Transfer Pricing and VAT: will the Court of Justice finally bring clarity?

Context

There is a complex interplay between TP adjustments and VAT, especially since Transfer Pricing focuses on profits at the corporate level, while VAT is applied to individual transactions.

To fall within the scope of VAT, there must be a direct link between a payment and the goods or services received. In other words, if the price of goods or services is adjusted, there are VAT implications at play. For instance, the Court of Justice in the World Comm Trading judgment decided that price adjustments must be fully detailed and reported for VAT purposes (CJEU 28 May 2020, C-684/18, World Comm Trading).

The current case involves "general" TP adjustments that align the profit of an operating company with the activities performed and risks undertaken according to the OECD guidelines on transfer pricing.

The Romanian Case

SC Arcomet Towercranes SRL (“Arcomet RO”) is part of the international Arcomet group and specializes in the rental and sale of tower cranes. Arcomet RO faced a (Romanian) tax audit for the period 2011-2014. The dispute revolved around three "Transfer Pricing" invoices issued by the Belgian parent company of Arcomet RO, Arcomet Service NV (“Arcomet BE”). These invoices resulted from a transfer pricing study conducted by a consultancy firm, intended to adjust profit margins between related parties in accordance with the OECD guidelines for transfer pricing.

In the declaration submitted to the Belgian tax authorities, Arcomet BE initially reported the three invoices as intra-community supplies of goods. Later, in 2015, Arcomet BE corrected the declaration in the original return to "service transactions". In turn, Arcomet RO reported invoices 1 and 2, issued in 2012, as services for which it applied the reverse charge mechanism. It did not declare invoice 3, issued in 2013, because it believed that it related to transactions that fell outside the scope of VAT.

The Romanian tax inspectors argued that the aforementioned adjustment invoices related to management services that Arcomet RO had purchased from Arcomet BE. They requested the submission of evidence showing that the services were actually performed and were necessary for the taxable activities of Arcomet RO. The Romanian tax authorities also exchanged information with their Belgian counterparts about the reporting of the adjustment invoices in VIES. It turns out that the Belgian tax authorities had determined that these invoices concerned a provision of services according to Arcomet BE.

Regarding invoices 1 and 2, for which the reverse charge mechanism was applied, the tax inspectors refused the right to deduct the corresponding VAT but retained the collected VAT (paid under the reverse charge mechanism) with the argument that no provision of service was demonstrated, nor was a necessity shown for these to be performed for taxable transactions.

For invoice 3, the tax inspectors believed it also related to the purchase of services from Arcomet BE. They collected VAT without granting the right to deduction. The reason was the same as for invoices 1 and 2, namely that it was not demonstrated by documents that there was a service provision and that it was performed for the taxable activities of Arcomet RO. It is noteworthy that the Romanian fiscal authorities recognize a service provision but still refuse Arcomet RO the right to VAT deduction because the Romanian legislation apparently requires only the existence of an invoice to exercise the right to VAT deduction.

Arcomet RO went to court to contest the assessment. During the appeal process, the competent court decided to pose preliminary questions to the Court of Justice.

Preliminary Questions

The Romanian judge seeks clarification on Article 2(1)(c), and Articles 168 and 178 of the VAT Directive 2006/112/EC, particularly regarding:

1. The nature of adjustment payments: Should adjustment payments between related enterprises, aligning the profit of an operating company with the activities it has performed and the risks undertaken according to the OECD guidelines, be considered as the compensation for a service subject to VAT? This question examines whether general Transfer Pricing adjustments between related enterprises should be seen as taxable transactions within the scope of VAT.
2. The evidence of the right to VAT deduction: To what extent may the tax authority require additional evidence, on top of the invoice, to demonstrate the use of purchased services for VAT-taxable activities? With this question, the referring judge probes into the evidence of a direct link between the costs and the taxable activity of Arcomet RO. This question should be viewed within the context of Romanian legislation, which apparently requires only an invoice to exercise the right to VAT deduction. However, the inquiry goes further and essentially explores the taxpayer's burden of proof: must they demonstrate the existence and extent of the underlying services? Or is it sufficient to show that the invoices themselves relate to their economic activity?

As is well known, VAT on services under the B2B main rule is payable in the country of the service recipient. A question not yet addressed is whether a company can be considered a recipient of services (to which reverse charge should be applied) if the tax authority assumes that the services are unrelated to its taxable activities. Should VAT be automatically subject to reverse charge when the company in question has received invoices? It would be beneficial if the Court could clarify this issue.

Commentary

This case poses several fundamental questions about the relationship between TP and VAT. Do TP adjustments have an impact on VAT? In this case, the transfer pricing file was prepared for Arcomet BE. Can such information be invoked against the Romanian tax authorities?

While companies typically regard transfer price adjustments mainly as a matter of corporate tax, such adjustments can indeed have a VAT impact. Determining this VAT impact, however, may require an in-depth factual analysis, making it not always clear how to handle these TP adjustments. Nevertheless, a correct assessment is of great importance, as an incorrect estimate can lead to significant VAT reassessments (in the form of incorrectly uncharged VAT or undue VAT deduction).

Hopefully, the Court's ruling will bring more clarity to this matter, which would benefit legal certainty for taxpayers in the future.

To be continued!