“Fertilizer B.V.” is part of a Norwegian group that produces, sells and distributes fertiliser (products). “Fertilizer B.V.” is the parent company of a several subsidiaries, including the intermediate holding company [C] BV and the production company [D] BV. The case before the Dutch Supreme Court involves two points of dispute: (i) is a factually highly effective hedge sufficient for mandatory connected valuation of USD receivables and payables? (ii) is the transfer prices according to the supply and distribution agreements between [D] and a Swiss group company (AG) at arm’s length? (i) Factual hedge of receivables and payables “Fertilizer B.V.” had receivables, forward foreign exchange contracts and liabilities in USD at the end of 2012 and 2013. It values those receivables and payables at acquisition price or lower value in use. It recognised currency gains as soon as they were realised and currency losses as soon as a receivable was valued lower or a debt higher. The court has measured dollar debts and forward contracts coherently, but not dollar debts against dollar receivables from a Brazilian subsidiary arising from corporate financing. The Court of Appeal does not consider a highly effective currency hedge (actual correlation) in itself sufficient for coherent valuation; in its view, this also requires a business policy connection between opposite currency positions, such as an intent of hedging or a business relationship between receivable and debt. The Secretary of State believes that the reality principle means that in the case of an actual 100% correlation, debts and receivables in the same currency should be measured coherently. With all the disputed receivables and payables being denominated in USD, the currency hedge is very effective, so they should be measured coherently. A-G Wattel believes that the reality of a highly effective currency hedge is that no foreign exchange risk is incurred as long as and to the extent that the hedge exists and that, therefore, the reality principle to that extent compels coherent valuation, irrespective of whether the entrepreneur intended hedging and irrespective of the existence or non-existence of prudential link between receivable and debt in the same currency. This, in his view, is in line with the case law on coherent valuation he has reproduced. He considers the cassation appeal of the State Secretary in both cases well-founded. (ii) Transfer pricing [D] produces fertiliser products and sells them to affiliated sales organisations. Transfer prices are based on the Transfer Pricing Master File (TP Master File) that says fully fledged producers like [D] are rewarded according to the comparable uncontrolled price (CUP). In 2008, it was decided to invest €400m by [D] in a plant, which was commissioned in early September 2011, enabling [D] to produce 39% more urea and fertiliser products (the surplus) than before. On 14 September 2011, following the commissioning of the new plant, [D] and AG entered into a Supply Agreement and a Distribution Agreement. AG is “related” to the interested party and to [D] within the meaning of Section 8 Vpb. Those agreements provide that AG buys the surplus for cost plus 5%, for five years, with tacit renewal. On that basis, [D] invoices 39% of its production at cost plus 5% to AG every month and remits the rest of its profit on the surplus to AG. According to the Inspector, this results in a monthly improper profit shift from [D] in the Netherlands to AG in Switzerland. The court did not find it plausible that a fully fledged profitable producer like [D] would cede its existing and proven excess profit capacity – which was only improved by the new plant – on a large part of its production to a third party in the market. The party making that claim will have to provide a business explanation for the fact that the agreements leave only 5% margin to the group’s proven much more profitable ‘best performing’ entrepreneur which continued to perform all the functions it was performing before, except (on paper) 39% production risk control, and for the fact that [D]’s substantial residual profit was henceforth transferred by it on a monthly basis to an affiliated acquirer of 39% production risk, with no significance to [D]’s original 61% production and no significance to the core functions required for [D]’s 39% surplus production. According to A-G Wattel, the Court of Appeal thus did not divide the burden of proof unreasonably or contrary to due process. Those who make remarkable contentions contrary to their own previous and 61% still held positions and contrary to their own TP Master File will have to provide an explanation. ‘The Court’s judgment implies, in the absence of sufficient explanation by the interested party, substantially (i) that a company that is unmistakably the most complex entity cannot be changed into a routine margin producer by mere contracting for an arbitrary percentage (39%) of its capacity while at the same time remaining fully fledged entrepreneur for the identical 61% remaining production and for the 39% surplus also effectively keeping everything as it was, and (ii) that neither can a Swiss group company which is not introduced to [D]’s production (processes), logistics, distribution and administration, and which is thus unmistakably the least complex entity, be turned into the true entrepreneur that [D] is by a mere contract for the same arbitrary percentage (39%) and also remains for that 39%, the less so as that contract is incompatible with the group’s TP Master File. Since, according to the Court, an unaffiliated entrepreneur would never agree to such a contract and, therefore, such contracts, according to it, are not concluded between unaffiliated parties, arm’s-length terms are difficult to conceive: no arm’s-length terms can be conceived for a non-existent transaction, so the situation without the said agreements must be assumed. A-G Wattel considers these judgments correct insofar as they are legal, factual and not incomprehensible. He therefore does not find incomprehensible the Court of Appeal’s conclusion that, for tax purposes, the situation without the two agreements should be assumed, which are not thereby disregarded, but ...

