In 2016 the European Commission found that a Spanish tax regime constituted illegal state aid. The tax regime allowed for the deduction of goodwill in the case of acquisitions of shares in foreign companies. Spain and several companies appealed the decision. Judgement of the General Court The Court annulled the decision of the Commission. Click here for unofficial English translation ...

Tiger Flex was a fully fledged footwear manufacturer that was later restructured as a contract manufacturer for the Gucci Group. It had acquired goodwill which was written off for tax purposes, resulting in zero taxable income. The tax authorities disallowed the depreciation deduction. It found that the acquired goodwill had benefited the group as a whole and not just Tiger Flex. Tiger Flex filed an appeal with the Regional Tax Commission. The Regional Tax Commission decided in favour of Tiger Flex. The tax authorities then filed an appeal with the Supreme Court. Judgement of the Supreme Court The Court set aside the decision of the Regional Tax Commission and refered the case back to the Regional Tax Commission in a different composition. Excerpt “It is not disputed that the Tiger and Bartoli factories were profitable assets, endowed with productive and earning capacity. What is disputed, however, is the recorded purchase value which, legally spread over the decade, anaesthetises any contributory capacity, resulting in repeatedly loss-making activities. Hence the various censures on the quantitative, qualitative and inherent deductibility of such costs.” (…) “In the present case, an asset in surplus and capable of producing income was transformed into a loss-making asset with the entry of a depreciation value capable of absorbing its profits; whence the repeated conduct of the loss-making activity legitimised the Office to recover taxation, disallowing a cost that it considered to be to the advantage of the group and not inherent (solely) to Tiger Flex, recalculating it in its amount, with reversal of the burden of proof to the taxpayer who was unable to give a different answer, re-proposing the payment value entered in the balance sheet. On the other hand, the board of appeal imposed the burden of proof of inherence and consistency on the Office, whereas it had long been held that the breach of the precept set forth in Article 2697 of the Civil Code It has long been held that a violation of the precept set forth in Article 2697 of the Italian Civil Code occurs when the judge has attributed the burden of proof to a party other than the one that was burdened by the application of said provision, whereas, where, following an incongruous assessment of the preliminary findings, he erroneously held that the party burdened had discharged such burden, since in this case there is an erroneous assessment of the outcome of the evidence, it can be reviewed in the court of legitimacy only for the defect referred to in Article. 360, no. 5, c.p.c. (Court of Cassation no. 17313 of 2020). And finally, with regard to the assessment of income taxes, the burden of proof of the assumptions of the deductible costs and charges competing in the determination of the business income, including their pertinence and their direct allocation to revenue-producing activities, both under the provisions of Presidential Decree No. 597 of 1973 and Presidential Decree No. 598 of 1973, and Presidential Decree No. 917 of 1986, lies with the taxpayer. Moreover, since the tax authorities’ powers of assessment include the assessment of the appropriateness of the costs and revenues shown in the financial statements and returns, with the denial of the deductibility of a part of a cost that is disproportionate to the revenues or to the object of the business, the burden of proof of the inherent nature of the costs, incumbent on the taxpayer, also relates to the appropriateness of the same (see Court of Cassation V, no. 4554/2010, followed, e plurimis, by no. 10269/2017). The judgment under examination did not comply with this principle, which, finally, in its last paragraph, performs a sort of “resistance test”, i.e. that even if the burden of proof is placed on the taxpayer, it remains undisputed that after a number of years commensurate with the economic effort made, the balance sheet profit was achieved. This is not the profile of the decision, since the Office disputes precisely that for many years there was repeated loss-making conduct, Tiger Flex having taken on burdens not (exclusively) its own, but for the benefit of the entire Gucci group, so that – if ritually distributed – they would have enabled correct profitable conduct, with the consequent discharge of tax burdens.” Click here for English Translation Click here for other translation ...

