The Tokyo District Court in the case of: Heisei 23 (2011) gyou-u No. 164 ruled on 28 August 2014 that, in using the residual profit split method, the profits to be attributed should include the special tax benefits enjoyed by the Brazilian subsidiaries. Although the term of “location savings” appeared only in the plaintiff’s argument and the court did not use the term, this case can be seen as an indirect reference to location savings.
Location savings are the savings that may be obtained by a group that relocates some of its functions to low cost areas or jurisdictions. The reduced costs may come from cheaper labor, rent, materials, transportation, infrastructure or training costs. The location savings could also arise as a result of government subsidies or tax incentives in a particular location.
Facts of the case:
The plaintiff (Honda Giken Kougyou Kabushiki Kaisha, (Honda)) had indirectly acquired more than a 99% interest in a Brazilian corporation (Moto Honda Da Amazonia Ltda, (HDA)). HDA had two subsidiaries (Honda Componentes Da Amazonia Ltda, (HCA), and HTA Industria E Comercio Ltda, (HTA)). HDA, HCA and HTA produced and sold motorcycles in ZFM (Zona Franca de Manaus, Manaus Free Trade Zone) in the western Amazonas region, northern Brazil. Honda entered into transactions with HDA, HCA and HTA, in which Honda sold motorcycle components and provided technology support services for which it received payments.
The tax authorities argued that the payments were below the arm’s length price and applied article 66-4 (2)(1)(d) and (2)(2)(b) of the Act on Special Measures Concerning Taxation and article 39-12 (8) of the Order for Enforcement of the Act on Special Measures Concerning Taxation, which provided for the use of the residual profit split method.
The plaintiff also argued that the profits retained in HDA, HCA and HTA were based on “Manaus tax benefits” which could be obtained by corporations doing business in ZFM and authorized by SUFRAMA (administering special governmental body of ZFM); therefore the profits should be attributed to HDA, HCA and HTA.
Decision of the case:
The Court governed in favour of the plaintiff. The Court said that the traditional three methods were not applicable and the residual profit split method was appropriate. Finally, the Court said that the tax authority’s evidence for taxation according to the residual profit split method was not sufficient, because:
- the tax authority’s comparable Brazilian companies resided outside ZFM;
- the comparable selected did not receive Manaus tax benefits; and
- the comparable companies were not similar to HDA, HCA and HTA.
