KHO 2020:35

The decision which is the subject of the appeal

Helsinki Administrative Court 6 April 2018 No. 18/0254/4

Previous proceedings

The tax administration has submitted A Oyj's taxation for the tax years 2009 - 2012 in accordance with the company's declarations.

In the tax adjustments submitted by the Group Tax Center on 21 November 2013 to the detriment of the taxpayer, A Corporation has been added to the taxable income of the business operations pursuant to section 31 of the Tax Procedure Act and to the OECD 2010 Transfer Pricing Guidelines ===) EUR 10,646,213.77 for the tax year 2011 and EUR 10,506,729.17 for the tax year 2012. In addition, the company has been granted a tax increase (===) of EUR 532,300 for the tax year 2011 and EUR 525,000 on the basis of section 32 (3) of the Tax Procedure Act. for the tax year 2012.

The tax adjustments have been based on the findings of the tax audit submitted by the company. The tax audit revealed that the company had set up a Belgian subsidiary, A Finance NV, in 2008 and that the company had transferred to A Finance NV, in kind, intra-group, unsecured long-term loan receivables. On July 1, 2010, the company and A Finance NV had entered into a service agreement, which had been determined to be valid as of November 19, 2008. According to the agreement, A Finance NV performs certain intra-group treasury functions and A Oyj bears and manages certain risks related to the transactions performed by A Finance NV. According to the agreement, A Finance NV is entitled to a guaranteed return on investment and A Oyj will receive the balance.

The Group Tax Center has considered that A Finance NV has not in fact acted as the Group's finance company and that A Finance NV has been entitled to market-based compensation based on operating costs. This compensation has been determined using the TNMM method, and the profit level indicator has been operating profit divided by operating expenses. After the market-based compensation paid for the service, A Oyj's result is considered to be the residual profit from A Finance NV's income.

(===)

In its claim filed on 9 May 2014, the company has demanded the annulment of the tax adjustments submitted for the tax years 2009 - 2012.

By its decisions of 29 October 2015, the Tax Adjustment Board has partially approved the company's claim for the tax years 2011 - 2012 and reduced the amounts added to the company's taxable income (===) to EUR 3,236,400 in the tax year 2011 and EUR 5,768,100 in the tax year 2012. (===) for the tax year 2011 the tax increase imposed has been reduced to EUR 161,800 and the tax increase imposed for the tax year 2012 to EUR 288,400.

The Tax Adjustment Board has given the following reasons for its decisions:

In the circumstances of the case, in addition to the service fee, A Finance NV's market-based compensation is considered to be a risk-free return on the capital lent to the Group companies according to A Finance NV's balance sheet. The transfer pricing adjustment made to A Corporation's taxable income has been adjusted to correspond to A Finance NV's net income from financing activities in accordance with A Finance NV's income statement, less services provided by A Finance NV at market rate and risk-free income from intra-group loan capital. The remuneration for the services due to A Finance NV has been determined as set out in the tax audit report. Risk-free return for A Finance NV:

In its appeal filed with the Administrative Court on 12 January 2016, the company has demanded that the decisions of the Board of Appeal made on 29 October 2015, numbers 507933, 507963, 507972 and 508007, be annulled in so far as they concern the tax increases imposed on the company for the tax years 2009-2012. The company has tried in several ways to ensure that the pricing is on market terms, so the conditions for the application of section 32 (3) of the Tax Procedure Act have not been met.

On March 21, 2016, the Taxpayers' Law Enforcement Unit issued a response to the company's complaint initiated on January 12, 2016.

On April 27, 2016, the company issued a counter-explanation.

In its appeal to the Administrative Court, which was filed on 30 June 2017, the company has demanded, among other things, that the Tax Adjustment Board's decisions No. 507972 and 508007 of 29 October 2015 concerning the tax years 2011 and 2012 be annulled in violation of section 31 of the Tax Procedure Act.

On 12 October 2017, the Taxpayers' Enforcement Unit issued a response to the company's complaint initiated on 30 June 2017.

On 15 November 2017, the company issued a counter-explanation requesting reimbursement of the company's legal costs.

Administrative court decision

By its decision under appeal, the Helsinki Administrative Court has rejected the company's appeals.

After explaining the provision of section 31 (1) of the Tax Procedure Act and the preliminary work of the Act on Tax Procedure, section 26 (4) and section 56 (1), (2) and (4) of the same Act and section 7 of the Business Income Tax Act, the Administrative Court: and paragraphs 1.34, 1.64, 1.65, 1.42 to 1.46, 1.47 to 1.49, 1.52 and 1.53 of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, together with the reasons for their decision, as follows:

Legal assessment and conclusions of the administrative court

It must first be determined whether the taxable income of the company's business could be adjusted under section 31 of the Taxation Act, taking into account the functional assessment sections of the OECD Transfer Pricing Guidelines, without extending the interpretation of section 31 of the Taxation Act to OECD transfer pricing. on the basis of guidelines for

The case concerns an appeal against decisions of the Tax Appeals Board in which section 31 of the Tax Procedure Act has been applied.

The Finnish tax system is also based on the principle of separation of taxpayers in group situations. Income and expenses must be allocated in the Group to the company whose income-generating activities they are related to. The OECD transfer pricing guidelines state that, according to the arm's length principle, companies belonging to a multinational group are treated as separate entities and not as integral parts of the group's combined business. The transactions of the separate units are compared with those of independent companies under comparable conditions. The assessment should be based on case-specific facts and circumstances.

A Oyj has transferred the Group's long-term loan receivables in kind to the established A Finance NV, receiving shares in the established company as consideration. The case concerns the market conditions of the Group's financing between the company and A Finance NV and whether the Tax Administration has been able to adjust the taxable income of the company's business activities on the basis of section 31 of the Act on Tax Procedure.

