On December 22, 2021, the European Commission presented a directive proposal laying down rules aimed at preventing the misuse of fictitious entities for tax purposes and amending Directive 211/16/EU of 15 February 2011 on administrative cooperation in tax matters.
In Portugal, this proposal received little notice, perhaps because a directive on an overall minimum tax rate was published on the same day. However, this could have a significant effect on the tax systems of EU member states – and in particular on Portuguese tax disputes.
What the proposal means
Under the proposal, eligible ‘shell’ companies will be asked to declare their economic substance in their tax returns. The information provided will give the tax authorities of the Member States an overview of the business and will allow them to assess whether an audit should be carried out.
If the relevant criteria are not met, treaty and directive benefits may not be granted. Moreover, all this information is shared between the tax authorities of the Member States.
In the EU, at present, only a few Member States have national rules for testing and auditing the economic substance of EU companies.
Although Member States have a common General Anti-Abuse Rule (GAAR) and other anti-abuse rules to deal with abusive structuring, following the application of the new proposal, from 1 January 2024, Member States will apply common rules on the misuse of shell companies as well as a framework for administrative cooperation concerning the economic substance of companies.
In anticipation of this, the tax authorities are now “testing the waters” for the upcoming rules, leading to increased litigation between the tax authorities and taxpayers.
For example, last month the Spanish tax authorities refused an exemption from internal withholding tax on the payment of interest after receiving information from the Dutch tax authorities that the Dutch company receiving the interest did not comply with the rules of Dutch internal background.
In Portugal, there are no substance requirement rules yet. The lack of substance of holding and financial companies is generally considered by the courts to be a sign of an abusive structure, mainly when the tax authorities apply a specific or targeted anti-abuse or GAAR rule.
Recent case law
Recent jurisprudence concerning the Portuguese GAAR becomes increasingly clear as to the proof of the requirements of the GAAR by the tax authorities: “the tax authorities do not have to prove the “abusive” intention of the taxpayer” but simply “to prove that the structure does not have a rational purpose in the light of the judicial system” (January 2022 decision of the Supreme Administrative Court).
Recent Portuguese GAAR case law suggests that the courts tend to increase the burden of proof for the taxpayer and relax the duty of investigation of the tax authorities, following the international trend.
However, the existence of these rules also means that Portuguese tax legislation will have to provide greater legal certainty regarding the definition of “economic substance”, which is not clear today.
Having minimum substance indicators, presumptions and exemptions previously established in European law and transposed into the national legal system can provide more certainty to taxpayers when developing their business structures and bring new simpler control tools for the tax authorities. In Portugal, new disputes are expected to arise regarding compliance with the “envelope” standards of the proposed directive.
CJEU clarification needed
With regard to disputes over anti-abuse rules, it will be very important for the Court of Justice of the EU (CJEU) to resolve the following question: is the “envelope” standard in the proposed directive the same than the standard of the GAAR of the directive on tax evasion and the interpretation by the CJEU of the principle of abuse?
Or better yet: can we decide whether a structure is abusive under GAAR, using the substantive requirements of the proposed directive? In Portugal, the courts could lean towards a decision favorable to the tax administration on the application of a possible anti-abuse rule if the structure has a company previously qualified as a “shell” for the purposes of the proposed directive.
We don’t know where this path might lead. However, it should be borne in mind that in matters of abuse, the burden of proof lies with the tax administration and cannot be shifted onto the taxpayer without infringing the principle of proportionality. According to The ECJ’s analysis“The institution of a general tax measure automatically excluding certain categories of taxpayers from the tax benefit, without the tax administration being required to provide even the beginning of proof of fraud and abuse, would go further than necessary to prevent fraud and abuse” (Equiom and Enka, case C‑6/16, paragraph 32).
Partner, Morais Leitao
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