being provided initially that the rents be decreasing and subsequently increasing, but that does not mean that the recognition of the revenue from the rents does not have to be linear, as per the provision of paragraphs 43 and 44 of ACFR 9, since there was no alteration of the contract value, cf. article 53 of the Response;

dd) The physical use of the leased asset did not alter, what did alter was the profitability that C…, as the lessee entity, was having with the project and which gave rise to the Amendment to the lease agreement; from that Amendment there was indeed the reformulation of the rent payment schedule of the latter to the Claimant based initially on a linear basis moving subsequently to an increasing basis but which, according to paragraph 44 of ACFR 9, for purposes of revenue recognition this fact is inconsequential, since the revenue resulting from operational lease rents should be recognized on a linear basis, cf. articles 54 to 61 of the Response;

ee) In the CIT context, by virtue of the specialization principle for the fiscal year, revenues and expenses should be recognized when they are earned or incurred, regardless of their receipt or payment, that is, the economic competence principle rather than the cash basis should be followed. The recognition of revenues relating to rents derived from the operational lease agreement is the "quantum" of a continuous service provision that should contribute to the tax results of the Claimant in a measure proportional to the execution of that service provision. This service provision will remain unchanged throughout the validity of the lease agreement, since the transfer of the use and utilization of the leased property ("Building…") will be made under the same conditions throughout the validity of the lease agreement, thus in the CIT context, the rents should be considered as revenues in the sphere of the Claimant in a linear manner during the validity of the contract, which is why the TIS when promoting the corrections relating to the 2012 and 2013 taxation periods, acted correctly in restoring the legality of the situation in obedience to the provisions of articles 17 and 18 of the CIT Law as well as to the accounting principles of ACFR 9 of the ANS, cf. articles 62 to 71 of the Response;

ff) It disagrees with the Claimant's position as to the violation of the principle of private autonomy on the grounds that said principle is not an absolute right since the exercise of the Claimant of the principle in accordance with it will have to be within the "limits of the law", namely, the accounting, tax and in particular, the fiscal law. To substantiate its position regarding private interests, based, namely, on the principle of private autonomy versus the public interest in satisfying the financial needs of the State and other public entities, it relies on case law of the Higher Court of the Administrative Court of the South, handed down in case 04255/10, of 2/5/2001, pursuant to which that Higher Court pronounced itself to the effect that "(…) since it is not the exercise of its private autonomy that is at issue, what is limited is the possibility that the will of the taxpayer be relevant with respect to the degree of its special tax burden", cf. articles 72 to 76 of the Response;

gg) With respect to the corresponding adjustment, of symmetric sign to that which would come to be effected in the sphere of C… as a consequence of that effected in the sphere of the Claimant, the Respondent argues that the Claimant lacks standing to make such a request, since such adjustment will have to be effected in the sphere of a different tax subject from that of the Claimant, that is, C…, cf. article 78 of the Response;

hh) Still regarding the corresponding adjustment, it states that if the request for such adjustments stemmed from the enforcement of judgments, in the event of the arbitration petition being upheld, such request would exceed the jurisdiction of the present Arbitral Tribunal, since the jurisdiction of the Tax Arbitral Tribunals is circumscribed to the matters indicated in section 1 of article 2 of the LRTA in conjunction with the provisions of Ordinance No. 112-A/2011 of 22 March ex vi article 4 of the LRTA, that is, to the direct assessment of the legality of assessment acts and acts of the second and third level, cf. articles 79 to 83 of the Response;

ii) It concludes requesting the dismissal of the request for arbitral ruling with a view to maintaining in the legal order the tax acts of the assessments of 2012 and 2013 impugned and absolution of the Respondent with the due tax-legal consequences.

1. By order of the Arbitral Tribunal of 19-04-2017, the Claimant was notified of the filing of the Case File (which occurred on 19-04-2017).

2. By order of the Arbitral Tribunal of 10-05-2017, the meeting provided for in article 18 of the LRTA was dispensed with under the principle of free conduct of the proceedings (article 19 of the LRTA) with a view to promoting the speed, simplicity and informality present in tax arbitration (section 2 of article 19 and section 2 of article 29, both of the LRTA) and since there are no exceptions to be assessed and decided or apparent need for correction of procedural documents. It was likewise scheduled for a simultaneous period of 15 (fifteen) days, both parties to present written submissions [(articles 29 of the LRTA, section 5 of article 91 and article 91-A, both of the Administrative Court Procedure Code, version republished in the annex to Decree-Law No. 214-G/2015, of 2/10)] and the date of 29/6/2017 was fixed for the pronouncement and notification of the final decision. In the name of procedural speed and cooperation, it was requested that copies of the procedural documents (pleadings) and submissions be attached to the file in "word" version. Claimant and Respondent were notified.

