Republic of
Panama
Administrative
Tax Court
Substantive
Ruling No. TAT- RF-111 of 15 December 2021
FILE:
112-2019
IN VIEW OF:
The attorney
---------------------, acting in his capacity as special attorney-in-fact of
the taxpayer ---------, with R.U.C. -------------------------, hereinafter
" or taxpayer", have filed before this Court, an Appeal against
Resolution no. 201-3306 of 27 February 2015, and the act that resolved the
Appeal for Reconsideration, Resolution no. 201-1278 of 16 February 2015. No.
201-1278 of 16 April 2019, both issued by the Directorate General of Revenue of
the Ministry of Economy and Finance, and through which it was resolved to issue
an additional assessment to the aforementioned taxpayer, in the amount of TWO
HUNDRED AND NINETEEN THOUSAND AND FOUR HUNDRED AND FIFTY SEVEN BALBOAS AND
55/100 (B/. 219,457.55), for deficiency in his Income Tax Affidavit for the
period 2013, Transfer Pricing Report Form 930 and Transfer Pricing Study both
for the year 2012.
I. BACKGROUND
By Note n. °
201-01-0489 DGI of 19 January 2015, the Director General of Revenue carried
out to the taxpayer, a Comprehensive Audit for the years 2012, 2013 and 2014
which included the review of the Transfer Tax on Movable Goods and the
Provision of Services (ITBMS), for the years 2011 to the present and
International Taxation in particular Transfer Pricing (See f. 1 to 3 of the
background file of the DGI).
II. ORIGINAL
RESOLUTION
By virtue of
the audit carried out not only on International Taxation, specifically on Transfer
Pricing for the year 2012, but also due to deficiencies in its Sworn Income
Tax Return for the 2013 tax period, the Tax Administration resolved to issue
the original administrative act by Resolution no. 201-3306 of 27 February 2015,
and in its grounds it set out, among others, the arguments detailed below (See
fs. 933 to 963 of Volume 3 of the DGI's background file):
1. that in
the sworn income tax return for legal entities for the 2013 tax period, the
taxpayer stated that it carried out operations with related parties in
accordance with the provisions of article 762-D of the Tax Code for costs
amounting to B/.9,981,703.50.
2. That
the taxpayer, availed himself of the provisions of paragraph c) of Article 123
of Executive Decree No. 170 of October 27, 1993, which provides that
construction companies may determine the income tax allocated to the fiscal
year the total gross income and expenses and the respective costs (method of finished
work).
3. It is also
established that the taxpayer was penalised for the
failure to submit the Transfer Pricing Report, Form 930 for the 2013 tax period
through another resolution, i.e. resolution no. 201-503 of 14 October 2014.
4. That
the taxpayer, by virtue of said resolution, filed an Appeal for Reconsideration
together with which it provided the transfer pricing study for the 2012 tax
period and on 30 June 2013 it had filed the Transfer Pricing Report 930 for the
2012 tax period in the amount of B/.8,711,517.45.
5. Similarly,
it is noted in the aforementioned original resolution that the taxpayer defined
in its 930 Report for the 2012 period, as "Intercompany Transaction
1", as the Management Services received (it used the comparable
uncontrolled price method CUP) during 2012, from its related parties, whose
names are: ---------, hereinafter by its acronym and -------, hereinafter --.
In that
order, it is indicated that the Management Services Agreement establishes that
the consideration shall be established as the amount equivalent to 3% of the
monthly income received by the taxpayer for each of its related parties
resident abroad, -------- and , in accordance with the advice received for
construction projects. The most experienced related party provides the advice.
Also, the
taxpayer called the construction services "Intercompany Transaction
2" (it used the net margin method of the MNT transaction) and during
the 2012 period, the taxpayer rented equipment and purchased materials from its
related party resident at ----------------, --------- and subcontracted tunnel
lining services to its related party resident at -----------, --. It is
detailed in the original ruling that the described transactions are part of the
company's predominant activity, which is construction services.
6. It
is clear from the ruling that in the price study the taxpayer concluded that
the comparable uncontrolled CUP price was the most reliable method to
analyse the intercompany transaction of management services received, since
here the taxpayer was able to compare the percentage of net sales agreed
between it and its related parties resident abroad to establish the
consideration for the services provided by -------- and during 2012, with the
interquartile range of consideration on net sales obtained from a group of
comparable uncontrolled contracts in force during 2012.
That the
result of the interquartile range for consideration established in the transfer
pricing study ranges from 1.00 percent to 5.50 percent of sales and a median
of 2.00 percent, so that the consideration agreed by the taxpayer and its
related parties was 3.00 percent of sales, which they found to be within the
aforementioned range.
7. It
is also detailed in the resolution that in the transfer pricing study, the
taxpayer concluded that the Net Transactional Margin TNMM, using its
audited financial information was the most reliable method to analyse the
intercompany transaction of "Construction Services" (Equipment
rental, purchase of materials and tunnel lining services), as here the taxpayer
could compare the operating margin obtained in its global business activity
during 2012, with the interquartile range of the operating margin obtained from
the group of comparable companies for the weighted average of the period
2010-2012.
That the
result of the inter-quartile range of the weighted average operating margin
obtained and adjusted for the period 2010-2012 by the comparable companies it
selected ranges from 3.70 percent to 7.00 percent with a median of 5.10
percent, whereby the taxpayer obtained an operating margin of 4.07 which is
according to it, within the inter-quartile range.
8. Regarding
the analysis of the DGI, concerning the Transaction #1 made by the taxpayer
concerning the "Management Services Received", we can highlight the
following:
That, from
the verification of the comparable contracts of the transfer pricing study
submitted by the taxpayer, the 40 contracts selected by the taxpayer were
analysed and with this the DGI observed that on the transaction of management
services received between the taxpayer and its related parties --------- and ,
significant differences were found since the services provided by these
companies to the taxpayer are for the management of construction projects.
In this
regard, the DGI cites articles 762-G and 762-D of the Tax Code, as well as
chapter VII of the OECD Guidelines, which in their various commentaries define
the circumstances that clarify when intra-group services are considered to have
been rendered and whether the remuneration was at arm's length. They mention
the comments of the Transfer Pricing Guides 7.6, 7.17, 7.18, 7.19 (See fs.948
and 949 of volume 3 of the DGI's file).
According to
the DGI, in order to determine the effective provision of the aforementioned
services, it was necessary not only the accounting records of payment and invoices
submitted (which were the documents provided by the appellant, in February
2015, at the request of the DGI), but to know what the services provided
consisted of and the need for those services and therefore through a Note dated
23 January 2015, the Tax Administration requested a series of documents such
as:
Photocopies
of the invoices supporting such payments.
Policies and
Procedures in relation to the requirements of the management services received
Instructions,
service orders, e-mails, technical reports, work budgets, functions and
activities performed by staff.
What results
were generated in such provision and any other details demonstrating that the
management fees were rendered and/or taken advantage of in the Republic of
Panama.
Quantification
of Economic Benefit
Process
Improvement
Efficiency of
the company's management and year-on-year comparison of results.
Explanation
of the accounting and tax treatment of the Management Services expense received
and Construction Services.
Accounting
movements of the accounts involved in the recording of Management Services
received and construction services.
The Tax
Administration, by virtue of the fact that the taxpayer did not prove or
demonstrate that the services were in fact received, considers that the amount
equivalent to 3.00 % of the taxpayer's monthly income for each of the related
parties does not comply with the arm's length principle.
Notwithstanding
the above, the DGI acknowledges that the taxpayer did comply with some of its
requirements, providing information that would lead them to determine whether
the taxpayer's remuneration complied with the arm's length principle.
Among these
points, the DGI requested photocopies of the 40 contracts analysed according to
the transfer pricing study submitted by the taxpayer, which the taxpayer
submitted in English, but the Tax Administration reviewed them as follows. The
following is Table 7 concerning the total range of comparable uncontrolled
consideration used in the analysis of the external CUP, which can be found on
page 951 of Volume 3 of the DGI's file.
Cliente |
Prestador del Servicio |
Porcentaje sobre ventas |
-------------------------- |
-------------------------- |
2.00% |
1.50% |
||
1.00% |
||
0.50% |
||
-------------------------- |
-------------------------- |
5.00% |
|
|
6.00% |
1.00% |
||
6.00% |
||
-------------------------- |
-------------------------- |
15.00% |
-------------------------- |
-------------------------- |
2.50% |
-------------------------- |
-------------------------- |
0.17% |
------------ |
|
3.00% |
Rango Intercuartil |
|
|
Percemtil 25 |
|
1.00% |
Mediana |
|
2.00% |
Finally, the
DGI determined that the existing differences between the comparable
uncontrolled operations and the examined operation affect the results presented
by the taxpayer, which served as a basis for the Tax Administration to consider
that the companies used are not comparable, according to the provisions of
literal A, numeral 1 of article 762-F of the Tax Code and comment 2.14 of the
OECD Transfer Pricing Guidelines 2.14.
They
therefore consider that it was not demonstrated that the intra-group services
were actually provided and that the methodology for the calculation of the
remuneration for such services received is inconsistent with the arm's length
principle.
9. Regarding
the DGI's analysis of Transaction #2 made by the taxpayer and dealing with
"Construction Services" (equipment rental, purchase of materials and
tunnel lining services), we can highlight the following:
It notes that
Table 11 of the taxpayer's transfer pricing study presents the result of the
operating margin and adjusted operating margins during the weighted average
2010-2012 for each of the selected comparables.
Table 11:
Interquartile Range of Adjusted Operating Margin for Comparable Companies
during the Weighted Average 2010-2012
Compañías Comparables |
Margen de Operación ajustado |
--------------------------. |
10.90% |
--------------------------. |
5.70% |
-------------------------- |
4.60% |
-------------------------- |
1.20% |
------------ |
4.07% |
Rango Intercuartil |
|
Percentil 25 |
3.70% |
Mediana |
5.10% |
Percentil 75 |
7.00% |
75th
percentile 7.00% (See f.953 of Volume 3 of the DGI file)
(See f.953 of
Volume 3 of the DGI's file).
The Tax
Administration when reviewing the income statements of the comparables provided
by the taxpayer with the 10-k reports, observed that the company
-------------------------- presents important differences as it considers that
the functions performed including the assets or risks assumed in the operation
of , differ from the functions, assets and risks of the taxpayer, as well as
the contractual clauses considering how the responsibilities are distributed,
as well as the economic circumstances, the business strategies and the
geographic market and for all these reasons it cannot be included as comparable
because it affects the full competition range.
This is based
on Article 762-E and OECD comments 1.42, 1.52, 1.53, 1.55, 1.57 and 1.59 of
Chapter I, which deals with the Arm's Length Principle of the Transfer Pricing
Guidelines.
That upon
requesting the taxpayer to provide the segmented income statement indicating
the criteria used for such segmentation, the taxpayer indicated that the
financial information used for the analysis of the transactions during 2012,
was the information contained in the audited financial statements of the
company, so the DGI reminded him of the provisions of Article 1 of Executive
Decree No. 958 of 7 August 2013, which indicates that for the determination of
the principle of Full Competition, the operations must be analysed separately.
That
page 961 of Volume 3 of the DGI's record shows the recalculation of the
inter-quartile range of the operating margin adjusted by the companies accepted
by the DGI as comparable during the weighted average 2010-2012.
Comparable
companies Adjusted operating margin
Ø
Compañías Comparables |
Margen de Operación ajustado |
--------------------------. |
10.90% |
-------------------------- |
5.70% |
-------------------------- |
4.60% |
------------ |
4.07% |
Nuevo Rango Intercuartil |
|
Percentil 25 |
5.15% |
Mediana |
5.70% |
Percentil 75 |
8.30% |
-(See table
at f.961 of Volume 3 of the DGI's file).
