The inefficiency of the measures that aim to achieve procedural efficiency

The Preliminary Draft on Procedural Efficiency Measures for the Public Justice Service, published last December, contains in its Second Final Provision, a controversial amendment to Law 35/2006, of 28 November, on Personal Income Tax (LIRPF). Especially, according to this amendment, in general, compensation for civil liability paid by insurers to those who have suffered physical or mental injuries, would be subject to taxation.

In accordance with the current legislation (section d) of Article 7 of the LIRPF, the amount for compensation that legally or judicially has been recognised regarding civil liability for personal injury, is exempt. However, if the amendment as introduced in the Preliminary Draft in its Second Final Provision will be approved, compensation received by an injured party for this type of damage will be subject to taxation when it derives from a mediation agreement or any other legally established means of dispute resolution without intervention of a neutral third party /or the agreement has not been formalised in a public deed.

In other words, in order for compensation, agreed through a mediation agreement or any other legally established means of dispute resolution, to be exempt, it is required that a neutral third party has mediated and that, in addition, the agreement has been formalised in a public deed.

In the event that both requirements are met, the maximum exempt amount shall be, the amount that results from applying the system of valuation of damages and losses, provided by the annex to the revised text of the Civil Liability and Insurance Act, regarding the circulation of motorized vehicles. Therefore, if this amendment will be approved and introduced in the legislative text, this will obviously lead to an increase in legal proceedings and, consequently, a delay in the resolution of this type of dispute, because of the fact that parties will avoid amicable settlement of disputes, with the aim of avoiding taxation of the compensation resulting therefrom at the victim’s place of residence.

This is clearly contrary to the essence of the proposed rule. Moreover, the application of the exemption to compensation as a result of amicable settlements, will require payment of costs arising from the intervention of a neutral third party (mediator or arbitrator) to be borne. In addition, the formalisation of the agreement in a public deed, will entail the corresponding costs of the intervention of a Notary Public, as well as the taxes associated with the execution of a public deed whose direct object is the compensation; concretely, the Tax on Property Transfer and Documented Legal Acts, in its modality of Documented Legal Acts -AJD-, notarial documents. 

In short, as has been indicated, this amendment would produce the opposite effect to that supposedly sought by the proposal, given that it will certainly condition the normal and usual progress of judicial proceedings, where the parties will be forced to resolve the conflict by means of a judgement and not, as is often the case and is convenient, by means of an amicable agreement.

The above, in addition to clearly limiting the will of the parties as regards the choice of the course of the proceedings and the moment of the termination, as well as prejudicing their rights by delaying the time taken to obtain compensation for the damages suffered, would lead to greater saturation of the Spanish courts and tribunals, which would be forced to resolve the proceedings in their final phase.

From a tax perspective, the wording of the proposed amendment is contrary to the spirit of the Spanish tax system, in which compensation is treated in a special way, as it is not linked to the provision of services or the generation of wealth but rather, on the contrary, to the compensation of damage (losses) suffered by the recipient.

As a result, it would be reasonable and expected that the text of the Preliminary Draft would be modified on this point, mainly in order to achieve genuine procedural efficiency, as opposed to this highly tax collection-oriented purpose.