IRC Cost Deductibility: CAAD Arbitral Decision 796/2014-T on Corporate Tax Additional Assessment

CASE No. 796/2014-T

The arbitrators Dr. Jorge Lopes de Sousa (arbitrator-president), Dr. Luís Janeiro and Dr. André Festas da Silva, appointed by the Ethics Board of the Centre for Administrative Arbitration to form the Arbitral Tribunal, constituted on 05-03-2015, agree as follows:

1. Report

Group …, LDA, with registered office at Avenue … no. …, … – unit … in …, Tax Registration Number …, (hereinafter "Claimant"), submitted, pursuant to Decree-Law No. 10/2011, of 20 January (hereinafter "Legal Framework for Tax Arbitration" or "RJAT"), and Ministerial Order No. 112-A/2011, of 22 March, a request for the constitution of an arbitral tribunal for an arbitral pronouncement seeking a declaration of illegality of the act of additional assessment of Corporate Income Tax (hereinafter IRC), and compensatory interest nos. 2013 … and 2013 …, respectively, relating to the tax period of 2009.

The Claimant requests that

(i) the illegality of the acts of assessment of IRC and compensatory interest identified above, relating to the year 2009, be declared due to violation of the principle of legality;

(ii) the aforementioned acts of assessment of IRC and compensatory interest be annulled;

(iii) the Tax Authority be condemned to reimburse the amounts of taxes paid unduly;

(iv) and the Tax Authority be condemned to pay indemnificatory interest at the rate legally provided, pursuant to article 43 of the LGT.

The Tax and Customs Authority is the respondent.

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 10-02-2015.

Pursuant to the provisions of paragraph a) of article 6, paragraph 2, and paragraph b) of article 11, paragraph 1, of the RJAT, the Ethics Board:

I. Appointed the arbitrators of the collective arbitral tribunal: Counselor Jorge Lino Ribeiro Alves de Sousa (President), Prof. Doctor Carlos Lobo and Dr. Luís Janeiro, who communicated acceptance of their appointment within the applicable period; and

II. Notified the parties of this appointment on 10-02-2015.

Since the parties did not express the intention to challenge the appointment of the arbitrators, pursuant to the combined provisions of article 11, paragraph 1, paragraphs a) and b) of the RJAT and articles 6 and 7 of the Ethics Code, the collective arbitral tribunal was constituted on 05-03-2014, in accordance with the provisions of paragraph c) of article 11, paragraph 1 of the RJAT.

By order of 05-02-2015, the President of the Ethics Board of CAAD appointed Counselor Jorge Lopes de Sousa to replace Counselor Jorge Lino Alves de Sousa, due to an incapacity that affected him.

By order of 23-06-2015, the President of the Ethics Board of CAAD appointed Dr. André Festas da Silva to replace Prof. Doctor Carlos Lobo, following a request for recusal.

The Tax and Customs Authority responded, raising, among other matters, the questions of the value of the taxable matter contested and the reimbursement of amounts unduly paid and indemnificatory interest and value of the case which, in view of the contested corrections, it understands to be € 114,350.26, being € 104,769.67 of IRC and € 9,580.59 of compensatory interest.

The Tax and Customs Authority also raised the exception of untimeliness of the submission of the request for arbitral pronouncement, defending its dismissal from the proceedings.

As to the merits of the case, the Tax and Customs Authority understands that the request for arbitral pronouncement should be judged without merit and it should be absolved of all claims.

By order of 22-04-2015, the holding of the meeting provided for in article 18 of the RJAT was dispensed with and it was decided that the proceedings would continue with written submissions.

The parties filed submissions.

The parties have legal personality and capacity, are legitimate and are duly represented (articles 4 and 10, paragraph 2, of the same decree and article 1 of Ministerial Order No. 112-A/2011, of 22 March).

The proceedings do not contain any nullities.

The Tribunal is competent.

The Tax and Customs Authority raises the exception of untimeliness, which must be examined as a priority matter.

The question of the value of the case will be examined at the end.

2. Question of Untimeliness

The Tax and Customs Authority raises the exception of untimeliness of the request for arbitral pronouncement, for the following reasons, in summary:

– the Claimant indicates as the object of the request for arbitral pronouncement the act of assessment of IRC and compensatory interest;

– article 10 of the RJAT establishes, as to acts of assessment/self-assessment, that the period for submitting the request for arbitral pronouncement is 90 (ninety) days, referring, as to the moment of commencement of counting, to what is provided in article 102, paragraphs 1 and 2 of the CPPT;

– the stipulated period of 90 days would have as its starting point the day following the expiration of the period for voluntary payment of the tax obligation, in this case on 05-09-2013;

– the request for the constitution of the arbitral tribunal – as configured by the Claimant in the terms cited above – was submitted on 01-12-2014;

– although the Claimant has administratively challenged the act of assessment in question (by way of gracious reclamation and, following the respective decision of dismissal, by hierarchical appeal), and notwithstanding having made reference to and identified these circumstances, did not formulate/specify to this Tribunal in its initial petition any request aimed at annulling the tacit dismissal that occurred, resulting from its hierarchical appeal.