Therefore,
the Tax Administration, based on the results obtained, considered adjusting the
operating margin of 1.63 percentage points, to the declared operating margin of
4.07% to bring it to the median of 5.70%, as established in article 762-B and
762-F of the Fiscal Code.
10. Income
tax assessment
For the
reasons stated above, the DGI indicates that it became necessary to adjust to
the arm's length median the costs of operations with related parties of , since
as they warn, the latter used for the transaction analysis the global financial
information of the company's Audited Financial Statements as of 31 December
2012.
---------------------------------- |
|
Ingresos |
B/.53,884,274.50 |
Gastos de Operación |
B/.51,690,701.04 |
Utilidad de Operación bajo el margen de 4.07% |
B/.2,193,573.46 |
Margen de Operación |
4.07% |
---------------------------------- Ajustado a la Mediana |
|
Ingresos |
B/.53,884,274.50 |
Gastos de Operación aplicando la mediana de 5.70% |
B/.50,812,870.85 |
Utilidad de Operación aplicando la mediana de 5.70% |
B/.3,071,403.65 |
Margen de Operación |
5.70% |
Diferencia del Margen de operación de -------- --------- ---------------- |
1.63% |
Diferencia neta Objetar en la casilla 26 de costo Operación con Partes Relacionadas-Exterior (Artículo 762-D, CF) |
877,830.19 |
Cálculo del Impuesto sobre
la Renta a Pagar |
2013 |
Renta Neta Gravable Declarada |
B/.4,433,501.04 |
Mas: Aumento S/Investigación |
B/.877,830.19 |
Renta Neta Gravable S/Investigación |
B/.5,311,331.23 |
Impuesto causado S/Investigación |
B/.1,327,832.81 |
Menos: Impuesto S/Declaración |
B/.1,108,375.26 |
Diferencia |
B/.219,457.55 |
Recargo (Art.1072-a del C.F.) |
0 |
IMPUESTO A PAGAR TOTAL |
B/.219,457.55 |
(See tables f.962 of volume 3 of the
antecedent file of the DGI).
III. APPEAL
FOR CONSIDERATION (See fs. 981 to 991 of volume 3 of the antecedent file of the
DGI)
In due time,
the taxpayer's representatives filed a formal Appeal for Reconsideration, in
which, inter alia, they stated the following:
1. They point
out that they filed the income tax returns corresponding to the tax periods
2011, 2012 and 2013, accumulating the totality of the income received and costs
and/or expenses incurred during the development of the construction project, in
the income tax return corresponding to the tax period 2013.
2. They also
state that they filed Report 930 for the 2012 tax period, which details the
total operations carried out with related parties abroad in that period, as
well as the income generated and costs and/or expenses incurred.
3. That,
by virtue of the above, they were also obliged to have a Transfer Pricing Study
for the 2012 tax period, in accordance with the provisions of Article 762-J of
the Tax Code.
4. They
indicate that the search for potentially comparable companies to establish the
market values that would allow compliance with free competition led them to
search in the domestic market and due to the limited public information, it was
necessary to search in other more developed markets.
5. They
argue that the criteria used by the Tax Administration with the company
----------------------------------- (which was not selected as a comparable
company), concur with the rest of the other companies chosen and were not
rejected by the Tax Administration.
6. They
also state that transactions with related parties abroad have no effect on the
financial information used in the comparison.
7. They
point out that what the DGI did was to analyse the results presented for the
2012 tax period and made an adjustment to the income of ------------, for the
period ending on 31 December 2013, without considering that they use the method
of work completed and that the DGI should have, according to them, evaluated
the profitability obtained by the work completed in the 2013 period, which gave
the following result:
Total de Ingresos gravables |
B/.84,749,273.28 |
Total de Costos deducibles |
B/.75,526,068.01 |
Utilidad bruta |
B/.9,223,205.27 |
Gastos deducibles antes de impuestos |
B/.3,247,536.19 |
Utilidad Operativa |
B/.5,975,669.08 |
Margen de Operaciones |
7.05% |
(See detail on f.989 of Volume 3 of the
DGI's precedent).
8. They
state that the inter-quartile range calculated by the DGI goes from 5.15% to
8.30% and a median of 5.70% and the operating margin obtained by , in its
finished work is 7.05%, therefore the result obtained by the taxpayer is
considered adjusted to the prices or amounts of operations between independent
parties.
9. Together
with its appeal, the taxpayer submitted documentary evidence such as the Income
Tax Returns for the tax periods from 2011 to 2013, as well as the Transfer
Pricing Report for the period 2012, submitted to the DGI and that an expert
test be carried out to resolve two of the appellant's questions.
10. Finally,
they requested the Tax Administration to revoke in all its parts the original
ruling issued on the basis of the explanations provided in the aforementioned
appeal.
IV. THE
TAKING OF EVIDENCE AT FIRST INSTANCE
Through the
resolution of Evidence n. ° 0079 of 26 December 2017, the Tax Administration
decided to admit the expert evidence requested by the taxpayer (See fs.1025 to
1028 of volume 3 of the DGI precedent),
In that
order, it is noted that the experts of both the DGI and the taxpayer submitted
their respective reports.
Thus, the
expert report of -------------------------- and ----------------------------,
experts appointed by the appellant, can be found on pages 1060 to 1075 and from
pages 1076 to 1082, the expert report submitted by
-------------------------------, expert appointed by the Tax Administration,
both located in volume 3 of the DGI's preliminary file, which we will analyse
in greater detail in the section on the Tribunal's considerations.
V. RESOLUTION
OF THE RECONSIDERATION APPEAL
The Tax
Administration reiterates several of the arguments already set out in its first
administrative act issued, so we will specify others that are very specific and
that are derived from the confirmatory Resolution n. 201-1278 of April 16, 2019
visible on pages 1088 to 1107 of Volume 3 of the DGI's preliminary file.
1. The Tax
Administration indicates that the taxpayer in its Appeal for Reconsideration,
that for the calculation of the operating margin of 7.05%, it used the
information contained in its Sworn Income Tax Return for the 2013 tax period.
2. However,
in the Appellant's 2013 transfer pricing study, specifically on page 32, it
stated an operating margin of 4.07 percent, which is based on the audited
financial statements for the 2012 tax period.
3. On the two
points described above, the Tax Administration points out that based on article
762-F of the Tax Code, that for the calculation of the profitability indicator
the audited financial statements of the taxpayer must be used, which are in
accordance with the NIFS, not the Income Tax Return that serves for tax
purposes, so the taxpayer must then use the operating margin of 4. 07%
contained in its 2012 Financial Statements and declared in its 2012 transfer
pricing study and not the 7.05% margin of the 2013 Affidavit of Income.
4. The
DGI, also indicated in the resolution in question, that it rejected the use of
information from the comparable companies for the period between 2011 and 2013,
since it used the taxpayer's financial information for the 2012 tax period and
compared it with financial information from the comparables for the period
between 2010 and 2012, which is consistent with the use of the taxpayer's
financial information for 2012.
5. Regarding
the rejection of the comparable company, the DGI reiterates that it found
significant differences between the risks assumed by the taxpayer and the company,
which operates in a politically and economically unstable market such as
----------- and because of these risks, an appropriate adjustment could not be
made and was aggravated by a labour strike in that
country. They consider that the situation affected the operating result of the
company in the periods 2010 to 2012 as stated by the tax authorities' expert.
VI. APPEAL
The Appeal
filed by the plaintiff is received in due time, in which it reiterates several
of the arguments already presented in its Appeal for Reconsideration and raises
others, which will be mentioned below (See fs.1-19 of the TAH file).
1. They state
that the Tax Administration focused on analysing only the expert opinion of the
tax authority's expert, but not the expert opinion of the taxpayer's expert, in
order to be able to fully evaluate both opinions, so they consider that the DGI
disregarded the principle of motivation of the administrative act established
in article 201 of Law 38 of 2000, as well as the provisions of article 980 of
the Judicial Code.
2. They point
out that the average operating margin for the period 2010-2012 obtained by
-------------------- in its main business activity, which was not objected to
by the DGI as an activity not comparable to that of , is 1.43%, which is very
similar to the 1.20% obtained through the global business activity of , which
was used, according to them, in the transfer pricing study of ------- -
--------- for the fiscal year 2012.
In that
order, they argue that the business segment of --------------------
construction claims consultancy is not material, nor does it differ in terms of
profitability from the overall business of --------------------, as to
significantly affect the financial situation of the company and that even if
only the information regarding the main activity of the company were used, the
results would show that the taxpayer -------- ---------, complied with the
arm's length principle during the 2012 tax year by being within the calculated
interquartile range.
3. They
also indicate regarding the significant decrease in financial results due to
the work stoppage at ------ of the company , in 2011, that, despite this, they
do not consider that this is a valid functional reason to disregard the company
as comparable since the provision of construction services are risks assumed by
both the company and the taxpayer when providing them in emerging economies.
They present as an example, what happened to the taxpayer itself in 2012 in a
work stoppage in Panama due to an accident and in 2018 in the entire
construction sector which was paralysed for 27 days
due to a workers' strike.
In this regard,
they state that it is not correct to conclude that work stoppages in the
construction sector, due to situations beyond the scope of a company, are
grounds to functionally reject it as comparable, in the way that the DGI did.
4. They
go on to argue that even under the assumption that , should not be considered
as a comparable company, the taxpayer would still comply with the arm's length
principle, as established by the 2010 Transfer Pricing guidelines specifically
in its paragraph 3.68 and which were in force at the financial year of the
years in question (See f.15 of the TAH file).
5. They
point out that the Taxpayer's Affidavit for the tax year 2013, collected the
operations of all the work carried out during three years (2011-2013) and as
mentioned in the Transfer Pricing Guidelines, the appropriate thing to do is to
use a period of the companies selected as comparable contemporaneous to the
period of -------- ---------, which would be from 2011 to 2013 because it is
the time of duration of the work carried out by them.
6. They
state that the profitability indicator for -------- --------- should be
calculated using the multi-year information for the 2011-2013 work, as this
indicator reflects the true performance that this work represented for --------
---------.
7. They
also argue their point that they complied with the arm's length principle
during fiscal year 2012, as per the 2010 Transfer Pricing Guidelines,
paragraphs 3.75 to 3.79 (See f. 16 of the TAF file).
The taxpayer
indicates through a table on page 17 of the TAT file, that comparing its
operating margin obtained during the entire period of duration of the work from
2011 to 2013 of 4.72%, with the operating margin obtained by the selected
comparable companies, and despite excluding --------------------------, from
the set of comparables, it complied with the arm's length principle by being
within the calculated interquartile range.
VII. PROCEEDINGS
AT SECOND INSTANCE
By means of
note no. 203-N-01-291 dated 23 August 2019, and received by the TAH on 30
August 2019, the Directorate General of Revenue sent us the antecedent file of
the case, so that by resolution TAT-ADM-298 dated 20 September 2019, the Appeal
was admitted (See fs.42 and 43 of the TAH file), filed before the Court on 6
August 2019.
Subsequently,
the Tax Administration filed a formal notice of opposition (See fs. 46 to 50 of
the TAH file), from which the following is to be highlighted:
1. They
indicate that the DGI, not only issued the administrative act n.° 201-3306 of
27 February 2015, additionally liquidating in concept of Income Tax to the
taxpayer for differences in the Transfer Pricing Study submitted and the Sworn
Income Tax Return for the period 2013, but also for objections to the
management services received and construction services, since it was not
demonstrated that in fact the same have been effectively provided as stated in
Article 752-G of the Tax Code.
