Indirect Methods for IRC and IVA Assessment: CAAD Arbitration Decision 83/2014-T

Case No. 83/2014-T

Claimant: A..., Lda.

Respondent: Tax and Customs Authority

I. Report

1. Constitution and Functioning of the Arbitral Tribunal

On 03/02/2014, A..., LDA., holder of Tax Identification Number ..., with registered office at Street ..., ..., requested the constitution of an arbitral tribunal and an arbitral decision, pursuant to Articles 10(1)(a) and 10(2) of Decree-Law No. 10/2011 of 20 January (Legal Regime for Tax Arbitration, hereinafter referred to only as LRTA), in which the Tax and Customs Authority (hereinafter referred to as TA) is named as Respondent.

The request for arbitral decision aims to obtain a ruling declaring the illegality of the assessment acts for Corporate Income Tax and Value Added Tax relating to the fiscal years 2008 and 2009.

The Claimant is represented by Ms. Dr. B..., with professional office at Street ..., ....

The Claimant did not appoint an arbitrator, therefore, pursuant to Article 6(1) of the LRTA, the undersigned was appointed sole arbitrator by the President of the Deontological Council of the CAAC.

The Tribunal was constituted on 04/04/2014.

The parties have legal personality and capacity, are legally entitled, and are legally represented (Article 4, Article 10(2) of the LRTA and Article 1 of Ordinance No. 112-A/2011 of 22 March).

2. Object of the Dispute

The Claimant bases its request, in summary, on the following:

a) Following a tax inspection action carried out by the Financial Department of ..., the Claimant was confronted with the decision to apply indirect methods, pursuant to Articles 87 to 90 of the General Tax Law (GTL).

b) Subsequently, the Claimant was confronted with the issuance of the following additional assessments:

c) The Claimant submitted a request for review of the taxable base, in which it questioned both the decision to apply indirect methods and the coefficients applied.

d) Having failed to reach an agreement, the above-mentioned additional assessments were then issued.

e) The Claimant considers that the decision of the review procedure is vitiated by illegality, firstly because the legal requirements for the possibility of applying indirect methods are not met, and also insofar as it goes beyond the facts and conclusions previously adduced, successively substantiating a previously taken decision.

f) The Claimant further contends that there was erroneous quantification of the taxable base and the tax resulting therefrom.

g) Maintaining its disagreement regarding the additional assessments, the Claimant filed a request for administrative review against them.

h) The requests for administrative review were decided upon by way of dismissal, which is why the Claimant requested the constitution of an arbitral tribunal.

i) The Claimant considers that the decisions on the requests for administrative review submitted are vitiated by illegality, more specifically lack of reasoning, insofar as they did not rule on the arguments and facts adduced in the request for administrative review.

j) The Respondent submitted a response, in which it raised both preliminary objections and substantive defences.

k) First, the Respondent raised the following objections: (i) material incompetence of the Arbitral Tribunal, due to lack of binding effect of the Tax and Customs Authority, (ii) untimeliness of the request for arbitral decision regarding the assessment acts in question, and (iii) illegal cumulation of claims.

l) The Respondent further defended itself on the merits, reaffirming that the legal requirements for application of indirect methods are met and reinforcing the conclusions reached within the scope of the tax inspection action.

m) On 9 September 2014, the meeting provided for in Article 18 of the LRTA took place, during which the Claimant declared its intention to respond in writing to the objections raised by the Respondent in its response.

n) A deadline was accordingly granted for the Claimant to submit its response, and for the Respondent to do likewise if it so wished.

o) The Claimant submitted a response to the objections, alleging, in summary, (i) that, even if it is understood that the Arbitral Tribunal is incompetent to decide on tax assessments resulting from the application of indirect methods, it shall be competent to decide on the illegality of the decisions on requests for administrative review due to lack of reasoning, (ii) that the request for arbitral decision was submitted within the legally prescribed time limit for this purpose, and (iii) that there is no illegal cumulation of claims whatsoever.

p) The Respondent replied, maintaining its position that the Arbitral Tribunal is materially incompetent to decide this dispute.

II. Exception of Material Incompetence

In the present proceedings, the aim is to obtain a ruling declaring the illegality of the assessment acts for Corporate Income Tax and Value Added Tax relating to the fiscal years 2008 and 2009. The additional assessments in question were issued following the determination of the Claimant's taxable base by indirect methods. Thus, although the request for arbitral decision was submitted following the dismissal of the requests for administrative review submitted (second-tier acts), what is truly at issue are the additional tax assessments, which are first-tier acts.

Given the request submitted and the objections raised, the Tribunal considers it must first rule on its own competence. Indeed, the competence of courts is the measure of their jurisdiction – and, not having been granted jurisdiction over a particular matter, they are prevented from hearing cases submitted to them.