The Claimant responded to this exception in its submissions, saying, in summary:

– that it was notified of the decision on the gracious reclamation on 06-06-2014;

– on 04-07-2014 it submitted a hierarchical appeal of the decision dismissing the gracious reclamation;

– on 02-09-2014 the legal period for decision of the hierarchical appeal ended;

– pursuant to paragraph a) of article 10, paragraph 1, of the RJAT, the period of 90 days for submitting a request for arbitral pronouncement is counted from the decision of the hierarchical appeal.

It is established by the CAAD computer application, by the administrative file and by the documents attached that:

– the deadline for payment of the assessed amount is 05-09-2013;

– on 29-08-2013, the Claimant paid the amount of € 104,769.67 relating to the aforementioned assessment (document no. 4, attached by AT on 20-04-2015);

– on 06-01-2014, the Claimant filed a gracious reclamation against the aforementioned assessment;

– the gracious reclamation was dismissed, and the decision was notified to the Claimant by letter received on 05-06-2014;

– on 04-07-2014, the Claimant filed a hierarchical appeal of the gracious reclamation decision;

– the hierarchical appeal was decided by order of 31-10-2014, issued by the Deputy Director of Finance in substitute capacity;

– the request for arbitral pronouncement was submitted on 01-12-2014, as confirmed by the CAAD computer application.

The period for decision on the hierarchical appeal is 60 days (article 66, paragraph 5, of the CPPT) and, for purposes of presumption of tacit dismissal, is counted from the date of entry of the taxpayer's petition in the competent department of the Tax Administration (paragraph 5 of article 57 of the LGT).

In the case at issue, tacit dismissal was formed on 02-09-2014, and it is on the following day that the period for filing a request for constitution of the arbitral tribunal begins.

Given that the period for challenging tacit dismissals of hierarchical appeals is 90 days, counted from the end of the legal period for decision of the hierarchical appeal [articles 10, paragraph 1, of the RJAT and 76, paragraph 1, 102, paragraph 1, paragraph e), of the CPPT], it is manifest that the request for arbitral pronouncement, submitted on 01-12-2014, was submitted in a timely manner.

Since the competence of the arbitral tribunals operating at CAAD is restricted to the acts indicated in paragraph 1 of article 2 of the RJAT, in this case acts of assessment of taxes, it cannot but be understood that it is within the period of 90 days counted from the end of the legal period for decision of the hierarchical appeal that interested parties must submit the request for arbitral pronouncement having as its object the acts of assessment (and not the tacit dismissal of the hierarchical appeal, whose examination does not constitute an autonomous object possible for arbitral proceedings).

Moreover, if it were hypothetically necessary to explicitly challenge the tacit dismissal, in addition to the act of assessment, the tax subject could still be invited to correct the request for arbitral pronouncement, pursuant to article 18, paragraph 1, paragraph c), of the RJAT.

But this has nothing to do with timeliness, since the challenge to the act of assessment was requested within the period provided in the final part of paragraph a) of article 10, paragraph 1 of the RJAT.

Accordingly, the exception of untimeliness raised by the Tax and Customs Authority fails.

3. Factual Matters

3.1. Established Facts

The following facts are considered established:

a) The Claimant was subject to a multi-purpose inspection, by virtue of Service Order OI2012, referring to the year 2009;

b) Following a multi-purpose inspection action for the year 2009, carried out in accordance with Service Order no. 012012 …, the Tax Inspection Services of the Finance Directorate of Lisbon prepared the respective Draft Inspection Report, with draft corrections totaling € 980,671.78, in IRC, to the taxable profit declared by the Claimant, in the amount of € 127,610.31, as follows:

1. Losses of merchandise, not accepted as a fiscal expense for the year as there was no evidence of the destination given to the goods, namely their destruction, in the amount of € 10,806.92;

2. Costs associated with fuel consumed and tolls, not accepted as a fiscal expense because they do not contain information that would validate that such costs relate to expenses related to the company's activity, in the amount of € 7,805.62;

3. Travel expenses, not accepted as a fiscal expense in the amount of € 267.07;

4. Undocumented costs and therefore not accepted as a fiscal expense in the amount of € 275,091.73;

5. Costs from prior years not accepted as a fiscal expense because the supporting document is dated 2008, in the amount of € 6,988.46;

6. Costs of storage of batteries not accepted as a fiscal expense in the amount of € 156,202.00;

7. Cost sharing, not accepted as a fiscal expense because it was not possible to prove that an actual cost existed and that the allocation of the imputed cost respects the proportion corresponding to the actual sales of both companies, in the amount of € 377,572.85;

8. Costs not attributable to the taxpayer and therefore not accepted as a fiscal expense, in the amount of € 95,118.01;

9. Depreciation not accepted in full as a fiscal expense, in the amount of € 50,819.12.

c) The Claimant, in the course of the prior hearing and not conforming with several of these corrections, exercised the right to be heard;

d) On 19-06-2013, the Claimant was notified, pursuant to article 62 of the RCPIT, of the Tax Inspection Report which disregarded some of the corrections evidenced in the draft report, namely:

1. Annulled the correction relating to costs associated with fuel consumed and tolls, not accepted as a fiscal expense because they did not contain information that would validate that such costs related to expenses related to the company's activity, in the amount of € 7,805.62;