They also
state that the administrative act was issued because the company
-------------------------- did not comply with the comparability requirements
as stipulated in article 762-F of the Tax Code and the OECD Transfer Pricing
Guidelines.
2. They also
state that it is not true that they have not made any kind of assessment and/or
analysis of the expert opinion issued by the taxpayer's expert, but at the time
of assessing the expert evidence, they alluded to a fact mentioned by the tax
authority's expert that was not mentioned by the taxpayer's expert and that was
the operating results of the comparable company --------------------------,
which were affected by its operation in ------ and that was the determining
factor for the rejection of the company in question.
3. In
the same vein, they point out that it is not true that the company in question
enjoyed similarities with the other comparable companies selected by the
taxpayer in terms of the risks assumed, functions performed and markets and
that they were amply supported in resolution no. 201-3306 of 27 February 2015.
4. Regarding
the construction claims consultancy segment of the rejected company as
comparable, they do not agree with the taxpayer's statement that this business
segment is not significant because it represents only 25% of the total revenues
of the company --------------------------, as they do consider it to be
significant and different from the functions performed by -------- ---------.
They also
indicate that they do not agree with the apportionment of corporate expenses
shown by the taxpayer on page 11 of its Appeal. The lack of segmentation of the
financial information prevented them from concluding that the operating margin
of the aforementioned segment is similar to the overall business activity of
the comparable disallowed company, as the appellant would have us believe.
5. Regarding
the significant decrease in the financial results due to the work stoppage at
------ of the rejected comparable company, they state that it cannot be
compared to any situation faced by the taxpayer during its construction
activity in Panama during the years 2011 to 2013, as the risk was much higher
in Panama than in Panama.
In relation
to the examples cited by the taxpayer regarding construction stoppages for
various reasons in Panama, they are irrelevant because they occurred six years
prior to the 2012 period under discussion.
6. Finally,
they point out that they oppose the multi-year utilisation
based on the provisions of article 715 of the Tax Code.
It is
important to mention, at this point, that since there is no evidence to be
presented, this Tribunal, through resolution TAT-PR-056 of 7 October 2020 (See
f.53 to 55 of the TAH file), granted the parties the corresponding stage for
their written arguments and it is recorded in the TAH file that none of them
made use of the corresponding stage.
VIII. CONSIDERATIONS
OF THE COURT
Once the
corresponding procedural stages have been exhausted, we proceed to issue our
considerations, taking into account the arguments and evidence provided by the
parties and which make up the present case file, as follows:
1. General
information on the taxpayer
----------------------------------,
is a corporation incorporated under the laws of the Republic of Panama, since
May 31, 2011, located in the Province of --.
On June 14,
2011, days after the incorporation of the referred company, it was awarded the
open tender called by ----------------------, for the: Design, Building, Repair
and Construction
of the
------------
Now, it can
be seen on page 936 of Volume 3 of the DGI's previous file that
---------------------------------- is made up of the following companies:
- ( )
---------------
(Forms part of the group )
In view of
the above, we shall now describe the activities of both companies:
---------------------------------------
(---------)
Spanish
company that started operations in 1952 and currently operates worldwide. It is
active in construction, energy, mining and tunnel sealing and was involved in
the construction of railway networks and road developments in Spain at the time
of preparing the 2012 price study.
---------------
(Part of the group )
---------------,
is part of the -------- group, i.e. through the internal technology division
and five subsidiaries in which it is included:
-
-
This company
is Italian, founded in 1950, and is a specialist in all phases from the
construction of TBMs to underground excavation and is a world leader in its
sector, as can be seen from the file, as it is a contractor and equipment
manufacturer, i.e. manufacturer of TBMs as mentioned above and underground
excavation equipment, as well as support systems for underground excavation.
Therefore,
-------- --------- ----------------, (------------), has the capacity to
develop construction projects with the appropriate materials and personnel and
receives construction advice from its related parties. Thus, we have:
- Main
Activity or Function of the company: Construction of Underground Works (under
the contract it held with ).
- Specialises in three business areas:
Construction
(Roads, highways, railways, subways). Mining (Underground infrastructures,
caverns) Energy (power stations)
- Main
suppliers: ----------------- and -----------------
- Main
customers: Public Administrations, Contractors and Private Clients.
-
Intercompany or Related Party Transactions Resident Abroad
Management
services received (--------- and )
--------- and
-------- provided to ------------. Services in the process of consultancy in
the construction process, i.e. for the management of the construction projects
Equipment
rentals, purchase of materials and Tunnel lining services (construction
services) (--------- and )
------------
carried out transactions with its related party, i.e. for the rental of
machinery and purchase of materials.
------------
carried out transactions with its related party ------------ -----,
subcontracting of tunnel lining services.
2. Matter
in dispute
The
Directorate General of Revenue, decided to issue additional liquidation for
Income Tax through the original administrative act n.º 201-3306 of 27 February
2015, due to differences found in the study of Transfer Pricing corresponding
to the year 2012, in the Income tax return for the 2013 tax period and in
the Transfer Pricing Report 930 for the 2012 tax period, the latter filed on 30
June 2013, of the taxpayer ---------------, with RUC.
It can be
deduced from the present case that the disputed point is mainly focused on the
objection of the Tax Administration, regarding the "Construction
Services", which include equipment rental, purchase of materials and
tunnel lining services, provided to , since at the time of reviewing the income
statements of one of the companies used as a comparable company named
--------------------------, the Tax Administration determined that it could not
be included as comparable because it affected the arm's length range.
In addition
to the above, and despite the fact that the DGI, in the contested
administrative act, devoted a large part of its analysis to the
"Management Services" operation, objecting to the agreed remuneration
because it did not comply with the arm's length principle described in articles
762-F and 762-G of the Tax Code, this analysis did not result in an adjustment
to the taxpayer's income or financial information.
This being
so, this Tribunal, with regard to the objection of the service described in the
previous paragraph, will not issue any further pronouncement or analysis by
virtue of the Principle of No Reform in Perjury or "non reformatio in peius", as it
is also known, which constitutes a limitation to the action and competence of
the hierarchical superior in an administrative proceeding that has come to his
knowledge by virtue of a duly filed appeal, so that the scope of his
pronouncement is restricted to what was expressly stated in the appeal action
and the taxpayer does not see the conditions existing before the moment in
which he appealed exclusively to an administrative act improved.
In the
analysis corresponding to the "Construction Services" segment, we
note that the DGI indicated that the company --------------------------,
differed from ------------, both in functions, assets and risks, as well as in
the contractual clauses, i.e., in how responsibilities are distributed. They
also state that they rejected the comparable company described above due to
economic circumstances, business and market strategies.
Thus, we
consider that the point on which our analysis should focus is the rejection of
the comparable company --------------------------, since the taxpayer, i.e.
------------, presented four (4) comparable companies, of which three (3) were
accepted by the Tax Administration and one of them was rejected or discarded,
which resulted in the Tax Administration adjusting the operating margin of
------------, by 1. 63 percentage points, to the margin that they
(------------) declared was 4.07%, to bring it to the median of 5.70%, which in
effect, said percentage change, represented an increase of B/.219,457.55, in
the Income Tax that they had already paid according to their Sworn Income Tax
Return for the 2013 tax period.
3. Background
and Applicable Regulations
Chapter IX of
the Tax Code introduces rules related to International Taxation, including the
transfer pricing regime, which seeks to adjust transactions carried out by
related companies to the arm's length principle; it being understood that the
arm's length principle seeks to ensure that transactions carried out by related
companies are carried out as if they had been carried out between independent
companies.
Next, we will
briefly explain the scope of the concept of transfer pricing, which is very
important to address, as it will allow us to complement our analysis prior to
deciding this issue.
Transfer
pricing is a mechanism used to ensure that related companies agree on the value
of their sales and purchases of goods and services at the same value that they
would agree with independent companies. Therefore, the agreed prices have a
fiscal effect, since they have an impact on the income, costs and expenses of
the operations between related companies, as well as on the tax payable on the
taxable income of such companies, which includes the tax on profits.
In this
respect, the foreword to the OECD guidelines states the following: ".....
...
6. In order
to apply the separate entity test to intra-group transactions, tax should be
levied on each group member individually, on the basis that, in its
transactions with the other members, it acts on an arm's length basis. ...
11. In
applying these principles to multinationals, one of the most difficult issues
that has arisen is the determination of transfer prices that are appropriate
for tax purposes. Transfer prices are the prices at which an enterprise
transfers tangible goods and intangible assets, or provides services, to
associated enterprises. For the purposes of these Guidelines, an
"associated enterprise" is an enterprise that meets the conditions
set out in Article 9(1)(a) and (b) of the OECD Model Tax Convention. ...
12. ...
Transfer
Pricing is significant for both taxpayers and tax administrations because it
determines to a large extent the distribution of income and expenses and thus
taxable profits of associated enterprises located in different tax
jurisdictions. " .
Therefore, an
increase or decrease in the prices agreed between related companies has a tax
impact, since, if transfer prices produce lower costs and higher profits,
corporate tax planning could lead multinationals to use this transfer pricing
scheme in jurisdictions where profits are taxed at low rates. Conversely, if
transfer pricing is such that costs are higher and profits are lower, such
companies may use this model in jurisdictions where tax rates are high.
In view of
the above, the Tax Administrations adopt mechanisms to ascertain the prices
agreed or the transfer prices obtained as a result of transactions with related
companies, which is carried out through income tax returns, as well as transfer
pricing reports and studies.
By means of
such mechanisms, the Tax Administrations are able to obtain information and
verify, not only if the operations took place within the arm's length
principle, but, as this has tax implications, they can also verify the
incidence that such transfer prices had on the income, costs, expenses and
taxable profits of the companies with related operations.
In this
sense, it is necessary to refer to the legal regulations in force in the case
at hand, some of which are found in articles 762-A, 762-B, 762-D and 762-E of
the Fiscal Code, whose texts are as follows:
"Article
762-A. The principle of free competition. Transactions carried out by taxpayers
with related parties shall be valued in accordance with the arm's length
principle, i.e., the ordinary and extraordinary income and the costs and
deduction necessary to carry out such transactions shall be determined by
considering the price or amount that independent parties would have agreed to
under similar circumstances under arm's length conditions. The value so
determined shall be reflected for tax purposes in the tax returns filed by the
taxpayer, following the methodology established in the articles contained in
this Chapter."
"Article
762-B. Powers of the Directorate General of Revenue. The Directorate General of
Revenue may verify that transactions carried out between related parties have
been valued in accordance with the provisions of the preceding Article and
shall make the corresponding adjustments when the price or amount stipulated
does not correspond to those that would have been agreed between independent
parties in comparable transactions, resulting in less taxation in the country
or a deferral of taxation, as the case may be."
"Article
762-D. Objective scope of application. The transfer pricing regime is
established, aimed at regulating for tax purposes the transactions carried out
between related parties, in the terms defined by this Chapter, in such a way
that the considerations between them are similar to those carried out between
independent parties.
...
For the
interpretation of the provisions contained in this Chapter, the Transfer
Pricing Guidelines for Multinational Enterprises and Tax Administrations,
approved by the Council of the Organisation for
Economic Co-operation and Development in 2010, or those that replace them,
shall be applicable as a technical reference, insofar as they are consistent
with the provisions of this Chapter...."
"Article
762-E. Comparability analysis. For purposes of determining the price or amount
that would have been agreed to by independent parties under similar
circumstances at arm's length as referred to in Article 762-A, the terms of
transactions between related persons shall be compared to comparable
transactions between independent parties. Two or more transactions are
comparable where there are no differences between them that significantly
affect the price or amount and where such differences can be eliminated by
reasonable adjustments.
