Landmark ruling on transfer pricing from the Danish supreme court, "the Mogas case"

The Danish Supreme Court rendered a landmark verdict on the 6 September 2023 in a legal dispute between the DTA and Total-Energies EP Denmark A/S, formerly known as Maersk Oil and Gas A/S (“MOGAS”) and A.P. Møller - Mærsk A/S (“APMM”). The verdict overturns the High Court's assessment, thus now ruling in favour of the Danish Tax Agency ("DTA").

The question in the case was mainly whether the DTA had a basis for making a discretional assessment and, if so, whether the discretion was exercised correctly. More specifically, the case involved the DTA's adjustment of MOGAS's taxable income for the years 2006-2008 and a subsequent adjustment to the parent company APMM's consolidated income for the same income years. The questions were 1) if MOGAS' preliminary surveys on potential new oil fields from 1990 and 1992 and the associated know-how as recognised by the DTA had benefited the subsidiaries, and 2) if the performance guarantees extended to the subsidiaries, and 3) if both (knowhow and guarantees) had economic value for the subsidiaries that should have resulted in ongoing compensation, such as profit-sharing, royalties, or other comparable arrangements. Furthermore, the question was if the technical and administrative services ("time-writing") could be invoiced at cost.

According to the Danish Tax Assessment Act section 2 (Dk: "ligningsloven"), undertakings in the same group shall, when calculating the taxable income, use terms and prices for economic transactions in accordance with what would have been used if the transactions had been concluded between independent parties ("the arms-length principle").

The Danish subsidiaries had activities in Algeria and Quatar respectively each trough a branch. MOGAS did not receive remuneration from its subsidiaries regarding the use of MOGAS' "knowhow". MOGAS saw itself as an investment company which had incurred expenses on preliminary surveys regarding potential investments securing earnings from oil and gas reserves worldwide. Therefore, the expenses were not considered related to the work in group companies and should not be allocated to them as the preliminary investigations did not constitute know-how available for the subsidiaries.

MOGAS argued that they did not receive payment from its subsidiaries for the performance guarantees as they asserted that they did not have an economic value for the subsidiaries. They were merely a declaration given by MOGAS, in the company's own interest, to the relevant oil state ensuring that the licensed subsidiary could meet the obligations as agreed. They argued, this was not a guarantee in favour of the subsidiary.

On these grounds, the costs relating to the preliminary surveys and the performance guarantees were not included and analysed in the transfer pricing documentation.

As for the time writing services MOGAS received payment according to the actual cost incurred which they claimed was practice aligned with established industry norms and therefore considered on arm's length according to the CUP method.

The High Court referred the case back to the DTA with reference to the fact that the authorities had a basis for making a discretionary assessment of MOGAS' taxable income, but that the assessment, however, was exercised on an incorrect basis and was unreasonable.

The Supreme Court upheld the DTA' increase in the income as a result of a transfer-pricing adjustment, thus ruling differently than the High Court.

Preliminary studies and performance guarantees
The Supreme Court stated that controlled transactions include all interactions between the related parties, e.g., the provisioning of services, making know-how available etc.

The Supreme Court therefore found that the transactions in question are covered by the Tax Assessment Act and that the feasibility studies, the performance guarantees and the associated know-how provided by MOGAS all have an economic value for the subsidiaries. When providing services with an economic value, independent parties would have made an agreement on profit share, royalty or similar and thus the transactions were not concluded according to the arm's length principle.

The Supreme Court states that it is without significance that the feasibility studies were completed by MOGAS in 1990 and 1992, and thus long before the income years in question.

Time writing
The Supreme Court found that the transactions regarding time writing were not concluded as they would have been between independent parties. Thus, the Supreme Court agreed that the DTA could determine MOGAS' income on a discretionary basis and that the tax assessment was correct and based on OECD guidelines.

The discretionary assessment
As to the discretionary assessment, the Supreme Court found that the transactions in question were so closely connected that they had to be assessed collectively.
The Supreme Court came to the overall conclusion that APMM and MOGAS must recognise the DTA's assessment of the taxable income. Thus, the Supreme Court upheld the DTA' assessment stating that APMM's joint taxation income for the income years 2006-2008 is increased by DKK 506,431,000, DKK 327,562,000 and DKK 468,185,000 respectively and that MOGAS' taxable income for the income years 2006-2008 is increased by DKK 506,431,000, DKK 327,562,000 and DKK 468,185,000.

The Supreme Court's ruling gives the DTA a much wider possibility on a discretionary basis than ever before to assess the taxable income for companies performing a controlled transaction.

The Supreme Court also concludes that when several transactions are so closely related, the value of each transaction can be assessed together. This seems to contrast with OECD recommendations referring to arm's length principle ideally being applied individually to each transaction.

Furthermore, the verdict shows that to a significant extent companies have an obligation to provide sufficient documentation for industry practices or a similar reasoning for the choice of transfer pricing principle. If the company does not manage to provide sufficient documentation, the DTA now seems to have a greater possibility than before to change the tax assessment on a discretionary basis.

This new practice will most likely also increase the risk of fines which are generally high often being DKK 250,000 with the possibility to be reduced by half but can also be increased by 10% of the income adjustment. This will of course require intent or gross negligence, but according to practice the mere failure to submit proper transfer pricing documentation within the deadline is generally considered to be gross negligence.