On December 22, 2010, the ECJ issued its decision in the case C-103/09 (Weald Leasing).
Context: Sixth VAT Directive – Concept of ‘abusive practice’ – Leasing transactions effected by a group of undertakings to spread the payment of non-deductible VAT
Article in the EU VAT Directive
Article 2(1), 17(2)(a) & 27 of Sixth Council Directive 77/388/EEC (Article 2, 168, 394, 395 of the EU VAT Directive 2006/112/EC)
Article 2(1)
The following shall be subject to [VAT]:
1. the supply of goods or services effected for consideration within the territory of the country by a taxable person acting as such.’
Article 17(2)(a)
In so far as the goods and services are used for the purposes of his taxable transactions, the taxable person shall be entitled to deduct from the tax which he is liable to pay:
(a) [VAT] due or paid within the territory of the country in respect of goods or services supplied or to be supplied to him by another taxable person.’
Article 27
1. The Council, acting unanimously on a proposal from the Commission, may authorise any Member State to introduce special measures for derogation from the provisions of this Directive, in order to simplify the procedure for charging the tax or to prevent certain types of tax evasion or avoidance. Measures intended to simplify the procedure for charging the tax, except to a negligible extent, may not affect the overall amount of tax due at the final consumption stage.
2. A Member State wishing to introduce the measures referred to in paragraph 1 shall inform the Commission of them and shall provide the Commission with all relevant information.
3. The Commission shall inform the other Member States of the proposed measures within one month.
4. The Council’s decision shall be deemed to have been adopted if, within two months of the other Member States being informed as laid down in the previous paragraph, neither the Commission nor any Member State has requested that the matter be raised by the Council.
5. Those Member States which apply on 1 January 1977 special measures of the type referred to in paragraph 1 above may retain them providing they notify the Commission of them before 1 January 1978 and providing that where such derogations are designed to simplify the procedure for charging tax they conform with the requirement laid down in paragraph 1 above.
Facts
- The Churchill Group of Companies (‘the Churchill Group’) predominantly supplies insurance services exempt from VAT.
- Churchill Management Ltd (‘CML’) and its subsidiaries, Churchill Accident Repair Centre (‘CARC’) and Weald Leasing, are members of the Churchill Group.
- CML and CARC have an input VAT recovery rate of about 1%, so that, when they purchase equipment, they may deduct only 1% of the VAT on the purchase of that equipment.
- Weald Leasing’s trading activity consists in purchasing the assets in question and then leasing them out.
- Suas Ltd (‘Suas’) is a company owned by a VAT consultant to the Churchill Group and his wife but is not part of that group. Its only significant trading activity is leasing assets from Weald Leasing and then subleasing them to CML and CARC.
- When CML or CARC needed new equipment, it was purchased by Weald Leasing, which leased it to Suas, which, in its turn, subleased it to CML or CARC.
- By resorting to that series of transactions, CML and CARC avoided having to purchase outright the equipment they needed or to pay in a single sum the total amount of non-deductible VAT on those purchases.
- The aim of those transactions was to divide and spread the payment of that amount in order to defer the Churchill Group’s VAT liability.
- CML and CARC were not immediately liable for the non-deductible VAT on the total cost of the equipment purchased, but on the amount of rent relating to that equipment, spread over the term of the leasing agreements.
- The Commissioners raised VAT assessments disallowing the deduction by Weald Leasing of the input VAT paid on the assets leased between October 2000 and October 2004, on the ground that the transactions at issue were not economic activities and constituted an abuse of rights.
- Weald Leasing appealed against the assessments, arguing that those transactions had not been entered into solely to obtain tax advantages and that making taxable supplies of equipment by means of leasing agreements was not contrary to the purpose of the Sixth Directive.
- After the judgment in Halifax and Others was delivered, the Commissioners abandoned their argument that the leasing transactions at issue were not economic activities and argued only that those transactions constituted an abusive practice.
- By decision of 7 February 2007, the VAT and Duties Tribunal held that the essential aim of those transactions was to obtain a tax advantage, consisting in the deferral of the Churchill Group’s VAT liability through the conclusion of leasing agreements, but that the advantage was not contrary to the relevant provisions of the Sixth Directive.
- The VAT and Duties Tribunal held also that any abuse could only arise not from the leases themselves, but from the level of rentals under the leases and from the arrangements to avoid a Direction from the Commissioners under Schedule 6 to the VAT Act 1994.
- The Commissioners appealed against that decision to the Chancery Division of the High Court of Justice of England and Wales on the ground that the tax advantage obtained by the Churchill Group was contrary to the purpose of the Sixth Directive.
- By judgment of 16 January 2008, the Chancery Division of the High Court of Justice of England and Wales dismissed the Commissioners’ appeal against that decision, on the ground that the fact that the transactions at issue were not carried out in the context of normal commercial operations was not sufficient to conclude that they were an abusive practice, since the tax advantage obtained by the Churchill Group by having recourse to those transactions was not contrary to the principle of fiscal neutrality or to any other provision of the Sixth Directive.