The German BASF group is active in the chemical industry and has subsidiaries all over the world including Italy. In FY 2006 BASF Italia s.p.a. was served with two notices of assessment by the tax authorities. The tax assessments formulated three findings. 1. non-deductibility of the cancellation deficit – arising from the merger by incorporation of Basf Agro s.p.a. into Basf Italia s.p.a., resolved on 27 April 2004 – which the acquiring company had allocated to goodwill, the amortisation portions of which had been deducted in tenths and then, from 2005, in eighteenths. The Office had denied the deductibility on the ground that the company, in the declaration submitted electronically, had not expressly requested, as required by Article 6(4) of Legislative Decree No. 358 of 8 October 1997, the tax recognition of the greater value of goodwill recorded in the balance sheet to offset the loss from cancellation, as allowed by paragraphs 1 and 2 of the same provision. Moreover, as a subordinate ground of non-deductibility, the assessment alleged the unenforceability to the Administration of the same merger pursuant to Article 37-bis of Presidential Decree No 600 of 29 September 1973, assuming its elusive nature. 2. non-deductibility of the annulment deficit – arising from the merger by incorporation of Basf Espansi s.p.a. into Basf Italia s.p.a., resolved in 1998 – which the acquiring company had allocated partly to goodwill and partly to the revaluation of tangible fixed assets, the depreciation portions of which had been deducted annually. The Office, also in this case, had denied the deductibility due to the failure to express the relative option, pursuant to Article 6(4) of Legislative Decree No. 358 of 1997, in the company’s declaration. 3. non-deductibility of interest expenses arising from a loan obtained by the taxpayer to carry out the transactions above. The Provincial Tax Commission of Milan partially upheld BASF’s appeals against the tax assessments, upholding the latter limited to the finding referred to in the second finding, concerning the non-deductibility of the cancellation deficit arising from the merger by incorporation of Basf Espansi s.p.a.. The Lombardy CTR, accepted the first and rejected the second, therefore, in substance, fully confirming the tax assessments. BASF then filed an appeal with the Supreme Court against the judgment, relying on seven pleas. The sixth plea related to lack of reasoning in the CTR judgement in regards of non-deductibility for interest expenses arising from the intra group loan. Judgement of the Supreme Court The Supreme Court found that the (first and) sixth plea was well founded and remanded the judgement to the CTR, in a different composition. Excerpts “7. The sixth plea in law criticises, pursuant to Article 360(1)(3) of the Code of Civil Procedure, the judgment under appeal for breach of Article 110(7) of Presidential Decree No 917 of 1986, in so far as the CTR held that the interest expense incurred by the appellant in connection with the loan obtained from another intra-group company for the purchase of the share package of Basf Agro s.p.a. was not deductible. The plea is well founded. In fact, the CTR reasoned on this point solely by stating that the deduction was ‘held to be inadmissible on the basis of the thesis underlying the contested assessment, that is, the intention to evade tax’. Such ratio decidendi is limited to the uncritical mention of the Administration’s thesis, which, however, as far as can be understood from the concise wording used by the CTR, does not relate to the financing in itself, but to the transaction, referred to in the first relief, in which it was included. A transaction whose evasive nature was not even appreciated by the CTR, the question having been absorbed by the non-deductibility, for other reasons, of the negative component arising from the merger by incorporation of Basf Agro.” Click here for English translation Click here for other translation ...

Following an audit, Mauser S.p.A. received four notices of assessment relating to the tax periods from 2004 to 2007. These notices contested, in relation to all tax periods, the elusive purpose of a financing operation of Mauser S.p.A. by the non-resident parent company, as it was aimed at circumventing the non-deductibility of interest expense pursuant to Article 98 pro tempore of Presidential Decree No. 917 of 22 December 1986 (TUIR) on the subject of thin capitalisation. The loan, which began in 2004, had resulted in the recognition of €25,599,000.00 among other reserves, indicated as a payment on account of a future capital increase, as well as €55,040,474.29 as an interest-bearing shareholder loan, the latter of which was subsequently partly waived and also transferred to reserves. The loan had also contributed to the generation of losses in the years in question, which had been covered through the use of the aforementioned reserve (as a reserve), whose interest paid to the parent company had then been deducted from taxable income. According to the tax authorities the payment on account of a future capital increase constituted a financial debt towards the sole shareholder and not (as indicated by the taxpayer) a capital contribution, which therefore would not have contributed to the determination of the relevant net equity pursuant to Article 98 TUIR; as a result, the equity imbalance between loans and adjusted net equity pursuant to Article 98, paragraphs 1 and 2, letter a) TUIR pro tempore (net equity increased by the capital contributions made by the shareholder) would have been configured. Consequently, the tax authorities had concluded that the financing transaction as a whole was elusive in nature, as it was of a financial nature and aimed at circumventing the prohibition of the remuneration of the shareholders’ loan in the presence of the thin capitalisation requirements. With the notice relating to the 2006 tax year, Mauser S.p.A. was also charged with a second finding, relating to the infringement of the transfer pricing provisions pursuant to Article 110, paragraph 7 in relation to transactions involving the sale of intra-group assets. The tax authorities, while noting that Mauser S.p.A. had used the cost-plus computation method for the purpose of the