3. On 8-6-2017 the Claimant submitted written submissions maintaining in essence the position previously assumed, reinforced, in its perspective, by the documentary evidence produced. The Respondent was notified on the same day.

4. The Respondent submitted no written submissions.

II. PRELIMINARY MATTERS

1. The Arbitral Tribunal is regularly constituted and is materially competent, pursuant to paragraph a) of section 1 of article 2 of Decree-Law No. 10/2011, of 20 January.

2. The Parties enjoy legal personality and capacity, are properly qualified and are legally represented (cf. article 4 and section 2 of article 10 of Decree-Law No. 10/2011 and article 1 of Ordinance No. 112/2011, of 22 March).

3. The proceedings do not suffer from any procedural defects.

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

It is therefore necessary to examine and decide.

III. REASONING

1. ON THE FACTS

a) Proven facts

With relevance to the decision, the following facts are considered established:

(1) The Claimant is a limited liability commercial company whose object is the hotel industry, tourist developments and similar activities, as well as the provision of inherent services, agricultural and wine-growing operations, industrialization of beverages and their trade; the Claimant's share capital is €50,000 (fifty thousand euros) represented by the following shares: one, with a nominal value of €40,000 (forty thousand euros), belonging to B…; and another, with a nominal value of €10,000 (ten thousand euros), belonging to company C…, S.A. (hereinafter referred to as "C…"), cf. articles 14 and 15 of the Initial Petition and articles 11 and 12 of the Response;

(2) The Claimant is the holder of Authorization License for Use No. …/2009, relating to the "Building…, located in …" (hereinafter referred to as "Building …"), in the parish of …, which includes a restaurant, bar, gymnasium ("health club"), marina and ancillary building, outdoor swimming pools and mooring facilities, integrated into the "…–…" tourist development, cf. article 16 of the Initial Petition and article 13 of the Response;

(3) The Claimant carried out works to construct tourist animation and leisure infrastructure, namely, "health-center", tennis court, swimming pools, restaurants, etc. (cf. article 17 of the Initial Petition) having been financed with financial incentives from the Portuguese Tourism Institute, under the PRIME – incentive system for tourist products of strategic purpose (project…) and SI Innovation, cf. article 18 of the Initial Petition;

(4) The Claimant entered into a lease agreement for the premises on 2 July 2009 with C… (tenant) pursuant to which it would proceed to a temporary and paid transfer of the enjoyment of the "Building…", together with the operation of all premises and respective equipment already installed therein, to C…; said contract was entered into for a period of 8 (eight) years, automatically renewing for periods of five years, unless terminated by either party; the monthly rent initially agreed upon in the amount of €23,330 (twenty-three thousand three hundred and thirty euros), cf. Doc. 9 attached to the Initial Petition;

(5) Pursuant to clause six of said lease agreement, C… obligated itself to guarantee full performance of the conditions stipulated in the incentive grant agreement entered into between the A… and the Portuguese Tourism Institute, namely the sales volume and provision of services and creation of jobs provided for in the application, contributing to the proper execution of the commitments undertaken, cf. Doc. 9 attached to the Initial Petition;

(6) On 9 October 2013, there was the formalization (reduction to writing) of an Amendment to the lease agreement for premises entered into on 2 July between the Claimant and C…, cf. Doc. 10 attached to the Initial Petition and Doc. 4 attached to the Initial Petition Annex 2 of the 2013 Tax Inspection Report, pursuant to which, for the reference period 2011-2020 there is a reduction in the amount of rents to be paid by C… to the Claimant according to a certain order of magnitude, cf. clause one of article 1 of the Amendment; for the period 2021-2028 there is an increase in the amount of rent to be paid according to a certain order of magnitude, cf. clause two of article 1 of the Amendment; the reductions and increases in the amounts of rents to be paid by C… to the Claimant shall be applied to the monthly value of €23,330 (twenty-three thousand three hundred thirty euros), annually adjusted in accordance with the adjustment coefficient in effect in the prior year for non-residential leases, plus VAT at the rate in effect on the rent, cf. clause three of article 1 of the Amendment;

(7) From the new rent schedule resulting from the Amendment of 9 October, the total value of the lease agreement for premises remains unchanged, € 6,207,087, with a rescheduling of the rents in accordance with clauses one, two and three of article 1 of the Amendment, cf. Doc. 4 attached to the Initial Petition pages 16/25 of the 2013 Tax Inspection Report and Doc. 4 attached to the Initial Petition Annex 5 pages 8/21 of the 2013 Tax Inspection Report;