In
determining whether two or more transactions are comparable, the following
elements shall be taken into account to the extent that they are economically
relevant:
1. The
specific characteristics of the transactions including.
a. In
the case of financing transactions, elements such as the principal amount,
term, risk rating, collateral, creditworthiness of the obligor, and interest
rate.
b. In
the case of the provision of services, elements such as the nature of the
service and whether or not the service involves technical expertise or
knowledge.
c. In
the case of granting rights of use or disposal of tangible goods, elements such
as the physical characteristics, quality, reliability, availability of the
good, and volume of supply.
d. In
the case of granting the exploitation or transfer of an intangible asset,
elements such as the type of asset, patent, trademark, trade name, transfer of
technology or know-how, the duration and degree of protection and the benefits
expected to accrue from its use.
e. In
the case of a disposal of shares, the issuer's net assets, the present value of
projected earnings or cash flows, or the issuer's stock price as of the last
event on the day of disposal.
2. The
significant economic functions or activities undertaken by the parties in
connection with the transactions under consideration, including the risks
assumed and weighting, if any, of the assets used.
3. The
actual contractual terms, if any, under which the transactions arise, taking
into account the responsibilities, risks and rewards assumed by each
contracting party.
4. The
characteristics of the markets or other economic factors that may affect the
transactions.
5. Commercial
and business strategies, such as market penetration, permanence or expansion
policies, as well as any other circumstance that may be relevant in each case.
The
comparability analysis thus determined and the information on comparable
transactions constitute the factors which, in accordance with the provisions of
Article 762- F, shall determine the most appropriate method in each specific
case. "
For its part,
Executive Decree n. ° 958 of August 7, 2013, which regulates Chapter IX of
Title I of Book Four of Book Four of the Tax Code, on Rules for Adaptation to
Treaties or Conventions to Avoid Double Taxation, indicates both in its Article
4 and 5, the following:
"Article
4. Search for comparable transactions. The comparability analysis, which shall
include the search for information on comparable transactions, shall aim to
determine and find the most reliable comparable transactions, as part of the
process of selecting the most appropriate method and its application".
"Article
5. Internal and external comparables. Any transaction carried out by the
taxpayer with an independent third party, as well as any transaction carried
out by any related party of the taxpayer with an independent third party, shall
be considered an internal comparable, provided that the definition of
comparable transactions set forth in Article 762-E is met.
Any
transaction other than the one described in the previous paragraph shall be
considered as an external comparable, provided that the definition of
comparable transactions set forth in Article 762-E is met.
... internal
comparables shall be given preference over external comparables. If external
comparables are used, the reasons why the use of internal comparables was not possible
shall be documented.
...".
As can be
seen, the search for comparables is an essential element of the transfer
pricing analysis, therefore, its correct application is of vital importance to
determine compliance with the arm's length principle.
In this
sense, the OECD Guidelines, 2010 version, also specify in section 3.46 the
importance of the process to identify potential comparables. Here is what it
states:
"3.46.
The process followed to identify potential comparables is one of the most
critical aspects of the comparability analysis and should be transparent,
systematic and verifiable. In particular, the choice of selection criteria has
a significant impact on the outcome of the analysis and should therefore
reflect the most significant economic characteristics of the transactions being
compared. It may not be possible to completely eliminate subjective judgements
in the selection of comparables, but much can be done to increase objectivity
and ensure transparency in the application of these subjective judgements. The
optimal degree of transparency of the process will depend on the extent to
which the criteria used to select potential comparables can be disclosed, as
well as the ability to explain the reasons for eliminating certain potential
comparables. Enhancing the objectivity and ensuring the transparency of the
process may also depend on the extent to which the person reviewing the process
(the taxpayer or the tax administration) has access to information about the
process and the same data sources.
Having
transcribed the relevant rules for the case at hand, we turn to the following
analysis.
4. AS
A CONSTRUCTION COMPANY
The taxpayer
, uses the finished work method provided as one of the methods for construction
companies and in that sense, filed its income tax returns corresponding to the
tax periods 2011, 2012 and 2013, accumulating all the income, costs and/or
expenses incurred during the development of the construction project, in the
Income Tax Return for the tax period 2013.
We must
remember that, in the case of construction companies, whose income generating
operations affect more than one fiscal year, the taxpayer has the option to
apply any of the three methods established in article 123 of Executive Decree
170 of 1993. The following is described in paragraph c) of Article 123 of said
regulation:
"Article
123. Determination of the tax in the case of constructions.
Of the
construction companies:
1. In
the case of construction companies or companies that carry out work on real
estate and whose income-generating operations affect more than one tax year,
the taxpayer may, at his option, apply any of the following methods:
(a) Allocate
to each tax year the taxable income resulting from applying to the amounts
actually received in that year, the percentage of net profit calculated for the
entire work. This percentage may be modified by the part corresponding to the following
tax years, in the event of an obvious modification of the calculation made.
b) Allocate
to the value of the work executed in each fiscal year, the percentage of profit
calculated on the total value of the work and deduct from this result the costs
and expenses actually incurred in the respective fiscal year.
c) Allocate
to the fiscal year in which the work is completed the total gross income and
the respective costs and expenses.
In the cases
of subparagraphs a) and b), the difference ultimately obtained by comparing the
net profit at the end of the work with that established by means of any of the
procedures indicated in said subparagraphs shall affect the fiscal year in
which the work is completed. In the case of subparagraph c), the taxable income
to be taken into account will be that corresponding to the totality of the
work".
In the sense
pointed out we bring up a pronouncement of the Court, regarding companies
engaged in this type of construction activity, specifically in resolution
TAT-RF-058 of 4 July 2018.
"...
It can be
seen that in the finished work method, the taxable income taken into account is
that which corresponds to the totality of the work. In this sense, following
article 762-D of the Tax Code, the scope of application for income tax
purposes, refers to the tax period in which the income is declared and not when
the operation is carried out (annual), since it would seem that it would not
make any sense to apply it in years where the income tax return boxes -
operations with foreign related party, were left blank and that can be seen in
the income tax returns tax period 2011 and tax period 2012.
Although
these special income tax regimes typify the same taxable event, the elements
for determining the amount of such tax, the time and manner in which it must be
paid differ in comparison with the general regime.
In this
regard, it is appropriate to quote the author Edison Gnazzo,
who in his book Impuestos y Gastos
Públicos de la República de Panamá, refers to the
special income tax regimes:
"Under
the special regimes and as will be seen in Chapter 4.12., the above conditions
are essentially maintained in terms of the need for the income to be of
Panamanian source, varying particularly with regard to the annuality
of the tax, the determination of the net taxable income and the applicable
rates" ....
... In the
first place we are dealing with a taxpayer of the group that has, because the
law allows it, a different system for determining the income tax that it must
pay to the tax authorities. In this sense it is clear, because resolution no.
201-503 of 14 October 2014 recognises it, that
-------------------------., is a company that carries out the activity of
construction and follows the method of finished work.
... In this
particular case, the taxpayer filed his income tax return in 2013 including or
accumulating by means of the aforementioned method, the periods 2011 and 2012.
The filing of the income tax return under this method does not pose a major
legal problem in this case, except that, by means of Law 33 of 2010, the
Republic of Panama adopted the Transfer Pricing Regime by adding Chapter IX to
the Tax Code, which came into force the day after its enactment, i.e. it came
into force on 1 July 2010 and although retroactive effect was included for some
of its rules, this was not so for the aforementioned articles, which came into
force from the enactment of the law.
That last
annotation takes on particular relevance in the analysis of the present case
because as we can see, resolution no 201-53 of 14 October 2014 which is
appealed (fs 7 to 9 of the antecedent), in order to establish the scope of
application of the transfer pricing regime, merely transcribes articles 762-D
and 762-I as amended by law 52 of 2012 making abstraction of the system that
the taxpayer was following, which was the system of finished work, and without
further analysis to verify whether the obligations imposed by the regulation
were in fact applicable to the taxpayer over time, taking into account that the
return generating the controversy referred to the periods 2011, 2012 and 2013,
and the rules applicable to the case were approved in 2010 and 2012. In
addition to this, article 762-I as added by law 33 of 2010 (which, as mentioned
above, came into force on 1 July 2010) established that ".... Taxpayers
must file, annually, an informative declaration of the operations carried out
with related parties that are tax residents of the countries with which the
Republic of Panama maintains treaties or agreements to avoid international
double taxation, which must be filed within six months following the closing
date of the tax period of the taxpayer, under the terms established by the
Directorate General of Revenue through the regulations that are prepared for
that purpose". Form 930, which is the means approved by the tax
administration to submit the report in question, was adopted by re solution no
201-6845 of 15 June 2012, which means that it was approved 15 days before the
expiry of the term established in the law.
... the Tax Administration
acknowledged that the taxpayer filed his income tax returns for the periods
2011, 2012 and 2013 in a timely manner. Furthermore, it acknowledged that the
taxpayer was entitled to accrue the totality of the income received and/or
expenses incurred linked to the construction project which according to the
appellant was completed in 2013, as indeed it did ...
...
In the case
under analysis, it is clear that --., following the completed work method,
filed his income tax return in 2013 where he accrued the income and expenses
corresponding to the periods 2011 and 2012. It is even accepted by the
Directorate General of Revenue in resolution 201-0846 of 19 January 2015 that
the taxpayer did not declare transactions with related parties in 2012, and that
even though he was not obliged to do so, he submitted his transfer pricing
report for that period. It is equally clear that the 930 report was not
submitted together with the income tax return filed in 2013 (which accumulated
the aforementioned periods).
Given this
background, it is understandable that the Tax Administration acted on the basis
of the result contemplated in the rule imposing an obligation, however, it
should have considered other elements that it was aware of in this case such as
the activity carried out by the taxpayer ......."
As it is
clear from the above decision, being one of the parties involved, the same
taxpayer who challenged the present case, the activity carried out by the
appellant is that of construction which opted for the method of finished work.
This method,
we reiterate, consists of the taxpayer accumulating the costs it incurs for the
construction of the work during the time it takes. If the work covers several
fiscal periods, the taxpayer records its costs in an asset in process account
and when the ownership of the property is transferred to the buyers, the
taxpayer recognises the income, costs and expenses
and declares them in the results section of the income tax return.
From what is
on record in the income tax forms for 2011, 2012 and 2013, it can be deduced
that the taxpayer effectively uses the completed work method, since in 2011 and
2012 the taxpayer did not report income, costs or expenses with foreign related
parties, but did report them in the construction in progress section. On the other
hand, in the income form of 2013, it reflects operations in the section of
costs with related parties abroad, for B/.9,981,703.50, while in the
construction in process line (Assets) the field is without value, which
confirms the fact that the taxpayer used the aforementioned method (See fs.994
to 1005 of Volume 3 of the DGI's precedent).
The
obligation to file the transfer pricing report arises when the income, costs
and expenses between related parties are taken to profit and loss, and not
before. The taxpayer, although it is true that it filed the 930 Report for
2012, was not obliged to do so, because it reported neither income, nor costs,
nor expenses with related parties abroad and as for the transfer pricing study,
it was not obliged to have it either, but in practice they choose to do so to
keep track in order to have knowledge of the behaviour
of the transactions, and to be able to make the corresponding adjustments very
early in the tax year, keeping their prices within the arm's length range.
Having
clarified the above, in its Appeal, it indicates that, in accordance with the
Transfer Pricing Guidelines, it is appropriate to use a period of the companies
selected as comparable contemporaneous with the period of ---- --------, which
would be from 2011 to 2013, that is to say, to use multi-year information to
obtain the profitability indicator as it would reflect the true performance
that such work represented and not on the basis of an analysis of the results
obtained from the 930 Report and the 2012 Transfer Pricing Study submitted by
the taxpayer itself and which entailed an adjustment to the Income Tax for the
period ending on 31 December 2013.
