Judgment in a case concerning income tax and compensation for costs

Question concerning who is to be considered to be a company’s lender when the interest deduction limitation rules are applied and whether the company and its lenders are to be considered to be associated.

The company is a wholly owned subsidiary of a Luxembourg company. The parent company, in turn, is owned by five so-called limited partnerships (the partnerships) at just under 96 per cent and by another company to just over four per cent. The partnerships were formed on Jersey by approximately 130 investors. The five partnerships constitute a fund. The fund is managed by two so-called general partners (the GPs).

The company received a loan from the parent company in order to finance a company acquisition. The parent company thereafter carried out a repurchase of its own shares and paid for the repurchase by transferring the claims against the company to the GPs in their capacity as general partners of (“acting as general partner of”) the partnerships. The claims were then included in fund assets.

The company claimed a deduction for interest regarding these loans, but the Swedish Tax Agency decided not to grant the company a deduction for the interest as the GPs were considered the company’s lenders and that the company and the GPs were associated with each other.

According to the main rule of the Swedish interest deduction limitation rules, a company linked in a group of associated companies may not deduct interest expenses in relation to a debt owed to an associated company, unless certain conditions are met. Companies are deemed to be associated with each other if, inter alia, one of them, directly or indirectly, through share ownership or otherwise, exercises a significant influence over the other company.

The questions that the Supreme Administrative Court had to decide on in the cases were who is to be considered to be a company’s lender when the interest deduction limitation rules are applied and whether the company and its lenders are to be considered to be associated.

The Supreme Administrative Court stated that a contractual fund such as the relevant one, which consists of one or several partnerships, does not constitute a legal person but, rather, is a special contractual construction. The fund agreements between the GPs and the investors show that the obligation of the investors is primarily to contribute capital to the fund, but they are not to take part in the management or control of the fund’s activities. Each investor’s share of the assets is to be reported on a separate account, and the investors are entitled to receive profits generated when the assets are sold off. The GPs manage the fund, represent the investors in relation to outside parties and can bind them to third parties. The GPs are obliged to accept payments of principal and interest on behalf of the fund. Through this special contractual construction, the actual ownership of the fund assets has been separated from the management of the assets. This means that it is the investors which own the assets in the fund together, including the claims against the company, and which are entitled to yields from them in form of, inter alia, interest income. Under these circumstances, the Supreme Administrative Court found that it is the investors in the fund which may be regarded as the company’s lenders.

The Supreme Administrative Court further stated that the company is wholly owned by the parent company, the shares of which are in turn mostly included in the fund assets. It is the investors in the fund which may be considered to own these shares and thereby also, indirectly, the shares in the company. Through the fund agreements, the investors have assigned management of the assets in the fund to the GPs. The influence in the company following from the ownership has thereby been aggregated in the GPs. The GPs may, furthermore, through the chosen contract structure, be considered to collaborate in such a manner that they jointly carry out management of the fund on behalf of all of the investors. The investors and the GPs may therefore be considered to jointly have significant influence in the company, which entails that the investors which are companies may be considered to be associated with the company.

The Supreme Administrative Court referred the cases back to the Swedish Tax Agency to examine whether these interest expenses are nonetheless to be deducted pursuant to some other conditions.

Read the judgment here: