By Susi Baerentzen, Ph.D., Carlsberg Foundation Postdoctoral Fellow
The Danish Ministry of Taxation announced on March 25 that, due to expectations that the taxpayer would win the case, it was withdrawing its litigation in a 2018 case (SKM2018.511.LSR) where it had applied its longstanding formalistic approach to transfer pricing.
The Ministry’s decision follows a string of cases decided over the past two years in which Denmark’s Supreme Court and high courts have ruled against the tax administration’s homemade approach to transfer pricing. The Ministry specifically referred to the Supreme Court rulings in the 2019 Microsoft case and the 2020 Adecco case. The most recent loss for the tax administration’s approach was a Western High Court decision, the 2020 ECCO shoe case.
Significance of the withdrawal
The Ministry’s message that it admits defeat and will refrain from spending additional government and taxpayer time and resources is laudable. The rulings from the Supreme Court and subsequently the High Courts in the transfer pricing cases have been very clear in stating that the line pursued by the tax administration did not pass muster.
However, the Ministry also used the opportunity to contradict the Danish Tax Tribunal, which had initially ruled in favor of the taxpayer. This is a bit unusual, and to better understand why, a short summary of the case is provided below.
The facts of the case – SKM2018.511.LSR
The taxpayer was a Danish corporation that had generated operational losses for many years. The tax administration found that the corporation should be compensated for its presence in the Danish market, arguing that it provided a service to the global group.
The taxpayer disputed that such a controlled transaction took place, and its transfer pricing documentation did not include any descriptions of the compensation. It is worth noting that while there was missing documentation relating to intra-group services, it was related to actual transactions and not the transaction alleged by the tax administration.
The Danish Tax Tribunal initially agreed with the tax administration that the transfer pricing documentation was inadequate and did not suffice as a basis for determining whether the arm’s length principle was met at the time of the assessment. For this reason, the tribunal found that the administration was entitled to disregard the documentation and conduct a discretionary assessment.
However, the tribunal also found that the discretionary assessment should be performed according to the 2010 OECD transfer pricing guidelines, points 1.64 and 1.65, since the tax administration had taken the view that payment to the Danish corporation was missing, i.e., a missing controlled transaction to cover the loss in the Danish corporation.
The tribunal stated that the tax administration had made no adjustments in the remuneration for the actual economic and business transaction between the corporation and the group companies. The tribunal then referred to the 2010 OECD transfer pricing guidelines, point 1.64, stating that a missing controlled transaction should only be claimed in exceptional circumstances. The tribunal further referred to point 1.65 in the guidelines for a definition as to when those circumstances might arise:
The second circumstance arises where, while the form and substance of the transaction are the same, the arrangements made in relation to the transaction, viewed in their totality, differ from those which would have been adopted by independent enterprises behaving in a commercially rational manner and the actual structure practically impedes the tax administration from determining an appropriate transfer price. [Emphasis added]
The Ministry agrees to disagree with the Tax Tribunal
While the Ministry may have admitted defeat in terms of the outcome and withdrawn the case, they still emphasized their disagreement in the public notice, stating that:
The Ministry of Taxation has withdrawn the case at the Eastern High Court as it is expected that a ruling would be in favour of the taxpayer based on the most recent case law, particularly the Supreme Court rulings in SKM2020.303.HR (Adecco) and SKM2019.136.HR (Microsoft). The Ministry does, however, not agree with the Danish Tax Tribunal that the dispute concerning whether a payment to the Danish corporation is missing is a dispute that should be settled in accordance with the 2010 OECD transfer pricing guidelines, point 1.64 and 1.65.
In the view of the Ministry, the tribunal is not correct in including the TPG 2010, point 1.65 (now TPG 2017, point 1.122) in the current context. This point refers to the situation in which there is basis for disregarding or requalifying transactions or arrangements based on the notion that the group might have entered into these as a consequence of unrelated parties, acting economically rational, not wanting to enter into them. This point is closely connected to avoidance considerations, which can also be found in Danish law. [Unofficial translation]
The Ministry further explained their protest by stating that the tribunal’s reference to the 2010 OECD transfer pricing guidelines, point 1.65, might be understood to mean that this point is necessarily relevant for common disputes relating to whether there even is a controlled transaction, as the tribunal had stated that this should only be found in exceptional circumstances. In this regard, the Ministry stated that this basic assessment should be conducted on the relevant facts and circumstances, including the contractual basis and the actual behaviour of the parties involved, referring to the 2017 OECD Transfer Pricing Guidelines, points 1.35 and 1.36 on “accurate delineation of the actual transaction”.
Takeaway from the withdrawal
The first question that springs to mind when reading the withdrawal notice is: What about all the other pending cases?
The case at hand (SKM2018.511.LSR) had a twin ruling from the tribunal, published on the exact same day on October 8, 2018 (SKM.2018.511.LRS), and, so far, no public withdrawal notice has been issued for that.
The twin ruling concerned the shutting down of a Danish corporation where the tax administration had increased taxable income based on alleged advantages in relation to the closing that would have been remunerated by independent parties.
The difference in the twin case was that the tribunal did not find that the tax administration was even entitled to conduct a discretionary assessment since the Danish corporation was not obliged to describe the relevant restructuring leading to the close down in its transfer pricing documentation for the relevant year. In addition, the tribunal did not find it to be sufficiently evidenced that a transfer of assets had taken place or that there was a contractual base for compensation.
Both cases are very characteristic of the tax administration’s attempted formalistic approach, and the obvious difference lies in the basis for conducting a discretionary assessment. It may be that the Ministry has simply not issued more withdrawals yet, or it could be that they will not withdraw litigation in cases concerning the actual basis for conducting a discretionary assessment.
Time will tell, so stay tuned for more updates as they come.
Susi Baerentzen holds a Ph.D. international tax law. She has published several articles and book chapters on tax issues related to the Danish beneficial ownership cases, State aid, and alternative financing. Most recently, she was a reporter for the International Fiscal Association’s 73rd Congress in London in 2019.
Prior to commencing her research, she was a legal advisor for the Danish Minister of Taxation and an external lecturer in Tax Law and EU Law at the University of Copenhagen, Denmark, and she has extensive experience from working at a Big4 corporation. As part of her current research activities she is officially appointed to the Danish Corps of External University Examiners in EU Law and Tax Law.
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