2. Annulled the correction relating to undocumented costs and therefore not accepted as a fiscal expense, in the amount of € 254,469.63, maintaining the correction in the amount of € 20,622.10.

e) Because AT disregarded some of the proposed corrections, the value of the correction was reduced to € 718,396.62;

f) Subsequently, the Claimant was notified of the additional IRC assessment no. 2013 …, the compensatory interest assessment no. 2013 - … and the statement of account reconciliation no. 2013 …, relating to the tax period of 2009, from which resulted an amount to pay of € 104,769.67, being € 96,189.08 of tax and € 8,580.59 of compensatory interest (documents 1, 2 and 4, attached with the initial petition, whose contents are reproduced herein);

g) The deadline for payment of the assessed amount is 05-09-2013;

h) On 29-08-2013, the Claimant paid the amount of € 104,769.67 relating to the aforementioned assessment (document no. 4, attached by AT on 20-04-2015);

i) On 06-01-2014, the Claimant filed a gracious reclamation against the aforementioned assessment;

j) The gracious reclamation was dismissed, and the decision was notified to the Claimant by letter received on 05-06-2014;

k) On 04-07-2014, the Claimant filed a hierarchical appeal of the gracious reclamation decision;

l) The hierarchical appeal was decided by order of 31-10-2014, issued by the Deputy Director of Finance in substitute capacity;

m) On 01-12-2014, the Claimant submitted the request for constitution of the arbitral tribunal that gave rise to the present proceedings, in which the Claimant only contested a portion of the corrections to the taxable matter, in the value of € 649,514.96, namely:

1. Undocumented costs and therefore not accepted as a fiscal expense in the amount of € 20,622.10;

2. Costs of storage of batteries not accepted as a fiscal expense in the amount of € 156,202.00;

3. Cost sharing, not accepted as a fiscal expense because it was not possible to prove that an actual cost existed and that the allocation of the imputed cost respects the proportion corresponding to the actual sales of both companies, in the amount of € 377,572.85;

4. Costs not attributable to the taxpayer and therefore not accepted as a fiscal expense, in the amount of € 95,118.01.

n) Regarding the amounts referred to in the first item of the preceding paragraph, totaling € 20,622.19, the Claimant's explanations are as follows:

o) It is established that the Claimant presented the documents contained in the administrative file and attached with the request for arbitral pronouncement;

p) The Tax Inspection Report contained in the administrative file is reproduced herein.

3.2. Reasoning of the Determination of Established and Non-Established Facts

The Claimant stated, in the request for arbitral pronouncement, that all the amounts referred to in paragraph n) of the established facts were documented through invoices contained in documents nos. 5 to 12, attached with the request for arbitral pronouncement, whose contents are reproduced herein.

The Arbitral Tribunal considers only the amount of € 500 relating to EDI language services as properly documented, for which a subsequent invoice from C…, SA, with number 2010-…-… (document no. 12) was presented, which would include this cost increase. As for the others, no copies of invoices or equivalent documents (debit notes, for example) were provided that would prove that the conditions were met for them to be considered valid supporting documents.

As to the correction that AT considered as storage costs for batteries in the amount of € 156,202.00, it is established that this is a commission paid by the Claimant for services provided under the service provision contract entered into between E…, SL and C…, SA and F…, SAE.

With regard to the correction described in third place relating to the allocation of costs imputed to the Claimant in the amount of € 377,572.85, the Claimant presented a Report from G… on the accounts of H…..., SAL, which confirms an allocation of these costs to the Claimant in a total of € 328,518.00 which, added to a percentage of 5%, would total an invoice to the Claimant of € 344,942.00. Given that the invoice was for € 357,356.00, the Claimant, in the arbitral pronouncement, requested a correction of only € 12,414.00 (precisely the difference between the two amounts in the G… Report). Now, following the argument presented and documented, it seems to us that the comparison should be between the correction made by AT and € 344,942.00, that is, a correction of € 32,630.85.

Finally, regarding AT's correction of € 95,118.01, the Claimant accounted as merchandising costs an amount of € 70,846.97 and advertising costs and merchandise transportation in a total of € 24,271.04 relating to its battery sales commission business.

Having analyzed the documentary evidence produced by the Claimant, the existence of adequate documents for the amount of € 20,122.10 included in the total of € 20,622.10 representing the correction made by AT mentioned in the first place is not considered established.

3. Legal Matters

Given the factual circumstances in the present case and the parties' submissions, the questions that must be addressed are as follows:

3.1. Regarding the Non-acceptance as Deductible Expenses of Undocumented Costs in the Amount of € 20,622.10

We are confronted in the present case essentially with the legal analysis of what is provided in article 23, paragraph 1 of the Corporate Income Tax Code (hereinafter abbreviated as CIRC), which we now transcribe, as worded on the date of the facts:

Article 23

Expenses

1 – Expenses are considered to be those that are demonstrably indispensable for the realization of income subject to tax or for the maintenance of the income-producing source, in particular:

