AGEFI Luxembourg - mars 2024

AGEFI Luxembourg 40 Mars 2024 Emploi / Droit O n 30 January 2024, the Luxem- bourg administrativeCourt of Appeal (Cour administrative, 30 janvier 2024, n°49145C) confirmed the decision renderedby the Luxembourg administrative court of first instance (Tribunal administratif, 26mai 2023, n°45030) todeny the status of permanent establishment (“PE”) to theUnited States ofAmerica (“US”) branchof a Luxembourg resi- dent company (or the tax- payer) given the facts and circumstances of the case. It also rejected the taxpayer’s ar- gument basedon a violationof the principle of legitimate ex- pectation, allegedly establishedby several elements including one tax assessment issued in 2013. Summary of the case In 2013, the Luxembourg company established a branch in the USwith the intention to perform intra- groupfinancingactivities.Ataxrulingrequestclaim- ing the recognition of a PE in the US was filed to the Luxembourgtaxauthorities(“ LTA ”)inthesameyear. InSeptember2015,theLTAissuedthetaxassessment for2013,whichwasinlinewiththetaxreturnfiledby the taxpayer (1) . Despite the fact that, at the time, the company had not received any response from the LTAconcerningthegrantingofthetaxruling,the2013 taxreturnwasnonethelesspreparedassumingtheUS branchcouldberegardedasaPEforLuxembourgtax purposes. Consequently, a tax balance sheet taking into account the assumedUS PEwas attached in the annexes of the 2013 tax return. On 22 December 2015, the LTA reached out to the company saying that no answer would be provided to the ruling request as the company had already re- ceived an assessment for the year 2013. On11 September 2019, the taxoffice issuedfinal tax assessments for tax years 2014 to 2017 and, due to the lack of (deemed) relevant evidence to support its substance, denied the qualification of the US branch as a PE. On 16October 2019, the taxpayer submitted its claim tothedirectoroftheLTA,whoconfirmedtheposition of the tax office. The director’s decision was then re- ferredtotheLuxembourgadministrativeCourtoffirst instance(“ theadministrativetribunal ”or“ thetribu- nal ”) by the taxpayer,whichalso rejected its claimon 26May2023.Thisultimatelyledthetaxpayertolodge anappealtotheadministrativeCourtofAppeal(“ the administrativeCourt ofAppeal ” or “ theCourt ”). Context of the decision Wewerewaiting for this judgment aswehad theop- portunity todiscuss the decision renderedby the ad- ministrative tribunal in the first article of our tax controversy series (2) . Even though the administrative CourtofAppeal’sdecisionnottodeviatefromthepo- sition of the administrative tribunal does not really comeasasurprisegiventhecircumstancesofthecase, we believe the developments made by the adminis- trative Court of Appeal regarding the legitimate ex- pectation and legal certainty concepts may deserve further comments. This principle arises fromtheEuropean law, also, the righttorelyonthatprinciplepresupposesthatprecise, unconditional, andconsistent assurances, originating fromauthorized, reliable sources, have been given to thepersonconcernedbythecompetentauthoritiesof theEuropeanUnion( EU ).Basedonthisprinciple,tax authoritiesthathavegivenassurancesormadeprom- ises must be required to honor the expectations they have created for taxpayers. In the case at hand, the question arose whether the behavior of the LTA should be considered as sufficient to have built legit- imate expectation for the taxpayer that its US branch wouldberespectedasaPEforLuxembourgdirecttax purposes. Two elements have been put forward by the taxpayer to sustain its argument. The first one is based on publicly available informa- tionaboutthepositiontakenbytheLTAinacasepre- senting at first glance common features with its own situation, i.e. the recognition of a branch of a Luxem- bourgtaxpayerintheUSasaPE: “Theappellantintends to draw a parallel with the case of State aid involving the company (N) and theGrandDuchy of Luxembourg, while criticizing the first judges for not having taken a position with regard to its arguments based on this case. She con- cludes that nothingwould allowthe administration to treat her differently, even though she was in a known and usual situation.Althoughagreatmanyfinancebranchstructures had, in the past and at the time of her request for anadvance ruling, obtained recognition by the authorities, her own re- fusal would raise questions, all themore so in the absence of a clear response from the authorities to her request.” (3) Though the case inquestionhasbeenanonymized in the judgment, there is little doubt that the parallel drawn by the appellant was between their case and the famousMcDonald’s case (4) – a situation inwhich the LTA not only granted a ruling to a Luxembourg subsidiaryoftheUSgroup,butalsosuccessfullychal- lenged a State aid investigation launched by the Eu- ropeanCommission(whichwaspubliclyannounced by the European Commission on 3 December 2015). In the McDonald’s State aid investigation, the Euro- peanCommission’sexpertsfinallyreachedtheircon- clusion on 19 September 2018 – after an almost three-yearinvestigation–thatLuxembourg’staxtreat- mentofMcDonald’sEuropeFranchisingdidnotvio- late the Luxembourg-United