In 2016 Fertilizer BV had been issued a tax assessment for FY 2012 in which the tax authorities had imposed additional taxable income of €133,076,615. In November 2019 the district court ruled predominantly in favor of the tax authorities but reduced the adjustment to €78.294.312. An appel was filed by Fertilizer BV with the Court of Appeal. Judgement of the Court of Appeal Various issues related to the assessment was disputed before the Court. Dispute 1: Allocation of debt and equity capital to a permanent establishment in Libya in connection with the application of the object exemption. More specifically, the dispute is whether the creditworthiness of the head office was correctly taken as a starting point and a sufficient adjustment was made for the increased risk profile of the permanent establishment. The Court of Appeal answered this question in the affirmative, referring to the capital allocation approach that is regarded as the preferred method for the application of Article 7 of the OECD Model Convention. Dispute 2: Should all claims and liabilities denominated in dollars be valued in conjunction? The mere fact that claims and debts are denominated in the same currency is insufficient to conclude that there is cohesion. The court takes into account the nature of the contracts in the light of the risks present and whether hedging of risks is intended. The Court shall make a separate assessment for each risk to be identified. The Court values the forward exchange contracts USD 200,000,000 and USD 225,000,000 in connection with USD debt I and USD debt II, and the claim of [N SA] in connection with the forward exchange contract USD 60,000,000. Dispute 3: Was the profit of a subsidiary of interested party, [E BV], (deliberately) set too high? Interested party wants to deviate from its own tax return and internal transfer pricing documentation and refers to a report prepared by [W]. The Court of Appeal places the burden of proof on the interested party. In the opinion of the Court of Appeal, it does not follow from the aforementioned report that there is no trade at arm’s length within the group. The Court of Appeal also pointed to the global character of the report, which means that it is not a transfer pricing report. Furthermore, it has not become plausible that the companies with which [E BV] is compared in the report are sufficiently comparable. The interested party has not made it plausible that the profit has been set at a prohibitively high level. Dispute 4: Did the tax inspector rightly make an adjustment of € 42,843,146 in connection with the Supply Agreement concluded between [E BV] and an affiliated company of the interested party and [E BV], [J Ltd]? The Supply Agreement states that [J Ltd] is obliged to purchase the surplus produced by [E BV] with a new factory at cost price plus a mark-up of 5%. For the remaining goods, transfer prices are used which are based on the [concern Transfer Pricing Master File]. The Court of Appeal placed the burden of proof that the transfer price applied to the surplus was at arm’s length on the interested party. In the opinion of the Court of Appeal, the interested party has not provided this evidence. The Court of Appeal ignored the Supply Agreement. This agreement does not reflect the economic reality, since [E BV] is also a ‘fully fledged’ producer with regard to the surplus. The Court of Appeal derives this from the transfer price documentation and the fact that after the conclusion of the Supply Agreement, the functions performed, the investments made and the capital utilisation have (practically) not changed. The transfer price report from [Y] submitted by the interested party does not lead to a different opinion. There is no breach of the principle of equality since the interested party does not substantiate, or substantiates in too general a manner, that its case is comparable to the Starbucks, Nike and Apple cases and the other examples mentioned by it. The fact that the [group] also concluded agreements with third parties that are (somewhat) similar to the Supply Agreement does not lead to a different opinion either. It cannot be determined whether the functions performed, risks run and assets used by these third parties are comparable to the functions performed, risks run and assets used by [E BV]. Finally, the Court of Appeal ruled that the taxation of a possible profit transfer should not be taken in 2011, the year in which the Supply Agreement was agreed upon, but from month to month (year to year) in which the non-business conduct took place. In all, the Judgement of the Court of Appeal resulted in the additional taxable income of Fertilizer BV being reduced to € 65.609.318. Click here for English Translation Click here for other translation ...

In 2016 Fertilizer BV had been issued a tax assessment for FY 2012 in which the tax authorities had imposed additional taxable income of €162,506,660. Fertilizer BV is the parent company of a fiscal unity for corporation tax (hereinafter: FU). It is a limited partner in a limited partnership under Dutch law, which operates a factory in [Country 1]. The interested party borrowed the money for the capital contribution to the limited partnership from a wholly-owned subsidiary. The share in profits from the limited partnership was expressed as profit from a permanent establishment. In dispute was the amount of interest attributable to the permanent establishment. The court followed the inspector in allocating – in connection with the [circumstances] in [Country 1] – 75% equity and 25% loan capital to the PE. Furthermore, the FU had deposits and loans in USD. These positions were partly hedged by forward exchange contracts. Fertilizer BV valued these deposits and loans at the historical acquisition price or lower value in use. In dispute between the parties was whether and to what extent the positions should be valued as connected. In the opinion of the court, the mere fact that deposits and loans were denominated in USD did not mean that they should be valued as connected. The court considered part of it to be connected. Fertilizer BV is a production company. It sells its products to affiliated sales organisations at prices derived from market prices. After the commissioning of a new factory, Fertilizer BV produced more than before (hereinafter: the surplus). On the basis of two agreements, Fertilizer BV sold the surplus, at cost price with a surcharge of 5%, to a subsidiary established abroad. In the opinion of the court, no real commercial risk had been transferred to the subsidiary and the inspector rightly corrected the taxable amount. Click here for English Translation Click here for other translation ...