A Mutual Agreement dated 1 July 2010 has been entered into between A Oyj and A Finance NV, but the agreement has been complied with between the companies as of 19 November 2008. Clause 6.1 of the Agreement. According to the agreement, the agreement entered into force on 19 November 2008 and is valid until 31 December 2013. The agreement has since been extended, with each party having the right to terminate the agreement in writing with three months' notice. According to the agreement, A Oyj will compensate A Finance NV for exchange rate losses and is entitled to exchange rate gains, which A Finance NV will compensate for A Oyj. With regard to the risks borne by the other parties, A Finance NV is contractually entitled to a guaranteed return on equity (ROE) in accordance with the TNMM method, while A Oyj receives the balance.

It is therefore necessary to assess whether the compensation charged by A Finance NV to the company under the Mutual Agreement is compensation related to the financial hedging arrangement or service fees for the service sold by A Finance NV to the company.

According to the appellant, A Finance NV performs the main functions and bears the risks associated with the intra-group financing function. The risk-sharing and the income-sharing based on it correspond to a situation in which A Finance NV would independently hedge its loans with market-based financial instruments. The company has argued that the in-kind contribution provided by the company has been disregarded and the transaction between the company and A Finance NV has been reclassified. The tax administration has reclassified the company's equity investment and reclassified the Mutual Agreement between the company and A Finance NV as a service agreement. Section 31 of the Tax Procedure Act does not allow the in-kind investment made by the company to be disregarded and characterized as a loan granted to operating subsidiaries, nor to the decision-making power concerning internal financing be transferred from A Finance NV to A Oyj. In addition, the intra-group financing function between A Oyj and A Finance NV and related transactions have been reclassified as financial administration services in the tax audit of the company, and the decisions of the Board of Appeal under appeal have been based on this reclassification. The decisions of the Tax Adjustment Board have found that A Finance NV provides financial support services to the company and that A Finance NV should have received a service fee instead of being reimbursed for the security services it provides, which would require compliance with the scope of section 28 of the Tax Procedure Act. According to the appellant, there are no grounds for adjusting A Oyj's taxation on the basis of section 31 of the Act on Tax Procedure, even with regard to the pricing of the mutual agreement.

The A Group underwent a reorganization of the internal financing function in 2008, in which A Oyj transferred in kind the Group's long-term loan receivables to the established A Finance NV, receiving shares in the established company as consideration. The contribution was realized on November 25, 2008, when the interest income from the loan receivables was transferred to A Finance NV. According to the Mutual Agreement concluded between A Oyj and A Finance NV in 2010, A Oyj reimburses A Finance NV for exchange rate losses and is entitled to exchange rate gains, which A Finance NV reimburses for A Oyj and for the risks borne by other parties A Finance According to the agreement, NV is entitled to a guaranteed return on equity in accordance with the TNMM method, while A Oyj receives the balance. According to the report received, A Oyj made decisions on the granting of intra-group loan financing and bore key risks such as the realization of credit loss risk, as well as exchange rate risk, liquidity risk and interest rate risk. The Administrative Court assesses the report as a whole and considers that it was not a question of compensation related to the financial hedging arrangement but of a service fee for support services related to intra-group financing sold by A Finance NV and A Finance NV should have charged A Oyj a market-based service fee. The Administrative Court finds that a related transaction must be identified on the basis of its actual nature and not only on the basis of the title entered into the contract. The statement received from the transaction is evaluated as a whole and the evaluation is not based on the omission or reclassification of the transaction. When assessing the received report as a whole, A Finance NV must be considered to have provided A Oyj with support services related to intra-group financing. The service charge that A Finance NV should have received from A Oyj for its service activities must be considered a corrective transaction. It was not only a question of an agreement between the company and A Finance NV regarding the sharing of exchange rate risk and the risks borne by other parties, but also that A Finance NV had sold the above-mentioned services to A Oyj. Therefore, A Finance NV should have charged A Oyj a market-based service fee. When assessing the received report as a whole, A Finance NV must be considered to have provided A Oyj with support services related to intra-group financing. The service charge that A Finance NV should have received from A Oyj for its service activities must be considered a corrective transaction. It was not only a question of an agreement between the company and A Finance NV regarding the sharing of exchange rate risk and the risks borne by other parties, but also that A Finance NV had sold the above-mentioned services to A Oyj. Therefore, A Finance NV should have charged A Oyj a market-based service fee. When assessing the received report as a whole, A Finance NV must be considered to have provided A Oyj with support services related to intra-group financing. The service charge that A Finance NV should have received from A Oyj for its service activities must be considered a corrective transaction. It was not only a question of an agreement between the company and A Finance NV regarding the sharing of exchange rate risk and the risks borne by other parties, but also that A Finance NV had sold the above-mentioned services to A Oyj. Therefore, A Finance NV should have charged A Oyj a market-based service fee. It was not only a question of an agreement between the company and A Finance NV regarding the sharing of exchange rate risk and the risks borne by other parties, but also that A Finance NV had sold the above-mentioned services to A Oyj. Therefore, A Finance NV should have charged A Oyj a market-based service fee. It was not only a question of an agreement between the company and A Finance NV regarding the sharing of exchange rate risk and the risks borne by other parties, but also that A Finance NV had sold the above-mentioned services to A Oyj. Therefore, A Finance NV should have charged A Oyj a market-based service fee.