The Tax
Administration's argument, in response to the taxpayer's statement
------------, is that they oppose the use of multi-year information based on
the provisions of Chapter III, Title I, Article 715 of the Tax Code, which
states that "The income tax return for each taxable year must form a whole
independent of the returns for the other years, both in terms of gross income
and in terms of deductible expenses or expenditures, except as provided in
Article 698 of this Code" (italics added by this Court).
Likewise, the
Directorate General of Revenue, in its confirmatory act, pointed out to the
appellant that it used for the calculation of the operating margin, the
information contained in its Sworn Income Tax Return for the 2013 tax period
and that it also obtained another operating margin based on the audited
financial statements corresponding to the 2012 tax period, extracted this time,
from its Transfer Price Study for the 2013 period, for which reason it was
reminded in said resolution, that for the calculation of the profitability
indicator, the audited financial statements of the taxpayer must be used, based
on the provisions of article 762-F, of the Tax Code and not from the Sworn
Income Tax Return, which is used for Tax purposes.
On the above,
this Court has already ruled, in Resolution TAT-RF-066 of 9 July 2021 as
follows:
"...
On the other
hand, it should be recalled that the purpose of the adjustment to the financial
information is that the indicator determined by the transfer pricing analysis
is aligned with the arm's length range, and if not, to bring it to the median
of that range. ...
...
Without
prejudice to the foregoing, we must clarify that the adjustments to the
financial information must use, precisely, the financial information, which leads
us to disagree with the decision of the taxpayer's expert to use the
information from the income tax return for the calculation of the operating
margin, knowing that there are quantitative and qualitative differences with
respect to the financial information (page 565 of the Court's file), and even
with the information contained in the transfer pricing studies, which makes his
answers to questions 1 and 2 less reliable, since the information used to
determine the interquartile range is based on financial information (not tax
information) of the comparables.
...".
Now, with
regard to the taxpayer's request to use a period of the companies selected as
comparables contemporary to the period 2011 to 2013, in other words, to use
multi-year information to obtain the profitability indicator to reflect the
true performance of ------------, the DGI indicated that it rejected the use of
information from the comparable companies for the periods 2011 to 2013,
because, according to the argument, it used financial information from the
period 2012 and compared it with the financial information of the comparables
for the period 2010 to 2012.
In this
regard, this Court considers that although the OECD Transfer Pricing Guidelines
indicate in the section entitled "Multi-year data" of the
Comparability Analysis Section, in paragraphs 3.75 to 3. 79, the possibility of
using data relating to several years for the profitability analysis or
multi-year data, the Tax Administration, used information from 2010 to 2012 of
comparable companies since the appellant itself indicated in the 2012 Transfer
Pricing Study, the total transactions carried out with its related parties
abroad, taking into account that it was in this period, in which the
transactions were carried out, according to the global financial information of
the audited Financial Statements as of 31 December 2012 by , therefore the
operating margin that should be adjusted to the median of free competition, the
costs of the operations with related parties of ------------ to the year 2012,
but we agree with the Tax Administration that the additional liquidation for
the Income Tax is the one declared for the fiscal period 2013, since it was in
that period due to the opted method where the total gross income, costs and
expenses were allocated, which includes as already mentioned the adjustment of
the operating margin (See fs. 221 to 244 of Volume 1 of the DGI's file).
Therefore, it
is not possible for the taxpayer, at this stage, to point out that the Tax
Administration should have used the information from the periods of the
companies selected as comparable, in accordance with the Transfer Pricing
guidelines, taking into consideration the income tax return for the 2013 tax
period, which includes the 3 years of operations of the work, i.e. from 2011 to
2013 (instead of 2010-2012), and which yields a profitability indicator or
operating margin according to ------------, (even though the company
-------------------- has been rejected, and maintaining those that the DGI did
accept), of 4. 58%, a median of 4.67% and 7.85%, which, in its opinion, would
place it within the range of compliance with the arm's length principle.
Similarly, we
consider it important to point out that in the same way that the taxpayer
cannot claim to use its aggregated financial information, ignoring the analysis
made in its transfer pricing report submitted in the 2012 period, neither is it
correct for the tax authorities to make an adjustment to the taxpayer's
segmented financial information (2012), and use, for the purposes of the
additional assessment, the taxpayer's accumulated income tax return,
corresponding to the entire project.
It is
essential that any adjustment to the taxpayer's financial/tax information is
made in a congruent manner, i.e. taking into account the accumulated activity
and not in a partial manner.
5. EXPERT
EVIDENCE
Before
starting our analysis on the expert evidence admitted and practiced by the
first instance at the request of the appellant, we must recall the provisions
of article 966 of the Judicial Code, which establishes that the express purpose
of the expert evidence is "to know, appreciate or evaluate some data or
fact of influence in the process, of a scientific, technical, artistic or
practical nature, which does not belong to the common experience or the
specific training required of the judge. "Given the technical and complex
nature of the subject matter, it is reiterative, mainly for these reasons, that
the practice of expert evidence is carried out to provide greater clarity
within the process.
Similarly,
Article 968 of the same regulation establishes that the judge must specify the
points on which the expert opinion will be based, which is evident, in this
case, in the questions set out in the Resolution of Evidence 0079 of 26
December 2017, issued by the DGI, which denotes that the work of the experts is
subordinated to that expressly entrusted in this case, by the instance that
orders the test, which must be presented, according to the provisions of
article 974 of the Judicial Code, also in a clear and precise manner.
In the
present case, the appellant formulated two specific questions to be addressed
by the appointed experts. Below, we will point out the most important aspects
of their reports, which can be found on pages 1060 to 1075 (taxpayer's experts)
and 1076 to 1082 (DGI's experts) of Volume 3 of the DGI's file.
Question No.
1
Determine
whether the companies selected as comparables in the transfer pricing study are
suitable companies to establish the market values of the activity of . S.A.
Answer of the
Experts of ------------:
1. The
search was carried out in accordance with the process of selection of
comparable companies established in the Transfer Pricing Guidelines, which
establish that in the absence of internal comparables, it is possible to use
various sources of information that can be used to identify possible
independent external comparables.
2. The
approach used for fiscal year 2012 was deductive (focusing on the process and
relevance of the selection criteria chosen) rather than additive, to identify
comparable external companies operating in the same sector as ------------ and
eliminating companies performing activities considered not comparable, so that
47 potentially comparable external companies were identified whose business
activities were classified under the SIC codes of provision of design services,
building, construction and repair services, which are comparable to the
services performed by , during fiscal year 2012, as well as using the databases
--------------- and --------------- and the 10-K forms of each comparable
company for the application of these filters.
3. Using
the quantitative filters, 14 companies were eliminated as they either did not
provide sufficient financial information or had recurring operating losses and
were determined to be ineligible for comparability and then the qualitative
filters were applied by reviewing the business descriptions of the remaining
potentially comparable companies to identify companies engaged in the provision
of project management and technical support services to the construction
industry, activities carried out by ------------ during the 2012 fiscal year
and also eliminated 43 companies that carried out activities other than those
indicated above, to be left with a total of 4 companies comparable to the
operation carried out by ------------, during the 2012 fiscal year.
4. After
all of the above, the companies selected as external comparables to the
activity carried out by --------- during fiscal year 2012 were four (4), the
same are: , ,----- and --------------------------., these companies
selected as comparables have enough similarity in terms of their functions
performed globally, being leaders within the construction sector and applying
generally similar business strategies.
5. Regarding
the company considered not comparable by the DGI, --------------------------,
they state the following:
- It is a
global company with approximately 3,200 staff and 100 offices in more than 35
countries.
- It offers
construction management services (fee-based) to its clients, which are
typically billed on a per diem basis and a negotiated multiple of the direct
cost of each consultant assigned to a project.
- It
contracts with its clients in three different ways, through cost-plus-fee,
time-and-materials, and fixed-price contracts in which it uses the percentage
completed method to recognise revenue and these types
of contracts are the usual ones used in the construction sector, and are the
same as those used by the other selected comparable companies.
- It mainly
presents the operating risks that a construction company would present, of
which one of the most important and comparable with ------------ is the dependence
on subcontractors and specialists for the development of its activities through
which it assumes the risk of not being able to comply with the projects in the
correct time.
6. They
point out that although the DGI does not propose new comparable companies, it
merely ignored the company with the lowest profitability margin, i.e.
--------------------------. Similarly, the DGI points out that the services of
-------------------------- have significant advantages over traditional general
contractors as they do not assume the risk of completion of the Project.
Response from
the DGI's appointed expert
1. She stated
that there is no objection to the quantitative and qualitative criteria
presented by ------------, but that the discussion regarding comparables seems
to focus on the proper application of these criteria.
2. He
also indicated that he reviewed publicly available information in the annual
reports or 10-Ks of these companies on the U.S. Securities and Exchange
Commission (SEC) website and on the System for Electronic Document Analysis and
Retrieval (SEDAR) website.
3. He
indicated that the company, -----------------------------------, derives its
revenues from construction consulting services and comes from two business
segments: project management consulting and construction claims consulting, the
latter representing approximately 25% of its consulting revenues and
corresponds to advisory services to its clients in preventing and resolving
claims and lawsuits based on non-compliance with dates, cost overruns, among
others.
4. In
addition, from the company's public financial information, it was noted that
the company's operating results decreased, mainly due to:
- The loss of
revenues and earnings from discontinued operations in
- The
completion of a project at the end of 2010 and,
- The
decrease in work, in the project management business of US$21,377,000 in ------
...and a decrease of US$5,055,000 in --.
5. In
the same order, during the periods 2008, 2009 and 2010, the company presents
operating profitability margins of 5.83%, 6.28%, and 4.12%, respectively. From
2011 onwards, the company shows a significant decrease in its operating
results, from 4.12% in 2010 to -0.77% in 2011 and 1.09% in 2012.
6. Also,
the company's 2012 10-K report notes that accounts receivable related to work
performed prior to March 2011 under contracts at ------ were approximately
US$60 million, which impaired -----------------------------------'s operating
cash flows in both 2011 and 2012, causing the company to rely on borrowing to
support its operations.
7. Finally,
the expert concluded that the construction claims consulting segment differs
from the activities performed by and the rest of the companies selected in the
interquartile range and for that reason the company, in terms of the
qualitative criteria of significantly different activities and deviations in
the normal course of business, differs significantly from ------------.
Question 2
Does the
Expert determine whether the profitability margin obtained in the project
developed by ---------------------------------- complies with market values?
Answer of the
experts of ------------:
1. They
considered that the financial information of the comparable companies and the
calculation of the interquartile range is correct, together with the
calculation of the indicator obtained by ------------, for the fiscal year
2012, according to its financial information, being within the market values
obtained from the interquartile range of the weighted average 2010-2012 of the
adjusted operating margin obtained by the selected comparable Companies.
2. The
interquartile range of the weighted average adjusted operating margin for the
period 2010-2012 obtained by selected comparable companies ranges from 3.70% to
7.00% with a median of 5.10%.
3. The
operating margin obtained by ------------ for its construction services
rendering activity for fiscal 2012 was 4.07%, which is within the interquartile
range obtained by the selected comparable companies.
4. This
margin is quite reasonable considering the fact that ------------ did not have
to make efforts to obtain the contract for the project ---------------, but was
created to comply with the agreement signed with the company
----------------------, so it did not assume any risk in that sense as the project
was secured.
