Czech Republic vs HPI – CZ spol. s r.o., October 2022, Supreme Administrative Court, Case No 5 Afs 141/2021 – 37

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HPI – CZ spol. s r.o. is a subsidiary in the Monier group. In June 2012 the group replaced an existing cash pool arrangement with a new cash pool arrangement.

Following an audit of HPI the tax authorities issued an assessment of additional income for FY 2012 resulting from HPI’s participation in the new cash pool. According to the tax authorities the interest rates applied to HPI’s deposits in the new cash pool (1M PRIBOR + 0.17%) had not been at arm’s length. The tax authorities determined the arm’s length interest rates to be the same rates that had been applied in the previously cash pool arrangement (1M PRIBOR + 3%) from 1 January 2012 to 31 May 2012.

HPI filed an appeal and in January 2019 the Regional court set aside the assessment issued by the tax authorities. The Regional Court held that the tax authority’s view, which determined the arm’s length interest rate by taking it to be the rate agreed in the old cash pool arrangement from 1 January 2012 to 31 May 2012, was contrary to the meaning of section 23(7) of the Income Tax Act. According to the Court it was for the tax authority to prove that the prices agreed between related parties differed from those agreed in normal commercial relations. In the absence of comparable market transactions between independent persons, the tax authority may determine the price as a hypothetical estimate based on logical and rational reasoning and economic experience. However, according to the Court the tax authorities did not even examine the normal price for the period from 1 January 2012 to 31 December 2012. It merely took the rate from the cash pooling agreement in force until 31 May 2012.

An appeal was then filed by the tax authorities with the Supreme Administrative Court.

Judgement of the Supreme Administrative Court

The Court decided in favour of HPI and upheld the decision from the Regional Court.

“[55] The defendant’s task was to show that, had the applicant not been a related party, it would have obtained a comparable product on the market on different terms. And since a cash pooling account is different from a current account (this type of account is, by its very nature, agreed between related parties who have sufficient knowledge of their economic situation), it was appropriate to adjust the accounts provided by the banks (or the interest rates provided on those accounts) accordingly (to take account of the claimed advantages of a cash pooling account). Simply put, the defendant should have asked the banking entities what interest rate they would be willing to provide an account with similar terms to the applicant’s cash pooling account; alternatively, it should have asked an expert to adjust the rates provided by the banks accordingly if the products offered by the banks worked in a similar way to the cash pooling account.

[56] In the tax audit report, the tax administrator stated that the price negotiated by the applicant was also unsustainable in view of the fact that the external provider of the funds was granted a rate of 1M PRIBOR + 3.22%, while Monier Group S.á.r.l. and MGS also obtained higher rates (+ 3.45% and + 3.35%), as the complainant also argued in its appeal. However, the applicant has repeatedly stated that these rates cannot be regarded as a ‘benchmark’ with the rates granted to members of the cash pool, since these rates did not relate to deposits of funds into the cash pool for the purpose of matching the balances of individual members, but were a revolving credit facility granted to the newly established managing member of the cash pool as an intercompany bank at its inception. The 3,22 % margin then represented, according to the applicant, MGS’s costs, to which it added a profit margin of 13 basis points – MGS’s total margin on the establishment of the new managing member of the group was thus the 3,35 % referred to above – at which rate MGS lent EUR 150 million to Monier Group S.á.r.l., which in turn lent those funds to the newly established MF at a rate of 3,45 %. The tax authorities’ assertion that other members of the group (or external providers of funds) received substantially higher interest rates for deposits into the cash pool is thus not consistent with the content of the file, in particular the content of the applicant’s statements, which repeatedly (three times in total) explained to the tax authorities during the tax audit how the new cash pooling system worked.

[57] The Regional Court also correctly concluded that the tax authorities failed to take into account all the circumstances of the case, in particular by completely disregarding the applicant’s claim that the new system was also more advantageous for all members of the group – on the basis of the new cash pooling agreement, the applicant saved approximately CZK 100-150 thousand per year in bank charges, as the new cash pooling was automatic. According to the applicant, the tax base increased by that amount. The complainant’s claim that the gross profit of the managing member of the group increased from 0,75 % to 4,33 % without any significant change in the functions and risks borne by the managing member of the group cannot therefore be accepted. The reasons for that change were repeatedly described by the applicant to the tax authorities but were not sufficiently taken into account by the tax authorities. Instead, the tax authority proceeded without further consideration from the fact that until 31 May 2016 the applicant’s deposits in the cash pool were remunerated at 1 M PRIBOR + 3 %, which it considered to be the market rate, without, however, demonstrating the difference between the negotiated price (rate) and the benchmark rate.

[58] Nor was it sufficient to find that the applicant had the right under the original cash pooling agreement to request an adjustment of the interest rates in line with market conditions, but that no such adjustment was made (instead, a new cash pooling agreement was concluded). It is up to each taxable entity to choose the specific way of negotiating the interest rate on the deposits provided, and the use of various forms of cooperation between individual entities (members of a group) is a legitimate and, from an economic point of view, a perfectly rational way of doing business (cf. the above-mentioned judgment No 7 Afs 95/2012-47).

[59] Therefore, the Supreme Administrative Court concludes that the Regional Court was correct in its conclusion that the tax authorities did not lift the burden of proof with regard to establishing the price difference. In adjusting the tax base pursuant to Article 23(7) of the Income Tax Act, the tax authorities essentially proceeded only on the basis that until 31 May 2012 the applicant’s deposits had been remunerated at 1M PRIBOR + 3%, whereas from 1 June 2012 the rate was 1M PRIBOR + 0.17%. However, they did not prove the comparative price, or the difference between the agreed price and the comparative price, which is confirmed by the defendant’s assertion in the appeal that the information on cash pooling rates of other entities is not known to the tax authorities (see paragraph [16] of this judgment). By that assertion, the defendant in fact admitted itself that it had not ascertained the comparative interest rate, since it did not have data on other entities using cash pooling and did not examine the current accounts provided by the banks in view of their alleged incomparability (see above). The only data on the basis of which the defendant determined a ‘benchmark rate’ was the previously agreed rate of 1M PRIBOR + 3 %, which, however, cannot be a benchmark rate in view of the fact that it is a rate between related parties.

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