The transfer pricing method applied by the Group has not resulted in a market-based outcome for the transaction in question, and thus the pricing should be adjusted using the most appropriate method for pricing the transaction, taking into account the activities performed by the parties and related risks and assets. Determining market-based pricing using a method different from the transfer pricing method applied by the Company is not a reclassification of transactions or business operations. To the extent that the Group company that has used the services has not paid market compensation, it has been determined as a transfer pricing adjustment. In the opinion of the Administrative Court, the case does not concern the reclassification of the company's activities in the sense that the company presents in its complaint and rejoinder. There is no need to assess the matter differently, even though no internal written agreements have been drawn up for the supply of services. Consequently, it has not been necessary to apply the tax avoidance provision of section 28 of the Tax Procedure Act when submitting the tax. The decisions of the Tax Adjustment Board need not be annulled on this basis.

It is now necessary to assess whether the company's transactions have deviated from what would have been agreed between the independent parties and whether the company's intra-group transactions can be adjusted under section 31 of the Tax Procedure Act.

The Administrative Court states that the market condition of the company's transactions and the transfer pricing adjustments made must be examined in the light of the principles set out in the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2010, paragraphs 1.41 to 1.51.

According to the appellant, following the restructuring of the finance function, A Finance NV has been responsible for intra-group lending and the liquidity of the operating subsidiaries. A Finance NV's operations have covered all normal financial activities such as lending and related activities, loan management, risk management and other day-to-day treasury activities. The funds tied up in A Finance NV's activities have belonged to it in both legal and financial terms. A Finance NV has actively used the assets included in its balance sheet in the course of its financial business. A Finance NV has been responsible for the credit loss and liquidity risks of its financial operations independently and within the framework of its own business. The financing transactions between A Finance NV and its subsidiaries have been n and its subsidiaries, and A Oyj has not been a party to these transactions in any way. A Oyj and A Finance NV have mutually agreed on the division of certain risks and functions related to the intra-group financing function and the distribution of income to be delivered on the basis thereof. A Finance NV performs the main functions and bears the risks related to the intra-group financing function. The risk-sharing and the income-sharing based on it correspond to a situation in which A Finance NV would independently hedge its loans with market-based financial instruments. A Oyj and A Finance NV have mutually agreed on the division of certain risks and functions related to the intra-group financing function and the distribution of income to be delivered on the basis thereof. A Finance NV performs the main functions and bears the risks related to the intra-group financing function. The risk-sharing and the income-sharing based on it correspond to a situation in which A Finance NV would independently hedge its loans with market-based financial instruments. A Oyj and A Finance NV have mutually agreed on the division of certain risks and functions related to the intra-group financing function and the distribution of income to be delivered on the basis thereof. A Finance NV performs the main functions and bears the risks related to the intra-group financing function. The risk-sharing and the income-sharing based on it correspond to a situation in which A Finance NV would independently hedge its loans with market-based financial instruments.

The tax administration has performed an assessment of operations and facts, which has assessed the companies' operations, risks and assets in connection with the Group's internal financing activities. The tax administration has since carried out a benchmarking exercise.

According to the report received in the case, the Group restructured its internal financing function in 2008, in which the Group's parent company A Oyj transferred in kind the Group's long-term loan receivables to the established A Finance NV, receiving shares in the established company. A Finance NV was entered in the Trade Register on 19 November 2008. The contribution was realized on November 25, 2008, when the interest income from the loan receivables was transferred to A Finance NV. Since its establishment, A Finance NV has operated as an intra-group finance company, financing group companies through various loan arrangements. A Finance NV's operating income has consisted of interest income related to the loan portfolio, its assets have been financed mainly with equity and it has had no long-term debt at all. A Finance NV:

Prior to the restructuring implemented in the Group, A Oyj has been responsible for the Group's internal financing. Approximately two years after the establishment of A Finance NV, according to the service agreement dated July 1, 2010, A Oyj is responsible for the currency risk related to A Finance NV's operations and target limits have been set for A Finance NV's operations related to return on investment. According to the agreement, A Finance NV will reimburse A Oyj for income that exceeds the target limit or, alternatively, invoice A Oyj for income that falls below the target limit.

The loan portfolio transferred to A Finance NV in kind includes long-term loans between A Finance NV and the Group's subsidiaries. In connection with the preparation of the annual budget, the Group companies assess their own forecasted financing needs, and on this basis each subsidiary decides on the need for a long-term loan and applies for a loan from A Finance NV. A Finance NV assesses the borrowing capacity of the subsidiary and then decides on the loans to be granted independently and their terms. The repayment capacity of the Group companies is analyzed by A Finance NV using historical earnings and balance sheet data as well as forecast budgets. In making the loan decision, A Finance NV also takes into account the Treasury Committee's recommendation for a subsidiary-specific capital structure.

According to the tax audit, the long-term loans granted by A Finance NV are bullet loans and the short-term loans (up to one year) are credit facilities. According to the tax audit findings, loan agreements have been standard documents that have differed very little from each other. In addition, the loans have been granted in the local currency of the borrower and the interest rate used is the local ibor rate corresponding to the currency plus a margin. The loans have been unsecured and have not included covenants.

According to the company, A Finance NV independently bore the credit loss risk and liquidity risk of the loans.

