Netherlands: VAT recovery based on bank’s “actual use method” (opinion of Advocate General to Supreme Court)
Claim for VAT recovery by a bank that sought to base its VAT recovery on a financial analysis of the profit and loss (P&L) per product
Opinion of Advocate General to Supreme Court
The Advocate General to the Dutch Supreme Court (Hoge Raad) on 3 December 2021 issued an opinion in a case concerning a claim for value added tax (VAT) recovery by a bank that sought to base its VAT recovery on a financial analysis of the profit and loss (P&L) per product—that is, a VAT recovery method constituting an “actual use method” for determining the VAT recovery right.
The Advocate General concluded that it is not possible to apply such an actual use method by the bank.
The case is not only relevant for financial institutions, but also for other taxpayers performing VAT-taxed and VAT-exempt services, such as parties in the public sector, education, and healthcare.
The taxpayer, a bank, conducted both VAT-exempt and VAT-taxed services. All the costs incurred by the bank could be regarded as mixed costs. Most of its turnover consists of VAT-exempt interest income, and commission income of which the majority was subject to VAT. The bank had transferred part of its mortgage receivables to separate securitization companies. The interest the bank received on these receivables was passed on to these separate companies.
The taxpayer prepared a financial analysis of the P&L of each product. The costs were apportioned to the various product groups by means of three interval-based allocation formulas (based on time registration, actual products purchased, and proportional distribution). This resulted in an allocation of the bank’s mixed costs to the various product categories.
In its VAT returns, the taxpayer recovered VAT on its mixed costs, in accordance with the turnover-pro rata method without taking account of: (1) the interest expenses paid; (2) the interest received on its notes in the securitization companies; and (3) the interest passed on to the securitization companies. In the appeal proceedings, the taxpayer revised the VAT recovery for the year 2014 and the first three quarters of 2015 by calculating the VAT recovery in accordance with actual use.
The point of law addressed by the Advocate General was whether the Court of Appeals Den Bosch had set the correct requirements for the actual use method. The appeals court held that the VAT recovery calculation on the basis of the P&L per product resulted in a more accurate determination of the VAT recovery than the pro rata on the basis of turnover and was based on (sufficient) objective and accurately determined data.
The Advocate General also briefly addressed the question whether the paid interest expenses were to be deducted from the interest income received when calculating the VAT recovery right and whether the interest that was passed on to the securitization companies must be excluded from the taxpayer’s turnover.
Advocate General’s opinion
The case pending before the Supreme Court involves fundamental matters of principle, which essentially revolve around the question how strictly the VAT recovery based on actual use is to be applied in the Netherlands. The Advocate General’s opinion expressed a belief that the judgment by the Court of Appeals was incorrect and asserted that, on the basis of Dutch rules and Dutch Supreme Court case law, the Court of Appeals ought to have applied a stricter test when assessing the bank’s actual use method.
The Advocate General began the opinion with an explanation about how the Netherlands had implemented the rules from the EU VAT Directive for the purposes of the VAT recovery on mixed costs.
According to EU and Dutch rules, as a starting point, the VAT recovery on mixed costs is calculated on the basis of the turnover method. The VAT Directive permits EU Member States to deviate from this and provides for various other VAT recovery methods to be used. According to the Dutch VAT Act 1968, the VAT recovery must be determined on the basis of actual use if it is plausible that the actual use of the goods and services as a whole does not correspond with the pro rata. The Dutch regulations do not provide for rules on how the VAT recovery on the basis of actual use must be determined.
Discretion by EU Member States and Supreme Court interpretation
The Advocate General asserted that the VAT Directive allows EU Member States a certain degree of discretion and that it is up to the EU Member States to establish methods and criteria for calculating the VAT recovery. The Advocate General observed that it is customary for the Dutch Supreme Court to formulate legal rules where necessary.
In 2006, the Supreme Court held that if the actual use can only be determined by approximation, then it is not possible to deviate from the turnover method. The Supreme Court later clarified this by requiring that the actual use method may only be applied if: (1) it is convincingly demonstrated that the actual use does not correspond with the recovery right calculated in accordance with the pro rata; and (2) the actual use can be determined on the basis of objective and accurate data. The Advocate General examined whether the Dutch Supreme Court’s assessment framework was stricter than that following from case law of the Court of Justice of the European Union (CJEU).
It can be inferred from CJEU case law that the most important requirement is that the calculation of the VAT recovery right in accordance with the actual use method is more accurate that the determination of the recovery right according to the standard method. In Dutch practice, this is perceived as a less stringent requirement than that advocated by the Dutch Supreme Court to date. The Advocate General concluded that insofar as the test would already be stricter, it was permitted.
