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VAT Focus n° 1 - Janvier 2006 (en anglais)



1.1 Outsourcing: a Way of Optimisation

In its Opinion on the Commission’s Green Paper on Financial Services Policy (2005-2010) COM(2005) 177 final, the European Economic and Social Committee (EESC) stressed that since the adoption of the 6th VAT Directive, the lack of neutrality of the VAT treatment of financial services and the absence of legal certainty have become problematic. In addition, the Expert Group on Banking has pointed out that “a less punitive application of VAT on outsourcing is a key condition for a further integration of 'upstream' functions in 'centres of excellence' that will provide horizontal services to different parts of EU banking groups”.

Indeed, concerning data handling of transfers and payments, the ECJ’s criteria for VAT exemption in the SDC case could be summed up by saying that transactions concerning transfers and payments include operations carried out by a data-handling centre if those operations are distinct in character and are specific to, and essential for, the exempt transactions. However two recent cases in the sector of funds management need to be taken into account when making an overall analysis concerning VAT taxation of financial transactions (analogical reasoning via Article 13 B (d) (6) of the 6th VAT Directive). In the Banque Bruxelles Lambert (BBL) case, the Advocate General, Mr Poiares Maduro gave a ‘narrow opinion’, proposing a condition based on a sufficient financial and legal commitment or involvement. However there was no reversal of the SDC case-law, insofar as the ECJ rendered its decision without having to respond to this specific query. Another recent ECJ precedent should keep the SDC case-law intact, as in a recent and still pending case, Abbey National plc and Inscape Investment Fund, the Advocate General, Mrs Kokott reverted to the SDC criteria, as she proposed in her opinion that services provided by a depositary are exempt from VAT under Article 13 B (d) (6) of the 6th VAT Directive if the focus of those services is not on activities of safekeeping and administration within the meaning of Article 13 B (d) (5) of the 6th VAT Directive. Moreover, Mrs Kokott concluded that services provided by an external manager in the form of administrative operations in the management of the fund are exempt from value added tax under Article 13 B (d) (6) of the 6th VAT Directive if they form a distinct whole and are essential for and specific to the management of the common fund or investment company.

Action: the outsourcing companies should examine the possibility to consider that some of their services are VAT exempt, in order to increase their margin and/or to improve the attractiveness of their services .

1.2 Restructuring: Case-law ensuring VAT recovery (Judgements of 13 April 2005 and 8 July 2005)

Following the solutions adopted in other Member States, the Paris administrative court ruled that a mixed holding company may deduct input VAT on supplies in connection with the sale of securities held for long-term purposes.

Although the sale does not itself come within the scope of the VAT system, the supplies in question have a direct and immediate link with the whole economic activity of the taxable person.

The Paris administrative court has also specified that it is possible to deduct 100% of the input VAT (without applying the VAT deduction ratio) if the taxable person can establish that the costs of services purchased in connection with the operation constitute components of the price of its products.

It is important to stress that this solution is not in line with the French tax authorities’ position. Indeed the French tax administration adopts a very strict position and only allows taxable persons to deduct VAT concerning expenses linked to the acquisition of shares (BOI 3 A-01-06 N°2, 10 January 2006).

Action : mixed holding companies should examine each sale of securities in order to determine if it is appropriate to take an aggressive strategy and deduct the input VAT.

1.3 Incidental transactions: The New Definition

The definition of “incidental transactions” is fundamental to determining whether exempt financial transactions can be excluded from the denominator of the VAT deduction ratio.

In the recent Portuguese case of EDM (C-77/01, Fifth Chamber, 29 April 2004), the ECJ held that, in calculating the deductible proportion of input VAT pursuant to Articles 17 and 19 of the 6th VAT Directive 77/388, exempt financial transactions are to be regarded as “incidental transactions” within the meaning of the second sentence of Article 19(2) thereof insofar as they involve only very limited use of assets or services subject to VAT.

