Tax Newsletter - October 2020 | Judgments

State Aid.- General Court of the European Union confirms existence of state aid in Spanish tax lease system

General Court of the European Union.  Judgment of September 23, 2020. Joined cases T-515/13 RENV and T-719/13 RENV

As we reported in our Alert dated September 23, 2020, in this judgment the General Court of the European Union dismissed appeals lodged by the Kingdom of Spain as one party, and Lico Leasing and PYMAR (small and medium-sized Spanish shipyards), as another, against the European Commission's decision in 2013, holding that the tax advantages in what is known as the Spanish tax lease system were illegal state aid.

This judgment does not mark the end of this proceeding because, for one reason, it can be challenged in a cassation appeal to the Court of Justice of the European Union (CJEU), and for another, the appeals for annulment lodged by investors have not yet been settled.

 

International tax evasion and tax fraud.- A request for information issued in the context of an information exchange request from another member state must be able to be challenged by the owner of the requested information

Court of Justice of the European Union. Judgment of October 6, 2020. Joined cases C-245/19 and C-246/19

Each of the main lawsuits stemmed from an exchange of information request sent by the Spanish tax authorities to the Grand Duchy of Luxembourg, in order to obtain information regarding a Spanish-resident individual, where that individual was the subject of a tax investigation. Those lawsuits gave rise to several references for preliminary rulings in relation to which the CJEU reached the following conclusions:

1. First, the court held that the owner of the information must be granted the right to an effective remedy and therefore EU law precludes the legislation of a member state (of Luxembourg, in this case) that disallows the option of appealing a decision in which the competent authority in that state requires a person holding that information to report it, for the purpose of handling an exchange of information request sent by the tax authorities of another member state.
               
   The court added however that it is not necessary for the taxpayer to have access to a direct appeal against that decision if other appeals exist to the competent national courts that provide the taxpayer with incidental ways to obtain an effective judicial review of the decision.
2. In a second ruling, the CJEU ruled on what constitutes "foreseeably relevant" information for the management of taxes, within the meaning of the directive on administrative cooperation in the field of taxation.
                 
   On the one hand, the court stated that the identity of the person possessing the information concerned (the identity of the taxpayer that is the subject of the investigation that gave rise to the exchange of information request), and the period covered by the investigation qualify as “foreseeably relevant information”. In another, it found along the same lines that any information relating to agreements, invoices and payments which, although not expressly identified, may be defined by any personal, timing and substantive criteria that establish their association with the investigation and the taxpayer it concerns, also qualify as “foreseeably relevant” information.

 

Transfer pricing and freedom of establishment.- EU law does not stop the application of transfer pricing legislation to a transaction performed between a branch resident in a member state and its parent company established in another member state, even if that legislation does not apply where parent company and subsidiary are resident in the same member state

Court of Justice of the European Union.  Judgment of October 8, 2020. Case C-558 /19

The Romanian tax authorities adjusted some financial transactions between a Romanian branch and its Italian parent company.

Under Romanian law, transactions performed between companies resident in Romania and nonresident companies are subject to transfer pricing rules, and under those rules, interest should have been charged on the financial transactions at the market rate.

However, the Romanian legislation only treats branches as separate persons from their parent company if they are a permanent establishment of a nonresident legal entity (parent company), and so transfer pricing adjustments are made to the income of a branch only if the parent company is established in another member state.

The CJEU held that this creates less favorable treatment for the branches of nonresident companies. However, it noted that to permit the branches of nonresident companies to transfer their profits to their parent companies may well undermine the balanced allocation of taxing rights among the member states, so the difference in treatment is justified. And so concluded that EU law on freedom of establishment does not, in principle, preclude legislation such as that described.

 

Transfer pricing.- State tax agency (AEAT) is obliged to notify transfer pricing adjustments to related parties taxed under Basque Country provincial legislation

Supreme Court. Judgment of September 17, 2020

Article 16 of the revised Corporate Income Tax Law allowed the tax authorities to examine whether related-party transactions had been priced at arm's length, and make any necessary pricing adjustments. Whereas article 21 of the Corporate Income Tax Regulations, approved by Royal Decree 1777/2004, of July 30, 2004, stated that if the taxpayer filed an appeal or claim against the assessment resulting from the pricing adjustment, that assessment had to be notified to the related parties concerned, although that notification is not required where the parties concerned are not Spanish resident.