correct application of the OECD rules on transfer pricing, had observed that following the merger of Gruppo Maschio SPA – for whose acquisition the above mentioned financing was intended – a merger deficit had resulted, partly allocated to goodwill of the target company. The tax authorities considered that the portion of goodwill amortisable for the year 2006 should be included in the cost base, increasing the percentage of overhead costs as a percentage of production costs, contributing to increase the total cost for the purpose of determining the arm’s length remuneration. Mauser S.p.A. raised preliminary issues relating to the breach of the preventive cross-examination procedure and the forfeiture of the power of assessment, considering the provision of Article 37-bis of Presidential Decree No. 600 of 29 September 1973 to be inapplicable to the case at hand, and also considering the existence of valid economic reasons consisting in the purpose of the acquisition of the company, which was then effectively merged. He then deduced that the method of calculating the transfer prices was erroneous insofar as the Office had included the amortisation quota of the goodwill allocated to the merger deficit. The C.T.P. of Milan upheld the merits of the joined appeals of Mauser S.p.A. An appeal was then filed by the tax authorities and in a ruling dated 19 May 2015, the Lombardy Regional Administrative Court decided in favour of the tax authorities, holding that the loans “were not used in accordance with the rules envisaged in such cases, but were instead used to cover the company’s losses”, and then held that the transfer price recovery was also correct, on the assumption that the amortisation of goodwill was legitimate. Mauser S.p.A. then filed an appeal with the Supreme Court, relying on six grounds. In the first ground of appeal Mauser S.p.A. points out that the grounds of the judgment do not contain adequate evidence of the logical path followed, also in view of the failure to transcribe the judgment at first instance and the arguments of the parties, as well as the statement of the facts of the case. Mauser S.p.A. observes that the confirmation of the finding as to the evasive nature of the financing transaction shows mere adherence to the position of one of the parties to the proceedings without any statement of reasons, nor does it consider what the regulatory provisions subject to assessment would be in relation to both profiles. It also observes how the reasoning relating to the confirmation of the transfer pricing relief refers to facts other than those alleged by the Office. Judgement of the Supreme Court The Supreme Court upheld the first ground of appeal and declared the other grounds of appeal to be absorbed; set aside the judgment under appeal and refered the case back to the Lombardy Regional Administrative Court, in a different composition. Excerpts “The first ground is well founded, agreeing with the conclusions of the Public Prosecutor. The two recoveries made by the Office presuppose – the first – the qualification (for the purposes of the financial imbalance referred to in Art. The two recoveries made by the Office presuppose – the first – the classification (for the purposes of the financial imbalance referred to in Article 98 TUIR pro tempore) of the future capital contribution made by the sole shareholder of the taxpayer company as a debt item and not as a capital reserve item (entered among the other reserves), a fundamental circumstance for the purposes of considering whether or not it contributes to the portion of adjusted shareholders’ equity ‘increased by the capital contributions made by the same shareholder’, capable of constituting the financial imbalance referred to in Article 98 TUIR cited above. Similarly (considering that the Office has moved in the direction of an overall elusive activity), proof is ...

“ACQ-Group” had acquired the shares in foreign subsidiaries and financed the acquisition partially by intra group loans. Furthermore, in the years following the acquisition, goodwill amortisations were deducted for tax purposes. The tax authorities issued an assessment where the interest rate on the loans had been reduced, and where costs related to external financing and amortisations of acquired goodwill had been denied. An appeal was filed by “ACQ”. Decision of the Federal Tax Court Before the judgment was delivered the appeal filed by “ACQ” in regards of the interest rate on the intra group loans was withdrawn. “***Firma*** Services GmbH pays interest of a non-variable 9% p.a. to the affiliated (grandparent) company ***6*** for an intercompany loan (“Intercompany Loan”). As stated in the statement of facts in the enclosure, the high difference between the intercompany loan interest rate and the arm’s length interest rate is a clear violation of the arm’s length principle as defined in the OECD Transfer Pricing Guidelines and the current case law of the Administrative Court. The payments exceeding the arm’s length interest rates constitute a hidden distribution.” The Court partially upheld the appeal and amended the assessment in regards of goodwill amortisations and financing costs. Goodwill amortisation within the meaning of section 9(7) KStG 1988 and the deduction of interest on borrowed capital in the case of acquisitions of shareholdings pursuant to section 11(1)(4) KStG 1988 were introduced with the 2005 Tax Reform Act in order to make Austria more attractive as a business location. § Section 9 (7) KStG 1988 contained a “group barrier” from the beginning in order to prevent arrangements within the group or within the group of companies. Thus, goodwill amortisation is not available if the participation is acquired by a company belonging to the group or by a shareholder exercising a controlling influence. The Budget Accompanying Act 2011 restricted the deductibility of interest on borrowed capital to the extent that debt-financed group acquisitions should no longer lead to a deduction of operating costs. The explanatory notes justified this change in the law by stating that undesirable arrangements in the group, which led to an artificial generation of operating expenses, should be prevented. Click here for English translation Click here for other translation ...

Results in a Danish company engaged in distribution of pharmaceuticals were significantly below the arm’s length range of net profit according to the benchmark study, but by disregarding annual goodwill amortization of DKK 57.1 million, the results were within the arm’s length range. The goodwill being amortized in Pharma Distributor A A/S had been determined under a prior acquisition of the company, and later – due to a merger with the acquiring danish company – booked in Pharma Distributor A A/S. The main question in the case was whether Pharma Distributor A A/S were entitled to disregard the goodwill amortization in the comparability analysis. The national tax court had ruled in favor of the company, but the national court reached the opposite result. Thus, the National Court found that the goodwill in question had to be regarded as an operating asset, and therefore the depreciation had to be regarded as operating expenses when calculating the net profit (EBIT margin). In 2017 the Danish tax tribunal found in favor of Pharma Distributor A A/S However, The Danish National Court found that the controlled transactions had not been priced in accordance with the arm’s length principle in section 2 (2) of the Tax Assessment Act. 1, and that the tax authorities was therefore basically justified in assessing the income of Pharma Distributor A A/S. But there was no basis for adjustment for the income year 2010, where the EBIT margin of the company (including goodwill amortization) was within the interquartile range of the benchmark. The National Court further found that Pharma Distributor A A/S had not demonstrated that the companies whose results were included in the benchmark possessed goodwill that was simply not capitalized and which corresponded approximately to the value of the goodwill in Pharma Distributor A A/S. Therefore, the National Court did not find that adjusting for goodwill amortization in the comparability analysis, would make the comparison more correct. Pharma Distributor A A/S also claimed that special commercial conditions (increased price competition, restructuring , etc.) and not incorrect pricing had led to lower earnings. The Court found that such conditions had not been demonstrated by the company. On this basis, the National Court found that the tax authorities was entitled to make the assessment of additional income in FY 2006-2009, but not for FY 2010. The court found that, when adjusting the taxable income, an individual estimate must be made for each year, based on what income the defendants could be assumed to have obtained if they had acted in in accordance with the arm’s length principle. The court referred the case for re-assessment of the taxable income for FY 2006-2009. Click here for translation ...

Microsoft Ibérica S.R.L is responsible for distribution and marketing of Microsoft products in Spain. According to an agreement concluded between Microsoft Ibérica and MIOL (Microsoft’s Irish sales and marketing hub) with effect from 1 July 2003, Microsoft Ibérica would received the largest amount of either a commission based on sales invoiced in Spain or a markup on it’s costs. In support of the remuneration according to the agreement, Microsoft had provided a benchmark study. The Spanish tax authorities found that Microsoft Ibérica had not been properly remunerated due to the fact that goodwill amortisations had been eliminated by in the transfer pricing analysis. By including the goodwill amortisations in the analysis, the result of the local company was below the interquartile rang. The authorities further held that the selected comparables in the benchmark study suffered from comparability defects, in that they had less functions and risk than Microsoft Ibérica. An assessment was issued where the results were adjusted to the upper quartile of the benchmark results. The Court of first instance held in favor of Microsoft and set aside the assessment. This decision was appealed to the High Court by the authorities. The High Court overturned the decision and decided in favour of the tax authorities. Excerpts from the Judgement: “We understand that the appellant’s conduct was deliberate, seeking to make the inspection proceedings time-barred. For a year, the Inspectorate was unable to carry out its work normally; in fact, what the Inspectorate did was to waste many hours of work examining the various incomplete accounts which did not comply with the Spanish accounting plan, which the appellant was handing in, wasting hours of work paid for out of the State’s general budget. The appellant, with only two days left, submitted a copy of the accounts which replaced “the computer copies of the accounts on CDs submitted to the inspection on 21/05/20 10, 9/09/2010 and 26/11/2010 which contained errors in the conversion of the accounts from the American chart of accounts to the Spanish chart of accounts”. The Chamber cannot support this conduct of the party by declaring the inspection procedure time-barred, as the delay is attributable to the taxpayer’s conduct. In finding that there is a delay attributable to the taxpayer for 344 days, it is unnecessary to examine the rest of the delays. The Inspector procedure took 705 days, discounting 344 days, the procedure finalised in 361 days, therefore, even if the other delays that are questioned are not attributable to the taxpayer, which in many cases overlap with the