Mutual guarantee without remuneration – is it always a free-of-charge performance?

Financial institutions more and more often require guarantees when granting financing to enterprises.

Entities belonging to capital groups may use intra-group guarantees as an alternative to guarantees from external financial institutions. It is the easiest and fastest way to obtain financing. One option are mutual guarantees: two or more related companies guarantee each other’s liabilities. Related entities often decide not to pay the guarantor.

Are mutually granted guarantees always free of charge?

According to a well-established case-law, a gratuitous performance is one where there is no equivalence of mutual performance. If the beneficiary of the guarantee is not obliged to pay remuneration or it is not compensated by other mutual benefits, then the guarantee will be a gratuitous performance.

Mutually granted guarantees are a frequent choice when cash-pooling agreements are made. If each of the cash-pooling system participants provides a guarantee to the other participants, and the participants – instead of remuneration – receive the same guarantee from each of the participants, the benefits may be equivalent. The terms of guarantees should be analyzed each time from the perspective of their equivalence. An assessment wis necessary whether they are a performance of the same value. If the performances are reciprocal and equivalent, they will not result in generating income from free or partially paid services. This position was voiced in the individual interpretation of 20 October 2022 (ref. 0111-KDIB1-1.4010.545.2022.4.BS).

Mutual guarantees may also be partly payable when a free-of-charge guarantee is provided in exchange for another service, but they are not equivalent. If related companies provide each other with mutual guarantees, and the value of one of them is lower, the benefits are not equivalent – which was confirmed by the Supreme Administrative Court in the judgment of 31 July 2019 (ref. II FSK 2908/17). The court emphasized that if the value of mutual benefits is not the same, then the difference between the value of the guarantee obtained and the value of the guarantee received is income from a partly paid for performance.

It is worth emphasizing that the obligation to provide a guarantee and its actual granting are not the same situation. This is important from the perspective of assessing the guarantees granted for their reciprocity. Pursuant to the judgment of the Supreme Administrative Court of 17 January 2020 (ref. II FSK 374/18), the obligation to provide a guarantee at the request of a related entity does not cause any increase or damage to the assets of the entity granting it. Therefore, the obligation to provide a guarantee cannot be considered equivalent to actually obtaining a guarantee.

Settlement of income from free-of-charge performance

In the individual interpretation of 8 February 2023 (ref. 0111-KDIB1-1.4010.828.2022.1.AW), the authorities stated that the revenue from the gratuitous performance arose once: upon receipt of the gratuitous guarantee. Importantly, the value of such a performance should be valued in accordance with the arm’s length principle.

In our opinion, in particular in the case of guarantee agreements made for a multi-year period or binding for an indefinite period, the approach will not be compliant with the transfer pricing regulations. In accordance with market practice, the remuneration for the guarantees granted is accrued throughout the term of the contract – not only for the first year. Granting a guarantee involves the assumption by the guarantor of the risk of the debtor’s failure to fulfill its obligation towards the creditor. It has an economic value – the price that the beneficiary of the guarantee would have to pay to the guarantor under market conditions. Benchmarking analyzes are a tool used to determine or verify the arm’s length remuneration. Therefore, be careful when determining the market value of free-of-charge performance.

No remuneration means no TP obligations?

The lack of remuneration for the guarantees granted does not preclude the obligation to analyze these transactions from the TP perspective. The arm’s length nature of guarantees granted among related parties may be challenged by the tax authorities: even if the statutory documentation threshold is not exceeded.

The key aspect of determining the legitimacy of remuneration or its lack is to properly recognize the essence of the actual transaction: the accurate delineation. To this end, the following should be analyzed:

• reasons for which the guarantees were granted,
• economic impact on the related financial transaction,
• involvement of the parties to the transaction in the light of their functions, assets involved and risks incurred.

Please note: it is not the amount of remuneration received or lack thereof that matters, but the value of the transaction. In the case of guarantees, it is the guarantee sum and it is directly related to the documentation threshold. Even if guarantees were provided free of charge, there may be an obligation to document and report them in the TPR form. If the amount from the guarantee agreement exceeds the threshold, the taxpayer will face TP obligations in each year of the term of the agreement.

How to protect against risk?

Given the complexity of aspects related to mutual guarantees, including tax, accounting or financial matters, it is important that capital groups regularly review intra-group financing structures. Taxpayers wishing to be on the safe side transfer pricing-wise should verify whether the guarantees comply with the arm’s length principle and whether remuneration is due in a given case.

Transfer pricing policy is undoubtedly a tool facilitating this task. It is a set of rules for transactions made within the capital group. It secures a consistent approach to intra-group guarantee transactions. Also, if related entities provide mutual guarantees without remuneration, it is worth having a defense file where you document and collect business arguments justifying the lack of payment for guarantees. The transfer pricing policy and the defense file can also be used as documents justifying the applied rules for granting guarantees in the group in case of an inspection by the tax authorities.