At issue was an intra-group loan that arose out of a reorganisation designed to accelerate the utilisation of tax losses and thereby generate tax savings for the Kwik-Fit group. According to the tax authorities the loan had an unallowable purpose under the rule in section 441 CTA 2009 and, on this basis, interest deductions on the loan were disallowed. Kwik-Fit´s appeals to the First-tier Tribunal and the Upper Tribunal were unsuccessful and an appeal was then filed with the Court of Appeal. Judgment The Court found that the unallowable purpose rule in section 441 CTA 2009 applied to the interest deductions and upheld the decisions of the First-tier and Upper Tribunals. Excerpt 35. The FTT then made the following findings: “101. We find, based on the evidence of Mr Ogura,that: (1)   the decision to implement the reorganisation was made as a whole group; the Appellants were part of that group so they understood and cooperated in that decision; (2)   the June 2013 Memorandum sets out what the directors of each company wanted to achieve, both for themselves and for the other members of the Kwik-Fit Group. That group purpose (as set out in that memorandum) was to create net receivables within Speedy 1, to enable utilisation of the losses in Speedy 1, and tax deductions for the interest expense of each debtor. That outcome was considered to be good for the whole group; (3)   an additional group purpose of thereorganisation was to simplify the intercompany balances within the Kwik-Fit Group; (4)   each of the Appellants knew the full details of the reorganisation which was being implemented, the steps they were required to take to implement that reorganisation, whether for themselves or as shareholder of another company involved in the reorganisation and understood as a matter of fact that the reorganisation had the effect of assigning the receivables under the Pre-existing Loans to Speedy 1. They understood that this was “for the benefit of the whole group”; and (5)   each of the Appellants had a choice as to whether or not to participate in the reorganisation, and if they had decided not to do so then the Pre-existing Loans to which they were party would have been left out of the reorganisation. The only potential reason for not participating given by Mr Ogura was if they had not wanted to pay the increased interest rate on those loans. (…) “88. In this case, the FTT’s conclusions were based on very particular factual features: a)The “group purpose” of the reorganisation, which the Appellants willingly adopted, was to achieve the tax benefits that I have already described: para. 101 of the FTT Decision, set out at [] above. b)There was an additional group purpose of simplifying intercompany balances (para. 101(3)), but that was clearly not considered by the FTT to be material. Further, the long-term aim of reducing the number of dormant companies was “merely part of the background noise”: para. 104 ([] above). c)The Appellants had a choice as to whether or not to participate in the reorganisation, the only reason given for not doing so being if they had not wanted to pay the increased rate of interest (para. 101(5)). d)The Pre-existing Loans were repayable on demand and the Appellants had little capacity to repay them, but there was no threat to call for their repayment. Instead, the Appellants understood that the increased interest rate “directly fed into the tax benefit for the group”. (See para. 102, set out above; the points are reiterated at para. 112.) In other words, the Appellants willingly agreed to take on the obligation to pay significant additional interest without any non-tax reason to do so. In contrast, if payment of interest at a commercial rate on a loan is the alternative to being required to repay it in circumstances where funds are still required, then that may well provide a commercial explanation for the borrower’s agreement to the revised rate. e)The increase in rate also had nothing to do with any recognition on the part of the Kwik-Fit group that it needed to make the change to avoid falling foul of the transfer pricing rules. There was no such recognition. The interest rate on the relevant loans was not set at LIBOR plus 5% because of a concern that the transfer pricing rules would otherwise be applied to adjust the rate upwards. Rather, the rate was set at LIBOR plus 5% to maximise the savings available while aiming to ensure that it was not objected to by HMRC as being excessive because it was above an arm’s length rate. Setting the rate at a level that sought to ensure that it did not exceed what would be charged at arm’s length i) meant that it could be accepted by the borrowers and ii) reduced the risk that the rate would be adjusted downwards for tax purposes, which would reduce the benefits available. The assumption was that the transfer pricing rules would not otherwise be applied to increase the interest rate. f)Mr Ghosh frankly acknowledged that the transfer pricing rules did not motivate the increase in rate, but the point is also made very starkly by the FTT’s findings that the Appellants could have chosen not to participate and that the interest rate would not have been increased on the Pre-existing Loans if they had not done so (paras. 101(5) and 102(4)), and by the group’s decision not to increase the rate of interest on other intra-group debt, including the Detailagent Loan (paras. 30 and 115; see [] and [32.] above). g)The result was that, although the commercial purpose for the Pre-existing Loans remained, the only reason for incurring the additional interest cost on the Pre-existing Loans was to secure tax advantages: para. 113 ([] above). The new rate was “integral” to the steps taken: para. 116 ([37.] above). h)As to the New Loans, the FTT found at paras. 103 and 117 that KF Finance and Stapleton’s did not have their own commercial purpose in taking them on and that the intended tax advantages were the main purpose for which KF Finance and Stapleton’s were party to them ([] and [37.] above).” Click here for translation ...