- The Commissioners appealed to the referring court on the ground that the Chancery Division of the High Court of Justice of England and Wales had failed to examine the question whether the leasing transactions at issue were part of the participants’ normal commercial operations. They argued that it would be contrary to the purpose of the Sixth Directive to allow a taxpayer to deduct input VAT secured as a result of transactions which had no genuine commercial purpose, which were not at arm’s length, which did not carry the burdens and risks typically associated with such transactions and which had not taken place as part of the participants’ normal commercial operations.
Questions
- what is the relevance of “normal commercial operations” in the context of paragraphs 74 and 75 of the Judgment in Halifax: is it relevant to paragraph 74 or to paragraph 75 or to both;
- is the reference to “normal commercial
- operations” a reference to:
- operations in which the taxpayer in question typically engages;
- operations in which two or more parties engage at arm’s length;
- operations which are commercially viable;
- operations which create the commercial burdens and risks typically associated with related commercial benefits;
- operations that are not artificial in that they have commercial substance;
- any other type or category of operations?
- to constitute an abusive practice, what is the appropriate redefinition? In particular, should the national court or the tax collecting authority:
- ignore the existence of the intermediate third party and direct that VAT be paid on an open market value of the rentals;
- redefine the leasing structure as an outright purchase; or
- (c) redefine the transactions in any other way which either the court or thetax collecting authority considers to be an appropriate means by which to re-establish the situation that would have prevailed in the absence of the transactions constituting the abusive practice?
AG Opinion
(1) The adoption of an asset leasing structure involving an unrelated third party or a wholly owned subsidiary which is independently registered for value added tax by a largely exempt trader instead of purchasing assets outright in order to defer the payment of irrecoverable tax does not in itself give rise to a tax advantage which is contrary to the purpose of Sixth Council Directive 77/388/EEC of 17 May 1977 on the harmonisation of the laws of the Member States relating to turnover taxes – Common system of value added tax: uniform basis of assessment.
(2) The use of a purely artificial structure essentially designed in order to gain a tax advantage by preventing tax authorities from directing in accordance with the provisions of national law adopted in full compliance with Sixth Directive 77/388 that the value of leasing arrangements between connected persons be taken to be their open market value is an abusive practice.
(3) Where an abusive practice has been found to exist, the transactions involved must be redefined so as to re-establish the situation that would have prevailed in the absence of the transactions constituting that abusive practice. Where a purely artificial structure is adopted in leasing arrangements essentially in order to prevent tax authorities from directing that the value of those arrangements between connected persons be taken to be their open market value, those arrangements should be redefined by ignoring the presence of that structure.
(4) The concept of ‘normal commercial operations’ in the context of value added tax abuse is unrelated to the operations a taxpayer typically or habitually engages in. An assessment of whether a transaction is carried out in the context of ‘normal commercial operations’ refers to the nature of the transaction or scheme in question and whether it is a purely artificial construct established essentially in order to obtain a tax advantage rather than for other commercial reasons. The links of a legal, economic and/or personal nature between the operators involved in the scheme for reduction of the tax burden and thus whether the parties to the transaction operate at arm’s length, the question whether a transaction gives rise to commercial burdens and risks typically associated with such transactions are relevant for the purpose of assessing the nature of the transaction.
Decision
1. The tax advantage accruing from an undertaking’s recourse to asset leasing transactions, such as those at issue in the main proceedings, instead of the outright purchase of those assets, does not constitute a tax advantage the grant of which would be contrary to the purpose of the relevant provisions of Sixth Council Directive 77/388/EEC of 17 May 1977 on the harmonisation of the laws of the Member States relating to turnover taxes – Common system of value added tax: uniform basis of assessment, as amended by Council Directive 95/7/EC of 10 April 1995, and of the national legislation transposing it, provided that the contractual terms of those transactions, particularly those concerned with setting the level of rentals, correspond to arm’s length terms and that the involvement of an intermediate third party company in those transactions is not such as to preclude the application of those provisions, a matter which it is for the national court to determine. The fact that the undertaking does not engage in leasing transactions in the context of its normal commercial operations is irrelevant in that regard.
2. If certain contractual terms of the leasing transactions at issue in the main proceedings, and/or the intervention of an intermediate third party company in those transactions, constituted an abusive practice, those transactions must be redefined so as to re-establish the situation that would have prevailed in the absence of the elements of those contractual terms which were abusive and/or in the absence of the intervention of that company.
Summary
Where an undertaking chooses to lease business assets rather than directly acquiring those assets, this does not lead to a tax advantage granted contrary to the purpose of the Sixth Directive , provided that the contract terms governing these lease transactions, in particular those with regard to the determination of the lease fee, correspond to normal market conditions and the involvement of a third party intermediary in those transactions does not prevent the application of those provisions, which is for the referring court to determine. In this regard, it is immaterial that this company does not engage in leasing activities in the context of its normal commercial transactions.
If certain contractual conditions relating to the lease transactions at issue in the main proceedings and/or the intervention of a third party intermediary in these transactions constitute an abuse, those transactions must be redefined in such a way as to restore the situation as it would have been without the elements of these contractual conditions that constitute abuse and/or without the intervention of this third party.
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