Flashback on ECJ Cases C-164/16 (Mercedes-Benz Financial Services UK) – (Financial) leasing operations constitute supplies of goods

On October 4, 2017, the ECJ issued its decision in the case C-164/16 (Mercedes-Benz Financial Services UK). This case deals with the question whether a Financial Leasing Contract with a purchase option can be considered a Supply of Goods.

Context: (Reference for a preliminary ruling — Value added tax (VAT) — Directive 2006/112/EC — Article 14(2)(b) — Supply of goods — Motor vehicles — Finance lease with an option to purchase)

Article in the EU VAT Directive

Article 14(2)(b) in the EU VAT Directive 2006/112/EU

Article 14 (Taxable transction)
2. In addition to the transaction referred to in paragraph 1, each of the following shall be regarded as a supply of goods:
(b) the actual handing over of goods pursuant to a contract for the hire of goods for a certain period, or for the sale of goods on deferred terms, which provides that in the normal course of events ownership is to pass at the latest upon payment of the final instalment;

Facts

Mercedes-Benz Financial Services UK, which is a subsidiary of Daimler AG and has its seat in the United Kingdom, offers three types of standard contract for financing the use of motor vehicles: a standard hire agreement known as ‘Leasing’, a ‘Hire Purchase’ agreement, and a leasing agreement with an option to purchase called ‘Agility’, which combines certain features of the first two types of agreement and which allows customers to postpone choosing between leasing and purchase until after the vehicle has been handed over.
Features common to all three standard agreements are the fact that ownership of the vehicle remains with Mercedes-Benz Financial Services UK throughout the term of the agreement and the making of monthly payments by the lessee.
The agreements differ, however, as regards the possibility of acquiring the vehicle and the arrangements for doing so.
The ‘Leasing’ agreement excludes any transfer of ownership and, moreover, sets a maximum mileage beyond which the customer is liable to pay a penalty.
The ‘Hire Purchase’ and ‘Agility’ agreements, on the other hand, provide for a transfer of ownership, but on different terms.
Under the ‘Hire Purchase’ agreement, the aggregate of the monthly payments made represents, as a rule, the total sale price of the vehicle, including the cost of financing. A modest additional fee (‘the option fee’) must be paid in order to acquire ownership of the vehicle at the end of the contract. That final payment is provided for in the agreement and does not depend on the option being exercised. The option fee is debited from the customer’s account at the same time as the last instalment, and the transfer of ownership is then complete. However, United Kingdom consumer protection legislation limits the amount which a seller can claim from a buyer under the terms of a hire purchase, and it is thus possible, in practice, for the customer to avoid making the final payment by terminating the contract prior to its expiry.
Under an ‘Agility’ agreement, monthly instalments are, as a rule, lower than under a ‘Hire Purchase’ agreement; total instalments thus represent only approximately 60% of the vehicle sale price, including the cost of financing. If the user wishes to exercise the option to purchase the vehicle, he must therefore pay approximately 40% of the sale price. That ‘balloon’ payment represents the estimated average residual value of the vehicle at contract maturity. The customer is asked, three months before the end of the contract, whether he wishes to exercise the option. According to the findings of the referring court, around half of all lessees reply in the affirmative.
With regard to VAT, it is not disputed that the ‘Leasing’ agreement falls within the category of ‘supply of services’ and, therefore, is subject to tax on each monthly instalment under Article 64 of the VAT Directive, the taxable amount being the amount of the monthly payment. Nor is it disputed that, conversely, the ‘Hire Purchase’ agreement constitutes a ‘supply of goods’ within the meaning of Article 14(2)(b) of the VAT Directive. Consequently, under Article 64 of that directive, VAT is chargeable in full upon the handing over of the vehicle, the taxable amount being the total price of the supply.
According to HMRC, the ‘Agility’ agreement, like the ‘Hire Purchase’ agreement, constitutes a ‘supply of goods’ within the meaning of Article 14(2)(b) of the VAT Directive. HMRC therefore claimed full payment of VAT from Mercedes-Benz Financial Services UK upon the handing over of vehicles pursuant to the ‘Agility’ agreement.
Mercedes-Benz Financial Services UK challenged that classification before the First-tier Tribunal (Tax Chamber), United Kingdom, arguing that the ‘Agility’ agreement, which does not necessarily provide for a transfer of ownership, had to be regarded as a ‘supply of services’ and that, therefore, VAT was chargeable only on each monthly instalment.

Questions

What is the meaning of the words “a contract…which provides that in the normal course of events ownership is to pass at the latest upon payment of the final instalment” in Article 14.2(b)?

In particular, in the context of the present case, does the phrase “in the normal course of events” require a tax authority to do no more than to identify the existence of an option to purchase which can be exercised no later than upon payment of the final instalment?

Alternatively, does the phrase “in the normal course of events” require the national authority to go further and to determine the economic purpose of the contract?

If the answer to (3) is yes:

a. Should the interpretation of Article 14.2 be influenced by an analysis of whether the customer is likely to exercise such an option?

b. Is the size of the price payable on exercise of the option to purchase relevant for the purposes of determining the economic purpose of the contract?

ecer.minbuza.nl

AG Opinion

Article 14(2)(b) of Council Directive 2006/112/EC of 28 November 2006 on the common system of value added tax should be interpreted as meaning that a leasing agreement which provides for transfer of the ownership of the leased asset to the lessee by the end of the lease, or which provides that ownership of the leased asset may be transferred to the lessee by way of a unilateral declaration of intent by the lessee, and where the sum of the instalments payable by the lessee under the agreement, irrespective of the declaration of intent, is virtually equivalent to the purchase price of the leased asset, including financing costs, constitutes a supply of goods within the meaning of that provision.

International Tax Plaza

Decision

The words ‘contract for hire which provides that in the normal course of events ownership is to pass at the latest upon payment of the final instalment’, used in Article 14(2)(b) of Council Directive 2006/112/EC of 28 November 2006 on the common system of value added tax, must be interpreted as applying to a leasing contract with an option to purchase if it can be inferred from the financial terms of the contract that exercising the option appears to be the only economically rational choice that the lessee will be able to make at the appropriate time if the contract is performed for its full term, which it is for the national court to ascertain.

Summary

The ECJ remains somewhat vague and indicates that Article 14(2)(b) of the VAT Directive should be interpreted as applying to a standard lease with option to purchase when it can be inferred from the financial terms of the agreement that exercising the option in due course proves to be the only economically rational choice for the lessee if the contract is performed until its expiry, which is for the national court to ascertain.

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