(8) Approval in May 2014 by the Public Institute Turismo de Portugal of the extension of the reimbursement deadline for the incentive for the project … … (Building…), cf. Doc. 4 attached to the Initial Petition Annex 5 pages 8/21 and 20/21 of the 2013 Tax Inspection Report;

(9) The Claimant was subject to an External Partial Inspection Proceeding (CIT) relating to the 2012 taxation period carried out by the Tax Authority of ..., authorized by Service Order OI2014…, and a correction to the taxable result in the amount of €266,363.96 was determined, cf. Doc. 3 attached to the Initial Petition pages 4/25 of the 2012 Tax Inspection Report;

(10) Pursuant to article 60 of the General Tax Code and the Tax Inspection Procedure Regulation, the Claimant was notified to exercise the right to be heard regarding the proposed correction in the amount of € 266,363.96, through Service Order No. … of 6/7/2015, having not exercised it, cf. Doc. 3 attached to the Initial Petition pages 26/25 of the 2012 Tax Inspection Report. The Tax Authority maintained the amount of the correction, €266,363.96, giving rise to the determination of a tax loss in the amount of €8,255.27 (€ 274,619.23 - €266,363.96), cf. Doc. 5 attached to the Initial Petition, as the Claimant had declared a tax loss relating to 2012 in the amount of €274,619.23, cf. Doc. 3 attached to the Initial Petition pages 4/25 and 8/25 of the 2012 Tax Inspection Report;

(11) During the 2012 taxation period, the Claimant issued invoices to C… in the amount of €290,374.56 relating to the lease agreement for premises entered into with C… (lease agreement of the "Building …", located in …) on 2 July 2009 and which was accounted as a credit in ANS account 7211100000, cf. Doc. 3 attached to the Initial Petition pages 10/25 of the 2012 Tax Inspection Report;

(12) Also in the 2012 taxation period, the Claimant debited ANS account #7211100000 in the amount of €266,363.96 with a corresponding credit in ANS accounts for deferrals: #2721040000 – Debtors for Accrued Income and #2781210000 – Other Debtors and Creditors in the amounts of €248,868.46 and €17,445.50, respectively, giving rise to the determination of revenue subject to taxation relating to the rents of the "Building …" of €24,010.60 (€290,374.56 – €266,363.96), cf. Doc. 3 attached to the Initial Petition pages 10/25 and 11/25 of the 2012 Tax Inspection Report;

(13) The Claimant was subject to an External Partial Inspection Proceeding (CIT) relating to the 2013 taxation period carried out by the Tax Authority of ..., authorized by Service Order OI2015…, and a correction to the taxable result in the amount of €206,450.97 was determined, cf. Doc. 4 attached to the Initial Petition pages 4/25 of the 2013 Tax Inspection Report;

(14) Pursuant to article 60 of the General Tax Code and the Tax Inspection Procedure Regulation, the Claimant was notified to exercise the right to be heard regarding the proposed correction in the amount of €206,450.97, through Service Order No. … of 6/11/2015, having not exercised it, cf. Doc. 4 pages 25/25 of the 2013 Tax Inspection Report. The Tax Authority maintained the amount of the correction, €206,450.96, giving rise to the determination of a tax loss in the amount of €395.39 (€ 206,846.36 - € 206,450.96), cf. Doc. 6 attached to the Initial Petition, as the Claimant had declared a tax loss relating to 2013 in the amount of € 206,846.36, cf. Doc. 4 Annex attached to the Initial Petition pages 9/25 of the 2013 Tax Inspection Report;

(15) During the 2013 taxation period, the Claimant issued invoices to C… in the amount of €297,774.26 relating to the lease agreement for premises entered into with C… (lease agreement of the "Building…") on 2 July 2009 and which was accounted as a credit in ANS account #7211100000, cf. Doc. 4 attached to the Initial Petition pages 11/25 of the 2013 Tax Inspection Report;

(16) During the 2013 taxation period, the Claimant issued the credit note No. … dated 31-12-2013 in the amount of €455,319.43, cf. Doc. 4 attached to the Initial Petition Annex 4 of the 2013 Tax Inspection Report. The amount of €455,319.43 was based on the reduction of the amounts invoiced by the Claimant to C… relating to the years 2011, 2012 and 2013, cf. Doc. 4 pages 16/25 of the 2013 Tax Inspection Report, provided for in the Amendment to the lease agreement for premises entered into with C… on 9 October 2013, cf. Doc. 4 attached to the Initial Petition Annex 2 of the 2013 Tax Inspection Report and Doc. 10 attached to the Initial Petition;

