17 June 2022
The recent judgment of the Court of Justice of the European Union (CJEU) in the case of Berlin Chemie has found that the use of staff and technical resources belonging to another entity in an EU member state is potentially capable of creating a fixed establishment of the user in that country for VAT purposes. Despite the UK’s departure from the EU’s VAT system, UK businesses whose trading structures include affiliates in an EU member state may still be affected.
The Berlin Chemie case concerned a German pharmaceutical company that sold its products in various markets, including Romania. Its Romanian subsidiary provided it with local marketing and legal services to promote its products and ensure that they met local regulations to allow distribution in Romania.
The importance of belonging
The subsidiary charged the parent company for its services on a cost-plus basis and treated this supply as outside the scope of Romanian VAT, on the basis that the parent company, its customer, ‘belonged’ in Germany rather than Romania. However, the Romanian tax authority determined that the parent company had a fixed establishment in Romania due to its uninterrupted access to the subsidiary’s resources, such as its staff, computers, operating systems and vehicles. The Romanian tax authority’s view was that the parent company belonged in Romania for purposes of receiving the services from its subsidiary, meaning that the subsidiary should have charged Romanian VAT on them.
Access to resources
In its judgment, the CJEU first noted that the term ‘fixed establishment’ requires a permanent presence of both the human and technical resources necessary to provide or receive services. For such resources to create a fixed establishment, the entity concerned does not have to necessarily own the resources itself but must be able to use them as if they were its own.
However, the CJEU also noted that the resources in this case were also being used by the Romanian subsidiary to supply services to the German parent company. Crucially, in this case, it decided that the same resources could not be used both to provide and receive the same services. On the basis that the resources were primarily used by the subsidiary to provide its marketing and legal services to the parent company, it therefore found that the parent company did not have a fixed establishment in Romania and the services were correctly treated as outside the scope of Romanian VAT as their place of supply was Germany, where the parent company belonged.
Risk of unintended taxable presence
Although the facts in this case meant that Berlin Chemie did not have a fixed establishment in Romania, the decision is important as the CJEU has indicated that the technical and human resources required to establish a VAT fixed establishment of a business do not necessarily have to belong to the business itself. As such, it is possible for the resources of one entity in an EU member state to create a fixed establishment of an affiliated foreign entity. This decision may therefore establish the existence of unintended VAT fixed establishments in EU member states for businesses with foreign affiliates that operate differently to the entities in the Berlin Chemie case. The judgment has not spelled out precisely which trading structures might be affected but could be taken to imply that a business set up in an EU member state solely to sell its affiliate’s products in that country might create a fixed establishment of the affiliate.
While in many cases there may be no net tax at stake, some EU member states may still levy substantial penalties for such errors. Also, due to the short deadlines for submitting claims for refunds of VAT paid in the EU by foreign entities, businesses may find themselves unable to recover any local VAT that should have been charged to them by their local affiliates.
Act now to ensure compliance
Organisations that use the resources of foreign affiliates based in the EU should check how such rights are described in their contracts and compare their circumstances to the findings in Berlin Chemie. In particular, they should consider whether such arrangements give them permanent and uninterrupted access to those resources which cannot be terminated at short notice and whether the services provided by their affiliates are of a different nature to the supplies they make themselves in the affiliate’s territory, working with their professional advisers to identify and manage the consequences.
The case law on VAT and fixed establishments is expected to continue to evolve – next year, the CJEU is due to examine these issues in separate litigation involving a toll manufacturing contract. Businesses with subsidiaries or other affiliates in the EU should watch out for further developments.
For more information, please get in touch with Andy Ilsley or your usual RSM contact.