Arbitration Court and NHR - Lessons from practice
Tax controversy and disputes are an area of increasing importance and Portugal is sometimes portrayed as a jurisdiction in which tax disputes are rather time consuming and involve an intricate process.
In this briefing, we give a brief look at Tax Arbitration in Portugal as fast track alternative route to standard judicial tax courts, as it reaches its 10th anniversary.
Tax disputes in Portugal may involve an administrative phase directly with the tax authorities and/or a judicial phase via access to courts. Under the novel framework developed by the CAAD (Centre for Administrative Arbitration), the Portuguese Tax Arbitration court system provides judicial bodies, which apply exclusively written law and are barred from resorting to equity in issuing its decisions. Taxpayers may choose to lodge a tax claim before the Tax Arbitration court, which will decide within a six-month or one-year timeframe the case via a single arbitrator or a three-panel arbitrator depending on the value and/or choice of the taxpayer.
For the purposes of this briefing, we selected 10 Tax Arbitration Court decisions in that directly or indirectly involved the NHR regime which help understand some examples of tax controversy and how they were resolved.
Case 832/2019-T – Non-application of the exemption to foreign source services income to NHR –Portuguese NHR derived service income sourced in Hong Kong (HK) and to apply for the exemption method it was necessary to prove that the NHR had a fixed base through which the income may be taxable in the source state (HK). The Arbitration Court considered that the NHR failed to demonstrate that there was a fixed base qualifying as a permanent establishment through which the income was derived, and the exemption method was denied.
Case 639/2017-T – Application of exemption to liquidation proceeds sourced in Spain by an NHR – Since the tax treaty between Spain/Portugal provides that the term "dividends" is considered to include profits derived from the liquidation of a company, the Arbitration Court considered the income received by an NHR in Portugal fulfils the conditions to be exempt in Portugal as it may be taxed in Spain under the terms of the tax treaty.
Case 505/2018-T – Application of the 20% flat rate to director of a UK company qualifying as NHR – Portuguese NHR exercised in Portugal the role of executive director of UK Company prospecting the Portuguese market and expanding business opportunities. Portuguese NHR had powers to bind the company in relations with third parties, including signing contracts and acts necessary for the exercise of the functions of director. The employment income was not taxable in the UK. The Arbitration Court considered that employment income was derived from a high added value activity (802 code - senior management) and therefore the 20% flat tax rate should be applicable. The tax assessments made without that flat rate were annulled.
Case 392/2018-T – Non-application of exemption on UK source service income derived by NHR - The claimant derived services from UK sources that it considered qualified as know-how income that would otherwise be taxable as royalties under the tax treaty UK/Portugal. In Portugal, income was qualified as entrepreneurial income (Category B) and taxed under simplified regime for services rendered. The Arbitration Court ruled out the exemption method and ruled with the qualification as service income (Article 14 of the tax treaty) rather than royalty income (Article 12 of the tax treaty) as the taxpayer failed to prove the source qualification to access exemption method.
Case 103/2019-T – Flat tax and high value-added activities derived by NHR. The Portuguese NHR was an employee having the category and functions of Director of Logistics Services of PTCo. The tax authorities disputed that the activities were value-added activities for purposes of the 20% flat rate. The Arbitration Court ruled that the role of a director of logistics services is an activity that required a high level of technical capacity and responsibility, as well as management of company budgets and hence must be considered as a senior management role. The Arbitration Court considered the income to fall under code 802 - senior management of companies –taxable at 20% rate.
Case 46/2018-T – Taxation of French source capital gains from the sale of shares derived by an NHR. The claimant was taxable only in Portugal on capital gains from the sale of shares of a French based company not qualifying as a real estate rich company. The NHR exemption method was not applicable and 28% flat rate was applicable. The Arbitration Court ruled that when exemption method is not applicable, the general rules on the calculation of capital gains apply, including possibility of taxing only 50% of the capital gains realized with the sale of shares in micro or small companies. This rule applies to French companies that fulfil the same criteria.
Case 609/2016-T – Non-application of exemption on Brazilian investment income by NHR - Portuguese NHR wrongly stated in its self-assessment that income corresponded to “other income” taxed exclusively in Portugal and hence exemption method would not apply. Portuguese NHR attempted to correct the mistake but the Arbitration Court ruled that Claimant needed to demonstrate, in full form, the mistake of the first tax return and the qualification of income. Arbitration Court considered that evidence presented did not allow to establish the specific nature and origin of the income to dismiss the presumption of the initial tax return as “other income” under the tax treaty between Brazil/Portugal.
Case 155/2019-T – Capital of French life insurance product paid out to NHR - Arbitration Court held that an amount which is accumulated capital of life insurance in France made available to the policyholder was wrongly qualified as investment income. The Arbitration Court considered proven that no taxable event occurred since the amount that originated tax assessment does not constitute return on investment but merely capital. The Arbitration Court mentioned that only if income would have accrued this would qualify as “other income” under tax treaty Portugal/France.
Case 224/2019-T – Taxing rights under tax treaty to tax a bonus from work prior to taking-up residence in Portugal but paid after -The Arbitration Court referred to Commentaries to Article 15 of the OECD Model (income from employment) to consider that what is relevant is factual situation at the date the activity was carried out and not when the income is paid. The Arbitration Court went on to consider that since the income in question originated from work performed exclusively in US the exclusive tax jurisdiction is allocated to US. Therefore, tax assessment at 20% flat rate was reverted (Note: same result of exemption would be applicable under the NHR exemption method as right to tax rests on source state).
Case 178/2018-T – Dual resident in Portugal and France and effective tax paid in France on life insurance income - Portuguese NHR was deemed dual tax resident. The Arbitration Court reasoned that tax residence under Portuguese domestic law should not prevent application of the tax treaty rules and so if a person is dual tax resident, tax treaty residence should prevail. The application of tie-breaker fell towards France (winner country) to the detriment of Portugal (looser country). In the case of a tax resident in France (for tax treaty purposes) that receives French sourced income from a life insurance contract, the Arbitration Court considered that Article 23 of the tax treaty would apply and the “other income” could only be taxed in the winner residence state (i.e. France).
Key takeaways
The 5 key conclusions from this briefing are the following:
1. Tax Arbitration Court as a novel and efficient mechanism to settle tax disputes;
2. Alternative route to speed up timing process;
3. Timely publication of decisions increases transparency;
4. Growing use of this dispute resolution for cross-border tax disputes; and
5. Complex qualification and tax treaty interpretation NHR cases require careful review.
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© Kore Partners, 2021
This briefing provides for general information and is not intended to be an exhaustive statement of the law. Although we have taken care over the information, this should not replace legal advice tailored to your specific circumstances. This briefing is intended for the use of Kore Partners clients and is also made available to other selected recipients. Queries or comments regarding this including joining our mailing list can be directed to kore@korepartners.com