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

b) Those relating to distribution and sale, encompassing costs of transportation, advertising and placement of merchandise and products;

c) Of a financial nature, such as interest on foreign capital applied in the business, discounts, premiums, transfers, exchange differences, expenses with credit operations, collection of debts and issuance of bonds and other securities, redemption premiums and those resulting from application of the effective interest method to financial instruments valued at amortized cost;

d) Of an administrative nature, such as remuneration, including those attributed as a share of profits, allowances, current consumption materials, transportation and communications, rents, legal proceedings, insurance, including life insurance and "Life" branch operations, contributions to retirement savings funds, contributions to pension funds and to any supplementary social security schemes, as well as expenses with benefits at the end of employment and other post-employment or long-term employee benefits;

e) Those relating to analyses, rationalization, research and consulting;

f) Of a fiscal and parafiscal nature;

g) Depreciation and amortization;

h) Adjustments in inventories, impairment losses and provisions;

i) Expenses resulting from the application of fair value in financial instruments;

j) Expenses resulting from the application of fair value in consumable biological assets that are not multi-year forestry operations;

l) Realized losses;

m) Indemnifications resulting from events whose risk is not insurable.

This provision states that, for a given expense of a legal entity to be deducted for IRC purposes, two requirements must be met:

a) Proof of that expense;

b) Its indispensability for the exercise of the activity of the legal entity in question.

In this first issue to be decided, we are dealing with expenses denominated as "monthly website page fee," "early payment discount regularization," "travel expenses of salespeople from Portugal," "allowance for the month of December," and "EDI language services."

As to these expenses, AT ruled that they should not be accepted as deductible costs for IRC purposes. As appears from AT's argumentation, the taxpayer did not present the invoices inherent to these expenses.

In the request for arbitral pronouncement, the Claimant alleges that it is attaching the corresponding invoices.

It turns out that, in analyzing the documentation, in fact only one invoice was attached in which the amount of € 500 accounted for in 2009 as an expense is found, to be respected the accrual regime. According to this accounting principle, the expenses of an accounting period should be accounted for in the period to which they relate, regardless of their possible payment. Now there is an invoice (external document) from 2010 that came to include that amount of € 500 which, however, because it relates to the months of October to December 2009, had already been estimated and accounted for as an expense in that year, despite the fact that no external document yet existed. This is the normal and correct accounting procedure (and also from the fiscal perspective since there is no exception provided for in the CIRC) that results in the debit of an expense by counterpart of a credit of a liability (accrual of expenses). The copy of the invoice in question (Invoice 2010-781, in the total amount of € 5,145.66) was presented in the proceedings (document no. 12, attached with the request for arbitral pronouncement, whose contents are reproduced herein), and therefore will be taken into account.

Notwithstanding, being the same in accordance with the requirements imposed by article 36, paragraph 5 of the CIVA, nothing justifies, at least nothing was alleged in that sense, its non-acceptance.

As for the other documents, these are internal documents (account statements and emails).

The documents mentioned above issued by the claimant do not indicate the goods transmitted or the services provided, nor their respective specificities.

Now, having in mind that for IRC purposes, at the time of the facts being judged, the formal requirements for the presentation of justifications of costs are not the same as those required for the issuance of invoices for VAT purposes (article 36, paragraph of CIVA), the truth is that a minimum of formalism is required, at least subject to some control by AT.

This lack of necessity for extreme formalism derives from the fact that in IRC we are dealing with a matter of mere proof of expenses, unlike VAT, so that any probative element serves the purpose, including testimonial evidence.

However, this openness of the law must be properly bounded and weighed against other constitutionally guaranteed principles, in particular the public interest in combating tax evasion and avoidance, itself underlying the formal requirements that the law makes.

Furthermore, if the taxpayer opts – as it did – to use as probative documents documents that would not pass the test of article 36 of the CIVA, such gap must be filled by resorting to some other probative element.

In the case at issue, the means of proof used by the taxpayer were documents drawn up by the taxpayer itself that do not identify in detail the services or goods.

Now, confronted with this factuality, it is pertinent to invoke some of the most representative case law on this subject:

"I – For IRC purposes, the document that proves and justifies expenses for the purposes of articles 23, paragraph 1, and 42, paragraph 1, paragraph g), of the CIRC, need not assume the essential formalities required for invoices for VAT purposes, since the requirement of documentary proof does not confuse with nor is exhausted in the requirement of an invoice, it being sufficient just a written document, in principle external and with mention of the fundamental characteristics of the operation, since unlike what happens with VAT, for IRC purposes, the justification of the expense constitutes a probative formality and therefore replaceable by any other kind of proof.

II – If the appellant, in addition to not having presented external documents identifying the main characteristics of the transactions, merely presents internal accounting notes referring to purchases, meat, fish, eggs, and mere purchase receipts, without identification of the main characteristics of the operations performed, such as, the object, the purchaser, the supplier and the price, cannot be relevant as documents proving the respective expenses for the purposes of articles 23, paragraph 1, paragraph a), and 42, paragraph 1, paragraph g), of the CIRC, a provision according to which for the purpose of determining taxable profit only duly documented expenses are relevant.

III – The formal requirements in proving expenses are intended to provide the Tax Authority with effective control of economic relations from both the purchaser's and supplier's sides, since, as stated, to the revelation of an expense for one agent, corresponds a benefit for the other, and not being an isolated practice, but a reiterated practice involving several economic agents, with and without organized accounting, accepting such notes as suitable documents to prove the respective expenses would be to disregard the obligation incumbent on the appellant as to the requirements of organized accounting and, at the same time, to invite numerous economic agents to remain outside the tax system.