In 2009 the BlackRock Group acquired Barclays Global Investors for a total sum of $13,5bn. The price was paid in part by shares ($6.9bn) and in part by cash ($6.6bn). The cash payment was paid by BlackRock Holdco 5 LLC – a US Delaware Company tax resident in the UK – but funded by the parent company by issuing $4bn loan notes to the LLC. In the years following the acquisition Blackrock Holdco 5 LLC claimed tax deductions in the UK for interest payments on the intra-group loans. The tax authorities (HMRC) denied tax deductions for the interest costs on two grounds: (1) HMRC claimed that no loans would have been made between parties acting at arm’s length, so that relief should be denied under the transfer pricing rules in Part 4 of the Taxation (International and Other Provisions) Act 2010. (2) HMRC also maintained that relief should be denied under the unallowable purpose rule in section 441 of the Corporation Tax Act 2009, on the basis that securing a tax advantage was the only purpose of the relevant loans. An appeal was filed by the BlackRock Group with the First Tier Tribunal, which in a decision issued in November 2020 found that an independent lender acting at arm’s length would have made loans to LLC5 in the same amount and on the same terms as to interest as were actually made by LLC4 (the “Transfer Pricing Issue”). The FTT further found that the Loans had both a commercial purpose and a tax advantage purpose but that it would be just and reasonable to apportion all the debits to the commercial purpose and so they were fully deductible by LLC5 (the “Unallowable Purpose Issue”). An appeal was then filed with the Upper Tribunal by the tax authorities. According to the judgment issued in 2022, the Upper Tribunal found that the First Tier Tribunal had erred in law and therefore allowed HMRC’s appeal on both the transfer pricing issue and the unallowable purpose issue. The First Tier Tribunal’s Decision was set aside and the tax authorities amendments to LLC5’s tax returns were confirmed. An appeal was then filed by BlackRock with the Court of Appeal. Judgment The Court of Appeal found that tax deductions for the interest on the Loans were not restricted under the transfer pricing rules (cf. ground 1 above) but instead disallowed under the unallowable purpose rule in section 441 of the Corporation Tax Act 2009 (cf. ground 2 above). Excerpt regarding application of transfer pricing rules “34. Paragraph 1.6 of both the 1995 and 2010 versions of the OECD guidelines explains that what Article 9 of the model convention seeks to do is to adjust profits by reference to “the conditions which would have obtained between independent enterprises in comparable transactions and comparable circumstances” (a comparable “uncontrolled transaction”, as opposed to the actual “controlled transaction”). The 2010 version adds that this comparability analysis is at the “heart of the application of the arm’s length principle”, while explaining at para. 1.9 that there are cases, for example involving specialised goods or services or unique intangibles, where a comparability analysis is difficult or complicated to apply. 35. In its discussion of comparability analysis, para. 1.15 of the 1995 version states: “Application of the arm’s length principle is generally based on a comparison of the conditions in a controlled transaction with the conditions in transactions between independent enterprises. In order for such comparisons to be useful, the economically relevant characteristics of the situations being compared must be sufficiently comparable. To be comparable means that none of the differences (if any) between the situations being compared could materially affect the condition being examined in the methodology (e.g. price or margin), or that reasonably accurate adjustments can be made to eliminate the effect of any such differences. In determining the degree of comparability, including what adjustments are necessary to establish it, an understanding of how unrelated companies evaluate potential transactions is required. Independent enterprises, when evaluating the terms of a potential transaction, will compare the transaction to the other options realistically available to them, and they will only enter into the transaction if they see no alternative that is clearly more attractive. For example, one enterprise is unlikely to accept a price offered for its product by an independent enterprise if it knows that other potential customers are willing to pay more under similar conditions. This point is relevant to the question of comparability, since independent enterprises would generally take into account any economically relevant differences between the options realistically available to them (such as differences in the level of risk or other comparability factors discussed below) when valuing those options. Therefore, when making the comparisons entailed by application of the arm’s length principle, tax administrations should also take these differences into account when establishing whether there is comparability between the situations being compared and what adjustments may be necessary to achieve comparability.” Similar text appears at paras. 1.33 and 1.34 of the 2010 version. 36. As can be seen from this, it is essential that the “economically relevant characteristics” are “sufficiently comparable”, in the sense of any differences either not having a material effect on the relevant condition (term) of the transaction, or being capable of being adjusted for with reasonable accuracy so as to eliminate their effect. 37. Paragraph 1.17 of the 1995 version expands on the concept of differences as follows: “… In order to establish the degree of actual comparability and then to make appropriate adjustments to establish arm’s length conditions (or a range thereof), it is necessary to compare attributes of the transactions or enterprises that would affect conditions in arm’s length dealings. Attributes that may be important include the characteristics of the property or services transferred, the functions performed by the parties (taking into account assets used and risks assumed), the contractual terms, the economic circumstances of the parties, and the business strategies pursued by the parties…” Again, this is reflected in the 2010 version, at ...