States Income and Capital Tax Treaty (1996) (5) . Based on the figures re- leasedbytheEuropeanCommissionin2018,approx- imately70companiesinLuxembourgbenefitedfrom the same tax treatment asMcDonald’s at that time (6) . Furthermore,itseemsthatinitssupplementarymem- orandum, the appellant raised a second and addi- tional argument to sustain its claim regarding the violation of the principle of legitimate expectation more related to its own situation: “In this context, [the appellant]statesthatitsrequestforanadvancerulingwould have been rejected in December 2015 on the grounds that theyear2013hadalreadybeentaxedpreviously,namelyon 9September2015.However,thetaxassessmentforthe2013 financial year would have been issued in accordance with thetaxreturnsubmittedtothetaxauthorities,accompanied byataxbalancesheetprovidinginformationpreciselyonthe existence of theUS financing branch.” (7) Based on the decision of the Court (described in more detail in the section “Decision of the Court”) , the position seems clear that, in absence of any ad- vance tax ruling, a taxpayer should not take for granted methodologies previously accepted as the LTA may reject their application when it comes to future returns. This is not the first time that the ad- ministrative Court of Appeal has ruled that way (8) . This stance, however, ironically still raises many questions and uncertainties, in a context where the general principles of the lawat stake are those of le- gitimate expectation and legal certainty. We may only assume the rationale behind such a positionwouldbe not tobind theLTAto the assess- ments it issued in thepast (notably incaseof absence of review of previous tax returns). The administra- tiveCourt ofAppeal’sdecision, however, also raises significant implications for the taxpayers. In the ab- sence of any tax ruling, a tax assessment is generally themain document taxpayers rely on to have a cer- tain level of legal certainty as to whether the methodologies appliedare correct.Ataxpayermay, ingood faith, applya specific tax treatment, andbol- steredby thefinal tax assessment, continue toapply it for subsequent tax returns, only to be challenged years later by the LTA. Regarding the tax returns, thereisusuallyadefinitenum- ber of items that should be re- assessedonaregularbasis(e.g. transferpricingstudiesregard- ing intra-group transactions, the so-called comparable tax test in the Luxembourg partic- ipationexemptionregime,etc.). However, it seems clear from the position of the courts that, fromnowon,taxpayersshould systematically question every computation carried out in those returns, albeit unchal- lenged in the past. This road, if taken, is debatable as it con- tributes to further blurring the tax environment for taxpayers and increases their reporting obligations evenmore. Onemaywonderwhetherthis interpretation of the legitimate expectation concept made by Luxembourg courts is in line with the EU approach. On this matter, we can only encourage taxpayers tomitigate the risk of future challenges by the LTA by reaching out to their tax advisors to review the robustness of their transac- tions for direct tax purposes. Decision of theCourt Inshort,theadministrativeCourtof Appeal followed the administra- tive tribunal reasoning in all its findings, therefore ulti- mately reaching the same conclusion: that the tax- payer was unable to demonstrate with suffi- cientlyhardevidencethere- ality of the branch it claimed tohave in theUS. The Court (as already done by the tribunal of first instance in its decision) starts by reiterating the criteria to be fulfilled for a branch to be regarded as a PEunder the double tax treaty signedwith theUS, namely: -aplaceofbusiness,i.e.aphysicalinstallationofsome kind such as those listed byway of illustration inAr- ticle 5, paragraph 2 of theConvention - this installationmust befixed, i.e. itmust, on theone hand, have a link with a specific geographical point and, on the other, be characterized by a certain per- manence - the activity of the enterprisemust have been carried out wholly or partly fromor through this fixedplace of business In light of the above requirements, theCourt thus re- assessesthematerialityoftheevidencebroughtbythe taxpayer and reaches the same conclusion as the tri- bunal of first instance: -Itobservesthatthereareinconsistenciesbetweenthe office agreement and the service agreement serving as evidencewhich subsequent explanations givenby the taxpayer donot clarify. It follows that theCourt is unable to determine the precise physical address of the branch. -Itunderlinesthatthetaxpayerfailstospecificallyex- plain the day-to-day activities of the alleged branch. Aside from the office agreement and the service agreement, both concludedwith the head office, the Courtnotesthatthetaxpayerisunabletoprovideany other elements corroborating the activity of the branch. Going beyond the legal appearance those agreements were meant to create, the judges assert that their mere existence does not demonstrate their actual execution. - Thepayments the branchwas supposed tomake as per the service agreement have not been executed. The Court also rejects the legitimate expectation ar- gument