In a decision dated 11 December 2020 (no 420174), the French Administrative Supreme Court (Conseil d’Etat) overturned the decision of the Paris Administrative Court of Appeal in the “Valueclick” case, which had rejected the characterization of a French service provider as a French permanent establishment.
It is the first time that the Conseil d’Etat has ruled on the existence of a permanent establishment based on the dependent agent test in respect of a digital player.
The context and debate
Valueclick is a U.S. group carrying out digital marketing activities, mainly consisting of selling “marketing affiliation” services (i.e., matchmaking, through a digital platform, between an advertiser and a publisher) and “media” services (i.e., selling digital technical solutions to the advertiser to increase the visibility of its products and trademarks and generate “leads”).
In Europe, this activity was carried out by Valueclick International, an Irish company, owning the non-exclusive rights to use the corresponding intellectual property rights for markets outside North America. For the French market, Valueclick International was relying on a local entity of the group, Valueclick France. Pursuant to a services agreement concluded with Valueclick International, this entity was in charge – for a cost plus 8% fee – of the administrative, financial and HR support and was involved, as “marketing representative”, in the business development and the management of the commercial relations with the clients of Valueclick International (notably for the preparation, negotiation and implementation (once executed by Valueclick International) of the contracts).
The French tax authorities considered that Valueclick France was a permanent establishment of Valueclick International for corporate income tax (CIT) and VAT purposes. In respect of CIT, the French tax authorities argued that Valueclick France was acting either as a fixed place of business or as a dependent agent of Valueclick International within the meaning of the Irish-French double tax treaty. The first-degree court considered that Valueclick France constituted a fixed place of business for CIT purposes and a permanent establishment for VAT purposes.
The Paris Administrative Court of Appeal judgment
On 1 March 2018, adopting an analysis that was broadly replicated in its “Google” decision dated 25 April 2019, the Paris Administrative Court of Appeal rejected the characterization of Valueclick France as a permanent establishment of Valueclick International for CIT and VAT purposes.
- With respect to CIT, the Court considered that Valueclick France did not constitute a fixed place of business of Valueclick International since, when performing the services described above, Valueclick France was carrying out its own activity without going beyond the services agreement (drafted in relatively broad terms) and which could not be assimilated into the activity performed by Valueclick International. The Court further considered that Valueclick France did not act as a dependent agent of Valueclick International, as Valueclick France did not have the authority to conclude contracts in the name of Valueclick International. According to the Court, even though the employees of Valueclick France were involved in the preparation, negotiation and implementation of the contracts between Valueclick International and its clients, these contracts (including any deviation from the general terms of sale predetermined by Valueclick International) could not legally bind Valueclick International without its prior approval and signature, irrespective of the fact that this approval was “purely formal”.
- With respect to VAT, these circumstances also led the Court to reject the characterization of Valueclick France as a permanent establishment of Valueclick International for VAT purposes. According to the Court, Valueclick International could not be considered as having in France, through Valueclick France, suitable human and material resources to autonomously carry out the digital marketing activity, as the employees of Valuelick France did not have the authority to conclude and implement contracts without the prior approval of Valueclick International whose activity was relying heavily on intellectual property rights and technological tools (notably the digital platform referred to above) located outside France to which Valueclick France had no sustained access.
The Conseil d’Etat decision
From a CIT perspective, the Conseil d’Etat considered (without specifically addressing the question of the existence of a fixed place of business) that, given the role played by Valueclick France in the preparation, negotiation and implementation of the contracts between Valueclick International and its clients, the Paris Court Administrative of Appeal committed an error in law and an error in the legal qualification of the facts submitted by the parties when ruling that Valueclick France could not be considered a dependent agent of Valueclick International.
Relying on the OECD commentaries (C(5) n° 32.1 and n° 33) respectively published in 2003 and 2005 (i.e., after the adoption of the French-Irish double tax treaty signed in March 1968) in support of its interpretation, the Conseil d’Etat held that a French entity should be considered a dependent agent habitually exercising “the authority to conclude contracts” in the name of a foreign entrepreneur if the transactions, even though they are not formally concluded by the French entity in the name of the foreign entrepreneur, are habitually decided by the French entity and are merely approved, on a routine basis, by the foreign entrepreneur which is then legally bound by these transactions.
Pursuant to this broad interpretation, the Conseil d’Etat considered, based on the evidence before it, that, although Valueclick International was setting the standard forms of contract and the pricing terms, the decision to conclude a contract with a client and all the work relating to the preparation and negotiation of the contracts was carried out by Valueclick France and that Valueclick International was merely approving these contracts automatically on a routine basis.
