SAC: international hire of labour (IHOL) seen as possible indication of order by parent company?

The SAC has delivered yet another judgment in its established line of case law addressing the presumption of a hypothetical transaction between a subsidiary and its parent company (referred to as order by the parent company). In essence, the court confirmed that an adjustment to the Czech subsidiary’s taxable profit under transfer pricing rules may be made even in circumstances where the subsidiary supplies goods or services primarily to third parties and no clearly defined transaction with the parent company exists in relation to its core business—in the case at hand, manufacturing activities.

The tax authority reclassified the subsidiary as a contract manufacturer for the Japanese parent company that had posted its employees under an international hire of labour (IHOL) arrangement to work as managers of the subsidiary. Although the SAC agreed with the taxpayer on certain aspects of the case and partially upheld the appeal, it also commented on the existence of a hypothetical transaction as such, where, on a theoretical level, it agreed with the tax authority’s approach.

According to the SAC, the fact that senior management positions were filled through the IHOL scheme weighed particularly against the taxpayer, as did the fact that the subsidiary’s executive director was not paid by the subsidiary but by the parent company, which reinvoiced the costs of posted workers and the executive director to the Czech subsidiary without any markup.

The SAC emphasised that, for the purposes of a functional and risk analysis, the decisive factor is the actual performance of decision-making functions and not the formal status (such as the statutory duties attributed to statutory body members), nor the mere existence of an agreement on international hire of labour.

Whilst the SAC emphasised the need to examine the actual performance of decision-making functions, in its assessment it nevertheless concurred with the conclusion of the tax administrator and the regional court, which relied primarily on the formal labour-law relationship of the posted worker with the posting (parent) company as a distinct feature. Paradoxically, given the wording of the judgment, examining the performance of duties appears to be irrelevant to the conclusion on the performance of the function, as this is apparently automatically attributed to the parent company. Among other things, the SAC rejected the subsidiary’s argument that the management’s conduct must be assessed from the perspective of due managerial care.
 

Discrepancy in interpretation

For future practice, this may give rise to a fundamental discrepancy between the interpretation of the concept of ‘international hire of labour’ in the Czech Republic, and how it is commonly understood abroad. This concept is generally addressed through a combination of contracts, namely an international labour hire agreement between two companies, and an employment contract with the posting company. The very essence of the arrangement lies in the fact that, for the duration of their temporary assignment with the host company, the posted worker is the company’s worker: they are on a par with a standard employee, follow the host company’s instructions and act in its interests, as if they were its de jure employee, even though they formally remain in an employment relationship with the posting company. The host company bears not only the financial cost of such a posted worker but also the results of their work, in exactly the same way as for any worker employed under a standard Czech contract.

It is therefore a matter for further administrative practice to determine exactly what the SAC intended to achieve. Whilst for employees on standard employment contracts, it is presumed that they work for their employer in the performance of their duties, and it is the tax authority that must prove otherwise, this presumption does not appear to apply to employees on IHOL contracts. We therefore recommend that companies using IHOL as the standard method of employing staff in managerial positions prepare robust documentation in this area.