5. Notwithstanding
the above, the experts indicated that the selected comparable companies, in
their operations with independent third parties, were willing to obtain
operating margins similar to those of ------------ despite the fact that they
did make efforts in terms of commercial and business strategies, assuming a
market risk.
DGI's
expert's reply
1. He pointed
out that since the company is not considered comparable to the taxpayer, the
interquartile range would be from 5.15% to 8.30% with a median of 5.70%;
therefore, the taxpayer's operating margin of 4.07% is outside the
interquartile range.
At this
point, it is necessary to make a considered assessment of the evidence, in
accordance with sound criticism and subject to the guidelines enshrined in
article 980 of the Judicial Code, which states:
"Article
980: The strength of the expert opinion will be estimated by the Judge taking
into consideration the scientific principles on which it is based, the
relationship with the factual material, the concordance of its application with
the rules of sound criticism, the competence of the experts, the uniformity or
disagreement of their opinions and other evidence and other elements of
conviction offered by the process".
Regarding
the guidelines that the Court must follow for the evidential appreciation of
the expert opinions, according to the rules of sound criticism, the national
doctrine has listed a series of factors that must be taken into account, as
follows: Jorge Fábrega P., MEDIOS DE PRUEBA,
Editorial Plaza & Janés, Bogotá, 2001, Volume II,
second edition, corrected and augmented, pp. 533 and 534.
"CONCRETE
ELEMENTS OF VALUATION.
Experience
shows that there are certain relevant elements and criteria of evidential
appreciation that the judge must take into account in the assessment of the
expert evidence. These are, among others:
1. Competence
and professional specialisation of the expert in
relation to the matter he/she is ruling on (as a rule, and without prejudice to
other elements, greater probative value has an expert and independent expert,
than several mediocre ones).
2. Accuracy,
coherence and degree of certainty of the report.
3. Method of
investigation and presentation.
4. Sources
and data on which the opinion is based.
5. Technical
principles on which the opinion is based.
6. Answer
to the opposing party's cross-examination.
7. Conduct
of the Expert in the proceedings.
8. Prestige,
especially in professional circles and in court.
9. Sound
criticism.
10. Consistency
with the rest of the evidence".
The integral
appreciation of the aforementioned technical opinions rendered during the
course of the process, show that the expert opinions merit evidential value,
with respect to the point under discussion, after the evaluations ordered by
article 980 of the Judicial Code.
As can be
seen in the transcript, it is the judge who is responsible for analysing the
expert evidence under attack and determining whether it complies with the
provisions of its admission, at the time of evaluating the body of evidence,
giving it the value that corresponds in relation and proportion to the rest of
the evidence provided.
In this
sense, the taxpayer states in his Appeal that the DGI only analysed the expert
opinion of the tax authority's expert, and did not evaluate both reports in
their entirety, thus disregarding the principle of motivation of the
administrative act described in article 201 of Law 38 of 31 July 2000.
For its part,
the Tax Administration, in response to the allegation made by , pointed out
that the above assertion is not true, since the confirmatory act sets out the
arguments of both experts and at the time of assessing the expert evidence,
alluded to a fact not mentioned by the taxpayer's experts regarding the
operating results of the comparable rejected or challenged that was mentioned
by the tax authority's expert in his report.
This Court,
upon reviewing the administrative act that resolved the Appeal for
Reconsideration referred to by the taxpayer ------------, observes that the Tax
Administration only referred to the expert evidence provided by the taxpayer's
experts, in order to indicate the following:
1. That,
based on what is indicated in the expert reports, the company ,the same has a
segment of consulting in construction claims that represents 25%, approximately
of the income obtained by the company for consulting services, so that this
function differs from those carried out by --.
2. That
the report does not refer to the global risk situation involving
--------------------, due to the situation originating at ------, due to acts
of terrorism, political and social unrest, among others, which could lead to
the evacuation of personnel, cancellation of contracts, affecting the timing
and collectability of accounts receivable, which represents the largest asset
in the balance sheet, and which affected the operating results of the company,
as the expert witness of the Treasury did in her report.
In the
opinion of this Court, although the Tax Administration in its confirmatory act
did not refer to all the aspects pointed out by the taxpayer's experts in their
report, it did raise differentiating situations and arguments between one
report and the other, and in this sense we cannot conclude that the
administrative act lacked a comprehensive motivation of the set of factual and
legal factors in this case, regarding the expert evidence, since the expert
evidence is only a part of the other aspects to be considered and which make up
the file and which resulted in the original decision being maintained.
The
appellant's representatives should bear in mind that the way in which the
findings are presented in each report after they comply with what has been
requested, are valued independently of the form or style in which they have
been presented, referring specifically to the content and the way of presenting
the findings that are at the discretion of the experts to assert their
positions as experts against public information obtained from various reports
that does not vary at least with regard to the company and the period
investigated and is available to anyone who wants to use it and extract from it
the information they consider to be of interest.
In the
following section, therefore, we will discuss what aspects emerge from these
reports and from all the other elements that make up the file in order to reach
a conclusion in this case.
6.
Comparability analysis
From a
technical point of view, a distinction must be made between transfer pricing
adjustments, made by the Tax Administration to the taxpayers' income, based on
Article 762-B of the Tax Code, and comparability adjustments, which seek to
eliminate (or reduce) the effects of the existing differences between the
analysed party and the comparable companies, as part of the comparability
analysis developed in Article 762-E of the Tax Code.
Similarly,
paragraph 1.33 of the OECD Transfer Pricing Guidelines, for the period 2010,
concerning the importance of the comparability analysis and the meaning of the
term comparable, states the following:
"The
application of the Arm's Length Principle is generally based on a comparison of
the terms of a related transaction with the terms of transactions between
independent enterprises. For such comparisons to be useful, the relevant
economic characteristics of the situations being compared must be sufficiently
comparable. Comparability means that none of the differences (if any) between
the situations being compared can significantly affect the terms analysed in
the methodology (e.g. price or margin), or that sufficiently precise
adjustments can be made to eliminate the effects of such differences. To
determine the degree of comparability and what adjustments are necessary to
achieve comparability, it is necessary to understand how independent companies
assess potential transactions...".
In this
sense, it should also be noted that the transfer pricing methodology adopted by
our legislation, inspired by the OECD Guidelines, does not pretend that two
companies or products are the same, and even if this were the intention, there
is countless literature on the difficulties that this poses.
In this
regard, the OECD Guidelines, in paragraphs 1.36 and 1.37, state the following:
1.36 As noted
above, significant differences between transactions or between enterprises
being compared should be taken into account in making the comparison. In order
to determine the actual degree of comparability, it is necessary to assess the
characteristics of the transactions, or of the firms, that would have
influenced the terms of open market trading, and thus to make appropriate
adjustments to establish arm's length conditions (or a range thereof).
The
characteristics or "comparability factors" that may be important in
determining comparability are the characteristics of the property or services
transferred, the functions performed by the parties (taking into account the
assets used and the risks assumed), the contractual terms, the economic
circumstances of the parties and the business strategies pursued by the
parties.
1.37 The
importance of these factors in determining comparability will depend on the
nature of the controlled transaction and the pricing method adopted...".
Going into
the matter, we have that the Tax Administration when reviewing the income
statements of the comparables provided by the taxpayer with the 10-k reports,
they observed that the Company -------------------------- presents important
differences, as they consider that the functions performed including the assets
or risks assumed in the operation of --------------------------, differ from
the functions, assets and risks of the taxpayer ------------, as well as in the
contractual clauses, considering how responsibilities are distributed, economic
circumstances, and the business strategies and geographic market, for which
reason it did not maintain it as a comparable company, because it affects the
range of full competition.
These
conclusions were based on Article 762-E described in the preceding paragraphs
and on the OECD's comments in points 1.42, 1.52, 1.53, 1.55, 1.57 and 1.59 of
Chapter I, which deals with the Arm's Length Principle of the Transfer Pricing
Guidelines. The following is what they state:
"Functional
Analysis
1.42 In
business transactions between two independent enterprises, remuneration
normally reflects the functions performed by each enterprise (taking into
account the assets used and the risks assumed). Therefore, in order to
determine whether related and unrelated transactions or associated and
independent entities are comparable, it is necessary to perform a functional
analysis. This functional analysis seeks to identify and compare the
economically significant activities, functions performed, assets used and risks
assumed by the parties to the transaction. For this purpose, it may be useful
to understand the structure and organisation of the
group and how these influence the context in which the taxpayer operates.
It will also
be relevant to understand the legal rights and obligations of the taxpayer in
the exercise of its functions.
...
Contractual
Clauses
a. In
arm's length transactions, contractual terms generally define, expressly or
implicitly, how responsibilities, risks and outcomes are allocated between the
parties. In this respect, the examination of the contractual terms should be
part of the functional analysis, referred to above. The terms of a transaction
can be found not only in the written contract, but also in correspondence and
communications between the parties. Where the contractual terms between the
parties are not in writing, they must be inferred from their conduct and from
the economic principles that normally govern relations between independent
enterprises.
b. In
commercial relationships between independent enterprises, differences of
interest between the parties ensure that they will normally ensure that they
themselves ensure compliance with the terms of the contract, which will only be
ignored or modified if it is in their mutual interest to do so. This divergence
of interest may not exist in the case of associated enterprises, so it is
important to examine whether the parties' conduct is in accordance with the
terms of the contract, or whether the contract indicates that they have not
been followed, or are simulated. In such cases, a more thorough analysis is
necessary to determine the true terms of the transaction.
...
Economic
circumstances
1.55 Arm's
length prices may vary between different markets even for transactions
involving the same goods or services; therefore, comparability requires that
the markets in which independent and associated enterprises operate do not
differ significantly in terms of price, or that appropriate adjustments can be
made. As a first step, it is essential to identify the market(s) by considering
the alternative goods and services available. Economic circumstances that may
be relevant in determining the comparability of markets are: their geographic
location; their size; the degree of competition and the relative competitive
position of buyers and sellers; the availability (the risk) of alternative
goods and services; the levels of supply and demand in the market as a whole,
as well as in certain areas, if relevant; the purchasing power of consumers,
the nature and extent of market regulation; transport costs; the level of
market ...; the time and date of the transaction etc. The facts and
circumstances of the particular case will determine whether differences in
economic circumstances have a significant effect on price, and whether
reasonably accurate adjustments can be made to eliminate the effects of such
differences.
...
1.57 The
geographic market is another economic circumstance that may affect
comparability. The identification of the relevant market is a question of fact.
For a number of sectors, large regional markets that include more than one
country may be reasonably homogeneous, while for others, the differences
between national markets ... are very significant.
...
Business
Strategies
1.59 Business
strategies also need to be considered when determining comparability for
transfer pricing purposes.
These take
into account a large number of company-specific aspects, such as innovation and
new product development, degree of diversification, risk aversion, assessment
of political changes, impact of existing and proposed labour
laws, duration of agreements, as well as any other factors that influence the
day-to-day management of the company. These business strategies may need to be
taken into account in determining comparability between related and unrelated
transactions and between associated and independent enterprises.
..."
For this
reason, we proceed to evaluate the comparables selection process, carried out
by both parties, based on the information in the record, and the substantive
arguments proposed by the parties, in order to determine whether, indeed, the
comparables selection process was carried out properly, or whether, on the
contrary, the measure taken by the Tax Administration is justified, based on
the comparability analysis developed in the rules set out above with respect to
the only comparable company selected by the taxpayer that was rejected by the
DGI.
Notwithstanding
the above, we consider it appropriate to quote what the author Rubén Bustamante
R., in his book "Manual de Impuesto Sobre la Renta", on page 664
et seq. states in this respect, regarding what we should understand as
comparability analysis and how it is carried out.