(17) The Claimant in 2013 at the accounting level accounted for the credit note as a debit in ANS account #7211100000 in the amount of €455,319.43 in counterpart, as a debit, of an ANS deferral account 27xxx; the ANS deferral account #2721040000 - Debtors for Accrued Income - which carried a 2012 balance in the amount of € 248,868.46 - was regularized, through a debit entry in that amount, €248,868.46, in counterpart as a credit in ANS account #7211100000; thus taking into account at the accounting level the entries made from the operations identified in points 15, 16 and 17, we have a credit in ANS account #7211100000 the amounts of € 297,774.26 and €248,868.46 and a debit of €455,319.43 giving rise to the recognition of a balance of €91,323.29, revenue subject to taxation relating to the rents of the "Building …", cf. Doc. 4 attached to the Initial Petition pages 12/25 of the 2013 Tax Inspection Report;

(18) The amounts of the corrections made by the TIS to the taxable result of the Claimant relating to the 2012 and 2013 taxation periods, which gave rise to the impugned assessments, are €266,363.96 and €206,450.97, respectively, and which total €472,814.93;

(19) The Claimant submitted administrative appeals Nos. …2016… and No. …2016… relating to the 2012 and 2013 taxation periods, cf. Docs. Nos. 7 and 8 attached to the Initial Petition, requesting the annulment of the additional CIT assessments Nos. 2015 … and 2015…, relating to the years 2012 and 2013, respectively, on the grounds that the said assessment notices are illegal due to error in the legal assumptions. Said administrative appeals were rejected by the Tax Authority, cf. Doc. 1 and 2 attached to the Initial Petition.

b) Facts deemed not proven

With relevance to the decision, there are no facts that should be considered as not proven.

c) Reasoning regarding the proven and unproven factual matters

With respect to the factual matters, the Arbitral Tribunal need not pronounce itself on everything alleged by the parties, but rather has the duty to select the facts that matter for the decision and distinguish between proven and unproven matters (cf. section 2 of article 123 of the TPPC and section 3 of article 607 of the Civil Procedure Code, applicable ex vi paragraphs a) and e) of section 1 of article 29 of the LRTA).

Thus, the facts relevant to the judgment of the case are chosen and defined in light of their legal relevance, which is established with regard to the various plausible solutions of the question(s) of law (cf. article 596 of the Civil Procedure Code applicable ex vi paragraph e) section 1 of article 29 of the LRTA).

Thus, having regard to the positions assumed by the parties, the documentary evidence and the Case File attached to the proceedings, the facts listed above were considered proven, with relevance to the decision.

1. ON THE LAW

Having fixed the relevant facts, it is necessary to define the subject matter and request of the present arbitration.

The questions to be decided are:

• Whether the additional assessments relating to CIT with Nos. 2015… and 2015…, issued, respectively, on 24 August 2015 and 07 December 2015, by reference to the 2012 and 2013 taxation periods, which reduced the value of the tax losses previously reported by the Claimant, in the amounts of, € 266,363.96 and € 206,450.97, respectively, totaling €472,814.93, have no legal basis and therefore should be annulled, and

• Whether the act of rejection of the administrative appeals No. …2016… and …2016…, which concerned the additional CIT assessments No. 2015 … and 2015 …, relating to the years 2012 and 2013, respectively, is illegal and therefore should be annulled.

Additional CIT assessments relating to the years 2012 and 2013 have no legal basis

a) For the Arbitral Tribunal to pronounce itself on the existence or non-existence of lack of legal basis for the additional assessments made by the Tax Authority above, it is necessary to investigate from the accounting and tax perspective the lease agreement for premises entered into between the Claimant (lessor) and C… (tenant) on 2 July 2009 and its respective Amendment formalized on 9 October 2013;

b) From the accounting perspective, the Claimant is subject to the ANS, by virtue of the provisions of paragraph a) of section 1 of article 3 of Decree-Law 158/2009, as it is a commercial company covered by the Commercial Companies Code;

c) The ANS is an accounting standard comprised of a set of instruments, namely, the Conceptual Framework and the Accounting Normalization Rules and Financial Reporting Standards. It is worth noting that with respect to the Conceptual Framework, in the preamble of the legal diploma that approved the ANS, Decree-Law No. 158/2009, it is stated that "The «Conceptual Framework», (…) follows very closely the «Conceptual Framework for Preparation and Presentation of Financial Statements» of the IASB, adopted and published by the EU. It is a set of structuring accounting concepts which, not constituting a standard per se, is assumed as the reference underlying the entire System" and as for the ACFR "… The «Accounting Normalization and Financial Reporting Standards» (ACFR), the central nucleus of the ANS, adapted from the International Accounting Standards adopted by the EU, each of them constituting a normalizing instrument where, in a developed manner, the various technical treatments to be adopted are prescribed in respect of recognition, measurement, presentation and disclosure of the economic and financial realities of entities." With respect to the Conceptual Framework, it is also worth noting that according to its §4 "The CNC recognizes that in some cases there may be a conflict between this Conceptual Framework and any ACFR. In cases where there is a conflict, the requirements of the ACFR prevail over the Conceptual Framework.";