Tax professionals, however, disagree with these assessments by the Advocate General and agree with the taxpayer that the CJEU advocated a broader interpretation of the actual use rules than the Dutch Supreme Court. The CJEU concluded in several cases that an actual use method may be applied if this results in a more accurate VAT recovery calculation. Therefore, tax professionals believe that the Dutch Supreme Court can no longer maintain the approach it has taken since 2006, in which strict requirements are imposed on the objectivity and accuracy of the actual use method. As the CJEU is a higher court of law, the later judgments of the CJEU ought to prevail.
Some consider it an infringement of the principle of legality if the Dutch Supreme Court imposes a requirement to the detriment of the taxpayer that is stricter than that provided for in the VAT Directive and according to the interpretation given to it by the CJEU. Tax professionals do not see any stricter requirement in the Dutch VAT Act than in the laws of some of the other EU Member States on which the CJEU has held. Insofar as it is possible to stipulate a stricter requirement, it is believed that the Dutch legislature needs to clearly lay this down in rules. However, tax professionals also believe that the Dutch legislature cannot do this either, and that the actual use method—despite the fact that this facility is based on an “optional provision”—must be interpreted in accordance with EU law.
In recent case law, the Dutch Supreme Court chose to adhere to the requirement that actual use must be determined objectively and accurately, without considering the CJEU’s requirement of a “more accurate” method. In doing so, it appears that the Dutch Supreme Court did not or failed to sufficiently consider the CJEU judgments. There may not have been any reason to do so in these recent cases because the primary disputed issues were often different. Some tax professionals believe that in the present case, there are reasons to do so. Insofar as the the position of the Dutch Supreme Court is that its original approach from 2006 is the correct one, it would be a welcome development if the Dutch Supreme Court at the very least allows the CJEU assess this by asking for a preliminary ruling.
Taxpayer’s recovery method
According to the Advocate General, the Court of Appeals wrongly tempered the rules of law for actual use, and thus the Advocate General concluded that it is not possible for the taxpayer to recover VAT on the basis of actual use because the requirements stipulated by the Dutch Supreme Court are not met.
It can be inferred from the Advocate General’s opinion that assumptions and presumptions cannot be relied on, and it seems that this is the reason for not further evaluating the bank’s VAT recovery method. However, what is missing from this analysis is that these assumptions and presumptions were used by a “registered controller” (a certified financial controller in the Netherlands) to, for financial reasons, arrive at a P&L per product. It appears that the latter is an objective and accurately prepared calculation, or at least justifies asking the Court of Appeals who bears responsibility for assessing the factual situation to assess whether this is the case. The Advocate General ignored this point in the opinion. Tax professionals believe that the task of a registered controller can be compared in that sense to the task of a court, whereby a court may have to deal with various presumptions and assumptions and must establish what the facts are in law. The latter then comes with an objective conclusion, despite the fact that various elements were included in the assessment process.
What also stands out is that the Advocate General rejected the taxpayer’s VAT recovery method without proposing to refer the case back to another Court of Appeals (which is standard Dutch procedure) for a further assessment. If the Supreme Court were to follow the Advocate General’s argument that the Court of Appeals did not apply the rules of law correctly, then the case would need to be referred back to a Court of Appeals to assess the case based on the rules of law that according to the Dutch Supreme Court do apply.
Dutch bank decree
The Advocate General also claimed that the application of the “Bank Decree” (no. 282/15703 (9 November 1982), a decree of the Deputy Minister of Finance) means that a VAT recovery on the basis of actual use is not possible. The Bank Decree, which is intended for banks, contains several general provisions and approvals for determining the VAT recovery right, including an approval that the revision of the VAT recovery for the preceding year may take place no later than in the VAT return for the ninth month of the current financial year (instead of the last period of the previous financial year). In addition to this, the Bank Decree contains an approval for calculating the VAT recovery right, with this being conditioned on the recovery calculation being made on the basis of turnover.
The Advocate General asserted that the Bank Decree cannot be applied selectively. As the taxpayer has opted to definitively calculate the VAT recovery right on the foregoing in the ninth month of the current year and to report this in the VAT return for the third quarter of the current year, it was therefore no longer possible to opt for the actual use method.
Tax professionals question whether the approvals in the Bank Decree can only be applied completely and in full. In the case of other tax policy decrees, it appears that taxpayers apply certain approvals and not others, albeit this concerns a more coherent decree on the VAT recovery of banks. In practice, it is customary to report adjustments by banks in the VAT return for the third quarter/September.
Multiple allocation formulas
A question that still remains unanswered is the extent to which a method based on actual use can be refined and whether multiple allocation formulas can be applied.
