The General Court of the EU issued a decision on 12 May 2021 in which it annulled the European Commission’s 2017 finding that Luxembourg granted improper tax benefits in respect of rulings granted by the Luxembourg tax authorities to Amazon. The General Court—one of the courts that forms the Court of Justice of the European Union (CJEU)—concluded that the Commission failed to demonstrate that Amazon received an “undue reduction” in its tax base, so there was no selective advantage in favour of Amazon’s Luxembourg subsidiary. As a result, Amazon is not required to repay EUR 250 million in “illegal” state aid.
The General Court’s decision provides further insight on EU state aid and the transfer pricing implications of intragroup transactions within the EU.
Amazon set up its group structure in Europe through two companies established in Luxembourg: a tax transparent holding company (LuxSCS) and an operating company (LuxOpCo). LuxSCS did not have a physical presence or employees in Luxembourg—it functioned solely as an intangible assets holding company for the Amazon group in Europe. LuxOpCo functioned as the Amazon group’s headquarters in Europe and the principal operator of the group’s European online retail and service business as carried out through EU websites. LuxSCS concluded a licence agreement with LuxOpCo, under which LuxOpCo undertook to pay a royalty to LuxSCS in return for the use of the intangible assets (i.e., technology, customer data and trademarks).
The Luxembourg tax authorities granted a ruling to Amazon in 2003 confirming the arm’s length nature of the tax-deductible royalty payments made by LuxOpCo to LuxSCS. The ruling determined an arm’s length remuneration for LuxOpCo (based on the transactional net margin method (TNMM) using LuxOpCo as the tested party), with any income in excess of the arm’s length remuneration paid as a royalty to LuxSCS.
The European Commission challenged the Luxembourg ruling in 2014 on the grounds that the Luxembourg subsidiary obtained an undue tax reduction based on the ruling. Specifically, the European Commission found an advantage in favour of LuxOpCo, determining that the royalty paid by LuxOpCo to LuxSCS was too high. According to the Commission, an error as regards the “tested party” for the purposes of applying the TNMM was applied under the assumption that LuxSCS does not (and is not able to) perform any significant people functions and bear any risk concerning the intangibles; LuxSCS should have been used as the tested party. Three subsidiary findings of the Commission concerned errors relating to the choice of the TNMM, the choice of the profit level indicator as a relevant parameter for the application of the TNMM and the inclusion of a ceiling mechanism in the context of the TNMM.
The Commission concluded that Amazon paid much less tax than other companies subject to the same tax rules, which constituted illegal state aid under EU law. The European Commission ordered Amazon to repay EUR 250 million—representing the amount of the unlawful tax reduction—to Luxembourg.
The General Court concluded that none of the findings set out by the Commission in the contested decision are sufficient to demonstrate the existence of a selective advantage, with the result that the decision must be annulled in its entirety.
The General Court considers the analysis of the Commission that LuxSCS was merely a passive holder of the intangible assets to be incorrect. According to the court, the Commission did not take account of the functions performed by LuxSCS to exploit the intangible assets or the risks borne by LuxSCS. With respect to the subsidiary findings, the General Court determined that the Commission failed to establish that the methodological errors the Commission identified had necessarily led to an undervaluation of the remuneration of LuxOpCo.
In line with earlier state aid cases (such as Apple, Fiat and Starbucks), the General Court confirmed that the European Commission is competent to assess whether a measure (i.e., a tax ruling) confers a selective advantage compared to the “normal” tax regime. The Commission is also allowed to determine whether intragroup transfer pricing corresponds to the arm’s length principle. However, the Commission cannot retroactively use a newer version of the OECD transfer pricing guidelines (the 2017 version in this case, which had practical significance to the matters at issue) when reviewing a measure that covers the period before the guidelines were released.
The General Court’s decision sends a clear signal to the European Commission that it should take its burden of proof seriously and must convincingly demonstrate that the applied transfer pricing method results in a selective advantage. As a result, taxpayers having solid transfer pricing documentation that substantiates arm’s length intragroup transactions is key in transfer pricing and state aid discussions.
The European Commission appealed the General Court’s decision to the CJEU on 22 July 2021.