VAT Insights - February 2023

VAT Insights is back from its Christmas break with a bumper crop of VAT developments. Many of these are CJEU cases, which, quite apart from being directly relevant to EU scenarios, continue to be of persuasive value in the UK.

In December’s VAT Insights we highlighted the importance of the Kittel principle and (failed) attempts by Member States to extend its scope. This month, however, we have a cautionary tale concerning this principle, highlighting the potential harshness of its application and the importance of businesses carrying out adequate due diligence on their supply chains. In a recent German referral to the CJEU, the intermediary in a tripartite supply chain failed to account for VAT on its sale to the final customer. The arrangements involved “abnormal events” which should have led the ultimate purchaser to be concerned and it should have carried out due diligence which would have revealed the likelihood of fraud in the chain. Despite the fact that VAT was accounted for on the supply by the original owner, the German tax authorities denied the purchaser a deduction for all of the input VAT it paid, not simply the VAT lost on the intermediate supply and the CJEU has confirmed that this is the correct approach.

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

• Confirmation from the FTT that HMRC’s response to a letter from a taxpayer setting out its VAT analysis may amount to an “appealable decision”
• An Upper Tribunal decision that a taxpayer is entitled to interest from the date that they would otherwise have made a VAT reclaim but for the failure of domestic legislation to correctly implement EU law
• A CJEU decision that the obligation to pay over VAT shown on a VAT invoice is limited (where that VAT was incorrectly calculated) to situations where the recipients of the supply were not final consumers
• Another CJEU decision applies a particularly strict application of the invoicing conditions in triangulation situations, which may have wider implications for other optional VAT schemes
• An AG opinion in a German turkey barn case suggesting that the exclusion for fixed plant and machinery from the property exemption does not override the single supply rules
• The UK government’s consultation on codifying the exemption for fund management; and
• HMRC’s new policy on notifying options to tax.

We also have a number of updates from across our European network, including news of the Commission’s VAT in the Digital Age proposals and updates from Germany and Spain.

In addition, 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.

If you are interested in finding out more about the below or have a specific indirect tax query, please don't hesitate to get in touch.

Meaning of appealable decision

What amounts to an “appealable decision” of HMRC entitling a taxpayer to bring a claim before the FTT? Was HMRC’s short response to the taxpayer’s VAT analysis of supplies it received, rejecting the analysis that they were VAT exempt, an appealable decision? In Isle of Wight NHS Trust v HMRC, the FTT has held that it was.

The question whether a response from HMRC is sufficiently clear to amount to a final decision on a matter will be highly fact dependent. However, the decision is important in showing that HMRC’s rejection of the taxpayer’s technical analysis of the VAT treatment of particular supplies was sufficient to amount to an appealable decision. That was the case despite the fact that the appellants were the recipients of those supplies rather than the suppliers responsible for charging and accounting for the output VAT in dispute.

Helpfully, the FTT also rejected HMRC’s argument that the recipients in this case should instead have litigated with individual suppliers regarding the correct VAT liability – as this would not be an effective remedy unless and until HMRC provided a clear view that such supplies are exempt.

Read our full review here

Interest for official error and failure to implement EU law

Was the failure to correctly implement the VAT Directives into UK law an “error on the part of the Commissioners”. Given that it is Parliament that makes law and HMRC are responsible for enforcing taxes, that argument would, at first glance, appear a stretch. However, the Upper Tribunal in HBOS plc and Lloyds Banking Group v HMRC [2023] UKUT 13 has held that an error in failing to correctly transpose the terms of the VAT Directives in relation to VAT bad debt relief claims was an “error on the part of the Commissioners” for the purposes of VATA 1994 s.78. As such, the taxpayers were entitled to the payment of official interest under s.78 from the time when they would otherwise have made claims rather than when the claims were made and wrongly rejected by HMRC.

The difference in the quantum of interest due to the taxpayers in this case was startling. Paying interest from 1997 rather than 2007 resulted in a payment of over £10m rather than £800,000. Taxpayers with any similar claims, based on the UK’s failure to correctly transpose the VAT Directives into UK law, should consider whether interest claims can be made from the date they would have made repayment claims in the absence of the incorrect implementation.

Read our full review here

Kittel: quantum of disallowance

Where a customer in a supply chain is or should have been aware that the supply chain involved fraudulent transactions, is that customer to be denied input VAT recovery on the whole of its payment or is that denial to be limited to the actual loss of VAT suffered by the public purse? That was the question referred to the CJEU by the German courts in A v Finanzamt M.