The decree of 26 December 2005 modified the French definition of “incidental transactions” in order to make it compatible with the 6th VAT Directive.

According to the new provisions of Article 212, Appendix II of the French Tax Code the following should be considered as “incidental transactions”:

- financial transactions which are linked to the main activity of the taxable person; and
- financial transactions which do not entail more than 10% of the use of goods and services subject to VAT.

The French administrative doctrine (BOI 3 A-01-06 No. 2, 10 January 2006) defines the implementation of Article 212, Appendix II of the French Tax Code.

Action: In practice, this provision seems favourable to the taxpayer with financial products, as it allows him to improve the VAT deduction right. However, the benefit of such an action may be limited because of the wages tax (in particular, for holding companies carrying out commercial and financial activities and employing a significant staff). Accordingly, an analysis of each situation is necessary before excluding any incidental financial transaction from the VAT deduction ratio.

1.4 VAT Sectors in the Banking Area (Judgement of 14 January 2005, Conseil d’Etat (French Supreme Administrative Court))

Banque Bruxelles Lambert (later taken over by ING Bank) had put in place a separate sector for its chargeable activity, whereas its banking activities are not subject to VAT (exempt). This sector dealt with rental of computer equipment and electronic payment terminals.

As a consequence, the bank deducted the whole of the VAT charged on rental assets, according to article 213, Appendix II of the French Tax Code. Article 213 provides that if a taxable person has several separate sectors which are not subject to the same regime regarding VAT, these sectors bring about separate VAT deductions.

The French Tax authorities challenged the ability to put in place separate sectors and according to them, Banque Bruxelles Lambert should have applied a general deduction ratio, according to article 212, Appendix II of the French Tax Code.

On 10 July 2002, the Paris Administrative Court of Appeal considered that the main purpose of the rental of computer equipment and electronic payment terminals is to improve banking services. As a result, these two activities are complementary and cannot be divided into two different VAT sectors (in the exempt banking sector).

The bank lodged an appeal with the Conseil d'Etat. Before the Conseil d'Etat could analyze the issue, the French Tax Authorities decided to cancel the reassessment, i.e. they accepted that two sectors could be created. Consequently, the Conseil d'Etat acknowledged this cancellation.

1.5 Investment funds & VAT option: New Rules – Greater Flexibility

The amended French Finance Bill for 2004 provides for three main changes related to financial services. The French tax authorities published public notice No. 3 L-3-05 on 3 August 2005 explaining these amendments and have made additional comments.

1. Amendment of Article 260B of the French Tax Code:

Article 260 B provides that the option for payment of VAT on specific VAT exempt services is now revocable (previously, it was irrevocable), as from 1st January 2005, for a five-year period under certain conditions.

2. Amendment of Article 260 C of the French Tax Code:

Article 260 C provides that the commission relating to the issuing and placement of shares will no longer benefit from the option for payment of VAT as from 1st January 2005.

3. Amendment of Article 261 C of the French Tax Code:

Article 261C confirms that, as from 1st July 2005, all management funds, including investment funds, are exempt from French VAT (i.e., the same regime applies for both Investment Funds and SICAVs (UCITS): exemption with the ability to opt for the payment of VAT).

2. Tax Litigations: French Government vs. Check & Balances Principles

The Finance Bill for 2006 creates a procedural novelty which affects the rights and guarantees available to taxpayers in case of litigation for non-compliance with a superior rule of law. This change will be provided for by article L 190 of the French Tax Procedure Code.

Prior to the adoption of the Finance Bill, the taxpayer benefited from a special time period, as an exception to that provided by ordinary law, enabling him to apply for the refund of the taxes paid during the four years prior to the judicial decision that highlighted the non-compliance.

Under the Finance Bill for 2006, when it appears that a French tax provision violates a superior rule of law, taxpayers would be able to claim a refund only for the three years preceding the date of the decision (rather than four years, as was the case in the past).

Initially, the draft Finance Bill provided that it would only be possible to introduce a claim for the two years preceding the date of the decision.