delay for not handing over the accounts, the Inspector procedure would have concluded before one year had elapsed.” “The Inspectorate indicated that there was another compelling reason to weigh in support of the application of a value located in the upper interquartile range of the study carried out by the Inspectorate, since within the sample of companies considered comparable there are some, five in particular that carry out service activities (CNAE activity codes 7221-7222), which are more similar than the rest to the activity formally assumed by MICROSOFT IBÉRICA – the provision of marketing services – and whose net margins were higher. The Inspectorate considered this sample of entities to be the most appropriate in terms of comparability, as it would yield a margin with a median of 6.15% (weighted average for the period). The reasoning of the Inspectorate, which was complemented by everything else it argued in the agreement, is considered to be correct, but it should also be considered that this reasoning is complementary to the criteria of the Chamber, which has considered that the contract signed by Microsoft fixed a commission that had to be settled monthly.” “The Chamber cannot share the criteria of the report for the following reasons. The expert assumes an interpretation of the contract signed in 2003 that is contrary to the one we have set out in the corresponding legal basis of this Judgment. It is the function of the Chamber to interpret contracts. The increase in the taxable bases derives directly from those agreed by Microsoft and MIOL, any other consideration being unnecessary. Furthermore, the expert considers that companies with losses have been eliminated without reasonable criteria, when this Chamber has endorsed that this criterion was in accordance with the law. Furthermore, the expert assumes that the appellant does not perform strategic functions, whereas the Chamber has concluded otherwise.” “WE RULE 1) That we DISMISS AND REVERSE the present contentious-administrative appeal number 337/2014, brought by the Solicitor Ms. Sonsoles Díaz-Varela Arrese, on behalf of MICROSOFT IBÉRICA, S.R.L, assisted by the Lawyer Ms. Cristina Fernández Rodríguez against the decision dated 8 May 2014 issued by the Central Economic Administrative Court, and we CONFIRM AND CONFIRM the said decisions as being in accordance with the legal system. 2) The plaintiff is ordered to pay the costs incurred in these legal proceedings.” Click here for English translation Click here for other translation ...

The Danish Tax administration had made an estimated assessment due to a insufficient TP documentation. In the assessment goodwill amortizations were included when comparing the operating income of the company to that of independent parties in a database survey. The Tax Tribunal found that the tax administration was not entitled to make an estimated assessment under Article 3B (3) of the current Tax Control Act. 8 (now paragraph 9) and section 5 3, where the TP documentation provided a sufficient basis for assessing whether prices and terms were in accordance with the arm’s length principle. According to the Tax Tribunal goodwill amortizations should not be included when comparing the operating income of the company to the operating income of independent parties in a database survey. Hence the assessment was reduced to DKK 0. The case has been appealed to the Danish National Court by the tax authorities. Click here for translation ...

The issue in these cases was tax provisions in Spain stipulating that, when a company in Spain acquires a share holding in a foreign company of at least 5%, goodwill resulting from that acquisition can be deducted for tax purposes through amortization (much like the US asset deal-regs). The Commission found these provisions to be in violation of EU State Aid rules. In 2014, the General Court annulled these Decisions, finding that the Commission had failed to establish the selective nature of the alleged aid measure. The General Court argued that for the selectivity condition to be satisfied, it is always necessary that a particular category of undertakings be identified that are exclusively favoured by the measure concerned and that can be distinguished by reason of specific properties common to them and characteristic of them. If that is not possible, then the measure is effectively open to all undertakings and thus not selective. The decision was then appealed by the Commission to the European Court of Justice. The European Court of Justice found that the General Court had erred in law by inferring a supplementary requirement from the case law. The Court explained that in the context of the “selectivity condition” what matters is whether the measure, irrespective of its form or the legislative means used, should have the effect of placing the recipient undertakings in a position that is more favourable than that of other undertakings, although all those undertakings are in a comparable factual and legal situation in the light of the objective pursued by the tax system concerned, cf. para 79. The fact that the number of potential beneficiaries is large and the criteria for the measure’s application are lax is not relevant – the measure is still selective. The Court of Justice then refered the case back to the General Court, for examination of the remaining three pleas of the alleged aid beneficiaries ...