In the case, A purchased a car for €64,000 plus VAT. It thought it was buying from W when in fact the car was owned by C. C hid their identity and sold the car to W for €52,000 plus VAT. C accounted for output VAT on the sale to W but W was a missing trader and did not account for any output VAT on the sale to A. As such, the German tax authorities were defrauded of the difference between the VAT on €52,000 and €64,000. However, they denied input VAT recovery on the purchase by A in its entirety on the basis that it should have carried out due diligence and if it had it would have realised the supply chain was fraudulent.

The CJEU has confirmed that this is the correct approach. The objective of ensuring that taxpayers do not facilitate tax evasion justified the loss of the right to input VAT entirely. This reinforces the importance of taxpayers carrying out appropriate due diligence on their supply chains and the harsh consequences of failing to do so.

Read our full review here

Correction of overcharged VAT on an invoice

GmbH v Finanzamt Osterreich is a surprising, but very helpful, decision of the CJEU concerning the obligation to account (or not) for VAT included on an invoice. And one that would appear to call into question the UK rules in VATA 1994 Schedule 11 para 5 which specifically provide that any amount charged as VAT on an invoice is recoverable as a debt due to the Crown whether or not VAT was actually chargeable.

An Austrian children’s playground overcharged customers VAT at 20% when the correct VAT rate was a reduced rate of 13%. When it discovered its mistake, it sought to recover the VAT overpaid. Article 203 of the VAT Directive provides that “VAT shall be payable by any person who enters the VAT on an invoice”. On this basis, the Austrian tax authorities rejected the claim.

The Court, however, had held that the purpose of Article 203 is to eliminate the risk of loss of tax revenue where a deduction is claimed by the recipient of an invoice (i.e. if VAT is shown on a VAT invoice provided to a taxable person, then that VAT must be paid as otherwise there would be a mismatch between the amount of VAT recovered by the recipient and the amount of VAT paid by the supplier). However, if it could be shown, as in this case, that all the recipients of the supply are final consumers, then Article 203 does not apply as there is no risk of a mismatch.

Restricting the application of this rule in circumstances where the supplies are to final consumers not entitled to input VAT recovery also appears to shortcut the question of unjust enrichment. And whilst the decision of the CJEU on the scope of Article 203 is no longer be binding in the UK, it will still be of persuasive value.

Read our full review here

VAT invoicing requirements in triangulation transactions

The triangulation simplification rules deal with the situation where A buys goods from B and directs them to be delivered to its customer C in a different Member State. These optional rules allow for the intermediate supplier (A) to avoid the need to account for acquisition VAT on the transaction. In Luxury Trust Automobil, however, the CJEU has taken a very inflexible approach and held that it is necessary for the invoicing requirements to be strictly adhered to in order to take advantage of this facility.

In the particular case, Luxury Trust provided an invoice to its end customer with the reference “Exempt intra-Community triangular transaction” to indicate it was operating the facility. However, Article 226 of the PVD requires the invoice to contain the wording “Reverse charge”. The customer was a missing trader and didn’t account for acquisition VAT in the Czech Republic and the Austrian tax authorities argued that Luxury Trust was liable to account for acquisition VAT in Austria on the basis it had not complied with the formal requirements for the triangulation scheme.

Perhaps surprisingly, the CJEU agreed that the Article 226 invoicing requirement was a strict requirement and could not be met by the equivalent wording used on the Luxury Trust invoice. The decision serves as a cautionary tale that the conditions set out in the VAT Directive need to be complied with when operating optional VAT arrangements which determine the relative obligations of taxpayers to account for VAT.

Read our full article here

Fixed plant and machinery

There is an exclusion from the VAT exemption for the letting and leasing of property for supplies of fixed plant and machinery (Article 135(2)(c)). But does this exclusion override the normal single supply rules, such that it excludes from exemption that part of the rent payable for an exempt supply of land which is attributable to fixed plant and machinery on that land? That is the question the CJEU has been asked in Finanzamt X v Y (Case C 516/21).

The AG has now opined that Article 135(2)(c) does not override the single supply rule and that fixed plant and machinery provided with a building and which are ancillary to the use of that building will not be subject to VAT if the supply of the building is exempt.

Read our full review here

Codifying the VAT exemption for fund management

As part of the Edinburgh reforms, the UK government has published a consultation document setting out its plans to codify the definition of the existing VAT exemption for the management of special investment funds, which runs until 3 February 2023. In essence, the government intends to replace the existing definition with one that will not require reference back to EU law and jurisprudence, providing a clean and simplified rule allowing investment managers to determine whether they fall within the exemption with greater certainty. The proposed approach is expressly intended not to amount to a change in policy on the scope of the current VAT exemption (nor, indeed, does it address other matters such as industry requests for zero rating of fund management services to support the UK as a competitive jurisdiction for asset management).