According to the Advocate General, it is not possible to apply multiple allocation formulas because this method would resemble the recovery calculation according to the sector method, which the Dutch legislature did not implement in Dutch VAT law. Moreover, according to the Advocate General, it follows from Dutch Supreme Court case law that a dual calculation method is not possible.
Tax professionals believe that this last point deserves some nuance. It follows from Dutch Supreme Court case law that the recovery right for mixed costs “as a whole” must be calculated on the basis of turnover on the one hand or actual use on the other. Therefore, this only requires that one method (turnover or actual use) is used and does not preclude the use of various allocation formulas within the actual use method. After all, a prohibition on the latter would be diametrically opposed to the requirement that the actual use must be determined objectively and accurately.
That the Advocate General did not further address this is a missed opportunity because current case law is not clear about this. Moreover, the Advocate General did not further elaborate on the conclusion of the Court of Appeals that the taxpayer’s method fits within the doctrine that follows from the CJEU judgment in the Morgan Stanley case (January 24, 2018, C-165/17). This judgment suggests that application of multiple allocation formulas can even be an obligation.
Other disputed issues
The Advocate General proposes, on the basis of a very brief analysis, that the question whether the paid interest expenses are to be deducted from the received interest income when calculating the recovery right and whether the interest that is passed on to the securitization companies must be excluded from the taxpayer’s turnover, is to be settled by invoking Section 81(1) Judiciary (Organization) Act (Wet op de rechterlijke organisatie), in which case, the Dutch Supreme Court would settle the case without any substantive assessment.
The Advocate General’s opinion is probably disappointing for various market parties. EU case law has long offered more scope than Dutch case law for applying a recovery method based on actual use instead of the standard turnover pro rata method. It, of course, remains to be seen whether the Dutch Supreme Court will follow the opinion of the Advocate General. If it does, the bar for taxpayers to apply a VAT recovery calculation on the basis of actual use will be set very high. In practice, this could mean that market parties will automatically revert to a rigid and rough VAT recovery calculation based on turnover ratios. Tax professionals consider this to be an undesirable outcome, particularly in cases when it is evident that the actual use of the mixed costs does not correspond to the turnover ratios. Moreover, this could create an imbalanced situation in which— in the Dutch domestic situation—parties are dependent on a VAT recovery method based on turnover, while— in the international context—taxpayers can arrive at a more balanced and reasonable VAT recovery on the basis of principles following, for example, from the CJEU judgment in the Morgen Stanley case (January 24, 2019, C-165/17).
The views on the Dutch Bank Decree are also relevant for various market parties. If the Dutch Supreme Court were to follow the Advocate General’s opinion, the Bank Decree can only be applied completely and in full. In this situation, market parties would have to reconsider whether they are to apply the Bank Decree.
With regard to the other disputed issues, taxpayers would not like to derive a general effect from the Advocate General’s proposal to settle this by invoking Section 81(1) Judiciary (Organization) Act.
It is clear from this case that a lot can be at stake financially, particularly for enterprises in the financial sector. If the Dutch Supreme Court does not follow the Advocate General’s opinion and reaches another conclusion, tax professionals suspect that the Dutch tax authorities will regard that as a change in case law. That would be advantageous for the Dutch practice. For the past that means that taxpayers can only invoke this with retroactive effect if they have preserved their rights.
Taxpayers need to consider taking action to preserve their rights. For taxpayers that on the basis of the Bank Decree, have included the definitive pro rata calculation for 2020 in the VAT return for the third quarter/September 2021, the formal notice of objection deadline will probably expire in the first half of December (this is normally six weeks from the payment of VAT in the VAT return for the third quarter/September). Although the Advocate General concluded that it is not possible to apply an actual use method if a taxpayer opts to make the pro rata adjustment in the VAT return for the third quarter/September of the following year in accordance with the Bank Decree, it may be prudent to submit a notice of objection in anticipation of the Supreme Court judgment. This is, in principle, the only way to possibly retain a formal opening for the year 2020.
If it is advantageous to apply an actual use method for 2021, taxpayers need to consider including either the VAT recovery adjustment for this in the last VAT return for the year or promptly submitting a notice of objection against this VAT return. In addition to a taxpayer’s preferences and the relationship with the Dutch tax authorities, it is important for procedural law purposes whether the VAT return results in VAT being payable or in a VAT refund. In any case, for purposes of the VAT recovery position in 2021, it may be important not to wait until the VAT return for the third quarter/September 2022, but to submit a notice of objection against the (payment of VAT in the) VAT return for the fourth quarter/December 2021.
Read a December 2021 report prepared by the KPMG member firm in the Netherlands
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