d) On the basis of the framework set out above, it is necessary to analyze in light of the ANS, Conceptual Framework and ACFR what the accounting regime directly applicable to the lease agreement for premises and its respective Amendment is, an analysis that must be carried out from the lessor's perspective;

e) In accordance with the evidence on file, the lease agreement for premises entered into on 2 July 2009 between the Claimant and C… constitutes a transfer of operation of a commercial establishment in which there is a temporary transfer, by consideration, of the enjoyment and use of the establishment as a whole, as an economic unit, as stipulated in article 1 of said contract. Thus, we are dealing with a lease pursuant to the provisions of ACFR 9, cf. §4, and subsequently to identify the nature thereof, that is: financial or operational. Taking into account the contractual clauses established in the lease and the provisions of §9, §10 and § 42 to §50 of ACFR 9, we are dealing with an operational lease. Indeed, Claimant and Respondent do not contest that the lease underlying the contested issue be classified as an operational lease, cf. articles 48 and 59 of the Initial Petition, article 32 of the Response and Doc. 3 attached to the Initial Petition pages 17/25 of the 2012 Tax Inspection Report and pages 18/25 of the 2013 Tax Inspection Report;

f) Being in the presence of a lease pursuant to the provisions of ACFR 9, it is necessary to analyze in terms of recognition of revenues and expenses what the accounting regime applicable to the revenues resulting from the operational lease under analysis is. As stated above, although the Conceptual Framework pronounces itself in §90 on the recognition of revenues in the statement of comprehensive income of an entity, in this case, of the Claimant, by virtue of its §4, it is in ACFR 9 that the accounting regime applicable to the operational lease must be analyzed;

g) In terms of recognition of revenues from rents from the lessor's perspective, the relevant paragraphs of ACFR 9 are §43 and §44. In terms of §43 of ACFR 9, it is provided that "The revenue from operational leases should be recognized in income on a straight-line basis over the lease term, unless another systematic basis is more representative of the timing of the pattern in which benefit from the use of the leased asset is diminished by an incentive granted by the lessor" whilst in terms of §44 it is provided that "(…) the revenue from leases (excluding receipts of services such as insurance and maintenance) is recognized on a straight-line basis during the lease period even if receipts are not (…)". From the reading of the two paragraphs of the accounting standard, it can be concluded that the general rule for the recognition of revenue resulting from operational leases is linearity thereof, with the exception to the general rule of recognition on a linear basis if "(…) the benefit from the use of the leased asset is diminished by an incentive granted by the lessor" and that in the event there are receipts that are not linear, the recognition of revenue derived from rents must be carried out on a linear basis, unless the exception contained in the latter part of §43 is applicable; the recognition of revenue from rents follows the economic competence regime (or accruals basis) and not the financial competence regime (or cash basis);

Accordingly

h) It was proven that the tenant (C…) took the initiative to request from the lessor (Claimant) an alteration to the contractual conditions of the lease agreement in terms of the amount of rents on the ground that the profitability of the project was far below what had been projected. It invoked the economic-financial crisis that Portugal was facing as of the date of the facts at issue (from 2011 onward) as a consequence of the economic and financial crisis at the worldwide and European level which made the payment of rents under the lease agreement entered into on 2 July 2009 unsustainable. Following an informal agreement of 13 October 2011 with the latter (Claimant) as to a rescheduling of the rents for the period 2011-2028, the formalization of that agreement culminated in the Amendment dated 9 October 2013 to the lease agreement (which resulted in a rescheduling of rents without alteration of the contract price of the lease). The Claimant likewise obtained a favorable response in May 2014 from the Portuguese Tourism Institute regarding the rescheduling of reimbursement of the project incentives, despite having obtained informally in October 2013 the information that its request regarding said rescheduling of incentives would receive favorable action, cf. articles 23 to 35 of the Initial Petition and Doc. 4 attached to the Initial Petition Annex 5 pages 6/21, 8/21 and 20/21 of the 2013 Tax Inspection Report;