IV – In the concrete case, considering that the principles of contributive capacity and taxation by real income are not absolute, but rather have as their limits other constitutionally protected values, and that the principle of justice does not cover situations such as those in the present case, in a global weighing of the interests at stake, mediated by the principle of proportionality, prevalence should be given to the protection of the public interest in combating tax evasion and avoidance, underlying the formal requirements.

V – If depreciation is the accounting process of distributing, in a rational and systematic manner, the cost of a depreciating asset over the different periods covered by its useful life, and if it aims to give effect to the basic rule that "to the benefits of a period are deducted the expenses that, in that period, it became necessary to bear to obtain those," they can only be accepted when accounted for as expenses or losses of the period to which they relate, according to article 1, paragraph 3, of Regulatory Decree no. 2/90, and by requirement of the principle of period specialization.

VI – If the appellant did not draw up a depreciation schedule in accordance with the parts of the building that were becoming fit for use by the public, so as to account for in each period the corresponding depreciation portion, but rather accounted for the entire contract for depreciation purposes in periods in which it was not possible that the entire work would be fit for operation, such depreciation cannot be accepted as expenses of the periods.

VII – In the context of the concrete case, the public interest in the prevention and combat of tax evasion, underlying the prevention of manipulation of the principle of period specialization, should prevail over the principles of justice and taxation by real income."

In Judgment of the Supreme Administrative Court, of 05.07.2012, case no. 0658/11, available at www.dgsi.pt.

Also in that sense see António Moura Portugal in "The Deductibility of Expenses in Portuguese Tax Case Law," Coimbra Editora, respectively pages 110, 195 and 204:

"However, in exceptional cases, (…) undocumented expenses can be valued in the process of determining income, provided that the taxpayer alleges and proves the existence and amount spent, which it may do by resorting to other means of proof at its disposal."

"In a word, the requirement of documentary proof, in this context, does not confuse with nor is exhausted in the existence of an invoice"

"In summary, the understanding present in the decisions summarily transcribed leads us to recognize the evident preponderance that documentary proof assumes in the context of expenses.

However, this does not mean that this means of proof is the only admissible one, to justify the reality of expenses, which is well understood if we bear in mind the essentiality of the requirement of documentation of the expense and its justifying reasons, in addition, of course, to the requirements arising from the principle of contributive capacity in this domain, for if it were not possible to prove the verification of the expense through legally admitted means of proof, one would be sacrificing this value in detriment to the convenience of the Tax Authority."

By the foregoing, since the probative element offered by the taxpayer – those internal documents – does not fill the gap in identifying the goods transmitted, or services received, in the absence of other credible means of proof, we understand that the amounts of these documents cannot be accepted as expenses because they are not duly proven.

In conclusion, the only amount accepted as an expense is € 500, that amount included in invoice no. 2010-…, a copy of which appears in document no. 12 attached with the request for arbitral pronouncement.

3.2. Regarding the Non-acceptance of the So-called Storage Costs for Batteries in the Amount of € 156,202.00

Once again, and also as to this second issue, the question here is to determine whether or not the requirements of article 23 of the CIRC, as referred to above, are met.

That is, it is necessary to determine on the one hand whether the expenses are properly proven and, in a second moment, whether or not they are indispensable to the taxpayer's activity.

We are dealing here with invoices related to the payment for services provided under the service provision contract entered into between E…, SL and C…, SA and F…, SAE.

First, AT makes no argument about the proof of this expense, but it does question the indispensability of this expense.

It is, however, necessary to establish whether the requirement of indispensability required by article 23 of the CIRC is met and thus determine whether this cost can be deducted by the taxpayer for IRC purposes.

Now, the indispensability of a given expense, pursuant to article 23 of the CIRC, depends on a task of legal qualification of those expenses, correlating them with the social purpose of the taxpayer.

It is, therefore, an analysis that falls to the judge and to which the taxpayer must cooperate by seeking to frame that expense with its activity, explaining the motivation inherent in the realization of the expense and the objectives it intends to achieve with it.

In that sense, see António Moura Portugal, In Op. Cit., page 275.

"We begin by making clear our understanding: the invocation of the burden of proof in issues related to the necessity of the expense has no pertinence whatsoever, given that what is being discussed is a question of qualification of an expense as indispensable. It is a judgment or operation of qualification (a question of law) that the Courts must decide, without being able to rest solely on the more or less active role of the taxpayer.

And what is drawn from the case law decisions analyzed? That it is not enough for the taxpayer to prove the reality of the expense and its respective accounting."(…)

And,

"Hence we manifest our agreement with the words of Vítor Faveiro, when he states that the necessity of proof does not refer to the indispensability of costs but rather to the effectiveness of their realization. Indispensability is, therefore, not susceptible to proof"

For this reason, in our opinion, it makes more sense to speak here of a duty to motivate or "explanation regarding the economic congruity of the operation," rather than true burden of proof"

See Op. Cit, pg. 276

That is, it appears to us that the mere fact that a given expense is alleged by the taxpayer and there is documentary support, cannot by itself determine its acceptance as a deductible expense.