"Up to
this point we have examined important elements involved in concluding whether
or not the arm's length principle is complied with in a transaction between
related parties:
The
comparable or simply "comparable" transactions (internal and
external)
the factors
that affect the comparability of transactions; and
the
adjustments that increase the degree of comparability between transactions
(controlled vs. independent).
It is however
necessary to pause to integrate these elements into the analysis process, which
like all analysis is a process that has stages or phases that follow a
methodology according to the object under study; ....
... an
analysis is a detailed examination of an element, in order to distinguish its
characteristics or qualities or its state, and to draw conclusions, which is
carried out by separating or considering separately the parts of the whole that
constitute it, following an established methodology.
...,
specialists in the field, agree that the comparability analysis itself
constitutes the transfer pricing analysis, i.e. it comprises the whole process
of analysis, the results of which are set out in a document called
"Transfer Pricing Study".
Other authors
... point out that the comparability analysis is a part of the process, which
corresponds to the examination of the comparability factors that influence the
subsequent selection and application of the valuation method. They define it as
a step in the process of analysing transfer prices. This is the case in our
legislation as it follows ... from Article 762-E of the Tax Code and Article 7
(numeral 5) of Executive Decree No. 958 of 2013.
In daily
business, it is observed that the concept of comparability analysis is often
confused and assimilated to the search for comparables.
...
In order to
perform a proper analysis to conclude whether transfer prices between related
parties comply with the arm's length principle, the nine steps indicated by the
OECD Guidelines must be carried out, however for practical reasons these steps
are often grouped into broad phases these tasks. The classification proposed
below is not strict and may vary depending on the source consulted:
1)
Preliminary Analysis (of comparability factors):
-Functional
analysis (functions, assets and risks assumed by the tested company) (Steps 1
to 3 according to OECD-type process).
2.) Economic
and statistical analysis:
-Selection of
valuation method
-Search and
identification of comparables
-Application
of the valuation method
-Comparability
adjustments
Application
of the statistical method (interquartile range) (steps 4 to 9 according to the
OECD-type process).
....".
In this
regard, in this case, the taxpayer used external comparables, located abroad,
as it did not have information on the companies operating in the Panamanian
market, using international databases, a decision that has not been objected to
by the Tax Administration.
Notwithstanding
the foregoing, we consider it essential to bring up the most relevant aspects
of the expert evidence on Transfer Pricing carried out by the first instance,
in order to have a clearer view of its findings, but focusing on those
important elements or factors of comparability that must be present in such
analysis.
Opinion of
the Taxpayer's Experts:
- Regarding
the companies selected by the taxpayer and Accepted by the Tax Administration.
The
appellant's experts state that they chose the following companies because they
met the qualitative and quantitative criteria and because they are the most
comparable companies according to their functions performed, assets used and
risks assumed, as well as the limitations of the availability of comparables as
described in paragraph 3.38 of the OECD Guidelines and because they are
comparable, external companies with slightly different strategies or business
models to the party under test. Let us see:
Global
Company
Has 46,800
employees
Global leader
in specialised planning services, engineering design
and construction programme management services.
Global
Company
Has 7,300
employees
Provides
consulting services in the areas of planning, engineering, architecture,
interior design, landscape architecture, project management in the
infrastructure and facilities project markets and maintains a fee-for-service
revenue model.
Global Company
13,000
employees
Provides
consulting services in the areas of planning, engineering, construction,
project management in the infrastructure and natural resources markets.
Company
rejected as comparable by the DGI, which was selected by the taxpayer:
Global
Company
Has 3,2000
employees
Providing
services in the real estate development and infrastructure markets.
Thus, the
experts of the plaintiff presented how they came to the conclusion that the
selected companies complied with the elements of comparability distinguished in
the Law and other regulatory instruments, as we present below:
1.
Characteristics of the operations
a. Financing
Operations
Principal
Amount
Term
Risk Rating
Collateral
Debtor's
Solvency
Interest Rate
The
appellant's experts state that this figure distinguished as "a" does
not apply to the analysis of the comparables of the selected companies, since
what is analysed is the provision of the service, which in this case would be
in the construction sector.
b. Provision
of Services
Nature of the
Service
Whether or
not the service involves technical expertise or knowledge.
As can be
seen, the business strategies of the selected and rejected companies are
similar:
-----------------------------------:
Global leader in specialist planning, engineering design and construction programme management services.
--------------------------:
Provision of consulting services in the areas of planning, engineering,
architecture, interior design, landscape architecture, project management in
the infrastructure and facilities project markets and maintains a
fee-for-service revenue model.
--------------------------:
Provision of consulting services in the areas of planning, engineering,
construction, project management in the infrastructure and natural resources
markets.
--------------------------:
Provision of services in the real estate and infrastructure development
markets.
The
appellant's experts indicate that the comparable activity of the selected
companies with the provision of services are:
Buildings
Repairs
Infrastructure
Construction
They are
active in the construction sector
c. In
the case of the granting of rights of use or disposal of tangible assets,
elements such as:
Physical
characteristics
Quality
Reliability
Availability
of the good and volume of supply
The
appellant's experts state that this figure distinguished as "c" does
not apply to the analysis of the comparables of the selected companies, since
what is analysed is the provision of the service, which in this case would be
in the construction sector.
d. The
exploitation or transfer of an intangible asset
e. Disposal
of shares, liquid assets or profits.
The
appellant's experts point out that these figures "d and e" do not
apply to the analysis of the comparables of the selected companies, since what
is analysed is the provision of the service, which in this case would be in the
construction sector.
2.
Significant economic functions or activities undertaken by the parties in
relation to the transactions under analysis, including the risks assumed and
weighting, where appropriate, the assets used.
f. Functions:
Consultancy design, design, engineering, planning, construction and project
management, among others.
g. Risks:
Vulnerability
of accounts receivable which represents 42.30% of its total assets for 2012.
It is exposed
to operational risks such as the loss of qualified personnel for the
performance of its activities and security risks that could result in harm to
workers and generate significant costs for the company.
.
Vulnerability
of accounts receivable representing 24.24% of its total assets for 2012.
It is exposed
to risks of loss of personnel due to acts of terrorism, political,
governmental, social unrest, among others, and risk of contract cancellations.
.
Vulnerability
of accounts receivable which represents 41.91% of its total assets for 2012.
It is exposed
to risks of loss of personnel due to acts of terrorism, political,
governmental, social and other unrest and risk of contract cancellations.
Vulnerability
of accounts receivable which represents 50.08% of its total assets for 2012.
It is exposed
to risks of loss of personnel due to acts of terrorism, political,
governmental, social and other unrest and risk of contract cancellations.
In the case
of the taxpayer ------------, the experts point out that it is identified with
the other companies in that:
Vulnerability
of accounts receivable, which represents 75.86% of its total assets for 2012.
It is exposed
to risks of loss of qualified personnel and personnel security risks.
h. Assets
Indicate that
the assets used in the provision of construction services used the financial
indicator, return on assets ROA for its acronym in English, which measures the
relationship between the profit achieved in a given period and the total assets
of a company.
The following
is a breakdown of the ROA of each selected company presented in their report:
--------------------------
1.45%
--------------------------. 1.05%
--------------------------. 1.62%
--------------------
1.14%
--------
--------- (TAXPAYER / ------------) 6.63% 6.63
Referring to
the previous result, the taxpayer's experts point out that there is a great
similarity between the ROA of the comparable companies selected within their
provision of services in the construction sector while obtaining a higher ROA
specifically due to the fact that, being a Consortium of two shareholders, it
does not own the machinery for the development of its services, but rather
rents them to its shareholders for business reasons.
3.
Actual contractual terms from which operations are derived taking into account
the responsibilities, risks and benefits assumed by each contracting party.
In the
construction sector, the projects in which the comparable companies and the
taxpayer participate are carried out through service contracts.
Revenue model
based on contracts in which service fees are set considering the costs incurred
plus the fee agreed with the client or by means of fixed price contracts.
.
Fee-for-service
business model.
.
They maintain
three types of contracts: Fixed price; time and materials incurred; costs
incurred plus fees.
They maintain
three types of contracts: Fixed price; time and materials incurred; costs
incurred plus fees.
For its part,
-------- ---------, was awarded the contract for construction services to carry
out repair works for the Project --.
It is exposed
to risks of loss of personnel due to acts of terrorism, political, governmental
and social unrest, among others, and risk of contract cancellations.
4. Market
characteristics or other economic factors that may affect operations
The selected
comparable companies do not operate in the Panamanian market, and these
companies were used as comparables after exhausting the possibility of using
companies in Panama, as no public financial information could be found and they
were comparable to --.
5. Commercial
and business strategies such as market penetration, permanence or expansion
policies, as well as any other circumstance that may be relevant.
Leverage
competitive strengths and leadership position in the core market.
Enter new
emerging and geographic markets.
.
Business
strategy in the provision of consultancy services in infrastructure markets and
facility projects.
Aims to
become one of the first companies focused on deepening and expanding its
services through organic growth and acquisitions.
.
It bases its
business strategy on the provision of consulting services in the infrastructure
and natural resources markets, maintaining its growth and competitive position
through strategic acquisitions to maintain continued growth in the different
areas of the business, as well as expanding its service offering.
Generation of
project management work, as well as expansion through organic growth and the
acquisition of different project management companies and construction
consultancies around the world.
In the case
of -----------, they indicate that no effort was made in commercial and
business strategies since, as mentioned, the company was created to attend to a
specific project. The articles of association state that it was created for the
duration of the contract signed by the company ----------------------, for the
repair of the tunnel of the -------- project, but it can be dissolved at any
time.
The business
strategy was previously made by its shareholders.
Opinion of
the DGI's expert witness
Agreed that
the selected companies are engaged in the activities detailed in the 2012
transfer pricing study and that they (with the exception of ) generally meet
the criteria of
comparability
criteria of --.
The
differences found with the comparable company --------------------------, and
the taxpayer, were as follows:
Differs in
the construction claims consulting segment as it comprises 25% of its
consulting revenues and differs from the activities not only of , but of the
other companies.
Decrease in
operating results of 4.12% in 2010; -0.77% in 2011 and 1.09% in 2012.
The reasons
for the above, according to the expert, are due to the following reasons:
Loss of
revenues and earnings from discontinued operations in --.
Completion in
2010 of a project in --.
Decrease in
work in the construction claims business in --.
Decrease in
operating income from construction claims business in --.
Decrease in
operating income of the project management business at ------ of $21,377 due to
work stoppage and $5,055,000 in --.
Receivables
with work performed prior to March 2011, under contracts in were $60 million
and had a detrimental effect on operating cash flows, causing the comparable
company to rely on borrowings to support its operations.
3. As
to the comparison made by the DGI's expert with respect to the comparable
accepted by the DGI, --------------------------, as opposed to
--------------------------, the rejected comparable, he pointed out:
Although the
company -------------------------- was also affected by the political
instability in its operations in ------, it stopped providing services to the
client "-------------------------------------------", it did not
report having uncollectible accounts for operations that caused it to have to
ask for credit to cover its liquidity needs, as did --
.
That even
though the amount of the reduction of services from --------------------------,
for its operations in ------ amounts to 30 million dollars, it is not
significant to the operating results, unlike the detrimental effect it had on
the operating cash flows of --.
Having set
out the expert reports, this Tribunal notes that, while both party-appointed
experts agreed that three of the companies selected as comparables were
appropriate for establishing the market values of the business, there is no
uniformity in their opinions on the other or the fourth selected company.
Thus, in the
following points we will address our consideration of the accepted and rejected
comparables, as well as the differences that the DGI found with the company
-------------------------- with the taxpayer ------------, in terms of the
functions performed, including assets used or risks assumed.
