Spain: There is no consensus among the authorities over how transfers of renewable energy projects under development are taxed

Spain - 

A recent decision by the Navarra provincial tax authorities allows the exemption to be applied to the capital gain on the transfer of shares, which contrasts with the restrictive interpretation given by the Directorate General for Taxes.

Under article 21 of the Corporate Income Tax Law (LIS), a capital gain obtained on the transfer of shares in entities is exempt (in a 95% portion, following the latest amendment) subject to certain requirements. The law contains various exceptions to the right to apply this exemption. Among others, the exemption will not apply (to the portion of income not relating to retained earnings generated during the holding period for the shares) where the investee is considered a holding company within the meaning of article 5.2 of the law. In other words, the investee must carry on an economic activity.

That article determines for these purposes that, where entities belong to a business group, the definition of economic activity must be determined by reference to all the entities belonging to the group (regardless of their residence and the obligation to prepare consolidated financial statements).

In the renewable energy industry (wind, photovoltaic power), which has experienced considerable growth in the current context of decarbonization goals, a question that has been asked for some time is at what point the activity must be considered to have commenced, for the purposes of applying the exemption.

It needs to be recalled that the chain of value for this type of projects is divided into three clearly separate phases: (i) in the first, the land on which the farm will be installed is identified, wind and solar power resources are measured, connection points are obtained, environmental studies are carried out and the necessary administrative licenses, permits or authorizations are obtained. At the end of this phase, the project is in a ready-to-build state; (ii) in the second phase,  the material construction of the farm is undertaken; and, lastly, (iii) in the operation phase, the farm is placed into operation with the generation and supply of power.

In this context, the question that has arisen is whether the exemption under article 21 of the LIS may be applied when the transferred shares are in a company that owns a project that has reached the ready-to-build stage, but has not yet commenced the construction of the farm, or, therefore, its operation. It is not uncommon to find that, by reason of the nature of the entity’s activity, it does not have any employees, and its services are provided by personnel within the group or by third-party subcontractors.

This issue has been analyzed over many years by the Directorate General for Taxes (DGT), which has generally stuck to a restrictive interpretation.

So, for example, in binding resolution V2257-09 it concluded, in relation to a wind power project, that the preparatory work before the development of the farm could not be considered an economic activity for the purposes of applying the exemption. According to the DGT, as it confirmed in its resolution V0232-10, the activity requirement is satisfied where at least the development and installment phase of the wind farm has commenced. In a case relating to thermal solar plants (V1872-15), it reached the same conclusion, affirming that the activity does not include the preliminary phases. All these resolutions were issued while the Revised Corporate Income Tax Law that preceded the current LIS was in force.

After the current LIS had come into force, it seemed as if its interpretation was being relaxed with resolution V2931-16, but the DGT took a step backwards with its most recent resolution on this subject, number V2265-21, concerning the transfer of a company owning a project in a ready-to-build state, in which it concluded that “there had not been a material commencement of the development activity on the solar plant because neither the intention or decision alone to carry it out, or the simple preparatory work or work towards the actual performance of the activity, entail its material commencement. Therefore, entity B has not performed an economic activity and its assets are not used by an economic activity”.

That view clashes, however, with that issued recently by the Navarra provincial tax authorities (the corporate income tax legislation falling within their powers is drafted in similar terms to the central government legislation).

In a decision dated October 17, 2022, it adopted a favorable view to the existence of activity within the meaning of the exemption in a case concerning an entity engaged in the development of wind and solar power farms which takes care of matters relating to the project development phase, such as obtaining licenses, authorizations and permits and other preliminary tasks performed before the material construction of the farm (for which it uses the group’s material and human resources). The provincial tax authorities concluded that it is not a holding company, because its elements appear to be used for the performance of an economic activity “at least directly or indirectly in relation to the group’s underlying overall economic activity”.

We do not seem to have reached the last chapter in the interpretation of this controversial matter. The courts will have the last say.