VAT Insights - December 2022

The 2006 decision in Kittel was an immensely important one for tax authorities across the EU seeking to crackdown on missing trader (MTIC) fraud which was (and still is) costing taxpayers across the EU billions. In the decision, the ECJ established the principle that Member States can deny VAT rights to taxpayers (such as the right to recover input VAT) if that taxpayer knew, or should have known, that, they were participating in VAT evasion carried out by another trader acting in the same chain of transactions.

Given its importance, it is perhaps not that surprising that Member States have sought to extend the scope of the principle. It is equally important, however, given the potentially draconian consequences of its application, that in two recent cases the CJEU has repelled those attempts, drawing a line both in the circumstances that can engage the principle and the nature of the action that Member States can take to counter-act such situations.

As well as looking these recent cases concerning the Kittel principle, in this edition we also cover the following recent VAT developments:

• whether free incentives provided by an employer to an employee trigger the deemed supply rules;
• HMRC’s consultation on extending the DASVOIT disclosure regime to certain offshore loops involving intra-group supplies
• input VAT recovery by the beneficial owner of a lease (rather than the nominee company named on the lease); and
• a CJEU decision on the scope of a recipient of a supply’s ability to recover overpaid VAT from the tax authority directly.

We produce more detailed reports on the most significant tax developments so if you scroll to the bottom, there's a list of the most important issues we have covered, with a link to our more detailed report.

VAT Insights will be putting up its feet and enjoying some mince pies over the Christmas break, so the next edition of VAT Insights will be our February edition.

The limitations of the Kittel principle

In UAB ‘HA.EN (Case C-227/21), the Lithuanian tax authorities sought to apply the Kittel principle to the situation where a purchaser acquired property from a seller it knew was in financial difficulties and did not account for the VAT to the tax authorities. HA.EN acquired property in return for writing off part of the debt owed by the seller to it. HA.EN sought to recover the input VAT on the transaction. However, the Lithuanian tax authorities rejected HA.EN’s input VAT claim on the basis that HA.EN knew or should have known that the seller would not account for the output VAT on the transaction.

The CJEU has held that this is not a scenario that engages the Kittel principle. The situation of a supplier in financial difficulties cannot be equated with the kind of fraudulent or abusive transaction covered by the principle. A taxable person facing financial difficulties which sells an asset in order to settle debts, then declares the VAT due on that basis, but subsequently is unable, because of those difficulties, to pay that VAT, cannot be regarded as committing VAT fraud on that account alone. Consequently, the purchaser of such an asset in such circumstances is not participating in a transaction connected with VAT fraud.

The second case, Climate Corporation Emissions Trading GmbH (Case C 641/21) concerned transfers of greenhouse gas emission allowances from an Austrian supplier to a German recipient in circumstances where the supplier knew or should have known that it was participating in VAT evasion in the chain of transactions. As a result, the Austrian tax authorities sought to charge VAT on the supply, despite the fact that the normal place of supply of those services was Germany where the recipient was located.

The Court held that this was not an appropriate response. This case concerned not the reliance on a right, such as the right to an exemption, but the determination of the place of a taxable transaction. The Kittel principle could not be used to determine (or override) the place of supply, which was a fundamental factor in determining the fiscal competence of Member States in relation to cross-border transactions.

These decisions highlight the limits to the scope of the Kittel principle. However, they do not prevent Member States from taking action to prevent the loss of VAT in such situations. In the first case, the Court noted that Lithuania could have (but had not) taken advantage of an option to apply the reverse charge in relation to such transactions. In the second case, whilst the Kittel principle did not change the fundamental place of supply, it would potentially have been open to Germany, as the Member State of the recipient, to take action to prevent the loss of VAT.

VAT and free employee incentives

Where an employer provides free rewards or services to its employees, is it obliged to account for output VAT? Earlier decisions of the CJEU dealing with meals and travel suggested that, in general, such facilities attracted output VAT as the situation fell within the scope of Article 26(1)(d) which deems “the supply of services carried out free of charge by a taxable person for his private use or for that of his staff or, more generally, for purposes other than those of his business” to be a supply of services for a consideration.