i) With the Amendment there was a rescheduling of the rent payment schedule of C… (tenant) to the Claimant (lessor) which had from the accounting perspective the consequence that the Claimant deferred rents in the 2012 and 2013 taxation periods, not applying the general rule of recognition of rents on a linear basis to the lease agreement. The contract price, € 6,207,087, remained unchanged, with no incentive given by the lessor that would have resulted in a reduction of the consideration received for the full performance of the lease agreement. It can be stated that in light of the factual situation and the evidence on file, it is not established that the benefit of the use of the leased asset by the tenant was reduced as an incentive granted by the lessor and therefore we are not in the presence of the exception provided for in §43 of ACFR 9 pursuant to which the recognition of revenue derived from rents on a linear basis could be denied. What occurred instead was a rescheduling of the payment of rents from the financial perspective due to an external and exogenous factor - economic-financial crisis in Portugal in 2011 and subsequent years - and not, an alteration of the capacity for utilization of the leased asset ("Building … and equipment therein installed inherent to the project) because that remained intact. The reduced demand from potential customers with consequent impact on the operating revenue of the development can only be attributed to third parties – economic-financial crisis at the worldwide and European level – and not to an alteration of the physical use of the leased asset which could imply the use of another basis for recognition of revenue other than linear at the level of the lessor. The capacity for physical use in terms of supply of the leased asset remained unchanged, that is, the infrastructure used in the …'s tourist and leisure project did not see its supply capacity altered or diminished due to endogenous factors or caused by either party to the lease agreement. There were, instead, exogenous factors attributable to third parties, not to the parties (lessor and tenant), as stated above, which would have caused a reduced use of the physical capacity of the infrastructure used in the leisure and tourism activities of the development located in …, which led to a decline in operating revenues compared to what had been planned. In fact, the consequence of the Amendment was to reschedule the receipt of rents at the level of the lessor until 2028 due to the poor profitability obtained by the development at the level of the tenant until the date of the facts at issue and thus the Claimant with the Amendment altered the policy of recognition of revenue from rents in 2012 and 2013 so as to accompany the rent receipt schedule (which changed from a linear basis to a non-linear basis), failing to comply with the provisions of §43 and §44 of ACFR 9 which pointed as the basic criterion for the recognition of revenue from rents, the linear basis;

j) Still with respect to §43 of ACFR 9, it becomes important to verify whether the exception (use of a basis other than linear for recognition of revenue) to the general rule (recognition of revenue on a linear basis) provided that the condition provided in the latter part is met "(…) is more representative of the timing of the pattern in which the benefit from the use of the leased asset is diminished by an incentive granted by the lessor", can be applied to the contested case or not. The expression "benefit from the use of the leased asset" can refer to either the lessor or the tenant, but in the case at hand what matters is to assess whether or not it is applicable, regardless of whether it refers to one or the other of the subjects. Let us recall that the nature of the leased asset is physical and not otherwise. But even if it were not, if the benefit from the use refers to the tenant, as is the correct interpretation, it is obvious that it was not diminished by the Amendment and if the same refers to the lessor, the latter will ultimately receive the same amount, since the rent will increase from 2021 onward (to compensate for the reduction thereof in the period 2011-2020), increasing more than it should, so that the exception would not be met here either. In the end, the benefit measured by the rent at the level of the lessor remains unchanged, €6,207,087. Thus, it is the conviction of this Arbitral Tribunal that the exception provided for in §43 of ACFR 9 shall not apply in the case at hand;

k) The Claimant wrote in article 51 of the Initial Petition, the following:

l) Now, if we cross this with the rescheduling of rents, cf. Doc. 4 attached to the Initial Petition Annex 5 pages 8/21, we easily verify that it does not coincide with the argument of the drastic reduction in revenues, as can be observed from the graph below:

m) As can be seen, from the year 2011 to the year 2012, sales volume increased, but the rent decreased. Also, it is verified that there is no directly proportional correlation between the value of the rents and sales volume, to which is added that the percentages that were set forth in the Amendment to the contract for calculating the value of the reduction in rent, appear to have been determined by the restructuring of the incentives for … and not by the use of the leased object;

n) On the other hand, we read in article 31 of the Initial Petition:

Regardless of the issuance of the Credit Note, which we also consider formally incorrect, the truth is that the allocation to 2011 and 2012 makes no sense, since sales volume was always increasing in the two years, and was even the highest in 2012. At most it would be justified in 2013. In addition to not having been done, it is verified that from 2013 to 2014, the value of the renegotiated rent remained practically stable and sales volume decreased, more than proportionally. "In casu", there is no parallelism whatsoever between the argument that served as the basis for the rescheduling of the rents argued by the Claimant and the rents themselves that were rescheduled;

o) From the above, it is the conviction of this Arbitral Tribunal that the Respondent is correct when it states that from the accounting perspective, the Claimant did not comply in accounting terms with the provisions of §43 and §44 of ACFR 9 with respect to the recognition of revenue from rents by not recognizing them on a linear basis during the period of the lease;

