ECJ ruling on the standstill clause in cases of exclusion from input VAT deduction

Background

Input VAT deduction is an integral part of the VAT system and may not, in principle, be restricted. Nevertheless, there are expenses which, according to the intention of the VAT Directive, should not give rise to a right to deduct input VAT. Article 176 (1) of the VAT Directive therefore provides that the Council of the EU shall determine which expenses do not allow deducting input VAT. In this context, input VAT deduction is to be excluded in all cases for expenditure that is not strictly business-related, such as luxury, amusements or entertainment.

To date, the Council has not made such a determination. Consequently, until it does so, Member States may, pursuant to Article 176 (2) of the VAT Directive, keep all exclusions that were provided for in their national law on 1 January 1979 or on the date of a Member State’s subsequent accession. The predecessor to the VAT Directive, the Sixth Directive 77/388/EEC, also provided for such a standstill clause.

The Kingdom of Spain joined the European Union on 1 January 1986, and with it the common VAT system. Until then, Spain had had no VAT system with input VAT deduction. In 1985, a corresponding law was therefore enacted to transpose the Sixth Directive, which entered into force on 1 January 1986, i.e. at the same time as accession. Among other things, it provided that input VAT on expenditure for events and services of an entertainment nature, as well as gifts to customers, was not deductible.

Facts and questions referred

Randstad España had, among other things, purchased tickets for football matches and Formula 1 races in order to invite customers to these events free of charge. It claimed input VAT deduction on these expenses despite the aforementioned national grounds for exclusion.

The referring court sought to ascertain whether the standstill clause should be interpreted as meaning that national input VAT exclusions must have existed prior to the Member State’s accession, such that a simultaneous introduction upon accession would not be covered by it. Furthermore, it was to be clarified whether it would be contrary to EU law to deny the right to deduct input VAT even where the expenditure was incurred for a strictly business purpose and was deductible for income tax purposes.

ECJ ruling

The ECJ first notes that the standstill clause in Article 176 (2) of the VAT Directive is not, in principle, intended to allow (future) Member States to introduce or extend national grounds for exclusion upon their accession to the EU. In the present case, however, it must be taken into account that there was no input VAT deduction at all in Spain prior to its accession.

In doing so, the ECJ follows the opinion of the Advocate General, who had provided somewhat clearer reasoning: Spain had not introduced an exclusion from input VAT deduction, but, on the contrary, had reduced the previously existing total exclusion. It would not be reasonable to prohibit new Member States without a VAT system from also establishing grounds for exclusion upon accession and the creation of a VAT system with input VAT deduction, and this would also run counter to the intention of the legislator. The legislator (the Council) had, after all, made it clear in Article 176 (2) of the VAT Directive that there should be no input VAT deduction for expenditure that is not strictly business-related, such as luxury, amusements or entertainment.

The fact that the expenditure in the present case was deductible for income tax purposes is irrelevant, as income tax law pursues different objectives from VAT law.

The ECJ did not address the question whether it would be contrary to EU law to deny input VAT deduction even where the expenditure was incurred for a strictly business purpose. In her opinion, the Advocate General described the question as difficult to comprehend and pointed out that, in accordance with the express intention of the legislator, expenses of this kind preclude input VAT deduction in no circumstances.

Analysis Germany

As Germany already had a VAT system with input VAT deduction and grounds for exclusion prior to its accession to the EU, the questions raised here are irrelevant for this Member State. Expenses that are not deductible for income tax purposes do not (with one exception) entitle the taxpayer to input VAT deduction either, § 15 (1a) of the German Value Added VAT Act (UStG). However, this type of linkage to income tax law does not mean that expenses deductible for income tax purposes automatically entitle the taxpayer to input VAT deduction and are therefore not in conflict with the ECJ ruling.

Author: Nadia Schulte