According to the company, A Oyj is also responsible for the currency risk related to the operations of A Finance NV. A Finance NV has performed various operational tasks related to financial administration and accounting reporting, accounting and payment transactions, which cannot be considered as core functions related to the Group's internal financing function. The terms of the intra-group loans have been agreed on in order to streamline A Finance NV's management work and the functions transferred to A Finance NV are easily transferable in nature, and A Finance NV has not had the independent power to make material decisions regarding its assets. In addition to A Finance NV: A significant task of the company's personnel has been to ensure that the company operates in accordance with local regulations and especially tax legislation. The Administrative Court considers that all core functions related to intra-group financing, including lending financing and credit decisions, have in fact been the responsibility of A Oyj. Taking into account the service agreement entered into by A Finance NV with A Oyj, under which A Finance NV has hedged against interest rate risk at the ROE level, the interest rate risk related to the loans has been borne entirely by A Oyj. When A Oyj's balance sheet included long-term debt received from financiers outside the Group, A Oyj was still responsible for the Group's external financing after the establishment of A Finance NV. Given that A Finance NV: n's business has been deemed to be the actual sale of financial management and reporting services to A Oyj and A Finance NV has not been deemed to be engaged in intra-group financing business, liquidity risk related to the Group's liquidity and refinancing of Group companies is the responsibility of A Oyj and A Finance NV does not no liquidity risk. Based on the report received, A Oyj has also actually borne the credit loss risk related to the Group's internal loan receivables.

On the basis of the above, and also taking into account that A Finance NV has allegedly taken into account the recommendations of the Treasury Committee and that the five persons who formed the Treasury Committee have simultaneously worked for A Oyj, the Administrative Court considers that the core functions related to intra-group financing are actually accounted for A Oyj and is responsible for intra-group lending. It is not to be considered plausible that A Finance NV could take independent decisions on whether or not to grant loans when the agreements were standard and when, according to the minutes of A Finance NV's board meetings, the board did not decide to grant loans but met in mid-2010. the number of loans existing since then, type and capital as well as new loans and possible new loans. A Finance NV has thus provided A Oyj with support services related to intra-group lending, on the basis of which it cannot be assessed that it has borne the actual risk of intra-group financing, taking into account in particular the information received on decision-making and loan terms.

When the appellant has not substantiated in his appeal the other steps included in the assessment of Section 31 of the Tax Procedure Act mentioned above, the Administrative Court finds that these have not been established as incorrect. Taking into account the report on the company's operations, assets and risks, the Administrative Court considers that the method applied by the Tax Administration produces a market-based result compared to the transfer pricing methods applied by the company. Consequently, the tax administration was able to make a transfer pricing adjustment in which the market-based pricing could be demonstrated using the same transfer pricing method TNMM as that applied by the company itself, but the Tax Administration has used expenses instead of equity as a net profit indicator, and in addition A Finance NV has been classified as a company providing financial management services and companies offering similar types of services have been selected for comparative information. The company has not shown that the calculation made by the Tax Administration is incorrect.

Taking into account the company's operations / risks / assets, the transfer pricing model used by the Group, and the profitability statements of Group companies and comparable companies, the Administrative Court considers that the transfer pricing model applied in the Group has not resulted in a market-based result for A OyjA Oyj's taxable income has thus remained lower than it would have been in a situation where transactions would have taken place only between independent companies. The grounds for the transfer pricing adjustments pursuant to section 31 (1) of the Tax Procedure Act and the tax increases imposed on the basis of them have thus existed. When, in the above respects, the company has failed to tax part of its income when the tax is submitted, The tax administration has had to adjust the taxation to the detriment of the company for the tax years 2009 - 2011. The tax administration has also been able to deviate from the company's tax return for the tax year 2012. The amounts added to the company's income have not been shown to be too high.

Tax increases

Pursuant to section 32 (2) of the Tax Procedure Act, if a taxpayer has submitted a tax return or other declaration to fulfill a reporting obligation or other prescribed information or document as substantially incomplete or incorrect or only after a verifiable request, a tax increase of up to EUR 800 may be imposed on the taxpayer. According to subsection 3 of the same section, if a taxpayer has made a materially false tax return or other declaration to comply with the reporting obligation or other prescribed information or document, or has not made a return at all, the increased income tax is not more than 30% of the added income. The amount which has changed taxation in a way that increases taxable income in a subsequent tax year. According to this subsection, a tax increase is also imposed when the taxpayer has knowingly or through gross negligence declared income as the wrong type of income.

In the present case of an international disguised transfer of profits, the imposition of a tax increase may be considered not only in the light of the other factors mentioned below but also in the light of the considerations set out when the new transfer pricing rule was introduced by Law 1041/2006. According to the preamble to this Act (HE 107/2006), in assessing the materiality of a taxpayer's negligence, particular attention should be paid to whether the taxpayer has shown that he has exercised sufficient care to price his related transactions on market terms. If a taxable person proves that he has made a sincere and reasonable effort to use market conditions in his pricing, this is not, as a general rule, at least gross negligence within the meaning of section 32 (3).

By decisions of the Tax Adjustment Board, the company's tax increase has been reduced to (===) EUR 161,800 in the tax year 2011 and EUR 288,400 in the tax year 2012. The imposition of the tax increase is based on the above-mentioned section 32 (3) of the Tax Procedure Act.

The Administrative Court states that the company has an obligation to ensure that the principle of market conditions is observed in all its related party transactions. In view of all the above, the company must be considered to have been aware that the company did not carry out its intra-group transactions on market terms. The Administrative Court finds that the company could not be considered to have a reasonable reason to assume that the terms applied in intra-group transactions were market-based and that the company would have acted with due diligence to ensure that its transfer pricing was market-based.