Relying on that provision, in the proceeding that led to this judgment, the prescribed notification was not given to the parties, because they resided in the Basque Country and were not therefore resident in the “common area” of Spain (i.e. excluding Navarra and the Basque Country) for direct tax purposes. In the earlier judgment the National Appellate Court concluded that, although Decision 8/2012 by the Arbitration Board for the Economic Arrangement with the Basque Country had held that the authorities were required to make an effort to prevent excessive amounts of tax for all the entities affected by adjustments of this type, it did not impose any obligation to give notification in the manner described.

The Supreme Court concluded, however, that, under the principles informing the Economic Arrangement with the Basque Country and under the principle of good management, “the State Tax Agency (AEAT) is required to give notification, under the legislation in force in the “common area”, of the performance of transfer pricing adjustments to an entity taxed under the legislation of the Basque historical territories”.

 

Corporate income tax.- It is contrary to EU law to establish a different double taxation tax credit mechanism depending on the residence of the paying entity

Supreme Court. Judgment of September 17, 2020

The Revised Corporate Income Tax Law allowed a number of different types of mechanisms for double taxation relief on dividends received from entities in which more than 5 percent of the share capital was owned, which depended on the residence of the paying entity. If the dividends were paid by a Spanish resident entity, up to 100% of the gross tax payable on the dividends could be deducted. Whereas if the dividends were paid by a non-Spanish resident entity, only the tax actually paid abroad could be deducted.

In this judgment, the Supreme Court confirmed its case law in which it held that this different treatment depending on the residence of the entity paying the dividends was contrary to the free movement of capital.

The lawmakers have since acknowledged this discrimination and the Corporate Income Tax Law now in force contains a relief mechanism that applies in the same way to Spanish source dividends and dividends from other countries.

 

Corporate income tax.– The neutrality regime cannot be denied for transactions in which the only tax advantage is the deferral regime itself

National Appellate Court. Judgment of July 16, 2020

A company operating in the hospitality industry owned the building in which it conducted its business. The company decided to split up its business into two businesses and transfer them to two companies: Company Z, also operating in the hotel industry, received the hospitality line of business; and company C, operating in the property leasing industry, received the building. All the companies belonged to a group of family businesses. The aim of the transaction was to isolate the real estate assets of the hospitality business and protect the family wealth.

The neutrality regime was elected for the spin-off. The tax authorities disallowed that regime because the existence of valid economic reasons had not been substantiated. They argued that moving assets out of a company to preserve the family wealth does not qualify as a valid economic reason for the purposes of claiming that regime. Although the tax authorities did acknowledge that the only tax advantage for the transaction was the deferral of the implicit capital gains in the separate businesses or assets.

The National Appellate Court's conclusions on this subject were as follows:

1. To analyze whether the deferral regime is allowed the transaction must be examined as a whole to determine whether it was carried out for an essentially tax related aim.
2. Achieving greater tax efficiency is not an impediment to claiming the special regime. Moreover, if the only tax advantage obtained arises from claiming the neutrality regime and any economic reason exists, it cannot be disallowed.
3. Splitting up assets to limit the risks of the different types of activities that are conducted qualifies as a valid economic reason.

 

Personal income tax.- The exemption for reinvestment in the taxpayer’s principal residence is confirmed at the time of the exchange for a future building

Supreme Court. Judgment of July 16, 2020

The facts were as follows:

1. In October 2006 a public deed for an exchange was executed recording the delivery of the taxpayer’s principal residence to a developer for it to build a new dwelling on the site, which after being built would be delivered to the taxpayer.
2. On his personal income tax return for 2006, the taxpayer reported the capital gain obtained from the transfer of his principal residence, on which he claimed the relief for reinvestment in the taxpayer’s principal residence (which requires the reinvestment to be made within two years).
3. In November 2009 the built residence was formally delivered and it became the appellant's new principal residence.
4. The tax authorities considered that the reinvestment had been made after the end of that two-year period, so the relief could not be claimed.

