Tax litigation

Monica Carinci
Aird & Berlis, Toronto, Ontario
mcarinci@airdberlis.com

Report on a conference session at the 11th Annual IBA Finance and Capital Markets Tax Virtual Conference 2022

Session Chair

Jonathan Schwarz Temple Tax Chambers, London

Speakers

Luis Ortiz Hidalgo Ortiz Hernandez y Orendain, Mexico City

Marcel Jung Meyerlustenberger Lachenal Froriep, Zurich

Michael Miller Roberts & Holland, New York

Stefano Petrecca CBA Studio Legale e Tributario, Rome

Dirk Pohl McDermott Will & Emery, Munich

Ryan Rabinovitch Fasken, Montreal 

The panel examined recent tax cases in the courts of various jurisdictions. The cases discussed covered a wide range of topics that have an impact on cross-border finance and capital markets, including discussions on alleged treaty abuse, attorney–client privilege, financing transactions and beneficial ownership.

Ryan Rabinovitch presented the recent Supreme Court of Canada decision in Canada v Alta Energy Luxembourg SARL, [2021] SCC 49. The case provides helpful statements on the purpose and scope of treaty provisions, specifically residence, capital gains and business purpose exemption provisions, as well as the application of domestic anti-avoidance rules in the treaty context. While the case supports the general proposition that treaty shopping is not abuse, there is doubt on how impactful the decision will be due to the introduction of the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (the 'MLI'), which provides that it is not the purpose of tax conventions to permit treaty shopping.

Michael Miller presented a recent decision on attorney–client privilege in a tax planning context: Taylor Lohmeyer Law Firm PLLC v United States, 957 F.3E 505. The United States Internal Revenue Service (IRS) audited a taxpayer who hired the appellant law firm for tax planning, and used various foreign entities and accounts to hide unreported income. The IRS sought the identities of the appellant law firm's other clients who acquired, operated or controlled any foreign account or other asset; any foreign corporation, company, trust foundation or other legal entity; or any foreign or domestic financial account or other asset in the name of such a foreign entity. The firm filed a petition to quash the summons on various grounds, including a blanket claim of attorney–client privilege without the use of a privilege log. The government filed a motion to dismiss the firm's petition and a counter-petition to enforce the summons. The District Court (affirmed by the Fifth Circuit) rejected the blanket claim of privilege and the Supreme Court denied certification in 2021. Privilege applies to confidential client communications, but the identity of the client is not protected by privilege. The case is concerning to practitioners as it suggests that the IRS can go on fishing expeditions for delinquent taxpayers.

Marcel Jung and Stefano Petrecca presented two recent cases on beneficial ownership. Jung presented a recent Swiss Federal Supreme Court decision released on 4 April 2020, 2C_354/2018, which involved the application of Article 15 of the European Union Savings Tax Agreement (now Article 9 of the AEOI Agreement). In this case, the Court held that there was no avoidance of the domestic charging provision, but there was an improper use of the treaty relief provision, which was an abuse of international law.

Petrecca presented the Italian Supreme Court decision in Italy vs Arnoldo Mondadori Editore SpA, No 3380/2022, which involved the interpretation of the beneficial owner requirement under the EU's Interest and Royalties Directive. The Court held that the question of beneficial ownership in this context is whether the recipient of the income has the right to use and enjoy the income, free from any legal obligations to pass it on to another entity. In fact, what matters most is not the mere full right to use and enjoy the income, but the circumstance that the recipient's right to use and enjoy the income is not constrained by a contractual or legal obligation to pass on the payment received to another person.

Dirk Pohl discussed a German Supreme Tax Court decision, 9.6.2021, I R 32/17, in which the primary issue was whether a loss on an unsecured shareholder loan is tax deductible. This was the second decision in this matter from the Court, as the prior decision was declared invalid because the presiding judge writing the verdict changed the wording without consulting the other judges. In a decision from a new presiding judge, the Court made clear that if the interest rate is not at arm's length, the loss can only be recognised if a third party would not grant the loan with additional risk compensation (a higher interest rate).

Jonathan Schwarz presented GE Financial Investments v HMRC, [2021] UKFTT 210 (TC)(8 June 2021), which involved a complex intra-group financing arrangement by the US-headed multinational group, the General Electric Company. The case raises several key treaty issues. On the meaning of 'resident of a contracting state', the Tax Tribunal came to the conclusion that the mere fact that a taxpayer was liable for tax on a worldwide basis and deemed to be a US person for US tax purposes was insufficient to make the entity a resident for the purposes of the United Kingdom-US tax treaty; the Tribunal said that there had to be some other connecting element to the US. On the issue of the existence of a permanent establishment of the UK company in the US, the question turned on whether the entity was carrying on business through a fixed place, and particularly, whether it was carrying on business at all. The Tribunal determined the activities of the entity at issue were too sporadic to constitute a business. The third question, whether the entity was entitled to the tax credit under Article 24 of the treaty, turned on whether the entity was liable to US tax payable under the US (which it was) and whether it was liable for US tax payable in accordance with the treaty. There was no liability in accordance with the treaty, as there was no tax on business profits under Article 7 because there was no permanent establishment, and Article 11 eliminated US taxation on interest.

Luis Ortiz Hidalgo presented a case that is before the Tax Court in Mexico, which addresses the issue of whether an entity has a permanent establishment in Mexico. A US parent company has had a commission services agreement with a Mexican subsidiary company for several years. In an audit of the Mexican company, the tax authorities argued that the US parent company has a permanent establishment in Mexico because the subsidiary acts under the detailed instructions or under the general control of the US parent. At the time of the panel, the decision was pending.