The Administrative Court considers that the transfer pricing documentation referred to in section 14a (1041/2006) of the Tax Procedure Act can be considered as other prescribed information or document referred to in section 32 (3) of the said Act. When the case is for the reasons given reported that the company and its related-party transaction between the agreed conditions or prescribed terms and conditions that deviate from what each other would be made between independent parties, and the taxpayer's business activities, or other activities taxable income has therefore been smaller or the loss has become greater than it would otherwise have been and has resulted in a transfer pricing adjustment to the detriment of the taxable person, the transfer pricing documentation used by the company and other explanation given in the matter cannot be considered as a basis for the market condition of the transactions between the company and its related parties. In addition, the company's auditor has recommended the acquisition of the Finnish tax authorities a declaration, the Administrative Court considers this, and for the reasons stated above, that the company would have had reason to believe that the Company and its related party transaction between the agreed and prescribed terms and conditions, which are different from the Law on tax procedure 31 § on the basis of what would have been agreed between the independent parties. The prior information received by the company from the Belgian tax authorities is irrelevant, as the prior information provided by the Belgian tax authorities is not binding on the Finnish tax authorities. Therefore, even on this basis, the company cannot be considered to have shown in the present case that it had made a sincere and reasonable effort to achieve market conditions in its pricing. The error found in the transfer pricing can be considered significant and can be considered to be such that the company should have taken steps to ensure the market conditionality of the transfer pricing. The company has not acted with due diligence and the income reported in the tax returns has therefore been considerably too low. On the basis of the above-mentioned grounds, the company has, knowingly or through gross negligence, made false tax returns in the manner referred to in section 32 (3) of the Tax Procedure Act. The matter is not open to interpretation or ambiguity that the company could be subject to less severe tax increases on this basis. The tax increases of around 5% imposed should not be considered excessive and should not be reduced in the light of the above.

(===)

The matter has been resolved by members of the Administrative Court Olli Kurkela, Matti Haapaniemi and Marianne Lastikka. Elisa Aukeela, rapporteur.

Proceedings in the Supreme Administrative Court

The company has requested permission to appeal the decision of the Administrative Court and in its appeal demanded that the decision of the Administrative Court be annulled and the submitted regular taxes be enforced.

The company has presented its claims as follows, among other things:

The case is based on A Finance NV, a Belgian finance company founded by the company in 2008. In connection with the establishment of A Finance NV, the company has transferred intra-group loan receivables in kind to it. A Finance NV has since been responsible for intra-group financing and its activities have included the usual activities related to the provision and management of financing, such as the conclusion of loan agreements and the lending of funds. Decisions related to the conclusion of loan agreements and the granting of loans have been made independently by the employees of A Finance NV.

An agreement has been entered into between the company and A Finance NV, in which market-based currency and interest rate hedging transactions related to the Group's internal financing function have been agreed. Based on the agreement, the company has, among other things, compensated A Finance NV for exchange rate losses and correspondingly received exchange rate gains from A Finance NV.

However, the contested decision finds that decisions on intra-group financing are in fact taken by the company. The decision means that the administrative court deviated from the private law conditions related to the organization of the intra-group financing function and disregarded the civilly valid equity investment (in-kind) provided by A Finance NV and considered that the investment in the equity of a separate company (A Finance NV) would be from a tax perspective, still in the control of the company and the company’s employees. The decision also deviates from the private law conditions and operating model related to the organization of the Group's internal financing function, including the loan agreements entered into between A Finance NV and other Group companies, and the A Finance NV: n decision-making power. The two-way hedging agreement between the company and A Finance NV has therefore been reclassified as a service agreement with a completely different operating model and a completely different outcome, rather than its actual nature.

The administrative court has thus interpreted the private law circumstances of the policy chosen by the taxpayer and, for tax purposes, gave them a new meaning, different from the private law conditions of business transactions, on the basis of section 31 of the Tax Procedure Act. The decision reclassifies the agreement between the company and A Finance NV as a service contract instead of its actual nature.

A transfer pricing adjustment pursuant to section 31 (1) of the Tax Procedure Act can only be applied to the terms of transactions agreed between related companies. Based on the Supreme Administrative Court's yearbook decisions KHO 2014: 119 and KHO 2017: 145, it is clear that the transfer pricing adjustment pursuant to section 31 of the Tax Procedure Act justifies a review of the market conditions of the parties' chosen transaction - not another transaction.

A transfer pricing adjustment based on Article 31 of the Tax Procedure Act would only be possible with regard to the terms of the exchange rate and interest rate hedging agreement between the company and A Finance NV, ie hedge pricing adjustment, while it is not possible to deviate from the financial function of this function. If the price of the hedge were considered to differ from what had been agreed between the independent parties, it would be possible to add to the company's income a transfer pricing adjustment in accordance with section 31 of the Tax Procedure Act.

The OECD Transfer Pricing Guidelines have an interpretative effect on the scope of section 31 of the Tax Procedure Act, but they do not have the effect of extending the scope of that provision in the light of the principle of the legality of taxation. Therefore, the possibility for the tax authority in the transfer pricing instructions to override the transaction agreed by the parties in certain exceptional circumstances is irrelevant.

The contested decision of the Administrative Court is contrary to the scope of section 31 of the Tax Procedure Act. In addition, A Finance NV has been assigned an appropriate market rate of return, taking into account the activities it performs, the risks it bears and the assets used, the external risks of which are hedged by the financing it has acquired from A Finance NV under the agreement. There is therefore no reason to adjust the company's taxation, even with regard to mutual pricing.

According to settled case-law, the reclassification under section 31 of the Tax Procedure Act is so erroneous that it is reasonable to order the costs to be reimbursed.

The company has supplemented its complaint and stated that the Supreme Administrative Court's yearbook solution KHO 2018: 173 supporting the company's appeal must be taken into account when assessing the company's matter.

In its defense, the Taxpayers' Enforcement Unit has rejected the appeal.