A subsequent task is necessary, on the part of the judge, to determine whether that expense is or is not indispensable to the activity pursued by the taxpayer.

Also in that sense see Rui Duarte Morais, In "Notes to IRC," Editora Almedina, pages 88 to 90:

"We have already seen that the question of the 'indispensability' of an expense is a problem of qualification (a question of law), so, strictly speaking, no problem of burden of proof arises here.(…)

(…) Next, we will emphasize that the refusal, by the administration, to accept a given expense fiscally by claiming that it is unnecessary does not call into question the truth of the taxpayer's records, but only the qualification made by it (in the context of profit determination) of that expense (which is accepted to have really existed). Hence such non-acceptance does not justify the recourse to indirect valuation methods, but only what is normally called "technical corrections" of the declared taxable matter.(…)

(…) And here, according to our understanding, it is up to it to bear the burden of allegation precisely because, otherwise, such facts will hardly be known."(…)

Also, in concordant sense, see Judgment of the Central Administrative Court South, of 10-02-2009, case no. 02469/08, available www.dgsi.pt, page 13:

"Thus, the question of the burden of proof of the indispensability of the expense passes over the presumption of truthfulness of correctly organized records (articles 78 of the CPT and 75 of the LGT) since it does not question the truthfulness (existence and amount) of the expense accounted for but its relevance, in light of the law, for tax purposes, in this case, its qualification as a deductible expense."(…)

AT alleges that according to the contract entered into between the taxpayer and C… S.A., the taxpayer is not responsible for any cost. Furthermore, it argues that the battery products are not the property of the taxpayer, so the cost of their storage does not prove to be indispensable.

AT concludes that "(…) it is not understood what the necessity is of incurring costs when the benefit will be solely of the Broker (…)" Furthermore, AT alleges that it has "reservations" regarding the consideration of these costs.

First, it is necessary to analyze the nature of these expenses. As to their denomination, AT itself recognizes that their denomination is "Commission E…" (See page 21 of the inspection report). The description of the services is expressly contained in the contract attached by the taxpayer under doc. no. 13, annex A and annex B, which binds it as results from the contract attached under doc. no. 13 A.

Having analyzed the cited documents, the expense in question concerns a commission paid to E… and not storage costs. Thus, the analysis of the contracts related to storage costs or the ownership of the goods will not assist us in reaching the solution since both questions are outside the object of analysis.

Given the provision of article 75, paragraph 1 of the LGT, it is not enough for AT to allege that it has reservations or that it does not understand such expenses. For AT to be able not to consider these expenses, it was necessary for it to indicate indications regarding the non-indispensability of these expenses.

The expenses in question concern the daily management of customers, advice on complaints presented by customers, preparation of trade shows, etc. (See doc. no. 13, annex A and annex B attached by the claimant)

AT is prohibited from evaluating the merit of the expense. To allow it would constitute an affront to the autonomy and freedom of management of the company, violating articles 61, 80, paragraph c), and 86 of the CRP.

In this sense See:

• Judgment of the TCAS of 07/05/2015, case no. 8534/15:

1. It is the understanding of case law and doctrine that the Tax Authority cannot evaluate the indispensability of expenses in light of criteria relating to the opportunity and merit of the expense.

• Judgment of the STA of 24.09.2014, case no. 779/12:

I - In the understanding that doctrine and case law have been adopting for the purpose of ascertaining the indispensability of an expense (see article 23 of the CIRC as worded in 2001), AT cannot scrutinize the merit and opportunity of the company's management decisions, under penalty of interfering with the freedom and autonomy of management of the company.

Thus, the reservations or lack of understanding, devoid of indications, of AT regarding expenses, should not lead to their non-acceptance.

The control to be exercised by AT over the verification of this requirement of indispensability must be negative, that is, AT should only disregard as fiscal costs those that clearly do not have the potential to generate profit increases, and cannot the competent administrative agent responsible for determining taxable matter arrogate to itself the role of manager and qualify indispensability at the level of good and bad management, according to its feeling or personal sense; it is sufficient that it is an operation carried out as an act of management, without entering into an examination of its effects, positive or negative, of the expense or burden assumed for the results of the realization of profits or for the maintenance of the income-producing source (VÍTOR FAVEIRO, Fundamental Notions of Portuguese Tax Law, volume II, page 601).

An expense is indispensable when it relates to the company's activity, and expenses foreign to the company's activity will be only those in which it is not possible to discern any causal nexus with income, explained in terms of normality, necessity, congruity and economic rationality.

In this sense See Judgment of the STA of 24.09.2014, case no. 779/12:

II - Thus, an expense shall be fiscally accepted if, in a judgment reported to the moment in which it was made, it is adequate to the company's productive structure and the obtaining of profits, even if it proves to be an economically unfruitful or ruinous operation, and AT can only disregard as fiscal costs those that do not fall within the scope of the taxpayer's activity and were incurred, not in the interest thereof, but for the pursuit of objectives alien to it (when it is to be concluded, according to the rules of common experience, that it did not have the potential to generate profits).

(In the same sense see Judgment of the STA of 05/11/2014, case no. 570/13.)