The Supreme Court in the Netherlands requested a preliminary ruling from the European Court of Justice to clarify its case-law on, inter alia, the freedom of establishment laid down in Article 49 TFEU, specifically whether it is compatible with that freedom for the tax authorities of a Member State to refuse to a company belonging to a cross-border group the right to deduct from its taxable profits the interest it pays on such a loan debt.  The anti-avoidance rule in question is contained in Article 10a of the Wet op de vennootschapsbelasting 1969. The rule is specifically designed to tackle tax avoidance practices related to intra-group acquisition loans. Under that legislation, the contracting of a loan debt by a taxable person with a related entity – for the purposes of acquiring or extending an interest in another entity – is, in certain circumstances, presumed to be an artificial arrangement, designed to erode the Netherlands tax base. Consequently, that person is precluded from deducting the interest on the debt from its taxable profits unless it can rebut that presumption. The Dutch Supreme Court (Hoge Raad) asked the European Court of Justice to clarify its findings in its judgment in Lexel, on whether such intra-group loans may be, for that purpose, regarded as wholly artificial arrangements, even if carried out on an arm’s length basis, and the interest set at the usual market rate. “(1)      Are Articles 49 TFEU, 56 TFEU and/or 63 TFEU to be interpreted as precluding national legislation under which the interest on a loan debt contracted with an entity related to the taxable person, being a debt connected with the acquisition or extension of an interest in an entity which, following that acquisition or extension, is a related entity, is not deductible when determining the profits of the taxable person because the debt concerned must be categorised as (part of) a wholly artificial arrangement, regardless of whether the debt concerned, viewed in isolation, was contracted at arm’s length? (2)      If the answer to Question 1 is in the negative, must Articles 49 TFEU, 56 TFEU and/or 63 TFEU be interpreted as precluding national legislation under which the deduction of  the interest on a loan debt contracted with an entity related to the taxable person and regarded as (part of) a wholly artificial arrangement, being a debt connected with the acquisition or extension of an interest in an entity which, following that acquisition or extension, is a related entity, is disallowed in full  when determining the profits of the taxable person, even where that interest in itself does not exceed the amount that would have been agreed upon between companies which are independent of one another? (3)      For the purpose of answering Questions 1 and/or 2, does it make any difference whether the relevant acquisition or extension of the interest relates (a) to an entity that was already an entity related to the taxable person prior to that acquisition or extension, or (b) to an entity that becomes an entity related to the taxpayer only after such acquisition or extension?” Opinion of the Advocate General The Advocate General found that the Dutch anti-avoidance rule in Article 10a was both justified, appropriate and necessary – and therefore not in conflict with Article 49 of the TFEU – irrespective of the Court’s earlier judgment in the Swedish Lexel Case. Excerpts “(…) 71. In my view, the approach suggested by the intervening governments and the Commission is the correct one. Consequently, I urge the Court to revisit the approach it took in the judgment in Lexel on the matter at issue. 72. Freedom of establishment, as guaranteed by Article 49 TFEU, offers quite a wide opportunity for tax ‘optimisation’. The Court has repeatedly held that European groups of companies can legitimately use that freedom to establish subsidiaries in Member States for the purpose of benefiting from a favourable tax regime. (30) Thus, as X submits, A could legitimately choose to establish the internal bank of its group, C, in Belgium for that very purpose. Similarly, C may well grant loans to other companies of the group established in other Member States, like X in the Netherlands. Cross-border intra-group loans are not, per se, objectionable. (31) Certainly, such a loan may entail a reduction of the corporate tax base of the borrowing company in the Member State where it is established. Indeed, by deducting the interest on that loan from its taxable profits, that company reduces its tax liability with respect to that Member State. In effect, some of the profits made by the borrowing company are shifted, in the form of interest charges, from the Member State where it is established to the Member State where the lender company has its seat. However, that is something that the Member States must, in principle, accept in an integrated, single market such as the internal market of the European Union. 73. Nevertheless, the Court recognised a clear limit in that regard. It is a general legal principle that EU law, including freedom of establishment, cannot be relied on for abusive ends. The concept of ‘wholly artificial arrangements’ must be read in that light. Pursuant to the settled case-law of the Court, it is abusive for economic operators established in different Member States to carry out ‘artificial transactions devoid of economic and commercial justification’ (or, stated differently, ‘which do not reflect economic reality’), thus fulfilling the conditions to benefit from a tax advantage only formally, ‘with the essential aim of benefiting from [that] advantage’.(32) 74. Furthermore, in its judgment in X (Controlled companies established in third countries), (33) the Court has specified, with respect to the free movement of capital guaranteed by Article 63 TFEU, that ‘the artificial creation of the conditions required in order to escape taxation in a Member State improperly or enjoy a tax advantage in that Member State improperly can take several forms as regards cross-border movements of capital’. In that context, it held that the concept of ‘wholly artificial arrangement’ is capable of covering ‘any ...