It should further be noted that absolute incompetence may be raised by the parties and must be raised ex officio by the tribunal at any stage of the proceedings, as long as there is no judgment on the merits with res judicata effect. Indeed, the violation of rules of competence ratione materiae determines the absolute incompetence of the tribunal, which is of public order, and its examination takes precedence over any other matter, so it is important to assess it first.

Article 124 of Law No. 3-B/2010 of 28 April (State Budget for 2010) authorized the Government to legislate to establish arbitration as an alternative form of jurisdictional resolution of conflicts in tax matters, so that tax arbitral proceedings would constitute an alternative procedural means to judicial challenge proceedings and actions for recognition of a right or legitimate interest in tax matters.

The legislative authorization enshrined in Article 124 of Law No. 3-B/2010 of 28 April was subsequently implemented through the approval of Decree-Law No. 10/2011 of 20 January (LRTA).

Thus, in the version currently in force of Article 2(1) of the LRTA (whose heading is "Competence of arbitral tribunals and applicable law"), it follows that:

"1 - The competence of arbitral tribunals comprises the examination of the following claims:

a) The declaration of illegality of tax assessment acts, self-assessment acts, withholding at source acts, and payment on account acts;

b) The declaration of illegality of acts fixing the taxable base where these do not result in the assessment of any tax, acts determining the taxable income, and acts fixing asset values; (...)"

Given the voluntary character of submission to arbitral jurisdiction, Article 4(1) of the LRTA provides that:

"1 — The binding effect of the tax administration on the jurisdiction of tribunals constituted under the terms of this law depends on an ordinance of the government members responsible for the areas of finance and justice, which establishes, in particular, the type and maximum value of disputes covered."

This binding effect was implemented through Ordinance No. 112-A/2011 of 22 March, whose Article 2 (headed "Scope of Binding Effect") provides as follows:

"The services and bodies referred to in the preceding article are bound by the jurisdiction of arbitral tribunals operating in the CAAC that have as their object the examination of claims relating to taxes whose administration is their responsibility referred to in Article 2(1) of Decree-Law No. 10/2011 of 20 January, with the exception of the following:

(...)

c) Claims relating to acts determining the taxable income and acts determining the taxable base, both by indirect methods, including the decision of the review procedure.

(...)".

It is thus necessary to ascertain whether the matter in dispute is covered by this exclusion, and it should be recalled that the Claimant seeks, ultimately, the examination of the assessment acts for Corporate Income Tax and Value Added Tax resulting from the application of indirect methods for determining the taxable base.

The Claimant contends that this exception does not apply because, in fact, "it does not seek to have the quantification of the taxable income determined using indirect methods discussed, but only the defects in the review procedure, carried out under Article 91 of the GTL, which resulted in the assessments made. In fact, and as appears from Articles 18 to 24 of its Statement of Claim, the decision of the review procedure incurred illegality by going beyond the facts and conclusions contained in the Tax Inspection Report and the review request submitted by the taxpayer, as it changed the waste rate from 10% to 3% without any grounds or justification."

The Claimant further argues that the Arbitral Tribunal should therefore rule on the defects in the review procedure that led to the issuance of the additional assessments, and that the limitation of competence refers only to the subjective aspects, namely the evaluation of the legal requirements for recourse to indirect methods and the discussion of the qualification broadly speaking.

We do not agree with this view. Indeed, upon submission of the request for constitution of the Arbitral Tribunal, various grounds were adduced, described above. The Claimant seeks the annulment of the additional tax assessments, based on the illegality of the decision of the requests for administrative review (due to lack of reasoning) and various illegalities of the review procedure (including lack of prerequisites for the application of indirect methods and erroneous quantification of the taxable base and tax), as well as defects in the review procedure (successive substantiation).

Now, it is not possible, in our view, to isolate each of these acts and dissociate the various realities. The tax inspection action carried out resulted in the application of indirect methods of taxation, with a review request subsequently being submitted (which was dismissed) and two requests for administrative review against the dismissal thereof, which were dismissed. All the tax acts in question, and the procedures that gave rise to them, are inseparable, and have a common denominator, the fact that the application of indirect methods is at issue. Both the decision to apply indirect methods, and the procedure for applying these methods (and any defects), as well as the quantum of taxable income thus determined, as well as the decisions handed down in requests for administrative review, must be considered as acts of determining the taxable income by indirect methods (or resulting from these).

Should the exception of material incompetence apply, the Arbitral Tribunal will not be able to rule on any of these acts, nor on the alleged defects in the review procedure, since all these acts have as their genesis the application of indirect methods decided in the course of the tax inspection.

The Arbitral Tribunal has already ruled on this matter in the Decision issued in Case No. 17/2012-T, in which it can be read:

"Tax assessment acts unilaterally and authoritatively define the tax liability of taxpayers, constituting imperative administrative acts with external effects.

As an administrative act, tax assessment shares the characteristics of administrative acts in general.

Assessment, in the strict sense, is the final phase of the tax assessment administrative procedure, regulated in Articles 59 to 64 of the Tax Procedure Code, constituted by a series of acts aimed at obtaining a final legal result, the amount of tax to be paid to the State Treasury.