It is now necessary to inquire whether the said expense falls within the scope of the taxpayer's activity and is adequate for the obtaining of income. In the case at issue, the services relating to the daily management of customers, advice on complaints presented by customers, preparation of trade shows or the verification of commercialization and cleaning of products fall within the social purpose of the taxpayer.

Having reached this point, the expenses in analysis fall within the scope of the taxpayer's activity and should therefore be accepted pursuant to article 23, paragraph 1 of the CIRC.

3.3. Regarding the Non-acceptance as Deductible Expenses of Invoices Related to Cost Sharing in the Amount of € 377,572.85

The issue now under examination concerns so-called transfer pricing.

Revealing this is the fact that AT in its inspection report expressly referred to it as a cost-sharing agreement. Moreover, AT attempts to base its decision by analyzing a service provision contract (annex 3 of the inspection report), entered into between the taxpayer and H….... In this document it is expressly stated that both companies are members of the same group of companies (See page 4 of annex 3 of the inspection report). In the inspection report it is stated that the taxpayer is integrated into the Iberian structure, with various managements carried out from the Spanish Company. For this purpose the inspection report attaches as annex 4 the transfer pricing report. Thus it is manifest that AT recognizes that these are related entities.

With the globalization of the economy, in addition to the decentralization of internal structures, companies have established themselves in various markets, thus giving rise to multinational organizations.

Transfer pricing arises precisely from the need to value transactions occurring within organizations.

Internal transactions relating to functional services, such as information technology, accounting, administrative work, legal services, etc., constitute a charge that should be borne by the various members of the multinational using the services.

The transfer pricing regime is provided for, essentially, in articles 63 and 138 of the CIRC and in ministerial orders no. 1446-C/2001 of 21.12 and no. 620-A/2008 of 16.07.

The correction of taxable profit related to transfer pricing can only be made if the cumulative requirements provided for in article 63 of the CIRC are met. In this sense See Judgment of the STA of 14.05.2015, case no. 833/13

For AT to be able to correct taxable profit under the provisions of article 63 of the CIRC, by virtue of special relations between the taxpayer and another entity, it is necessary that conditions different from those that would normally be agreed between independent persons have been established and that the profit determined in the accounting records be different from what would be determined in the absence of these relations.

Such requirements are of cumulative verification, with the Tax Authority being required first to base the existence of such special relations.

The basis for the existence of special relations relating to IRC is assessed by the provision of paragraph 3 of article 77 of the LGT. See Judgment of the TCAS, 05.07.2011, case 04384/10

AT is, in this matter, bound by special duties of motivation Article 77, paragraph 3 of the LGT.

In the case being judged, the description of the special relations imposed by article 77, paragraph 3, paragraph a) of the LGT did not occur. It was necessary for AT to justify those special relations by framing them under article 63, paragraph 4 of the CIRC.

Furthermore, in the case at issue, the taxpayer alleges to have complied with its ancillary obligations concerning the maintenance and organization of a tax documentation file, where the transactions in question and the transfer prices practiced are identified. AT itself attached the transfer pricing file to the inspection report. It was necessary to analyze the tax documentation. Its possible disregard would require a justification, which also did not occur in the case at issue.

Thus it is concluded that AT's decision, in this part, suffers from lack of motivation.

It is important to note that where there are corrections in this field, correlative adjustments should be made to the taxable profit of the taxpayer with whom a special relation exists. (On corrections in transfer pricing See Jonatas Machado and Paulo Nogueira Costa, Course on Tax Law, 2nd Ed., Coimbra Editora, pages 295 et seq.). The non-application of this legal regime (transfer pricing) prevents the consequent application of correlative adjustments (article 63, paragraph 11 of the CIRC).

Although the decision under examination suffers from lack of motivation, it is important to note that in these proceedings the principle of dispositivity applies, imposing on the parties the delimitation of the claim (article 10, paragraph 2, paragraph c) of the RJAT).

Thus, there is a quantitative and qualitative limitation of the judge by the claim. "(…) the limitation of the judge by the claim is a rule of generalized application in our procedural law, in which the parties are given the right to dispose of the object of the proceedings, and it is not justified that the exceptions to it are not expressly provided" (In Code of Tax Procedure and Process annotated and commented, Jorge Lopes de Sousa, Áreas Editora, 6th edition, II volume, note 13 to article 125, page 367.).

Therefore, given the claim made, the value of the expenses related to cost sharing should be € 344,942.85. Having the taxpayer declared the amount of € 377,572.85, the amount of costs not accepted should be € 32,630.85 (€ 377,572.85 - € 344,942.00 = € 32,630.85).

3.4. Non-acceptance by AT of Costs in the Amount of € 95,118.01

The costs in question relate to merchandising, advertising and merchandise transportation.

Again, we are here confronted with the issue, previously addressed, of analyzing whether the requirements provided for in article 23 of the CIRC are met so that these costs can be deducted in the respective periods for IRC purposes.

In the inspection report, AT does not question the materiality of the operations, it merely states that these expenses are not the responsibility of the taxpayer. Once again the indispensability of this expense is in question.

It is therefore necessary to determine whether the expenses are indispensable to the pursuit of obtaining profits by the taxpayer, without making judgments of merit or opportunity.