The Supreme Court countered this by noting that an exchange is a bilateral transaction for consideration and with transfer of ownership, which rolls into one transaction the exchanges associated with two reciprocal purchases. Concluding therefore that the reinvestment must be deemed to take place when the taxpayer delivered his first principal residence to the developer, and that the length of time the developer took to build and deliver the second residence is simply a delay in performing the terms agreed by a third party outside the tax relationship.

 

VAT.- Transfer of newly built residence to third party other than the tenant that had not exercised a call option is exempt from VAT

Catalonia High Court. Judgment of June 18, 2020

After examining the facts, the court concluded that the sale of a newly built residence, used previously by a tenant for two or more years under a lease agreement with a call option and later purchased by a third party other than the tenant, must be treated as the second transfer of a residence exempt from VAT.

This principle departs from the view taken by the Directorate General for Taxes -DGT- (among others, in resolution V0409-20, of February 20, 2020). According to the DGT, the transfer of a building by the developer that built it (to be leased with a call option) is treated as a first transfer, regardless of whether the transferee is the tenant and option-holder or a third party other than the tenant.

 

Transfer and stamp tax.- In contributions of buildings with assumption of liabilities there are two agreements for the purposes of Transfer and stamp tax

Supreme Court. Judgment of September 17, 2020

Castilla y León High Court. Judgment of July 16, 2020

La Rioja High Court. Judgment of July 2, 2020

A number of recent judgments have examined whether in transactions for the formation or an increase of capital at a company in which mortgaged properties are contributed and the company assumes the outstanding mortgage, there is only one agreement (the capital increase, subject to transfer tax in its form of capital duty) or two agreements (this agreement and assumption of the liability, subject to transfer tax as a transfer for consideration).

The principle applied by the Supreme Court and the Castilla y León and La Rioja high courts in these judgments is that in these cases two taxable events indicative of economic capacity are identifiable, because they are two separate transactions, so much so that the mortgaged properties can be contributed without the recipient assuming the liability. Therefore, the capital increase (or formation of the company) is subject to capital duty and the assumption of debt, to transfer tax as a transfer for consideration.

 

Transfer and stamp tax.- Transfers of remaining ownership share are subject to transfer tax if the property is divisible or if they can be avoided or reduced by making a different allocation

Supreme Court. Judgment of September 16, 2020

In the Supreme Court's view, when co-ownership is terminated, the transfer of the remaining ownership share to one of the co-owners is not subject to transfer tax as a transfer for consideration only if the following requirements are satisfied:

1. The property transferred to one of the co-owners (in exchange for cash payments to the others) must be legally, physically or financially indivisible.
2. No distribution must be possible among the owners other than the transfer of the property to only one of them, so as to observe as far as possible the principles of equivalence in division of the co-owned item and of proportionality between the transfer made and the interests or shares of every co-owner.
3. The aim must clearly be to terminate co-ownership, not to transfer ownership of the property.

In the case examined in this judgment, the property transferred to only one of the co-owners was a building on six floors with residential and commercial units, and for that reason, the court concluded that the foregoing requirements were not met and the transfer of the remaining property was subject to transfer tax.

 

Transfer and stamp tax.- Purchase by individual of shares in company that it already controlled indirectly may be subject to transfer tax as a transfer for consideration

Supreme Court. Judgment of September 11, 2020

A Spanish resident company (A), owning assets consisting mainly of real estate, was wholly owned by a company (B) resident in the British Virgin Islands. An individual later purchased 48.98% of the first company. In a subsequent capital increase at A, the individual increased its ownership of A to 62.13%. Company B then sold its shares to the individual after which that individual wholly owned A.

At issue was whether that second share purchase (in which the individual obtained complete control of A) is exempt from transfer tax under article 108 of the Securities Market Law (LMV), according to the wording applicable in 2009.