This decision shows that, while the established case-law of the Conseil d’Etat has set a principle under which the provisions of a double tax treaty should not be interpreted in light of OECD commentaries published after the adoption of such treaty, these commentaries may, in certain circumstances and as an exception, be taken into consideration by judges. According to Judge Philippe Martin, such commentaries may “influence” judges, especially for provisions defining permanent establishments. This may notably be the case if these commentaries are considered mere clarifications of the initial commentaries.
It is regrettable that the decision of the Conseil d’Etat does not offer any guidelines on the circumstances where subsequent OECD commentaries may, as an exception, be taken into consideration, as such possibility will create uncertainty around the interpretation of double tax treaty provisions.
It is worth noting that this broad interpretation should be applicable even though the relevant double tax treaty provides for a “traditional” definition of the dependent agent which has not been aligned with the 2017 OECD model convention or modified by Article 12 of the Multilateral Instrument (as a result of a reservation notified by the contracting State (as is the case for the double tax treaty between France and Ireland)).
From a VAT perspective, the Conseil d’Etat considered that the Paris Administrative Court of Appeal committed in an error in the legal qualification of the facts submitted by the parties by considering that Valueclick International did not have a permanent establishment in France characterized by a sufficient degree of permanence and a suitable structure in terms of human and technical resources to enable it to provide the services.
The Conseil d’Etat considered that Valueclick France had, in light of the elements referred to above, human resources enabling to conclude contracts with clients and suitable technical resources as Valueclick France had access to the technological tools (notably the digital platform mentioned above), even though they were located outside France, sufficient to manage the implementation of the contracts and assist the clients without any involvement of Valueclick International or other entities of the group.
The Conseil d’Etat has decided to refer the matter back to the Paris Administrative Court of Appeal, which will have to review and judge the matter again in the next months, in light of the interpretation given by the Conseil d’Etat.
Although this decision sets the framework for the interpretation of the concept of permanent establishment based on the dependent agent test, it does not resolve all the questions raised by tax reassessments based on the existence of a permanent establishment.
On the one hand, the question of the quantification of the profits (or losses) to be allocated to the French permanent establishment remains entirely open, considering in particular the fact that the activities performed in the French market heavily rely on intellectual property rights and technological tools developed and owned by entities located abroad. This allocation may in addition raise double taxation issues which, depending on the fact patterns and the period at stake, may be difficult - or even impossible - to eliminate through mutual agreement procedures pursuant to the relevant double tax treaty, the EU Directive 2017/1852 or the European Convention 90/436/CEE on the elimination of double taxation for associated enterprises.
On the other hand, where business to business services are concerned, the existence of a French permanent establishment will, according to the FTA and the judges, lead to a French VAT reassessment at the level of the permanent establishment which should have collected output VAT, even though such French VAT has already been self-assessed by the French VAT taxable customer under the reverse-charge mechanism (which was in principle the case for immaterial services provided before 2010 by service providers established outside France and which is in principle the case for all services provided since 2010 by service providers established outside France). The compatibility of such reassessment with the VAT neutrality principle is highly questionable given the absence of any financial loss for the French State as a result of the application of the reverse charge mechanism.
Finally, the characterization of a French permanent establishment may lead to the imposition of penalties, in particular an 80% penalty when the permanent establishment is deemed to have carried out a “concealed” activity in France. The validity of such penalty could be questioned in light of the EU and Constitutional proportionality principle, especially when there is no financial loss for the French State (as far as VAT is concerned, thanks to the reverse charge mechanism) and when the question of law raised by the tax reassessment is highly debatable. It may also be challenged based on a case law of the Conseil d’Etat (inter alia, CE, 7 December 2015, n° 368227, Sté Frutas y Hortalizas Murcia SL and, recently, CE, 27 November 2020, n° 428898), according to which judges may, in specific circumstances, annul the imposition of the 80% penalty taking into consideration that the taxpayer made the “error” in good faith when assessing its tax obligations.
This landmark decision comes at a time when the adequacy of the traditional concept of permanent establishment to tax the profits generated by digital activities in market jurisdictions is highly debated.
In France, this debate notably led to the enactment in mid-2019 of a 3% Digital Services Tax (DST) assessed on the revenues generated by certain large companies in respect of digital services provided in France, such as marketplace services or certain digital marketing services. This tax should be repealed once an international consensus is reached at OECD level on the taxation of the digital economy.
Following the acknowledgment that a multilateral, consensus-based solution will not be reached by the end of 2020 (which came with the publication by the OECD of blueprints on Pillars I and II for a solution to the tax challenges arising from the digitalization of the economy), the collection of the French DST for 2020 has finally been confirmed after having been postponed last January.
It is the first time that the Conseil d’Etat as ruled on the existence of a permanent establishment based on the dependent agent test in respect of a digital player.