Ireland and Apple Win State Aid Case!

Scroll down to paragraph 241-245 for the application of arm's length to the Irish branches, paras 255-309, and then paragraph 322 for the analysis of the application of the TNMM transfer pricing method - The most relevant parts excerpted from the EU General Court's decision are on my WordPress blog here

(ii) Whether the Commission correctly applied the Authorised OECD Approach in its primary line of reasoning

241    Ireland and ASI and AOE submit, in essence, that the Commission’s primary line of reasoning is inconsistent with the Authorised OECD Approach, inasmuch as the Commission considered that the profits relating to the Apple Group’s IP licences should necessarily have been allocated to the Irish branches of ASI and AOE, in so far as the executives of ASI and AOE did not perform active or critical functions with regard to the management of those licences.

242    In that regard, it should be borne in mind that, in accordance with the Authorised OECD Approach..., the aim of the analysis in the first step is to identify the assets, functions and risks that must be allocated to the permanent establishment of a company on the basis of the activities actually performed by that company. It is true that the analysis in that first step cannot be carried out in an abstract manner that ignores the activities and functions performed within the company as a whole. However, the fact that the Authorised OECD Approach requires an analysis of the functions actually performed within the permanent establishment is at odds with the approach adopted by the Commission consisting, first, in identifying the functions performed by the company as a whole without conducting a more detailed analysis of the functions actually performed by the branches and, second, in presuming that the functions had been performed by the permanent establishment when those functions could not be allocated to the head office of the company itself.

243    In its primary line of reasoning the Commission considered, in essence, that the profits of ASI and AOE relating to the Apple Group’s IP (which, according to the Commission’s line of argument, represented a very significant part of the total profit of those two companies) had to be allocated to the Irish branches in so far as ASI and AOE had no employees capable of managing that IP outside those branches, without, however, establishing that the Irish branches had performed those management functions.

244    Accordingly, as Ireland and ASI and AOE rightly argue, the approach followed by the Commission in its primary line of reasoning is inconsistent with the Authorised OECD Approach.

245    In those circumstances, as is rightly argued by Ireland and ASI and AOE ..., it must be found that the Commission erred in its application, in its primary line of reasoning, of the functional and factual analysis of the activities performed by the branches of ASI and AOE, on which the application of section 25 of the TCA 97 by the Irish tax authorities is based and which corresponds, in essence, to the analysis provided for by the Authorised OECD Approach.

(1)    Strategic decision-making within the Apple Group

298    Ireland and ASI and AOE claim that the ‘centre of gravity’ of the Apple Group’s activities was in Cupertino and not in Ireland. All strategic decisions, in particular those concerning the design and development of the Apple Group’s products, were taken, in accordance with an overall business strategy covering the group as a whole, in Cupertino. That centrally decided strategy was implemented by the companies of the group, which include ASI and AOE, which acted through their management bodies, much like any other company, according to the rules of company law applicable to them.

299    In that regard, it should be noted, in particular, that ASI and AOE submitted evidence, in the administrative procedure and in support of their pleadings in the present instance, on the centralised nature of the strategic decisions within the Apple Group taken by directors in Cupertino and then implemented subsequently by the various entities of the group, such as ASI and AOE. Those centralised procedures concern, inter alia, pricing, accounting decisions, financing and treasury and cover all of the international activities of the Apple Group that would have been decided centrally under the direction of the parent company, Apple Inc.

300    More specifically, with regard to decisions in the field of R&D — which is, in particular, the functional area behind the Apple Group’s IP — ASI and AOE provided evidence showing that decisions relating to the development of the products which were then to be marketed by, inter alia, ASI and AOE, and concerning the R&D strategy which was to be followed by, inter alia, ASI and AOE had been taken and implemented by executives of the group based in Cupertino. It is also apparent from that evidence that the strategies relating to new product launches and, in particular, the organisation of distribution on the European markets in the months leading up to the proposed launch date had been managed at the Apple-Group level by, inter alia, the Executive Team under the direction of the Chief Executive Officer in Cupertino.

301    In addition, it is apparent from the file that contracts with third-party original equipment manufacturers (‘OEMs’), which were responsible for the manufacture of a large proportion of the products sold by ASI, were negotiated and signed by the parent company, Apple Inc., and ASI through their respective directors, either directly or by power of attorney. ASI and AOE also submitted evidence regarding the negotiations and the signing of contracts with customers, such as telecommunications operators, which were responsible for a significant proportion of the retail sales of Apple-branded products, in particular mobile phones. It is apparent from that evidence that the negotiations in question were led by directors of the Apple Group and that the contracts were signed on behalf of the Apple Group by Apple Inc. and ASI through their respective directors, either directly or by power of attorney.

302    Consequently, in so far as it has been established that the strategic decisions — in particular those concerning the development of the Apple Group’s products underlying the Apple Group’s IP — were taken in Cupertino on behalf of the Apple Group as a whole, the Commission erred when it concluded that the Apple Group’s IP was necessarily managed by the Irish branches of ASI and AOE, which held the licences for that IP.

(2)    Decision-making by ASI and AOE

303    With regard to ASI and AOE’s ability to take decisions concerning their essential functions through their management bodies, the Commission itself accepted that those companies had boards of directors which held regular meetings during the relevant period, and reproduced extracts from the minutes of those meetings confirming that fact in Tables 4 and 5 of the contested decision.

