According to Dutch transfer pricing legislation (article 8b of the Dutch Corporate Income Tax Act), Dutch tax payers need to have documentation available that demonstrates the arm’s-length nature of transfer prices applied to intra-group transactions. This transfer pricing documentation should be part of a taxpayers’ administration. If such documentation exists, the Dutch Tax Authorities (“DTA”) can only challenge the transfer prices if they can substantiate that the transfer prices applied do not meet the arm’s length principle. In this respect, the burden of proof lies with the DTA. In a recent Dutch lower court decision, it has been ruled that the burden of proof in this respect is very high for the DTA.
The taxpayer, a multinational group that operates zinc melting plants, is a fiscal unity of which X BV is the parent company. The fiscal unity furthermore consists of A BV. Historically, the taxpayer was characterised as the entrepreneur of the group, performing all key functions, assuming the main risks and owning important (in)tangible assets. As of 2003, some of the functions, risks and assets are gradually transferred to a global sales & marketing team in another jurisdiction. As part of the business transferred to other group companies, the taxpayer has concluded a cooperation agreement (“CoopA”) with a two-year maturity. The CoopA contained a ‘EBIT-passback’ clause, which assured that profits made were allocated to the taxpayer, after other group entities were remunerated accordingly.
In 2010, it was decided to transfer all main functions within the group to a newly incorporated Swiss entity, that would function as head-office of the group. As of this time, the taxpayer became a toll manufacturing entity. For its toll manufacturing activities, it received a Net Cost Plus (“NCP”) remuneration of 10%. Furthermore, the CoopA (which would still last for another year) was terminated, for which the taxpayer received a compensation. Both the determination of the NCP remuneration and the compensation for the termination of the CoopA, was documented and substantiated by transfer pricing documentation.
Following the compensation payment, the taxpayer submitted its 2010 CIT-return with a taxable amount of EUR 43 million. The Dutch tax inspector, however, was of the opinion that the main functions were still performed by the taxpayer and that thus the compensation payment for the cancelation of the CoopA should have been significantly higher. Therefore, the DTA adjusted the taxable amount to EUR 188 million.
First of all, the Dutch court concluded that the taxpayers had fulfilled its documentation requirements as prescribed by Dutch transfer pricing legislation. Therefore, it ruled that the burden of proof on the tax inspector is significant. In order to successfully challenge the intercompany transaction the tax inspector needs to prove the following two items:
- The tax inspector should prove that the actual transaction itself does not meet the arm’s length principle, i.e. that is was not in the business interest of the parties involved.
- Subsequently, if the tax inspector succeeds, he must prove that the pricing applied to the intercompany transaction, does not meet the arm’s length principle.
In the underlying case, it was concluded that the tax inspector did not succeed in proving his case and the compensation payment was not successfully challenged by the tax inspector. Furthermore, it was decided that NCP method was an appropriate method to remunerate the taxpayer, as this is an appropriate method to remunerate a toll manufacturer.
Based on the court decision, it can be concluded that, in case intercompany transactions are well documented and substantiated, the burden of proof for the DTA to demonstrate that transactions and the prices applied are not in line with the arm’s length principle, is very high.
At this stage, it is uncertain whether the DTA will appeal against the court decision. Obviously, we will closely monitor this case.