Exemption for work performed abroad: Directors can apply the exemption for their executive activities

The Personal Income Tax Law (article 7.p) allows an exemption for income in respect of work performed abroad. To be entitled to the exemption, the individual must travel abroad, and this must be done to provide services for the benefit of a nonresident entity or of a permanent establishment located abroad and the destination country must charge a similar tax to Spanish personal income tax. The Law does not say that directors receiving income characterized as salary income cannot benefit from the exemption.

However, in a judgment dated March 22, 2021 (cassation appeal 5596/2019), the Supreme Court concluded that the exemption could not be applied where directors travel abroad to take part in subsidiaries’ board meetings (see our blog dated April 20, 2021 and our April 2021 newsletter, both discussing this judgment).

The court did not pronounce in this judgment, however, on cases where directors travel to carry out their executive activities (and, under the overriding contract doctrine, they only have a contract for services). It has now done so in its recent judgment dated June 20, 2022 (appeal 3468/2020), finding in favor of the exemption. According to the court:

1. Article 7.p does not expressly refer to article 17 of the law (defining salary income), although nor does it provide a specific definition of salary income for the purposes of the exemption. It therefore has to be considered that article 7.p implicitly refers to article 17.
                    
   Article 17.1 provides a general definition of “salary income”. And, article 17.2 includes other obligations not falling within the general definition of salary income in article 17.1, such as the income of directors and income relating to special employment relationships. The inclusion of special employment relationships in article 17.2 is an unambiguous indication that not all employment relationships can clearly be considered to be included in article 17.1 and that therefore, there are no reasons for excluding application of the exemption to the cases included in that article 17.2.
2. To conclude as to whether the exemption applies to directors the category of the work performed abroad needs to be examined. If the work involves executive and management activities, the exemption cannot be disallowed because as the court itself has concluded in other judgments, the law does not prohibit the trip being made to carry out supervision and coordination work.
3. It cannot be ignored for these purposes that the exemption is allowed as part of a tax policy designed to encourage international operations for Spanish companies, and improve their ability to compete by lowering the tax burden of the taxpayers concerned.

The court expressly underlined that this case is different from that examined in its earlier judgment in appeal 5596/2019.

Furthermore, the courts are restricting auditors’ powers in relation to proof of the right to apply the exemption. A sample of this may be seen in the contents of the Madrid high court judgment of April 27, 2022 (appeal 506/2020).

In the case examined by the court, the worker had produced a certificate from his employer, stating that the worker worked as in-house lawyer for the company and that, as part of those activities, he traveled abroad (basically, to “hold meetings”). That document listed the trips and work performed and stated the dates. For the auditors, this certificate was not proof of services being provided for the benefit of a nonresident entity and rejected the exemption.

To support their position, the auditors added that it is not sufficient for there to be trips to finalize certain elements of a specific project, instead the project must mostly be performed outside Spain. These circumstances, according to the auditors, cannot be considered to be met if the trips are short (three or four days on each trip, including outward and return journey, in the examined case) and the reason for the trips is basically to “hold meetings”.  The auditors also underlined that in the examined case the company did not include the exemption when calculating its withholdings, and there was no record of worker objecting to the excess withholdings.

The Madrid TEAR added that to prove that the service had been provided for the benefit of nonresident entities the worker should have produced to the auditors management contracts signed between the parent company and its subsidiaries, proof of the invoices between these entities or evidence of the request for services by the nonresident entities.

Conversely, Madrid High Court allowed the exemption, stating that:

1. Firstly, with regard to the law and earlier conclusions by the Supreme Court, it allowed the exemption regardless of the length of the trips and the taxpayer’s greater or lesser participation in the projects or of whether they are mostly performed abroad.
2. Secondly, it affirmed that the employee cannot be required to produce contracts between the entity where the employee provides services and the entities at the destination country, because the employee does not necessarily have access to these types of documents. It further pinpointed that the Madrid TEAR should not have requested these documents, because they were not requested in the audit.
3. Lastly, the court considered that the certificate issued by the employer is sufficient to evidence that the trips were made and that their purpose was to provide services for the benefit of nonresident entities, by substantiating the number of days spent away and the beneficiary entity in each case.
4. In relation to the discrepancy between the taxpayer’s return (which left a portion of his income exempt) and the withholdings made by the company (calculated without counting the exemption), the court recalled that, where the company does not certify the trips and the reasons for them, the existence of that discrepancy may be an indication that the trips were not made; but if there is a certificate issued by the company of the type produced in this case, the taxpayer has a right for it to have it taken into account as proof of fulfillment of the requirements for the exemption.