The decision in GE Aircraft Engine Services Ltd v HMRC (Case C 607/20), however, suggests that we (and HMRC) may have been reading this provision incorrectly. GE provided retail vouchers to employers under an incentive scheme. Did the free reward attract VAT? The vouchers were for the private use of staff and so, “yes” said HMRC. It didn’t matter that there was a business purpose, as the first part of Article 26(1)(d) had been satisfied.

“No”, the CJEU has now answered (ignoring the advice of its own Advocate General). Determining whether Article 26(1)(d) applied on the facts depended on assessment of all the circumstances and, in particular, the nature and objectives of that incentive programme. In this case, the rewards were designed by GE with the aim of improving the performance of its employees and, therefore, of contributing to the better profitability of the business. The setting up of that programme was dictated by business considerations and the pursuit of additional profits, the advantage for employees being merely incidental to the needs of the business.

The decision is clearly welcome and, in the circumstances, prevents a potential double charge to VAT. However, the lack of any meaningful analysis of the particular provision is disappointing and may leave room for further disputes in future.

Read our full review here.

Extending DASVOIT to certain intra-group transactions

HMRC have become increasingly concerned about VAT group arrangements involving offshore entities in recent years and are consulting on draft regulations to extend the scope of the obligations to notify certain VAT group arrangements under the notification of tax avoidance arrangements rules (DASVOIT). Responses to the draft regulations are required by 15 January 2023.

The draft regulations would amend regulations 5 and 6 of the Indirect Tax (Notifiable Arrangements) Regulations 2017 to extend them to scenarios involving VAT group arrangements. These provisions apply generally where supplies are made from a UK supplier to an offshore recipient which are then used to make either exempt supplies or supplies not within the scope of UK VAT back into the UK (offshore loops). The new rules provide that the conditions within regulations 5 and 6 will be met even where the supply into or out of the UK would otherwise fall to be disregarded by virtue of it being a supply made within a VAT group.

Read our full article here.

VAT and supplies to nominees

VAT is a tax the operation of which depends on both a supplier and a customer. It is necessary, therefore, that its operation must be based on objective factors (rather than subjective factors of which one party may not be aware). This complicates its application in relation to nominee and bare trust situations compared to direct taxes – to give a simple example, it would not be appropriate for a supply to be treated as made by the beneficial owner rather than the nominee legal owner in circumstances where the customer is unaware of this position and its ability to recover input VAT based on possession of an appropriate VAT invoice could be compromised.

On the other hand, what if everyone is aware of the situation? Can you ignore the legal owner/recipient? HMRC are very reluctant to accept that proposition, to the extent that they have essentially recently replayed a case from some eighteen years ago!

The case, Ashtons Legal [2022] UKFTT 422, concerned a firm of solicitors that took a lease in the name of a nominee company for reasons related to the fact that the Law of Property Act 1925 allows a maximum of four partners to be named on a lease. This change was made late in the negotiations for the taking of the lease, the landlord insisted on guarantees from all the partners and it was known by all that it would actually be the partnership in occupation. Nevertheless, HMRC rejected the partnership’s claim to recover input VAT on the rental payments on the basis that it was input VAT of the nominee company. This is the exact same scenario that occurred in Lester Aldridge (VAT Tribunal decision 18864). The tribunal held in that case that the input VAT could be recovered by the partnership and the FTT here agreed with that approach. The economic and commercial reality was that the company was a mere cipher and the firm was at the centre of the lease.

It is disappointing to say the least to see HMRC returning to arguments that were rejected eighteen years ago and that have no equitable merit. But more generally, the decision does highlight the wider problems that can arise with the use of nominees and bare trusts in a VAT context and the great care that it necessary in such cases.

Read our full review here.