In its defense, the Judicial Review Unit has stated, inter alia:

The company's complaint mainly concerns the reclassification. The reclassification of transactions is mentioned in Section 1.65 of the OECD Transfer Pricing Guidelines. The guidelines describe two situations in which, exceptionally, a transaction used by a taxpayer may end up being ignored. Based on the guidance, the tax administration can ignore a business transaction and replace it with another transaction. A distinction must be made between transaction pricing and transaction reclassification. Transaction pricing is based on identifying the actual transaction made. The terms of the related transaction and other circumstances affecting the transaction are clarified and the transaction so identified is compared with a comparable transaction between independent parties.

A completely separate analysis of transaction pricing could be done in accordance with the OECD transfer pricing guidelines by re-characterizing the company's transaction. This is a reclassification of the transaction mentioned in paragraph 1.65 of the OECD Transfer Pricing Guidelines. The reclassification of transactions first identifies the transaction made by the company, but it is not taken as the basis for taxation, but is replaced by another transaction. Replacing a transaction with another transaction significantly changes corporate taxation, which is why the OECD Transfer Pricing Guidelines emphasize that business reclassification should only be possible in exceptional circumstances.

The Supreme Administrative Court's yearbook decision KHO 2014: 119 is based on the assessment of a related transaction with two separate questions. The Supreme Administrative Court has first ruled on the tax nature of the agreement, ie classified the loan as either equity or liabilities for tax purposes. The Supreme Administrative Court has concluded that, in view of the terms of the loan as a whole and the economic circumstances prevailing during the period under appeal, the loan must be regarded as debt capital for tax purposes in those circumstances. Since then, the Supreme Administrative Court has ruled as a separate issue on whether an agreement characterized as a loan agreement for tax purposes can be disregarded and reclassified as equity on the basis of the transfer pricing adjustment section of Finnish domestic law. The Supreme Administrative Court concluded that the reclassification mentioned in the OECD transfer pricing guidelines is not possible in accordance with Finnish domestic law. The reasoning of the Supreme Administrative Court's decision shows that transfer pricing must first identify the transaction made before considering a possible reclassification of the transaction made.

In the present case, the transactions carried out by the company have been identified without any alteration. There is also a consensus on the transfer pricing method to be used for the pricing of A Finance NV's remuneration. The transaction made by the company has not been changed, so there can be no question of reclassifying the transaction. In its decision, the Administrative Court has only taken into account the transactions made by the company and the facts and circumstances that affected them.

The company has not acted with due diligence and the income declared in the tax return has therefore been too low. The company's pricing has deviated significantly from the market condition principle. The company has knowingly or through gross negligence submitted materially false tax returns in the manner referred to in section 32 (3) of the Tax Procedure Act. The company has not put forward any arguments on the basis of which the tax increases should be considered excessive.

A Oyj has issued a counter-explanation. (===)

The Taxpayers' Enforcement Unit has issued a statement which has been sent to the company for information .

The decision of the Supreme Administrative Court

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The Supreme Administrative Court grants the company leave to appeal in other respects and investigates the matter.

2. The company's appeal is approved for the tax years 2011 and 2012. The Supreme Administrative Court annuls the decisions of the Administrative Court and the Tax Adjustment Board, as well as the tax adjustments submitted to the taxpayer's detriment in these respects, and enforces the submitted regular taxes.

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Reasoning

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2. Tax adjustments for the tax years 2011 and 2012

2.1 Applicable provisions and their preparatory work

According to section 4 (1) of the Act on the Taxation of Business Income, taxable business income is income received in the course of business in the form of money or a benefit of monetary value.

Law on tax procedure § 31 subsection 1., if the taxpayer and for him a related-party transaction between the agreed conditions or prescribed terms and conditions that deviate from what each other would be made between independent parties, and the taxpayer's business activities or other activities of the taxable income is therefore if the amount is less than it would otherwise have been, the amount that would have accrued if the terms corresponded to what would have been agreed between the independent parties is added to the income.

With regard to section 31 of the Government's proposal for legislation on transfer pricing of income tax (HE 107/2006 vp) on tax procedure, it states, inter alia: " what would have been agreed between the independent parties and the taxable income would therefore have been lower or the loss would have been higher than it would have been if the pricing had been on market terms.In addition, an increase in income under that provision after the end of taxation would require compliance with the conditions of Article 56 on the adjustment of taxation to the detriment of the taxable person. "

The Government's proposal further states that "the proposed provision would cover all commercial transactions carried out in the course of a business or other economic activity. The scope of the provision would be as broad as the current provision's phrase ". In addition to typical commercial buying and selling transactions, all financial transactions, transfers of intangible assets and other arrangements, whether for consideration or without consideration, would be considered a transaction. For example, services provided free of charge by a group company on behalf of other group companies would be covered."

Pursuant to section 32 (3) of the Tax Procedure Act (1079/2005), if a taxpayer has, due to his knowledge or gross negligence, submitted a materially false tax return or other declaration to fulfill the reporting obligation or other prescribed information or document, or has not submitted a return at all, a tax increase of up to 30% of the added income and, in the case of added assets, up to 1% of the added funds. Added income is also considered to be the amount by which taxation has been changed in a way that increases taxable income in a subsequent tax year.

According to section 56 (1) of the same Act (520/2010), if a taxpayer has been partially or completely untaxed or has otherwise failed to pay the prescribed tax, the Tax Administration may adjust the taxation to the detriment of the taxpayer.

Subsection 4 of the same section (1079/2005) insofar as the taxpayer has not submitted a tax return or has submitted an incomplete, misleading or false tax return, other information or document or otherwise failed to report, the tax adjustment to the taxpayer's expense must be made within five years from the start of the year.