304    The fact that the minutes of the board meetings do not give details of the decisions concerning the management of the Apple Group’s IP licences, of the cost-sharing agreement and of important business decisions does not mean that those decisions were not taken.

305    The summary nature of the extracts from the minutes reproduced by the Commission in Tables 4 and 5 of the contested decision is sufficient to allow the reader to understand how the company’s key decisions in each tax year, such as approval of the annual accounts, were taken and recorded in the relevant board minutes.

306    The resolutions of the boards of directors which were recorded in those minutes covered regularly (that is to say, several times a year), inter alia, the payment of dividends, the approval of directors’ reports and the appointment and resignation of directors. In addition, less frequently, those resolutions concerned the establishment of subsidiaries and powers of attorney authorising certain directors to carry out various activities such as managing bank accounts, overseeing relations with governments and public bodies, carrying out audits, taking out insurance, hiring, purchasing and selling assets, taking delivery of goods and dealing with commercial contracts. Moreover, it is apparent from those minutes that individual directors were granted very wide managerial powers.

307    In addition, with regard to the cost-sharing agreement, it is apparent from the information submitted by ASI and AOE that the various versions of that agreement in existence during the relevant period were signed by members of the respective boards of directors of those companies in Cupertino.

308    Moreover, according to the detailed information provided by ASI and AOE, it is the case for both ASI and AOE that, among ASI’s 14 directors and AOE’s 8 directors on their respective boards for each tax year during the period when the contested tax rulings were in force, there was only one director who was based in Ireland.

309    Consequently, the Commission erred when it considered that ASI and AOE, through their management bodies, in particular their boards of directors, did not have the ability to perform the essential functions of the companies in question by, where appropriate, delegating their powers to individual executives who were not members of the Irish branches’ staff.

(d)    Conclusions concerning the activities within the Apple Group

310    It is apparent from the foregoing considerations that, in the present instance, the Commission has not succeeded in showing that, in the light, first, of the activities and functions actually performed by the Irish branches of ASI and AOE and, second, of the strategic decisions taken and implemented outside of those branches, the Apple Group’s IP licences should have been allocated to those Irish branches when determining the annual chargeable profits of ASI and AOE in Ireland.

The EU General Court of Justice press release described its decision as follows: In 2016 the Commission adopted a decision concerning two tax rulings issued by the Irish tax authorities (Irish Revenue) on 29 January 1991 and 23 May 2007 in favor of Apple Sales International (ASI) and Apple Operations Europe (AOE), which were companies incorporated in Ireland but not tax resident in Ireland. The contested tax rulings endorsed the methods used by ASI and AOE to determine their chargeable profits in Ireland, relating to the trading activity of their respective Irish branches. The 1991 tax ruling remained in force until 2007, when it was replaced by the 2007 tax ruling. The 2007 tax ruling then remained in force until Apple’s new business structure was implemented in Ireland in 2014.

By its decision, the Commission considered that the tax rulings in question constituted State aid unlawfully put into effect by Ireland. The aid was declared incompatible with the internal market. The Commission demanded the recovery of the aid in question. According to the Commission’s calculations, Ireland had granted Apple 13 billion euro in unlawful tax advantages.

By today’s judgment, the General Court annuls the contested decision because the Commission did not succeed in showing to the requisite legal standard that there was an advantage for the purposes of Article 107(1) TFEU. According to the General Court, the Commission was wrong to declare that ASI and AOE had been granted a selective economic advantage and, by extension, State aid.

The General Court endorses the Commission’s assessments relating to normal taxation under the Irish tax law applicable in the present instance, in particular having regard to the tools developed within the OECD, such as the arm’s length principle, in order to check whether the level of chargeable profits endorsed by the Irish tax authorities corresponds to that which would have been obtained under market conditions.

However, the General Court considers that the Commission incorrectly concluded, in its primary line of reasoning, that the Irish tax authorities had granted ASI and AOE an advantage as a result of not having allocated the Apple Group intellectual property licences held by ASI and AOE, and, consequently, all of ASI and AOE’s trading income, obtained from the Apple Group’s sales outside North and South America, to their Irish branches. According to the General Court, the Commission should have shown that that income represented the value of the activities actually carried out by the Irish branches themselves, in view of, inter alia, the activities and functions actually performed by the Irish branches of ASI and AOE, on the one hand, and the strategic decisions taken and implemented outside of those branches, on the other.

In addition, the General Court considers that the Commission did not succeed in demonstrating, in its subsidiary line of reasoning, methodological errors in the contested tax rulings which would have led to a reduction in ASI and AOE’s chargeable profits in Ireland. Although the General Court regrets the incomplete and occasionally inconsistent nature of the contested tax rulings, the defects identified by the Commission are not, in themselves, sufficient to prove the existence of an advantage for the purposes of Article 107(1) TFEU.

Furthermore, the General Court considers that the Commission did not prove, in its alternative line of reasoning, that the contested tax rulings were the result of discretion exercised by the Irish tax authorities and that, accordingly, ASI and AOE had been granted a selective advantage.

This case will be analyzed and included in William Byrnes' annually update of his 4th Edition of Practical Guide to U.S. Transfer Pricing. The next supplement will contain 50 chapters of 2,000 pages of technical, jurisprudence, and regulatory analysis to advise clients from a tax risk management perspective and to mitigate controversy. Order a copy here: https://store.lexisnexis.com/products/practical-guide-to-us-transfer-pricing-skuusSku60720 

 

[download entire Apple State Aid CJEU decision 15 July 2020]