p) From the tax perspective, it cannot be overlooked that the CIT Law provides for the model of partial dependency in the relationship between taxation and accounting. Thus, in accordance with article 17 of the CIT Law, the taxable profit is determined starting from the accounting result and the changes in assets (positive and negative) not reflected therein, adjusted by the positive and negative corrections made in accordance with the norms of the CIT Law (the so-called "adjustment norms"), with a view to the determination thereof (taxable profit). In this manner, the treatment advocated in the accounting standard (ANS) is directly applicable for tax purposes whenever the CIT Law and complementary legislation do not establish specific rules different from those set out in the accounting standard. Additionally, the revenues and gains for tax purposes that are relevant to the determination of the taxable result (taxable profit/tax loss) are those contained in article 20 of the CIT Law where are identified in paragraph a) of the article mentioned, the revenues resulting from sales or rendering of services. Now, the rents in the case at hand are the "quantum" of a continuous service provision under the legal garb of a lease agreement for premises whose object consists of the temporary transfer of the enjoyment of the "Building…" together with the operation of all premises and respective equipment already installed therein. Being thus, the question arises as to what regime of recognition, for tax purposes, of that revenue derived from rents applies. The answer is found in section 1 of article 18 of the CIT Law which adopts the regime of economic competence (or accruals basis): "Revenues and expenses, as well as other positive or negative components of taxable profit, are attributable to the taxation period in which they are earned or incurred, regardless of their receipt or payment, in accordance with the regime of economic periodization." Thus, both from the accounting perspective (§44 of ACFR 9) and from the tax perspective (section 1 of article 18 of the CIT Law), the revenues from rents of the operational lease in the contested case must be recognized according to economic competence (or accruals regime) and at the lessor on a linear basis, given that the exception provided for in §43 of ACFR 9 is not applicable to the Claimant, such linear basis being accepted for tax purposes as a consequence of the model of partial dependency;

q) It is the conviction of this Arbitral Tribunal that the Claimant in recognizing the revenue from rents on the basis of the rescheduling thereof based on the Amendment to the lease agreement, through the use of deferral of the revenue from rents, as was proven, is not in compliance with the provisions of the CIT Law due to violation of article 18 of the CIT Law; the said deferrals of revenues from rents do not have accounting and tax framework in light of the provisions of articles 17 and 18 of the CIT Law and accounting standard (ANS) in particular the principles as to the recognition of revenues set out in §43 and §44 of ACFR 9;

r) Thus, the TIS in tax inspection regarding the 2012 and 2013 taxation periods, in maintaining the corrections to the taxable result (reduction of existing tax losses) of 2012 and 2013 in the amounts of €266,363.96 and €206,450.97, respectively, totaling €472,814.93, acted in accordance with the law in restoring the legality which they are obligated to observe, namely, by virtue of section 2 of article 266 of the Constitution, article 55 of the General Tax Code and section 1 of article 3 of the Administrative Procedure Code ex vi paragraph d) section 1 article 29 of the LRTA;

s) With respect to the violation of the Principle of Private Autonomy, it should be noted that this principle, underlying private law, manifests itself, in particular, through the legal transaction, the means through which individuals regulate their legal relations. The principle of freedom of contract provided for in article 405 of the Civil Code is one of the principles underlying that regulation of the legal relations of individuals. The parties, within the limits of the law, have, namely, the freedom to enter into contracts, to set the content thereof, to enter into typical or atypical contracts, etc. The legal tax relationship is constituted by the tax event provided for in law, independent of the will of individuals and the actions of the tax administration, pursuant to article 36 of the General Tax Code;

t) In the contested case, it is not the entering into of the Amendment between the Claimant and C… that is at issue, for it was entered into and formalized in the context of the autonomy of the will of the parties and freedom of contract. However, the object of the Amendment – rescheduling of rents – has accounting and tax implications different from those that may arise under private law. As stated above, the rescheduling of rents has a specific accounting and tax regime in terms of rights and obligations distinct from that which exists under private law. This Arbitral Tribunal concurs with the position and reasoning of the Respondent expressed in articles 72 to 76 of the Response when it states that private autonomy is not an absolute right and the space left to private autonomy has limits, and the fiscal and accounting provisions are those limits, understanding confirmed at the case law level [(…) since it is not the exercise of its private autonomy that is at issue, what is limited is the possibility that the will of the taxpayer be relevant with respect to the degree of its special tax burden"], as the Respondent reasoned in the Response;

u) With respect to the corresponding adjustment due to the related party relationships existing between the Claimant and C…, it should be noted that, if it exists, it should be carried out at the level of C…. In fact, pursuant to article 9 of the TPPC, the Claimant lacks standing to make the request for such adjustment to occur, since such adjustment, if it were to occur, is carried out in the sphere of another tax subject, C…;