The Supreme Court ruled that the purchase by an individual of shares in a company indirectly controlled by them is not eligible for that relief (if the other objective requirements for the relief not to apply are met). Namely, the court concluded that if the individual buying the shares already holds indirect control over the company that does not imply acknowledgment or existence of a previous position of “control”. It was not the lawmakers’ intention to make the individual’s ownership interest combinable with that of the directly owned company, in that this combination of an individual and a legal entity does not form (under the law) a “group of companies”.

 

Transfer and stamp tax.- An audit of reported values is not necessary to conclude that carrying amount matches actual value

Supreme Court. Judgment of September 11, 2020

As a general rule, share transfers are not subject to VAT or transfer tax, unless the transferred shares are in companies owning assets consisting mainly of real estate, if a number of requirements are met.

In order to calculate their assets, the net carrying amounts of all recognized assets must be replaced with their respective actual values determined as of the date on which the transfer or acquisition takes place.

In the case examined in this judgment, the tax authorities accepted the carrying amounts to conclude that the share transfer was subject to transfer tax.

In its judgment, the Supreme Court sided with the tax authorities and concluded that a separate and independent procedure to examine the values of the elements on the company’s balance sheet was not necessary, if the values stated in the accounting records provided by the taxpayer are taken, due to considering that they match their actual value.   

 

Transfer and stamp tax.- A stamp tax lien does not have to be noted with the entry for the property because this tax is not levied on the transfer

Madrid High Court. Judgment of June 22, 2020

The transfer and stamp tax legislation states that, in transfers of property and rights, the property or commercial registries must make a note in the margin beside the entry for a property or right, of a lien for the tax liability.

The tax lien implies that the property or right owned by the debtor on entering into a given obligation may be attached to pay the debt, even if the property or right had come to be owned by a third party other than the debtor.

In this judgment, the court concluded that the tax lien does not have to be noted where the debt relates to stamp tax, because this tax is levied on the document not on the transfer.

 

Transfer and stamp tax.- The novation of a mortgage formalized in a notarial deed recording a change to interest rate and maturity date is subject to and not exempt from stamp tax

Castilla y León High Court. Judgment of June 12, 2020

It was examined whether liability for stamp tax arose on novation of a mortgage formalized in a public deed in which the interest rate and maturity date of the loan were changed, although not the mortgage liability.

In the court’s view, a change to the interest rate (from fixed to variable) and to the maturity date have financial content and may be quantified, which is expressed, at least, in the finance cost relating to the new term and to the interest charged.

Therefore, the transaction is subject to and not exempt from stamp tax.

 

Transfer and stamp tax.- A horizontal division before termination of co-ownership is not subject to stamp tax due to being an inescapable prior element to be able to end the condominium

Asturias and Valencia High Courts. Judgment of May 29 and June 4, respectively

In both examined cases, the taxpayers formalized a public deed for horizontal division and termination of a condominium and self-assessed stamp tax on termination of the condominium, though not on the previous horizontal division.

The competent tax authorities claimed stamp tax on the horizontal division because they considered that horizontal division and termination of co-ownership were two separate taxable agreements.

Under the principle established by the Supreme Court, it was concluded in both judgments that a horizontal division before termination of co-ownership is not subject to stamp tax because it is an inescapable element to be able to end the condominium.

 

Excise tax on spirits and alcoholic beverages.- Even if the report submitted to apply for a refund of the tax is incomplete, entitlement to a refund of the tax does not disappear if substantive requirements are met

Supreme Court. Judgment of September 30, 2020

A refund of the tax on spirits and alcoholic beverages is allowed if the product is used in the preparation of aromatizers to produce food products and non-alcoholic beverages.  Under article 54 of the Regulations on Excise and Other Special Taxes, a specific application must be filed for the refund, accompanied by a technical report containing the information detailed in article 57 bis of the same regulations, which requires a list of the products that will be obtained by using the alcohol.

In the case examined in this judgment, the report did not mention all the products to which the alcohol concerned was added. For that reason, the tax authorities argued that a portion of the refund had been applied for incorrectly.

The Supreme Court confirmed, as it had done in its judgment of February 27, 2018 (see our alert 4-2018), that a procedural breach alone does not automatically lead to forfeiture of the right to claim excise tax benefits if the taxpayer substantiates that the products have been used for the purposes that give entitlement to that benefit.

