by Terence Wilhelm, CARA Avocats, Lyon area, France
In its ambitious plan to fight against multinational group tax base erosion and profit shifting (better known by its acronym “BEPS”), the OECD has sought to address the tax challenges posed by the digital economy and prevent the artificial avoidance of permanent establishment status.
In this environment, one will note with interest the ValueClick decision of the Paris Administrative Appeal Court, rendered March 1, which combines these two themes.
The facts are as follows: the American group ValueClick (later renamed Conversant) engaged in personalized digital marketing, allowing brands to connect with consumers individually on a large scale and in real time.
Like many digital groups, ValueClick’s European headquarters, ValueClick International, is located in Ireland. This company, in turn, has a subsidiary in France, namely SARL ValueClick France, whose purpose is to promote the group’s services on the French market.
The relations between the two companies were governed by an intra-group service contract under which the French company undertakes to render the following services to the Irish company:
- Marketing and sales support, which includes the identification and prospection of potential customers for the benefit of ValueClick International;
- Ongoing management services and back office support services;
- Administrative assistance, including accounting, human resources management, information technology and treasury.
In the course of a tax audit started 2013, the French tax authorities determined that the company’s activities led to the creation in France of a permanent establishment of the Irish company.
This conclusion had corporate income taxes consequences because it reassigned to the French company sales recorded in Ireland. The French tax authorities also claimed that, to the extent the services were deemed to be performed in France (and not in Ireland), the services should have been subject to French VAT, set at 19.6% at that time (now 20%).
The claims of the tax administration, however, were swept aside on both grounds by the Paris Administrative Court of Appeal. The decision offers an analysis of the permanent establishment which is particularly interesting given the current BEPS environment.
The Court said that the facts of the case make it quite difficult immediately foresee the outcome. Indeed, the Court noted that ValueClick France had the necessary staff to operate the full range of marketing operations in France to promote the group’s products. It also had the necessary resources to provide extensive management support services to its Irish parent.
This appears to suggest that ValueClick France had more material and human resources than its Irish parent company. One might have thought that this substance, which is such a key element in the OECD BEPS action plan, would have put an end to the defense of the company by highlighting a disconnect between the place where profits were recorded (Ireland) and the place where the functions that contribute to it are mostly performed (France).
The Court also notes that the investigation revealed that ValueClick France’s staff was able to negotiate the terms of the sales agreements and to draft certain key terms with the customers.
Advertising programs were also developed and supervised by employees of ValueClick France. Finally, the tax administration pointed out that the staff of the French company behaved towards third parties as if they were employees of the Irish company, to the point of creating confusion in the minds of the publishers and the customers alike.
These items, however, were not deemed sufficient for the Appeal Court. To support the rejection of the Minister’s arguments, the Appeal Court stressed that the employees of ValueClick France could not make a decision on their own regarding online publication of advertisements.
In addition, the Appeal Court notes that the release of new programs always required a signature on contracts by the managers of ValueClick International Ltd, even if this signature appeared rather automatic and a mere validation of those contracts negotiated and developed by the employees of ValueClick France.
Finally, the Court mentions that, despite the obvious capacity of the employees of the French company to promote the services and negotiate the key terms of the engagements, they were not legally empowered to act in the name and on behalf of the Irish company.
With this analysis, the Court shut the door on the recognition of a dependent agent in France of the Irish company. It goes even further, however, by ruling out the existence of a fixed place of business, which often is the other face of permanent establishment.
With this analysis, the Court shut the door on the recognition of a dependent agent in France of the Irish company. It goes even further, however, by ruling out the existence of a fixed place of business, which often is the other face of permanent establishment.
The Court notes indeed that the equipment necessary for the technical implementation of the services was not located on French territory. The French company certainly had hardware and software, but the latter, although connected to the network of the group, was in any case insufficient to deliver all services, much less in a sustainable manner.
By this decision, the Court thus recalls that the recognition of a permanent establishment must necessarily go through a legal reading of the attribution of the roles and capacities of each party.
The analysis of the facts, and more particularly the behavior of the parties, can certainly constitute valuable clues, but it cannot by itself prove the existence of a permanent establishment. In the present case, there was every reason to believe that the employees acted in fact as representatives of the Irish company in the eyes of the customers. However, they remained contractually bound to the foreign company and internal processes were in place to validate (even automatically with very limited review) any order detected by ValueClick France.
Under this framework, this decision recalls the Zimmer case rendered by the same administrative court of appeal a decade earlier. In that case, the tax judge had already squashed the tax administration’s argument, pointing out that the ability to effectively represent the foreign company and to act in its own name, but on behalf of a third party, naturally arose from the status of commissionaire, whose role is defined in law. As such, the commissionaire could not automatically and simply by its capacity to act on behalf of a foreign principal constitute a permanent establishment.
Last year, but still in Paris, the administrative court rejected the claims of the tax administration in the Google case, which rose to attention due to the amounts at stake and the newly formed climate originating from the announcements of the OECD, precisely on this theme of permanent establishments.
In the Google case, the judge had already held that despite the powers granted to Google France, it did not have the right nor the ability to engage the company Google Ireland, Ltd.
It is interesting to note, however, that Google had won at the bar of the Paris Court just a few months after the same court rejected the claims of ValueClick. The facts, however, were essentially the same. But perhaps, in this post BEPS environment, the tax judge needed to remember that in law, legal analysis must prevail over factual observations.
Nevertheless, it must be stressed that this decision, as well as the cases cited above, are based on the currently applicable tax conventions. These do not yet incorporate the developments proposed by the OECD as part of its BEPS plan.
Nevertheless, it must be stressed that this decision, as well as the cases cited above, are based on the currently applicable tax conventions. These do not yet incorporate the developments proposed by the OECD as part of its BEPS plan.
It is reasonable to expect that in the near future, when the tax conventions will be revised like the recently signed treaty between France and Luxembourg, a different reading will be possible, more in line with the newly drawn international definition of the permanent establishment.
The takeaways:
- Permanent establishments clearly are on the radar of tax administrations, notably in France. These are spurred by the work of the OECD;
- The current tax treaties signed by France (and built on the old OECD tax treaty model) generally contain a restrictive definition of the PE;
- This restrictive definition obliges tax judges to adopt a purely legal reading of each individual case. According to that legal reading, an enterprise could constitute a permanent establishment only if it has the capacity to legally bind the foreign company vis-à-vis customers;
- The mere fact that the employees of the French company behave as if they were entitled with the power to represent the foreign entity in the eyes of the customers is not enough to characterize the permanent establishment;
- To avoid qualification as a permanent establishment, it is advisable to set up internal processes to review and validate the offers identified by the French company at the level of the foreign company. It is imperative that sales contracts must be signed by the foreign company.
–Terence Wilhelm is an Attorney at Law, PhD, and the managing partner of CARA Avocats, a law firm dedicated to tax and transfer pricing in France. He can be reached at [email protected] or +33 4 72 20 12 88
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