Recovering overpaid VAT under the Reemtsma principle

The principle that the recipient of a supply that has been overcharged VAT may, in principle, recover that overpaid VAT directly from the tax authority where it would be impossible or excessively difficult to recover from the supplier is now well-established. It is an important principle that protects customers where, for example, a supplier becomes insolvent. It is also important, therefore, that the CJEU has again reiterated the principle in the recent Hungarian case of HUMDA Magyar Auto-Motorsport (Case C-397/21) and rejected Hungary’s attempt to restrict its application.

The case concerned supplies made to HUMDA in connection with the construction of Hungary’s pavilion at the World Expo held in Milan. HUMDA was charged and paid Hungarian VAT in connection with these supplies and the supplier accounted for the output VAT to the Hungarian tax authorities. It subsequently became clear that these supplies should have been treated as outside the scope of Hungarian VAT as the supplies related to property in Italy. However, HUMDA was unable to recover the incorrectly levied VAT from its supplier since it had been liquidated. Instead, it sought to recover the VAT overpaid together with interest from the Hungarian tax authorities.

The Hungarian tax authorities argued that as the provision of services did not fall within the scope of Hungarian VAT at all, there was no obligation to refund the VAT. The CJEU rejected that argument. In the absence of abuse or fraud, there is no risk of loss of tax revenue in a case such as this and the principle was equally applicable. Not only that, but the CJEU went on to confirm that HUMDA was entitled to payment of interest to the extent that the Hungarian tax authority did not repay the VAT within a reasonable period of time after a claim was brought

Read our full review here.

Ireland: VAT and mortgagee-in-possession sales

The Irish Tax Appeals Commission (TAC) has ruled that a taxpayer is liable to account and pay VAT on the disposal of land in circumstances where a financial institution exercises security over the land, but the taxpayer arranges for the disposal and receives the sales proceeds directly. In this case, no receiver or agent of the financial institution conducted the sale, rather the financial institution took possession of the post-sale proceeds in satisfaction of debts owed. The quantum of the VAT liability was not in dispute but rather whether the responsibility for discharging the liability lay with the taxpayer or the financial institution.

The taxpayer argued that the disposal of the site was for the benefit of the financial institution rather than itself, and claimed that the financial institution was ultimately responsible for discharging any VAT liability under what are now sections 22(3)(a) and 76(2) of the Value Added Tax Consolidation Act 2010 (VATCA), which relate to mortgagee-in-possession sales. The operation of these provisions would ordinarily place an onus on a receiver, liquidator or agent to submit a VAT return and remit payment of VAT. Irish Revenue in turn argued that the taxpayer had supplied the land in question and accordingly sections 22(3)(a) and 76 (2) VATCA10 did not apply. The fact that the financial institution took the sales proceeds in satisfaction of the taxpayer’s liabilities was not relevant. It was further noted that the financial institution had not provided the taxpayer with the funds required to discharge the VAT liability arising. The TAC agreed with Irish Revenue that the financial institution (or its receiver or agent) had not disposed of the land under these provisions, rather the taxpayer had, and therefore the taxpayer rather than the financial institution was the accountable person in question.

The case reiterates that VAT always needs to be carefully considered in distressed sale situations.

Spain: guidance on VAT and cryptocurrencies

A recent ruling issued by the General Directorate of Taxes (GDT) in Spain confirms certain VAT aspects in relation to the purchase and sale of cryptocurrencies and also provides an important clarification for entities providing discretionary cryptocurrency management services in Spain.

Firstly, the ruling modifies the previous GDT position on the basis of David Hedqvist (Case C-264/14) to confirm that cryptocurrencies and other digital currencies are a means of payment (legal tender) within the meaning of Article 135(1)(e) of the VAT Directive. Therefore the exchange of a cryptocurrency for any other cryptocurrency, or for a currency that constitutes a legal means of payment, are transactions excluded from the scope of VAT as long as the value of what is received is equal to the value exchanged, regardless of any additional services associated with such an exchange. In addition, any related financial services (such as exchange commissions) will generally be exempt from VAT.