 

Cadastral values.- The physical features of properties entered on the Cadaster prevail over information recorded in a public deed or at the Property Registry

Madrid High Court. Judgment of June 5, 2020

At issue was whether the area that must be assigned to a property for cadastral purposes is the figure entered on the cadaster or whether the figure recorded for other purposes prevails.

Madrid High Court concluded that producing data on the area of a property that is recorded at the Property Registry or in a public deed does not provide sufficient proof to refute the presumption of accuracy that applies to the physical descriptions of properties entered on the Cadaster, which include their area.

 

Cadastral values.- The penalty required in the cadastral regulations for failure to report alterations to the physical or economic characteristics of a property takes priority over that determined in the General Taxation Law

Madrid High Court. Judgment of May 18, 2020

The revised Law on the Real Estate Cadaster defines an infringement for failure to report to the Cadaster any physical or economic alterations that affect a property. The General Taxation Law contains a similar infringement, consisting of a breach, in general, of the obligation to file complete and correct returns for the tax authorities to make the relevant tax assessments. The penalty determined in the General Taxation Law can go up to a considerably higher amount than the sum required in the cadastral regulations.

In the case examined in this judgment, the local council had imposed on the appellant the penalty specified in the General Taxation Law, because it had not reported to the Cadaster work performed on a property it owned and therefore had paid lower real estate tax than it would have done if it had reported that work.

Madrid High Court found in favor of the appellant, by holding that the infringement defined in the cadastral regulations must be taken instead of that defined in the General Taxation Law, in light of the priority of specific over more general rules.

 

Administrative procedure.- A search warrant for a taxpayer’s home must be justified rather than based on tax auditors’ suspicions founded on statistical studies

Supreme Court. Judgment of October 1, 2020

In the case examined in this judgment, the tax auditors had used as a reason to search a taxpayer’s home the low earnings from their economic activity in relation to the average income reported across the country for the same activity. The tax auditors argued that this was an indication that the taxpayer could be hiding sales it had actually made.

The Supreme Court (supporting its reasoning on its judgment of October 10, 2019, discussed in our Tax Newsletter - November 2019) concluded as follows:

1. A search warrant for a home must be connected with the existence of an audit that has been commenced and notice of its commencement must have been given to the audited person.
2. A search warrant cannot be issued for prospective, statistical or vague purposes, to see what they find, without precise identification of the specific information they intend to obtain.
3. The court decision allowing the search warrant must provide adequate reasons for the need, suitability and proportionality of the search, and critically review the information submitted by the tax authorities, which must be queried regarding its appearance and credibility, meaning that the data provided cannot be accepted automatically, without founded reasons or any critical analysis. The warrant may only be allowed after a comparative analysis of each individual requirement.
4. A search cannot be authorized for reasons related to general or vague data or reports or, on the whole, from a comparison of the alleged situation of the owner of the home with that of other unidentified taxpayers or taxpayer groups, or with average figures for sectors of activity across the country, without any specific details or segmentation supporting the reliability of those sources.
                 
   Any such analysis must be exceptional, take all the existing circumstances into account, and especially, determine, on the basis of those circumstances (after confirming their origin, reliability and the actual situation of the interested party with respect to them), that the search is strictly necessary, which requires an assessment of the existence of other circumstantial factors and, in particular, the owner’s previous behavior in response to procedures or requests for information by the tax authorities.
5. Lastly, any search performed without giving prior notice to the party concerned must be exceptional and have particular justification.

 

Collection procedure.- In recovery of state aid late-payment interest is governed by EU legislation

Supreme Court. Judgment of September 23, 2020

Where the European Commission holds that a specific measure amounts to illegal state aid, the state is required to initiate its recovery. This judgment looks at how to calculate late-payment interest on recoverable amounts.

The taxpayer argued that late-payment interest is determined under domestic law (in this case, the General Taxation Law or its equivalent in devolved provincial tax legislation). By contrast, the tax authorities considered that the interest accrued until recovery had to be determined under the provisions of EU law in article 9 and article 11 of Commission Regulation (EC) No 794/2004, of April 21, 2004.

