Server holdings may entail a permanent establishment

A few years ago, the Supreme Administrative Court quashed an advance ruling regarding the question if a foreign company's leasing of capacity on a server in Sweden causes a permanent establishment to occur. The Swedish Tax Agency has now published a statement that clarifies the agency’s view of the issue.

The Swedish Tax Agency states that a permanent establishment arises if a foreign company has one or more servers located in Sweden, and the main purpose of the business consists of providing space and data capacity on the server to customers. Foreign companies that have a permanent establishment in Sweden must pay Swedish income tax, make preliminary tax payments and submit an income tax return annually, hence the statement is important for foreign companies whose only presence in Sweden is to dispose of one or more servers that are located in Sweden.

When does a server constitute a permanent establishment?

According to the Swedish Tax Agency, a permanent establishment arises if a foreign company disposes of a server located at a certain location in Sweden for at least six months and one of the following circumstances are fulfilled:

• The purpose of the business is to allow space on the server for its customers, such as an internet service provider that conducts web hosting.
• The company conducts e-commerce and has a web page on the server where customers can see the range of products, order, pay and even get the digital product delivered through the server. This can consist of, for example, downloadable software, movies or music. A permanent establishment only occurs if it’s the same company that has the server and the software at its disposal.
• The company conducts e-commerce and the web site on the server has as its main purpose to showcase the products and process orders as well as binding agreements that are entered upon the order, even if the delivery of the goods are derived from another location and the product is paid by cash on delivery. Even in this case, a permanent establishment arises only if it’s the same company that has the server and the software at its disposal.

According to the Swedish Tax Agency, a permanent establishment can arise even if the server is not used in direct contact with the customer, for example if the company's main business is to store and process information and this is done on a server that is located in Sweden.

The Swedish Tax Agency's view is that a permanent establishment does not arise for a foreign company which:

• Utilizes server capacity on a Swedish server and has uploaded its website or other software there, but does not dispose of the server.
• Owns a server in Sweden, but leases the entire server to another company that uses it in their business.
• Conducts e-commerce on a server in Sweden, but the customer can only see the supply of goods while the order is made in another way (such activities are considered to be preparatory and thus do not constitute a fixed place of business).

The statement does not cover situations where the foreign company also has personnel and/or other activities in Sweden.

How should the taxable profit be calculated?

The Swedish Tax Agency considers that the profit for the permanent establishment must correspond to an arm's length compensation for what is considered to be the economic ownership of the server in a profit allocation context. The Swedish Tax Agency is also of the opinion that it is not acceptable to only allocate costs to the permanent establishment. Instead, the full result attributable to the operations conducted via the server should be allocated to the fixed establishment.

Comment

Although the Swedish Tax Agency bases its statement on Article 5 of the OECD's model agreement, our view is that their interpretation is stricter than that of many other countries' tax authorities. It is important to emphasize that an assessment must always be made in each individual case and that the above constitutes the Swedish Tax Agency's opinion. When it comes to calculating the taxable profit in the simplified examples given in the statement, we perceive that the Swedish Tax Agency considers that the Swedish permanent establishment should receive compensation based on the economic ownership. Typically, this should mean the net margin method (TNMM) with Return on Assets (ROA) as a profit level indicator. This means that the branch should get an arm's length return based on the server's value.

Based on the Tax Agency's position, all foreign companies that have one or more servers in Sweden should submit a Swedish income tax return and pay a preliminary tax. Foreign companies that have a permanent establishment according to the Agency’s statement, but consider that their server/servers do not give rise to a fixed establishment, should nevertheless submit a Swedish income statement containing an open closure where the taxable profit calculated as described above is clearly stated.

For companies that own or provide space in data centers for their foreign customers' servers, it may be a good idea to inform the customers about the reporting and tax requirements laid out by the Swedish Tax Agency.