-
Similarities of the rejected comparable company with those accepted by the Tax Administration
In this case,
the objections of the Tax Administration were based on the fact that one of the
selected companies should not have passed the filter as it had significant
differences in its functional analysis (functions, assets and risks), as we
have emphasised throughout this resolution.
After all the
above, we consider that, although it is true that this company has certain
differences in terms of some very specific lines of business, it is also true
that these do not represent a significant percentage of the revenues of the
company's main activity, which is clearly construction.
Likewise, it
is observed that, when verifying the description of the operations of the other
selected companies, which were not objected to by the tax authorities, similar
differences can be found.
Thus, among
their risks, they have vulnerability in accounts receivable, which represent
42.30%, 24.24% and 41.91% of their total assets, and --------------------------
accounts receivable represent 50.08% of their total assets.
Likewise, two
of them, -------------------------- and --------------------------., are
exposed to risks of loss of personnel due to acts of terrorism, political,
governmental, social unrest, among others, and risk of contract cancellations,
as in the case of
Regarding the
actual contractual terms of the operations, taking into account the
responsibilities, risks and benefits assumed by each contracting party, the
three comparable companies selected and accepted by the DGI have revenue models
based on contracts in which the fees for services are fixed considering the
costs incurred plus the fee agreed with the client or through fixed price
contracts, as in the case of the rejected company ---------.
Similarly,
regarding the characteristics of markets or other economic factors that could
affect operations, the DGI's own expert accepts that the company was also
affected by political instability in its operations in ------, as was the case
with --------------------------, although ------------- did not report having
uncollectible accounts for operations in , we do not agree with the allegation
in view of the fact that, as mentioned above, -------------------------- has a
vulnerability in accounts receivable that represents 42.30% of its total
assets. 30% of its total assets, the same as -------------------------- even
though it did not have them with that country specifically for the 2012 period.
Regarding the
business and commercial strategies applied by the three selected companies, we
note that they are very similar, particularly with , which, among others, bases
its business strategy on the provision of consultancy services in the
infrastructure markets, as well as --------------------------.
At this
point, this Court considers that there are similarities between the selected
companies and the comparable company rejected as comparable, an exercise that
we consider carrying out by virtue of the allegations made by the taxpayer
------------, when it emphasised this aspect in its
appeals.
Briefly, we
would like to refer to what the taxpayer also pointed out regarding the fact
that the Tax Administration rejected the comparable company
(--------------------), with the lowest indicator of the other three accepted
companies.
In this
sense, this Court has stated in Resolution n.° TAT-RF-002 of 10 January 2020,
regarding the possible manipulation of comparables known by the Anglo-Saxon
expression "cherry picking", in the following terms:
"just as
the criteria for discarding must be applied uniformly by the taxpayer, they
must also be applied uniformly by the Tax Administration, regardless of whether
the results of the analysis are in favour of or against the Treasury (The three
companies challenged by the Tax Administration were those that presented the
lowest operating margins: 1. 00%; -0.03% and -23.64% respectively), concluding
that "it is incongruous to object to comparables that are in similar
circumstances with others that have been accepted, i.e. that have a reasonable
level of comparability with the examined party". .
Similarly,
this Court has also pointed out in resolution TAT-RF-083 of 8 November 2017,
with regard to the number of comparables, that it is more of a qualitative
aspect than a quantitative one. Below, we transcribe what was raised:
"In this
regard, the taxpayer made, in the framework of its defence,
certain points regarding the statistical reliability of using two comparables
to calculate the arm's length range, referring to the quantity of the sample as
insufficient.
In this
regard, it should be recalled that the method recommended by article 762-F of
the Fiscal Code is precisely the statistical interquartile method, which does
not establish a specific number for its implementation, it being understood
that when speaking of ranges, there must evidently be more than one, which in
our opinion does not work in favour or against any of the parties, We conclude
that the selection of comparables is of a qualitative rather than quantitative
nature, especially given the difficulties implicit in the search for
comparables, which the taxpayer itself has raised. " (emphasis added).
For its part,
the expert appointed by the DGI, in its report, pointed out that it had not
objected to the quantitative and qualitative criteria presented by , but that
the discussion regarding the comparables it considered focused on the
appropriate application of these criteria.
In that
order, it is important to understand in a simple manner what these quantitative
and qualitative criteria consist of in order to put into context what was
alleged by the Tax Administration's expert.
Identifying
external comparables is known to be possible due to the international financial
markets and financial information of companies can be found in databases that
include automated tools that facilitate the cleaning and management of this
information, as well as brief descriptions of the companies.
In order to
group the information and functionalities available in the databases and the
transaction to be analysed, a search strategy must be defined that optimises the quantitative and qualitative criteria to be
considered to identify, evaluate, accept or discard a potentially comparable
company.
Common
quantitative criteria include: average losses or recurring losses; research and
development or advertising expenditures above certain sales levels; sufficient
financial information.
Common
qualitative criteria include: controlled company; in bankruptcy, restructuring
or liquidation; in start-up phase; performing different functions.
In this
sense, the taxpayer in the process of searching for comparable companies used
quantitative criteria by selecting those companies whose financial information
was inadequate, i.e., lacking sales or operating profit information for three
fiscal years, and with such exclusion criteria, would eliminate the economic
impact of business cycles or extraordinary results.
Similarly, it
used quantitative criteria framed within recurring losses for the tax years
2010-2012, as well as eliminating companies whose ratio of R&D expenses
(research and development expenses) to net sales exceeded 3% even if the
taxpayer did not carry out R&D activities.
Regarding the
qualitative criteria implemented by the taxpayer, it is clear that it
eliminated companies that performed functions, served markets and assumed risks
significantly different from those performed by the taxpayer and related to the
provision of project management and technical support services.
- Rejection
of the Tax Administration of the company --------------------------, due to
differences with the taxpayer ------------
The Tax
Administration when reviewing the income statements of the comparables provided
by the taxpayer with the 10-k reports, observed that the company
-------------------------- presents important differences, as it considers that
the functions performed including the assets or risks assumed in the operation
of --------------------------, differ from the functions, assets and risks of
the taxpayer, as well as the contractual clauses, considering how the
responsibilities are distributed, as well as the economic circumstances, the
business strategies and the geographic market and for all these reasons, it
cannot be included as comparable because it affects the range of full
competition.
Notwithstanding
the above, they emphasised the construction claims
consultancy segment, stating that it differs from the activities carried out by
------------, in terms of qualitative criteria of significantly different
activities and deviations in the normal course of business.
Likewise, the
DGI indicates that -------------------------- is in search of new business
opportunities and ------------ is dedicated to the provision of services in the
real estate and infrastructure markets.
For its part,
the taxpayer indicates that it mainly presents the operational risks that a
construction company would present, of which one of the most important and
comparable with -------- ---------, is the dependence on subcontractors and
specialists for the development of its activities, through which it assumes the
risk of not being able to comply with the projects in the correct time.
By virtue of
the above, it considers that this risk assumed by , differs from that mentioned
by the DGI, where it points out that the services of , have significant
advantages over traditional general contractors, as they do not assume the risk
of completion of the Project.
The taxpayer
also indicates that no efforts were made in commercial and business strategies,
as the company was created to serve a specific project. The articles of
association state that it was created for the duration of the contract signed
by the company for the repair of the Project tunnel, but it can be dissolved at
any time.
Concluding
our considerations, and by way of summary, we highlight the following aspects:
a. The
Tax Administration must always try to comply with basic principles that emanate
from our Law 38 of July 31, 2000, on general administrative procedure, one of
them, the principle of objectivity, that is to say, that its decisions, among
other aspects, are based on the factual background and procedural evidence and
not in a subjective or capricious manner.
b. We
point this out because when analysing the reasons why the Tax Administration
accepts the other three (3) comparables, we find more similarities than
differences, as we have already pointed out previously and which we summarise as follows:
- The main
type of service they offer is in the construction sector and their service
strategies are very similar;
- In terms of
risk factors, and the vulnerability of the accounts receivable of the total
assets of the accepted comparables versus the rejected comparables, the
percentages range from 24.24% to 42.30% and the objected comparables range from
50.08%, and the reasons for obtaining these percentages are relatively similar.
- With regard
to assets, we also note that the financial indicator used for return on assets
(ROA), which measures the relationship between the profit obtained in a period
and the total assets of a company, ranged from 1.05% to 1.62% for the
comparables accepted by the DGI, and 1.14% for the rejected comparable.
- In general,
the contractual terms of both the accepted and rejected comparables are very
similar.
- On the
other hand, the risk factors and the vulnerability of the accounts receivable
of the total assets of the rejected comparable was, as previously indicated,
50.08%, and it obtained 75.86%, that is, a difference attributable to not
having the liquidity to settle its operations as the other companies that were
not created for a specific project do.
- Likewise,
in terms of the profit obtained and total assets, the comparable company
rejected showed a 1.14%, as we have already pointed out, however, it obtained
6.63%, most likely due to the fact that as it is a Consortium made up of two
shareholders, it does not have the machinery to offer its services, so
obviously having to rent, it has an impact on its results, different from the
other comparables.
By virtue of
the allegations made by both parties, we consider from the procedural evidence
in the file that the process followed to identify potential comparables by both
parties has been systematic and verifiable; however, we agree with the taxpayer
that the companies selected by them are comparable with ------------, and
comply with the Principle of Full Competition, therefore, they should be taken
into account within the interquartile range, since we consider that the
elements of the comparability analysis, indicated by the DGI, are not
compromised.
In view of
the above, as we do not agree with the objection made to this comparable
company by the Tax Administration, and as the taxpayer is within the range of
full competence, this Court must revoke Resolution no. 201-3306 of 27 February
2015, and its confirmatory act Resolution no. 201-1278 of 16 April 2019, both
issued by the Directorate General of Revenue.
OPERATIVE
PART
In view of
the foregoing, the TAX ADMINISTRATIVE COURT, in Plenary Session, and in
exercise of the powers conferred upon it by Law, resolves:
FIRST: TO
REVOK Resolution no. 201-3306 of 27 February 2015, and its confirmatory act
Resolution no. 201-1278 of 16 April 2019, both issued by the Directorate
General of Revenue of the Ministry of Economy and Finance, and through which it
was resolved to issue an additional assessment to the aforementioned taxpayer,
for the sum of TWO HUNDRED AND NINETEEN THOUSAND AND FOUR HUNDRED AND FIFTY
SEVEN BALBOAS AND 55/100 (B/. 219,457.55), for deficiency in its Income Tax
Affidavit for the period 2013, Transfer Pricing Report Form 930 for the year
2012 and Transfer Pricing Study for the year 2012.
SECOND:
NOTICE that this resolution is effective from the date of its notification and
that with it the governmental channels are exhausted, so that the taxpayer may
bring an action before the contentious-administrative jurisdiction of the Third
Chamber of the Supreme Court of Justice, according to the forms provided by
law.
THIRD: ORDER
the closure and filing of the file, once this resolution has been executed, and
return the antecedent file, together with an authenticated copy of the same to
the General Directorate of Revenue of the Ministry of Economy and Finance.
BASIS OF LAW:
Articles 694, 695, 718, 719, 720, 762-A to 762-K, 1238, 1238-A of the Fiscal
Code; Article 156 of Law 8 of 2010; Executive Decree 958 of 2013. Notify and
comply.
(S ED.) ANEL
JESÚS MIRANDA BATISTA
Magistrate
(S) MARIA
ELENA MORENO DE PUY (S) ANA TERESA PAZ REINA
Magistrate
Magistrate
(s) MARCOS
POLANCO MARTÍNEZ
Secretary
General