The Supreme Court ruled that in these cases EU law is applicable as the law governing action to recover state aid (domestic law only provides the procedure for enforcement).

 

Penalty procedure.- The 'non bis in idem' principle  is not breached where liability for a penalty for issuing false invoices is found for the person who used those invoices

Supreme Court. Judgments of September 17, 2020 (appeals 325/2019, 193/2019 and others)

A penalty was imposed on taxpayer A for incorrectly reporting VAT deductible items, using false invoices. A few of those invoices were issued by taxpayer B, who received a penalty for an infringement consisting of breaching invoicing or documenting obligations, treated as a very serious infringement where it consists of issuing invoices with false data.

The tax authorities also found taxpayer A jointly and severally liable for the penalty imposed on taxpayer B, for which reason the Supreme Court examined whether, in this case, the double jeopardy principle was breached in that the infringement committed directly by taxpayer A implies, precisely, the use of replacement invoices or documents with falsified data issued by taxpayer B.

The court concluded that this principle is not breached where a taxpayer receives a penalty for incorrectly applying for refunds while also being held jointly and severally liable for the penalty imposed on another taxpayer for breaching their invoicing obligations, even where the definition of the infringement committed by taxpayer A implies use of the false invoices issued by taxpayer B.

The two infringements, according to the court, are founded on different grounds and are aimed at protecting different direct and immediate interests, so the three identical features (party, facts and grounds) determining a breach of the non bis in idem principle do not exist. Moreover, in this case, the infringement committed by taxpayer A cannot be used as an aggravating factor in relation to use of the false invoices, so double punishment for the same facts does not exist.

 

Review procedure.- An application for judicial review cannot be refused if the court has not first requested correction of its defects

Supreme Court. Judgment of October 1, 2020

The law on the judicial review jurisdiction states that, where an application for judicial review is filed on behalf of a legal entity, the written application must be accompanied by the decision adopted by the body responsible for the decision to file an application, together with the documents substantiating that authority.

In the case examined in this judgment, the application was accompanied by a general power of attorney for lawsuits for the court procedural representative, granted by a legal entity that said it was acting on behalf of the applicant legal entity. In its answer to the application, the defendant authority pleaded (as a ground for the application being inadmissible) that it had not been evidenced that the legal entity satisfied the necessary requirements to decide on the filing of the application for itself. At the conclusions stage, the applicant produced a copy of the notarial deed recording, among other actions, the granting to that individual of a necessary and sufficient power of attorney to take that decision. The Basque Country High Court, however, declared, without a prior request for correction, that the application was inadmissible on the basis that the produced documents were not sufficient.

The Supreme Court found in this judgment that an application for judicial review cannot automatically be declared inadmissible because the documents do not provide sufficient evidence of the power to decide on the filing of the application. Before it can be declared inadmissible, a request must be sent to the applicant to correct any defects identifiable in the produced documents, otherwise, the applicant’s right to defense is denied.

 

Enforcement procedure - Unjustified delays by tax authorities in receipt and enforcement of decisions and judgments partially upholding claims may lead to right to assess becoming statute-barred

National Appellate Court. Judgment of June 26, 2020

The tax authorities have six months to issue a new assessment to enforce a decision or judgment partially upholding a claim. The law states that this period starts to run from when the body responsible for enforcing the decision receives the case file. The consequence of failing to observe that period is that the statute of limitations does not stop running because of the audit work carried out.

In the examined case, the National Appellate Court itself had delivered a judgment partially upholding a claim, which required the tax authorities to issue a new assessment. The judgment became final on January 20, 2011 (when the Supreme Court failed to admit the cassation appeal lodged against that judgment). Although it was not until March 10, 2014 that the case file for that proceeding was received by the administrative body responsible for enforcement (over three years later in other words).

The National Appellate Court concluded that there had been a material and unjustified delay between the date the Supreme Court delivered judgment and the date the administrative case file was received by the body responsible for enforcement, from which it must be concluded that the maximum period specified by tax law for enforcement (six months) has not been observed. As a result, the right to assess must be held statute-barred.