Therefore, assessment in this strict sense is the phase that results in the application of the tax rate to the taxable income already determined, with preparatory acts not being autonomously challengeable, but may be challenged when challenging the final, definitive act, in compliance with the principle of unitary challenge expressed in Article 54 of the Tax Procedure Code.

In the case of determining the taxable base by indirect methods, the law provides for its own procedure, with assessment being made in accordance with the decision of said procedure – see Article 62(1) of the Tax Procedure Code.

Furthermore, a condition of procedural admissibility of the action challenging the (final) act of tax assessment through application of indirect methods is the prior submission of a request for review of the taxable base, which has suspensive effects on assessment, the procedure for which is contained in Articles 91 to 94 of the Tax Procedure Code.

In these circumstances, an essential condition for challenging the assessment act is that the review procedure of the taxable base must first take place, initiated by the taxpayer, which will culminate in a decision, the resulting assessment act being merely a consequence of the same, serving only a concrete implementation function. Moreover, the heading of Article 62 of the Tax Procedure Code refers to it as 'the resulting assessment act'."

Regarding the binding effect of the Tax Administration to tax arbitration, the Honourable Counselor Jorge Lopes de Sousa states in the Guide to Tax Arbitration, Almedina, 2013, at pages 138 and 139:

"Although paragraph b) of Article 2(1) of the LRTA includes among the competences of arbitral tribunals the declaration of illegality of acts fixing the taxable base and determining taxable income in which indirect methods were used, the Tax Administration excluded this possibility by expressly excluding from its binding commitment to those tribunals the 'claims relating to acts determining taxable income and acts determining the taxable base, both by indirect methods, including the decision of the review procedure' – paragraph b) of Article 2 of Ordinance No. 112-A/2011 of 22 March.

If, eventually, this restriction on binding effect is eliminated, it should be noted that Article 86(5) of the GTL imposes, as a condition of judicial challenge of the challenge (...)."

Now, as we have set out above, in a situation such as the one before us it is not possible to analyze separately the tax assessments, the review process and its decision, and the requests for administrative review, as well as the decisions to dismiss them. The various acts flow from an initial act, that of determining the taxable income by indirect methods.

And, if the Tax Administration is not bound by tax arbitration in this matter – as we understand to be the case, the Tribunal cannot rule on the acts resulting from the application of indirect methods, not even when these concern "the decision of the review procedure".

The Arbitral Tribunal has ruled on this matter in the Decision issued in Case No. 17/2012-T, in which it can be read:

"The quantification of the taxable base by indirect methods constitutes the object of the decision of the review procedure which is excluded from the jurisdiction of tax arbitration, pursuant to paragraph b) of Article 2 of Ordinance No. 112-B/2011 of 22 March.

The tax assessment act embodies such decision, implementing it, and cannot be the subject of individual examination, as it does not have autonomy relative to it.

Moreover, such examination, were it to be admitted (which, it is reiterated, is not the case), would have to be limited to formal defects relating to assessment, as to the substantive matter and its reasoning, insofar as it is wholly contained in the decision of the review procedure, whose examination is excluded from arbitral jurisdiction, would necessarily fall outside the scope of this jurisdiction."

Also in the Decision issued in the context of Case No. 17/2012-T it can be read:

"In truth, the non-binding effect of the Tax and Customs Authority to the arbitral tribunal translates into the immediate impossibility of the objective effectiveness of a judgment which, if pronounced by this tribunal on the matters excluded, would produce no effects on the party required to execute it, constituting, therefore, lack of jurisdiction, which is delimited according to the subject matter and therefore constitutes material incompetence of this tribunal.

It is, therefore, for us unequivocal that the tribunal's lack of jurisdiction to settle the dispute effectively constitutes the dilatory exception of incompetence and not any other, making, given the arbitral nature of the tribunal, an integrated reading of Article 2(1) of the LRTA, with Article 4(1) thereof, and also with the above-mentioned Article 2 of the Binding Ordinance."

In light of the above, we conclude that the exception of material incompetence raised by the Respondent is well-founded, which prevents examination of the merits of the claim and leads to the dismissal of the Respondent from the proceedings.

III - Decision

In this context, the Arbitral Tribunal decides to find the exception of absolute material incompetence of the arbitral forum well-founded, ratione materiae, and consequently to reject the request for arbitral decision, dismissing the Respondent from the proceedings.

Costs to be borne by the Claimant, assigning to the case the value of €53,664.24.

Let notice be given.

Lisbon, 6 October 2014

Text prepared by computer, pursuant to Article 138(5) of the Civil Procedure Code (CPC), applicable by reference of Article 29(1)(e) of the Legal Regime for Tax Arbitration.

The wording of this decision follows the spelling conventions in effect at the time of its drafting.

The Arbitrator

Marta Gaudêncio