2.2 OECD Transfer Pricing Guidelines

According to paragraph 1.64 of the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, when a tax administration investigates a transaction of interest, the investigation should normally be based on the transaction of the related party as arranged by the taxpayer. the methods described in Chapter II of the Transfer Pricing Guidelines. Except in exceptional cases, the tax administration should not disregard actual transactions or replace them with other transactions. A reformulation of eligible transactions would be a completely arbitrary measure, the unfairness of which would be exacerbated by the double taxation caused if another tax administration disagreed on how the transaction should be formulated.

However, according to point 1.65 of the Transfer Pricing Guidelines, in two specific situations, it may exceptionally be both appropriate and justified for the tax administration to consider disregarding the structure used by the taxpayer in carrying out the insider dealing. The first situation arises when the financial substance of a transaction differs from the form of the transaction. In such a case, the tax administration may disregard the parties' characterization of the transaction and reclassify the transaction according to its substance. An example of such a situation is an investment in an interest-bearing loan in the form of an interest-bearing loan when, on the basis of the financial circumstances of the borrowing company and the arm's length principle, such an investment would not be considered probable. In this case, it may be appropriate for the tax administration to characterize the investment according to its economic substance, with the result that the loan may be treated as a capital subscription. As another example, the guidelines mention a situation where the legal form chosen by the taxable person does not differ from its actual content, but the terms of the contract as a whole differ from what would have been agreed by the independent parties. An example is a situation where intangible rights arising from future development work have been sold under a long-term contract for a lump sum. In such a situation, the tax administration may have a valid reason to treat the arrangement as a continuing development agreement. that the loan may be treated as a capital subscription. As another example, the guidelines mention a situation where the legal form chosen by the taxable person does not differ from its actual content, but the terms of the contract as a whole differ from what would have been agreed by the independent parties. An example is a situation where intangible rights arising from future development work have been sold under a long-term contract for a lump sum. In such a situation, the tax administration may have a valid reason to treat the arrangement as a continuing development agreement. that the loan may be treated as a capital subscription. As another example, the guidelines mention a situation where the legal form chosen by the taxable person does not differ from its actual content, but the terms of the contract as a whole differ from what would have been agreed by the independent parties. An example is a situation where intangible rights arising from future development work have been sold under a long-term contract for a lump sum. In such a situation, the tax administration may have a valid reason to treat the arrangement as a continuing development agreement. what would have been agreed by the independent parties. An example is a situation where intangible rights arising from future development work have been sold under a long-term contract for a lump sum. In such a situation, the tax administration may have a valid reason to treat the arrangement as a continuing development agreement. what would have been agreed by the independent parties. An example is a situation where intangible rights arising from future development work have been sold under a long-term contract for a lump sum. In such a situation, the tax administration may have a valid reason to treat the arrangement as a continuing development agreement.

2.3 Clarification received

A Oyj is the parent company of the A Group. The Group's operational machinery and equipment rental business is conducted in subsidiaries located in different countries. The majority of the companies engaged in business are wholly owned directly by the parent company. In addition to the group companies engaged in the business, the group includes the Belgian finance company A Finance NV and the Swedish company providing group services.

A Oyj has not had its own operational activities, but the company has managed the Group's subsidiaries. The company's main function has been to perform head office functions. The head office functions have been related to the coordination and management of business operations in the Group's subsidiaries, and they have in practice been the provision of management services to these companies.

The company's net sales consist entirely of administrative fees charged to subsidiaries. Administrative fees have been collected since 2009. The company's operating result has been unprofitable in 2009-2011. In 2008, the company has accumulated operating profit mainly from gains on the sale of shares and real estate. The result for the financial year has been profitable, except for 2010. The operating profit has been based on the group grants and subsidiary dividends received annually by the company.

The company's most significant balance sheet assets in 2009 - 2011 consisted of subsidiary shares. Otherwise, the company's assets have mainly consisted of short-term and long-term intra-group loan receivables. The company's balance sheet has included a total of approximately EUR 550,000,000 in liabilities in 2009, EUR 616,000,000 in 2010 and EUR 585,000,000 in 2011. The company's most significant risks have been the impairment risk of subsidiary shares and financial risks. Impairment risk has been related to the performance of the operating subsidiaries and their ability to pay dividends. The most significant financial risks have been market risk (including currency risk and interest rate risk) and liquidity risk.

The A Group restructured its internal financing function in 2008. On 19 November 2008, A Oyj established A Finance NV, to which A Oyj transferred approximately EUR 223,500,000 of long-term intra-group loan receivables in kind to A Finance NV on 25 November 2008. Intra-group loan receivables transferred in kind have been unsecured and interest income on loan receivables has been transferred to Belgium on the same day. In return for the contribution in kind, A Oyj has received shares in A Finance NV.

A Finance NV has acted as an intra-group finance company. A Finance NV has financed the Group companies on a debt basis by granting either short-term (up to one year) loan facilities or long-term bullet loans. A Finance NV's operating income has consisted of interest income related to its loan portfolio. A Finance NV's loan portfolio in the financial statements on 31 December 2011 has been approximately EUR 280,100,000. It has accrued interest income of approximately EUR 13,200,000 to EUR 15,300,000 annually. A Finance NV has made an annual profit of approximately EUR 9,900,000 to EUR 12,500,000.

A Finance NV has been an almost debt-free company and has had no long-term debt at all. Short-term liabilities have been largely internal to the Group. In the 2009 financial statements, the amount of short-term liabilities has been approximately EUR 4,400,000 million and in the financial statements 2010-2011, the amount in each has been approximately EUR 26,200,000. In addition to trade payables, current liabilities have mainly consisted of foreign exchange gains and ROE credits credited to the company on the basis of a service agreement, as well as short-term deposits of Group companies.

The solvency capital of A Finance NV consists of the funds transferred in kind and the income financing generated by the business. In accordance with the Group's strategy, the capital structure of other Group companies has been debt-oriented. A Finance NV's assets consist essentially entirely of its loan portfolio and cash. According to A Finance NV's balance sheet data, the company has not had any real assets. The equipment, with the exception of computers and related software, has been included in the rent of the company's premises. The loan agreements used by the company have been standard.

A Oyj has been responsible for the Group's internal financing before the establishment of A Finance NV. Since the establishment of A Finance NV, the functions, risks and income related to internal financing have been partially shared between the companies. According to the Mutual Agreement signed between the companies about two years after the establishment of A Finance NV in late 2010, A Finance NV receives a guaranteed return on its business based on return on investment, which in practice has meant that A Finance NV receives the majority of interest on group loans each year. it has contractually assumed only part of the risks related to group financing.

Target limits have been set for the return on investment achieved by A Finance NV through its operations. A Finance NV has reimbursed A Oyj for income that has exceeded the target limit or, alternatively, invoiced A Oyj for income that falls below the target limit. This has ensured a reasonable return on the services provided by A Finance NV in Group A.

Based on the functional analysis prepared in the tax audit submitted at A Oyj, the Group Tax Center has determined that the company has actually performed all significant functions related to intra-group financing, assumed significant risks and used significant assets and that A Finance NV has not actually acted as a group finance company. A Finance NV has been deemed to have provided A Oyj with the usual services related to financial administration, payment transactions and reporting. A Finance NV has been deemed to be responsible for administrative tasks related to group financing, such as loan drawdowns, repayments and interest payments, interest calculation and collection, and group reporting.

Based on the above, the Group Tax Center has considered that A Finance NV has been entitled to market-based compensation based on operating costs. This compensation has been determined using the TNM method, and the profit level indicator has been operating profit divided by operating expenses. After the market-based compensation paid for the service, A Oyj's result is considered to be the residual profit from A Finance NV's income. Pursuant to section 31 of the Act on Tax Procedure and in accordance with sections 1.48, 1.49, 1.52, 1.53, 1.64 and 9.165 of the OECD Transfer Pricing Guidelines 2010, the Group Tax Center has added income to differences between income and income reported by the company.

In the grounds of its decisions on the transfer pricing adjustment, the Group Tax Center has stated that in the present case the transactions have not been re-characterized because the characterization or structuring of the transaction or arrangement between the parties has not been adjusted. The transfer pricing adjustment, on the other hand, has been found to be a transfer pricing adjustment for the pricing of compensation under the service agreement between A Oyj and A Finance NV based on the actual transactions between the parties, ie the transactions between the parties have been identified as structured by the parties. .

The Tax Adjustment Board has reduced the amounts added to A Corporation's taxable income for the tax years 2011-2012 because it has considered that A Finance NV's market-based remuneration covers not only the service fee but also the risk-free return on A Finance NV's balance sheet capital lent to Group companies.

2.4 Legal assessment and conclusions

It must be determined whether, under Article 31 of the Law on tax procedure and with reference to the OECD transfer pricing guidelines, the Group Tax Center could have considered that A Finance NV had not in fact acted as a group A financial company but as a company providing normal financial management, payment and reporting services. After that, it must be resolved whether the Group Tax Center has been able to submit A Oyj's tax adjustments for the tax years 2011 and 2012 to the taxpayer's detriment and make additions to A Oyj's taxable income as transfer pricing adjustments.

In its previous case law, the Supreme Administrative Court has stated that market conditionality assessment methods in accordance with the OECD transfer pricing guidelines must be considered an important source of interpretation when considering the market conditionality of a transaction (KHO 2013: 36, KHO 2014: 119, KHO 2017: 146 and KHO 2018: 173). However, the significance of the transfer pricing guidelines as a source of interpretation is limited, inter alia, by the fact that a transfer pricing adjustment pursuant to section 31 (1) of the Tax Procedure Act does not generally address cash flows between parties to an intra-group transaction but only pricing or other In its yearbook decision KHO 2014: 119, the Supreme Administrative Court has held that

In the present case, A Oyj has invested the receivables from its group companies in A Finance NV as non-cash assets. A Oyj has received shares in A Finance NV in return. The receivables have thus been the property of A Finance NV and A Finance NV has recorded the receivables as assets in its balance sheet. A Finance NV has therefore been a debtor of the debtor group companies. A Oyj's taxation has come from this point of view.

In assessing the post-investment transactions between A Oyj and A Finance NV, the Group Tax Center has considered that A Oyj has in fact performed all significant functions related to intra-group financing, assumed significant risks and used significant assets, and that A Finance NV has not in fact acted as the Group's financing company. In doing so, the Group Tax Center has ignored the legal actions taken by A Oyj and A Finance NV, and in particular the fact that A Finance NV had become a creditor of the Group companies. Thus, in submitting the tax adjustments to the taxpayer's detriment, the Group Tax Center has re-characterized the legal transactions between A Oyj and A Finance NV on the basis of section 31 of the Tax Procedure Act applied in the matter.

Therefore, and it has not been alleged in the case that A Oyj and A Finance NV have reorganized the Group's financial operations for the purpose of tax avoidance, the Group Tax Center has not been able to adjust A Oyj's tax years 2011 and 2012 to the detriment of the taxpayer or impose tax increases. The decisions of the Administrative Court and the Board of Appeal, as well as the taxes submitted to the detriment of the taxpayer, must therefore be annulled in respect of the said tax years and the company's regular taxes must be enforced.

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The matter has been resolved by President Kari Kuusiniemi and legal advisers Leena Äärilä, Mikko Pikkujämsä, Vesa-Pekka Nuotio and Anne Nenonen. The rapporteur was Anu Punavaara.