Regarding these expenses, in light of the documents attached by the taxpayer to the file, in particular invoices and documents called repositions (docs. 20 to 44 of the p.i.), it appears to us that these expenses (merchandising, advertising and merchandise transportation) are effectively related to the corporate purpose, thus we consider the indispensability of this cost to be demonstrated pursuant to article 23 of the CIRC.

Thus, it is to be rejected the correction proposed by AT in this respect in the amount of € 95,118.01. Because it is properly proven and indispensable for the realization of the profits of the claimant (article 23, paragraph 1 of the CIRC), this expense must be accepted as an expense.

3.5. Lack of Motivation

The Claimant alleges lack of motivation of the assessment because, supposedly:

"a) It does not show that there was any correction to the tax losses of the Claimant, since nothing is indicated in that regard in the corrected amounts;

b) It indicates tax losses of zero when, even after the correction, the Claimant would continue to have reportable tax losses;

c) The payment deadline is mentioned in the 'Statement of Account Reconciliation' and not in the assessment document;

d) The reconciliation operations mentioned in that document are not, even minimally, explained."

As to this argument advanced by the Claimant, we must state that it is apparent from the request for arbitral pronouncement that the Claimant understood, entirely, the various factual reasons that determined the arithmetic corrections contained in the assessment. Moreover, this results from the conclusions proposed by AT in the inspection report, as well as from document no. 7 attached with the response which were previously notified to the taxpayer.

In truth, the divergences existing between AT and the taxpayer are, as results from the file, questions of Law.

In such case, regarding the assessment, there is no defect of lack of motivation, with AT having expressed, clearly, the logical, factual and legal path that determined the corrections it proposed.

This argument put forward by the taxpayer therefore fails.

3.6. Compensatory Interest

Given the grounds stated above, the assessment under examination should be partially annulled, being partially maintained.

Thus, in the part in which the assessment is maintained, the tax is due, its assessment was delayed and there is fault of the taxpayer for its delay.

In conclusion, in the maintained part, compensatory interest shall be due, pursuant to article 35, paragraph 1 of the LGT.

4. Indemnificatory Interest

Pursuant to article 43, paragraph 1 of the LGT, "indemnificatory interest is due when it is determined, in a gracious reclamation or judicial challenge, that there was error attributable to the departments from which results payment of the tax debt in an amount greater than legally due."

The partial revocation of the assessment act is determined, among other reasons, by the attachment of documents nos. 13 to 44 of the request for arbitral pronouncement.

Now, these documents were attached by the taxpayer only in the arbitral proceedings. Thus, the error that affects the assessment act is attributable to the Claimant, which did not present the said documents in due time and place.

Therefore, the possibility of recognition of the right to indemnificatory interest pursuant to article 43, paragraph 1 of the LGT and article 61, paragraph 1 of the CPPT is excluded.

5. Decision

In light of all the foregoing, it is decided:

1. To judge the request for arbitral pronouncement on the illegality of the act of additional IRC assessment and compensatory interest nos. 2013 … and 2013 – … partially well-founded;

2. To partially annul said assessments, in the part corresponding to the amounts that must be admitted as deductible expenses, which are:

a) € 500.00 included in invoice no. 2010-…-DN, a copy of which is contained in document no. 12 attached with the request for arbitral pronouncement;

b) € 156,202.00 relating to commissions;

c) € 344,942.00 relating to cost sharing;

d) € 95,118.01 relating to merchandising, advertising and merchandise transportation.

1. To judge the request for indemnificatory interest without merit.

6. Value of the Case

The Claimant indicated as the value of the case the amount of € 114,350.26.

The Tax and Customs Authority argues that the value of the case should be the corresponding value of the portion of the assessment relating to the corrections that the Claimant challenges, since not all are the object of the request for arbitral pronouncement.

By virtue of the provision of article 97-A, paragraph 1, paragraph a), of the CPPT, applicable to tax arbitral proceedings by virtue of the provision of article 29, paragraph 1, paragraph c), of the RJAT and of article 3, paragraph 2, of the Regulation of Costs in Tax Arbitration Proceedings, the value eligible for the purposes of costs, when an assessment is challenged, is that of the amount whose annulment is intended.

Corrections were made in the total amount of € 718,396.62, which served as the basis for the assessment of IRC and compensatory interest in the amount of € 104,769.67, which is that of the challenged assessment.

In the present proceedings, the Claimant only challenges corrections in the amount of € 649,514.96, that is, 90.41%.

Therefore, the value of the assessment being challenged is 90.41% of € 104,769.67, that is, € 94,722.25.

Thus, the value of the case is fixed at € 94,722.25

7. Costs

As stated, the Claimant challenged corrections in the amount of € 649,514.96 and the request for arbitral pronouncement is well-founded as to corrections in the amount of € 596,762.01, that is, 91.88%.

Thus, the Claimant is condemned to pay 8.12% of the costs of the proceedings and the Tax and Customs Authority is condemned to pay the remaining 91.88% of those costs.

Lisbon, 09 October 2015

The Arbitrators

Jorge Lopes de Sousa

Luís Janeiro

André Festas da Silva

Text produced by computer, pursuant to article 131, paragraph 5, of the Code of Civil Procedure, applicable by virtue of article 29, paragraph 1, paragraph e), of the RJAT