We are responding to the consultation, and will be discussing this further with HMRC over the next few weeks. We also cover this in more detail in our podcast on the tax related measures of the Edinburgh reforms. If you like to put any comments in, please do not hesitate to get in touch.

Read our full review here

Notifying HMRC of an option to tax

Revenue & Customs Brief 1 (2023) contains details of how HMRC will process option to tax notifications from 1 February 2023. From this date, HMRC will no longer issue option to tax notification receipt letters. However, where taxpayers send an option to tax notification by email to: optiontotaxnationalunit@hmrc.gov.uk, an automated response will be provided which will have the date when the notification was received by HMRC which taxpayers should keep for their records. This will be important as opting to tax is a two stage process under which a taxpayer must both make the option and then notify HMRC of the option. Failure to complete either stage will invalidate an option. As such, it is important that taxpayers should retain both evidence of the making of the option to tax and its notification to HMRC.

Read our full article here

EU: VAT in the Digital Age

The EU Commission published its VAT in the Digital Age proposals on 7 December 2022. There are three elements:

• An extension of the platform rules (treating the platform operator as supplier) to supplies of passenger transport and short term accommodation from 2025
• Extending the One Stop Shop registration facility to all B2C supplies within the Community and to movements of own goods between Member States to facilitate such supplies
• New e-invoicing and reporting proposals from 2028.

It is this third element that is likely to prove most controversial and difficult to implement. It would require all businesses making B2B supplies cross-border within the EU to use a real-time, e-invoicing system to report such transactions to Member States and a new central system for the exchange of that information between Member States. This would replace the need for EC Sales Lists. In addition, the Commission proposes that for those jurisdictions that have already introduced domestic digital invoicing and reporting systems, those systems would need to converge with the EU system by 2028. Should these proposals meet agreement and be progressed, it will involve very significant implications for the systems an processes of businesses operating within the EU.

Read our full review here

Germany: VAT grouping rules

The German VAT grouping rules have been under sustained attack over recent years and December 2022 saw two more cases raise questions as to their validity before the CJEU (Case C-141/20 and Case C-269/20). On this occasion, the Court has offered a mixed response. On the one hand, the rules were too restrictive in requiring a parent to have both a majority shareholding and majority voting rights in a subsidiary for it to qualify for VAT grouping. On the other hand, the Court held that the German rules deeming the controlling member of the group to be the single taxable person comprising the VAT group were not inconsistent with the provisions of the VAT Directive.

However, the final issue considered by the Court was whether members of a VAT group automatically lost their status as independent entities for VAT purposes. The Court held not, but the implications of this aspect are unclear. Does it merely indicate that the German rules which automatically require controlled companies to be VAT grouped go too far? Or could it mean that supplies between VAT group members are not automatically ignored? Such a conclusion seems unlikely and would threaten the integrity of the VAT grouping rules, but this is certainly a development to watch.

Spain: 2023 VAT developments

Spain has introduced a number of changes to its use and enjoyment rules with effect from 1 January 2023. These include removing a number of categories of service, including telecommunications, from its scope. In relation to B2B supplies specifically, the use and enjoyment rule will now only apply to insurance and finance services that are exempt from VAT.

In addition, Spain has also introduced modifications to its bad debt relief rules to make them more flexible to apply from 1 January 2023. The changes include lowering the minimum threshold for claims (to €50 rather than €300), extending the deadline for correcting VAT invoices to 6 months and allowing more flexibility in the requirements for proving that payment of a debt has been demanded.

Spain: transfer of managed subsidiaries qualifies as a TOGC

The General Directorate of Taxes (GDT) has issued a ruling confirming that, based on case law of the CJEU (such as AB SKF (Case C-29/08)), the transfer of shares in a subsidiary may, in certain circumstances, be treated in the same way as a transfer of all or part of the assets of a business.

The example considered by the GDT involved the transfer by a parent company of its shares in various subsidiaries to which it provided management services to a new holding company in exchange for shares in the holding company. This was a preparatory step to the transfer of those subsidiaries to an independent entity outside Spain. The GDT confirms that the transfer of all the shares in a holding company which, in turn, holds the shares in five fully operative subsidiaries, each with sufficient material and human means to carry out its corresponding business activity would be considered an autonomous business unit as required by the Spanish VAT Law and therefore would not be subject to Spanish VAT. The transfer would, in these circumstances, qualify as a TOGC provided the other conditions are met.

