At issue was whether interest on bank loans was deductible when the borrower’s majority shareholder had assured the lenders—through a formal guarantee and through “letters of comfort” embedded in the loan contracts—that it would stand behind the debt. Under article 32 ZDDPO-2 (thin-capitalisation rule) a company may not deduct interest on loans “guaranteed” by a qualifying shareholder if, with that support, its indebtedness to that shareholder (or on that shareholder’s guarantee) exceeds four-to-one debt-to-equity.
Judgment
The Administrative Court ruled in favour of the tax authorities.
In relation to transfer prices, pursuant to the provisions of the first paragraph of Article 382 of the Tax Procedure Act (ZDavP-2) in conjunction with Article 18 of the Corporate Income Tax Act (ZDDPO-2), the taxpayer must provide documentation on related parties, the scope and type of business with them, and the determination of comparable market prices, namely general documentation and specific documentation, an important part of which is also an analysis of the comparability of transactions, which, pursuant to the fifth paragraph of this article, must be made available to the tax authority immediately upon request during a tax inspection. In accordance with the above, the plaintiff, who in the submitted tax returns for the periods under review showed that the expenses from excess loans were in line with comparable market debt, should have had evidence of tax-deductible expenses at the time of preparing the tax returns. The burden of proof lies with the taxpayer, which also applies if, as in the case at hand, the tax authority allows the taxpayer to provide evidence in the form of prescribed documentation during the tax inspection procedure.
The guarantee referred to in the second paragraph of Article 32 of the ZDDPO-2 may be provided in various ways, including by means of a letter of comfort, which is one of the forms of security developed by business practice as a means of confirming obligations. As a rule, this does not provide as much security as a guarantee, bank guarantee, or other forms of real security, and is often only a moral commitment on the part of the declarant, which does not create legally relevant consequences, although in the business world it has very similar effects to a guarantee or bank guarantee. Their content varies in practice and therefore needs to be considered individually in each case, whereby one of the criteria for determining the guarantee under the second paragraph of Article 32 of the ZDDPO-2 may also be taken into account and determined whether the letter of comfort is a condition for obtaining a loan. In the case at hand, it already follows from the contested decision that, without letters of comfort from unrelated banks, the plaintiff would not have obtained loans on the terms and conditions as granted.
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