Action: It is suggested that the litigation for non-compliance with a superior rule of law should be initiated. This will make it possible to avoid implementation of the specific limitation provided for by article L 190 of the French Tax Procedure Code.

3. Sales with installation in France: Option for simplification

Article 94 of the amended Financial Bill for 2005 amends Article 283 of the French Tax Code. It provides that, from 1st September 2006, where the delivery of goods or the supply of services is carried out by a taxable person established outside France, VAT is paid by the buyer or the recipient registered for VAT purposes in France (the reverse charge mechanism).

This provision implements Article 21-1 a of the 6th EU directive (many other Member States have already implemented the simplification provided for by Article 21-1 a).

This provision extends the situations where the reverse charge mechanism applies. The reverse charge mechanism was already applied for intra-community transport of goods, intangible services and certain services rendered by intermediaries. As from 1st September 2006, French tax will be due by the recipient in particular for services connected with real property and services relating to cultural, artistic, sporting, scientific, educational, entertainment or similar activities.

This simplification will apply to sales with installation and, as a consequence, would avoid the registration for VAT in France of a provider established outside France. It appears to be applicable within the EU without any problem. For sales with installation carried out by providers established outside the EU, some comments are expected regarding the customs obligations in such a situation (risk of penalization for non EU importers?).

4. French administrative doctrine concerning VAT: News & Drafts

4.1 News

French Administrative doctrine

BOI 3 A-01-06 N°2, 10 January 2006 ‘Incidental operations’ & Decree No. 2005-1648, 26 December 2005 amending article 212, App. II of the French tax code
In light of the recent ECJ case-law (see our above comments on the EDM case), the French authorities provide French taxpayers with further details: the definition of ‘incidental transactions’ makes it possible to determine whether exempt financial transactions can be excluded from the denominator of the VAT deduction ratio. The classification of incidental operations is given to financial operations provided that:
- the financial transactions are linked to the main activity of the taxable person and
- the financial transactions do not entail more than 10% of the use of goods and services subject to VAT.

***
BOI 3 L-3-05 N°134, 3 August 2005 ‘Investment Funds & VAT option’
See above in the News section: ‘Investment Funds & VAT option: New Rules – More Flexibility’

4.2 Drafts

French Administrative doctrine

Drafts concerning the Travel Agents’ margin regime

This draft comments the TA margin regime and inter alia the undisclosed Agents’ regime for TA v. the Disclosed Agents’ regime for TA.

***
Drafts concerning rationalisation of the right of deduction

The French authorities are processing a new mathematical way of calculating the right of deduction in complicated situations.

5. VAT ECJ Diary

ECJ Diary

u[ FROM 16 JANUARY TO 3 FEBRUARY 2006 ]u

u[ EUROPEAN COURT OF JUSTICE ]u

Thursday 19 January - L.u.p. - Hearing C-106/05

Do Article 13 A(1)(b) and (2) of the Sixth Council Directive 77/388/EEC of 17 May 1977 on the harmonisation of the laws of the Member States relating to turnover taxes allow for the tax exemption for medical laboratory tests ordered by general practitioners to be made subject to the conditions specified in those provisions, even where medical care by such practitioners is exempt from taxation in any event?

Thursday 19 January - Commission v. Luxembourg - Judgment C-90/05

By not observing the six-month period for refunds of VAT to taxable persons established within the country, did the Grand Duchy of Luxembourg fail to fulfil its obligations under Article 7(4) of Eighth Council Directive 79/1072/EEC of 6 December 1979?