Spain: application of the reverse charge on sales of mortgaged properties

The Central Economic Administrative Tribunal (TEAC), the highest administrative body in Spain, has ruled that sales of mortgaged properties where part of the purchase price is used to pay off the mortgages on the property will not result in the application of the reverse charge for VAT purposes. The TEAC considered a previous ruling (released on 22 January 2015) to confirm that the reverse charge must be only applied in specific and limited circumstances and these did not include the sale of mortgaged property. Thus, the seller of the property will remain the taxable person and will have to charge VAT to the buyer and report and pay VAT to the tax authorities.

Until now, the reverse charge has been commonly applied to sales of mortgaged properties in the Spanish real estate market and this treatment had been supported by rulings of the GDT. However, this decision sets a new binding administrative criterion which must be followed by the Spanish tax authorities from now on. However, the new treatment should only be applied to transactions taking place from 20 September 2022 and should not entail any obligations in relation to sales of mortgaged properties carried out before that date.

Other issues we have recently covered

EU CBAM agreed
The European Parliament and EU Council have reached agreement on the details of an EU Carbon Border Adjustment Mechanism (CBAM) to prevent carbon leakage. The scheme will involve importers being required to buy CBAM certificates to compensate for carbon emissions in the country of production. The CBAM scheme is to commence from October 2023, but with an initial period of reporting only. Full implementation is dependent on the phasing out of allowances provided to EU businesses under the existing European Emissions Trading System (ETS), which means that it is due to be phased in fully between 2026 and 2034.

HMRC publish draft TP regulations
HMRC has published for consultation draft regulations for the implementation of changes to the UK’s transfer pricing documentation requirements. The draft Transfer Pricing Regulations 2023 require large MNEs to retain a Master File and Local File in line with the OECD Transfer Pricing guidelines. The draft regulations, which are open for consultation until the end of January 2023, leave open the possibility that HMRC may introduce further requirements for supplementary information related to the Local File to be prepared in the future. A consultation on this aspect is expected to take place in 2023.

Pillar One: consultation on Amount B
The OECD has published a public consultation document on the calculation of Amount B as part of Pillar One – an amount intended to simplify the application of the arm’s length pricing to baseline marketing and distribution activities. It is important to note that unlike Amount A, which will only apply to about 100 of the largest multinational enterprises (MNEs), Amount B is intended to apply to all MNEs that are engaged in “in-scope arrangements”.

DAC6 and LLP
The CJEU has held that the provisions of DAC6 requiring the reporting of cross-border tax avoidance arrangements are invalid to the extent that they require a lawyer acting as an intermediary to notify other intermediaries of reporting obligations under the rules as a result of their inability to report due to legal professional privilege (LPP): Belgian Association of Tax Lawyers v Vlaamse Regering (Case C-694/20). The Court held that merely requiring a lawyer to divulge the existence of the client-lawyer relationship to other intermediaries is a breach of LPP and that this breach could not, in the circumstances, be justified by the objective of the rules to counter aggressive tax avoidance.

Spain approves windfall levies on banks and energy companies
Windfall levies on banks and energy companies are expected to come into force in 2023 with the aim of increasing public revenues in the current economic context. Most of the electricity, gas and oil companies will pay 1.2% of their net turnover, adjusted to exclude some elements of income.
Banks will be required to pay 4.8% of their net interest income plus net commissions.

DAC8 reporting rules on cryptoassets
The European Commission has proposed new tax transparency rules for all service providers facilitating transactions in crypto-assets for customers resident in the EU (DAC8). The rules, which are proposed to come into effect in 2026, will require all service providers, of whatever size and wherever located, to report on cryptoasset transactions carried out by clients residing in the EU. It will also require financial institutions to report on e-money and central bank digital currencies. On 27 February Henrik Paulander, Head of Sector for administrative cooperation in direct taxation at European Commission, and a panel of Simmons & Simmons tax experts will discuss the tax challenges related to the increasing use of digital assets, including the DAC8 measures. Register for this webinar here.

Merging R&D relief in the UK
The government has published a consultation on merging the two UK R&D relief schemes, which is open for comments until 13 March 2023. If the government decides to proceed with merger following the consultation, it is intended that the new scheme would come into force from April 2024.

Tax podcasts

Our contentious tax podcast series covering tax controversy and transfer pricing issues can be found here. More general tax podcasts can be found here.