More importantly, the ruling clarifies the VAT treatment of discretionary management relating to cryptocurrencies (which cryptocurrencies will be bought or sold and at what time these purchases and sales will take place) which are made in an equivalent way to discretionary portfolio management services concerning financial instruments. In the view of the GDT, discretionary management services in relation to cryptocurrency assets are equivalent to discretionary portfolio management and consequently the management fees or commissions charged to customers should follow the same VAT treatment. Therefore, following the consolidated criterion of the GDT from 2012 in relation to the VAT treatment of discretionary portfolio management, the GDT considers that the investment management or advisory services in relation to cryptocurrencies are not of a financial nature and should be subject to (and not exempt from) VAT. The same conclusion is reached in connection with advisory services in relation to cryptocurrency investments, following the more recent general GDT guidance concerning financial instruments, which extended the non-exempt treatment of discretionary portfolio management services to investment advisory services from 2019 onwards.

Other issues we have recently covered

Tax on cryptocurrency
We have published a cryptocurrency comparison feature which looks at the tax treatment of transactions in cryptoassets across eight jurisdictions – UK, France, Germany, Italy, Spain, the Netherlands, Ireland and Luxembourg – addressing some of the main tax questions concerning cryptocurrencies, ICOs and NFTs. From staking, loaning and mining to hard-forks and airdrops or simply using cryptocurrencies for purchasing assets, our analysis provides details of the current position (or identifies the ambiguities) for both individuals and corporates.

Implementing the OECD mandatory disclosure rules: HMRC response
HMRC has published a response document in relation to the UK implementation of the OECD mandatory disclosure rules confirming that the new rules will be introduced in the first half of 2023 and will replace the existing, similar rules based on DAC6. However, importantly, HMRC has confirmed that the rules will no longer require backdated reporting of pre-existing arrangements entered into before 25 June 2018. The replacement rules will have broadly the same scope as the DAC6 rules as implemented in the UK, but will apply globally rather than in an EU context.

Unallowable purpose and utilising existing losses
The Upper Tribunal in Kwik-Fit Group and others v HMRC [2022] UKUT 314 has held that arrangements to enable a group to utilise trapped losses more quickly had an unallowable purpose. The Tribunal rejected the taxpayers’ arguments that there was no tax advantage in such a situation or that the obtaining of a tax advantage had not been a main purpose of the relevant companies in the group arrangements. In particular, whilst accepting that the test of purpose is a subjective one that must, in principle, be applied at an individual company level, the Upper Tribunal has held that all the facts must be taken into account and there is nothing to prevent the overall group tax advantage being a significant factor in such an evaluation.

HMRC guidelines for compliance
HMRC has published a new online page including guidance on areas of tax compliance for businesses. The intention is that these pages will offer HMRC's view on complex, widely misunderstood or novel risks that can occur across tax regimes, including guidelines for employers, corporation tax and VAT. They will go beyond HMRC's view of the law (as set out in their Manuals) and address areas of compliance risk.

EU Code of Conduct on business taxation updated
Member States have agreed to widen the scope of the EU Code of Conduct for Business Taxation. It is the first revision of the Code since it was introduced in 1997. The Code covers tax measures in EU Member States with the aim of preventing Member States applying harmful and preferential tax measures. The agreed revision to the Code means that it will apply not only to directly preferential measures, but also to general measures or tax features of general application which will be regarded as harmful if they lead to double non-taxation or the double/multiple use of tax benefits.

State aid rules and the arm’s length principle
The CJEU has set aside the decision of the General Court of the European Union in Fiat Chrysler Finance Europe v European Commission (Case C-885/19). The CJEU has held that the Commission had misapplied the rules identifying the necessary reference tax system in deciding that Luxembourg had provided illegal state aid in granting tax rulings in favour of Fiat. The decision represents an important check on the Commission’s application of State aid rules in tax cases, emphasising that Member States are, in principle, entitled to introduce their own tax rules (including particular application of the arm’s length principle) and that it is only against those rules (and not broader international tax rules) that the selective nature of any particular tax ruling must be judged.

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