v) Additionally, it should be noted that in article 20 of Ordinance 1446-C/2001, of 21 December, it is provided that after final judgment of a decision resulting in a corresponding adjustment in the sphere of C…, the Tax Authority is obligated to effect it within a period of 180 days. Thus, in the contested case, were there dismissal of the arbitration petition filed by the Claimant, C… could avail itself of the administrative remedies to invoke article 20 of the Ordinance above;

w) On the other hand, the jurisdiction of the Tax Arbitral Tribunals operating at the Administrative Arbitration Centre is circumscribed to the matters indicated in section 1 of article 2 of the LRTA in conjunction with the provisions of Ordinance No. 112-A/2011 ex vi article 4 of the LRTA and which relates to the assessment of the legality of assessment acts. The Tax Arbitral Tribunals may likewise pronounce themselves on the legality of the decisions of the Tax Authority relating to acts of the second and third level, namely, administrative appeals, official revisions of tax acts and hierarchical appeals relating to assessment acts, so this Arbitral Tribunal is incompetent to analyze the request for corresponding adjustment filed by the Claimant. Thus, for the reasons above, the request filed by the Claimant regarding the corresponding adjustment is dismissed.

Act of rejection of the administrative appeals Nos. …2016… and …2016…, which concerned the additional CIT assessments No. 2015 … and 2015 …, relating to the years 2012 and 2013

x) As was proven, the administrative appeals submitted by the Claimant regarding the additional CIT assessments No. 2015 … and 2015 …, relating to the years 2012 and 2013, cf. Doc. 7 and 8 attached to the Initial Petition, were the subject of express rejection by the Tax Authority as a manifestation of compliance with the principle of the mandatory pronouncement or decision provided for in article 56 of the General Tax Code to which the Tax Authority is obligated;

y) In the contested case, it is the conviction of this Arbitral Tribunal that the Tax Authority in terms of CIT assessment relating to the 2012 and 2013 taxation periods acted in accordance with the law in the exercise of its bound powers and that for the reasons set out above, the additional assessments relating to the 2012 and 2013 taxation periods do not suffer from any defect of illegality and therefore should be maintained in the legal order;

z) Now, the administrative appeals are acts of the second level which have as their object the assessment of the legality of the assessment acts (acts of the first level) and, as set forth above, the analysis of the legality of the decisions made by the Tax Authority on the appeals are within the jurisdiction of the Tax Arbitral Tribunals existing at the Administrative Arbitration Centre;

aa) The grounds used by the Claimant in the Initial Petition were those used in the administrative appeal; now, since the act of the first level, the additional CIT assessments relating to the 2012 and 2013 taxation periods, do not suffer from any defect of illegality, it is the conviction of this Arbitral Tribunal that the defect of illegality argued by the Claimant does not obtain, the Respondent having acted in accordance with the law in rejecting the administrative appeals.

IV. DECISION

Given the above, the collective of arbitrators of the Arbitral Tribunal hereby agree to find the request for arbitral ruling unfounded, and therefore decide:

a) To maintain in the legal order the tax act of the additional CIT assessments Nos. 2015 … and 2015 …, issued, respectively, on 24 August 2015 and 07 December 2015, by reference to the 2012 and 2013 taxation periods, which reduced the value of the tax losses previously reported resulting from the corrections to the taxable result in the amounts of €266,363.96 and €206,450.97, totaling €472,814.93.

b) To maintain the tax act of rejection of the administrative appeals Nos. …2016… and No. …2016… relating to the additional CIT assessments Nos. 2015 … and 2015 …, by reference to the 2012 and 2013 taxation periods, issued by the Respondent.

V. VALUE OF THE PROCEEDINGS

In accordance with the provisions of sections 1 and 2 of article 306 of the Civil Procedure Code, paragraph a) of section 1 of article 97-A of the TPPC and section 2 of article 3 of the Regulation of Costs in Tax Arbitration Proceedings, the value of the proceedings is set at €118,203.73.

VI. COSTS

Pursuant to section 4 of article 22 of the LRTA, the amount of costs is set at €3,060 in accordance with Table I attached to the Regulation of Costs in Tax Arbitration Proceedings, to be borne by the Claimant, in view of its lack of success.

Let it be notified.

Lisbon, 26 June 2017

The Arbitral Tribunal,

José Poças Falcão
(Presiding Arbitrator)

António Pragal Colaço
(Associate Arbitrator)

Júlio Tormenta
(Associate Arbitrator)

(Text prepared by computer, pursuant to section 5 of article 131 of the Civil Procedure Code (CPC), applicable by referral of paragraph e) of section 1 of the Legal Regime for Tax Arbitration, with blank spaces and reviewed by us).