On 21 June 2016, the Court of Justice of the European Union (hereafter the Court or the CJEU) gave a ruling on the possibility of deducting input VAT incurred on goods and services used by a Polish branch for the purposes of internal supplies towards its Slovakian head-office. In the case, the Polish branch was registered in Poland for VAT purposes. The activity of the branch consisted mainly in the production of intangibles (software components) for its Slovakian head-office, which the latter then sold in Slovakia with application of VAT. The Polish branch carried out intra-community goods and received services falling within the scope of the reverse-charge mechanism in Poland. It also carried out incidental supplies subject to Polish VAT towards its employees.
The Polish branch requested the recovery of input VAT incurred on the goods and services acquired in Poland. The application of this right was rejected by the Polish VAT authorities, insofar as the branch had no activity falling within the scope of VAT in Poland.
Further to local legal procedure and appeals, the Polish Supreme Administrative Court referred the following question to the CJEU: do articles 168 and 169 a) of the 2006/112/EC Directive (hereafter the VAT Directive) preclude the possibility for the foreign permanent establishment of a company established in a Member State, realising internal operations for its head office, where the latter is established in another Member State, to deduct input VAT in the Member State where it is VAT registered (i.e. Poland in this case) despite the fact that this VAT is related to transactions ultimately performed by the head office in another Member State? In other words, the referring Court asks whether the Polish branch is entitled to deduct the input VAT incurred in Poland on goods and services it has acquired for the purposes of internal operations for its head office established in Slovakia.
Where the answer to a question is sufficiently straightforward or can easily be deducted from the existing case-law, the Court may answer a preliminary ruling based on article 99 of its rules of procedure.
In this case, the CJEU recalled that the right to deduct input VAT is a fundamental principle of the VAT Directive and should not be restricted. Every taxable person should therefore have the right to deduct input VAT incurred on his or her costs, insofar as these transactions relate to an economic activity as defined by article 9 of the VAT Directive (unless a derogation to this deductibility principle would apply).
In the case at stake, the Court emphasised that the Polish branch was not entitled to introduce any refund claim due to the fact that the 8th Directive procedure (ruling the VAT refund for non-established taxable persons) would not apply to the referred situation. Further, according to the Court, considering article 9 of the Directive, the notion of economic activity has to be interpreted broadly: the right to deduct input VAT as provided under article 169 of the VAT Directive should refer to a taxable person considered in its entirety and the effective place of taxation of the supplies it carries out is not relevant when determining the right to deduct input VAT.
Based on these remarks, the Court concluded that a branch primarily realising internal transactions for its head office (which do not constitute economic activities falling within the scope of the VAT) has the right to deduct input VAT in the Member State where it is registered for VAT purposes, when the transactions are used by the head-office for taxable operations.
This order significantly clarifies the relationships between a branch and its head office and the right to deduct input VAT incurred by a permanent establishment / head office for the purposes of internal transactions. Indeed, based on the preceding European case-law (Polysar Investments Netherlands BV, C-60/90 or FCE Bank plc, C-210/04 or LCL C-388/11), and the current case-law in some Member States (for example the Morgan Stanley case rendered by the Cour administrative d’appel de Versailles, 27 January 2015), some doubt could have existed as regards the application of an input VAT deduction right in such situation.
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