raised by the taxpayer. It rules that, even though the LTA did not challenge the existence of the PE when assessing the 2013 tax return, this did not create a legitimate expectationonwhich the tax- payer may rely. In other words, the 2013 tax assess- mentrelatestothetaxreturnofthisspecificyearonly and the taxpayer should not assume that it means that the PE was therefore effectively recognized by the tax office and that subsequent tax returns may not be rectified on that ground. To summarize the facts at handand thequestion that theCourthadtoanswerregardingtheprincipleofle- gitimate expectationof the appellant aswemay infer themfromwhat ismentioned in theCourt decision: - a practice and tax treatment largely spread on the marketandacceptedbytheLTAatthattime(70cases foundby the EuropeanCommission in 2018) - taxpayershavingobtained tax rulings fromtheLTA (such asMcDonald’s) - the LTA combating the European Commission’s view that this practice would be constitutive of a State aid - a final tax assessment issued by the same LTA not challengingthePEtreatmentappliedbythetaxpayer in its corporate tax return for year 2013 - a ruling request finally rejected not on the grounds of itsmerits but on the fact that 2013has alreadybeen (favorably) assessed by the same LTA (presumably havingknowledgeofthetaxtreatmentappliedwhen deciding on the ruling request) was it legitimate for the appellant to expect that the LTAwould treat their US branch as a PE for FY 2014 as theydid for 2013? TheCourt says no. Recalling that the principle of legitimate expectation aims to protect the taxpayers against abrupt and un- predictable changes of position from the LTA, the Court emphasizes that this was not the case here, given that: -thetaxpayerdidnotbenefitfromanytaxrulingcon- firming the qualificationof the branch as a PE -thetaxpayerwas,ontopofthat,informedbytheLTA that itwouldnot formally take a stance on the recog- nition of the existence of the US branch further to its ruling request TheCourtalsojustifiesitspositionbasedontheprin- cipleof annualityof taxation ( principe de l’annualité de l’impôt ) whereby the 2013 tax assessment issued being in line with the tax return as filed by the tax- payer does not imply the LTAwould from now be bound to accept the existence of a US PE in future tax returns. In light of these considerations, the ad- ministrativeCourt ofAppeal rules that the judges of first instance rightfully rejected the taxpayer’s claim and therefore confirms its judgment denying the recognitionofaUSPE.Asmentionedabove,theout- come of thedecision is not particularly surprising as it primarily underscores the importance of having robust documentation to evidence the substance of an alleged PE, given this is an element the LTA’s radar systematically focuses on. The most important and uncertain aspect however relates to the legitimate expectation notion which seems to no longer be an effective tool upon which taxpayersmay rely fromnowon (in the absence of a rulingissuedbyLTA).Regardingtaxassessments,the CourtofAppealmadeitclear:theymayonlyprovide insurance to taxpayers that their corresponding re- turn will not be challenged, not that its content will be followed in future years. A change of legislation would be welcome to provide more legal certainty. When the interpretation of the general principles of the law of legitimate expectation and legal certainty creates more legal uncertainty, it suggests that there is something thatmight notwork as intendedby the (domestic or European) legislator, and that only the lawmay provide clarity. EmilienLEBAS, Partner, InternationalTax,Taxcontroversy&disputeresolution leader ValentinePLATEAU, AssistantManager,InternationalTax, KPMGLuxembourg 1)Inthefirstarticleofourtaxcontroversyseries( E.Lebas,“Taxcon- troversyseries–AdministrativecourtjudgmentonUSbranches”,AGEFI Luxembourg, September 2023 p. 13) concerning the judgment of the LuxembourgadministrativeCourtoffirstinstance (Tribunaladmin- istratif, 26 mai 2023, n°45030), it was not clear whether such tax as- sessmentwasinlinewiththereturnfiled.Itisnowconfirmedfrom the reading of the decision of the Administrative Court (Cour ad- ministrative, 30 janvier 2024, n°49145C) that such tax assessment for the year 2013 was in fact in line with the return filed, recognizing theexistenceofthePEin2013. 2) E. Lebas, “Tax controversy series – Administrative court judg- mentonUSbranches”,AGEFILuxembourg,September2023p.13. 3)FreetranslationoftheFrenchoriginaltextbytheauthors. 4)EuropeanCommission,Competition:StateAidCases:SA.38945 AllegedaidtoMcDonald’s–Luxembourg,3December2015. 5) Official Journal of the European Union, L 195, vol. 62 (23 July 2019). 6) For more detailed information see E. Lebas, “Recent Amend- mentstoEU,LuxembourgandUSTaxLaws,andtheirimplications forUSholdingandfinancingbranchstructures”,BulletinforInter- nationalTaxation,IBFD,vol.73,n o 11,2019. 7)FreetransactionoftheFrenchoriginaltextbytheauthors. 8)Couradministrative,21avril2021,n°45298C. Tax controversy series Administrative court of appeal judgment on US branch VanessaRamosFerrin, ManagingPartnerat TransfairPricingSolutions

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