Thursday 2 February - United Utilities - Hearing C-89/05

Does the exemption for betting laid down in Article 13B(f) of the EC Sixth Council Directive of 17th May 1977 (Directive 77/388/EEC) apply where a person ("the Agent") provides services on behalf of another person ("the Principal") of accepting bets from customers and communicating their acceptance by the Principal to customers where:- (a) the actions of the Agent perform a necessary step in creating the legal relationship of a bet between the Principal and its customer and thereby consummate the betting transaction; but (b) the Agent makes no decisions as to the setting of odds, the odds being set by the Principal or in some cases determined by third parties under the rules of the sport in question; and (c) the Agent decides whether or not to accept bets on behalf of the Principal in accordance with criteria laid down by the Principal so that the Agent has no discretion?
 
VAT Focus n° 1 - Janvier 2006 (en anglais)
20 Janvier 2006
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u[ FROM 16 JANUARY TO 3 FEBRUARY 2006 ]u

u[ EUROPEAN COURT OF JUSTICE ]u

Thursday 19 January - L.u.p. - Hearing C-106/05

Do Article 13 A(1)(b) and (2) of the Sixth Council Directive 77/388/EEC of 17 May 1977 on the harmonisation of the laws of the Member States relating to turnover taxes allow for the tax exemption for medical laboratory tests ordered by general practitioners to be made subject to the conditions specified in those provisions, even where medical care by such practitioners is exempt from taxation in any event?

Thursday 19 January - Commission v. Luxembourg - Judgment C-90/05

By not observing the six-month period for refunds of VAT to taxable persons established within the country, did the Grand Duchy of Luxembourg fail to fulfil its obligations under Article 7(4) of Eighth Council Directive 79/1072/EEC of 6 December 1979?

Thursday 2 February - United Utilities - Hearing C-89/05

Does the exemption for betting laid down in Article 13B(f) of the EC Sixth Council Directive of 17th May 1977 (Directive 77/388/EEC) apply where a person ("the Agent") provides services on behalf of another person ("the Principal") of accepting bets from customers and communicating their acceptance by the Principal to customers where:- (a) the actions of the Agent perform a necessary step in creating the legal relationship of a bet between the Principal and its customer and thereby consummate the betting transaction; but (b) the Agent makes no decisions as to the setting of odds, the odds being set by the Principal or in some cases determined by third parties under the rules of the sport in question; and (c) the Agent decides whether or not to accept bets on behalf of the Principal in accordance with criteria laid down by the Principal so that the Agent has no discretion?
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French Administrative doctrine

BOI 3 A-01-06 N°2, 10 January 2006 ‘Incidental operations’ & Decree No. 2005-1648, 26 December 2005 amending article 212, App. II of the French tax code
In light of the recent ECJ case-law (see our above comments on the EDM case), the French authorities provide French taxpayers with further details: the definition of ‘incidental transactions’ makes it possible to determine whether exempt financial transactions can be excluded from the denominator of the VAT deduction ratio. The classification of incidental operations is given to financial operations provided that:
- the financial transactions are linked to the main activity of the taxable person and
- the financial transactions do not entail more than 10% of the use of goods and services subject to VAT.

***
BOI 3 L-3-05 N°134, 3 August 2005 ‘Investment Funds & VAT option’
See above in the News section: ‘Investment Funds & VAT option: New Rules – More Flexibility’

4.2 Drafts

French Administrative doctrine

Drafts concerning the Travel Agents’ margin regime

This draft comments the TA margin regime and inter alia the undisclosed Agents’ regime for TA v. the Disclosed Agents’ regime for TA.

***
Drafts concerning rationalisation of the right of deduction

The French authorities are processing a new mathematical way of calculating the right of deduction in complicated situations.
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This provision implements Article 21-1 a of the 6th EU directive (many other Member States have already implemented the simplification provided for by Article 21-1 a).

This provision extends the situations where the reverse charge mechanism applies. The reverse charge mechanism was already applied for intra-community transport of goods, intangible services and certain services rendered by intermediaries. As from 1st September 2006, French tax will be due by the recipient in particular for services connected with real property and services relating to cultural, artistic, sporting, scientific, educational, entertainment or similar activities.

This simplification will apply to sales with installation and, as a consequence, would avoid the registration for VAT in France of a provider established outside France. It appears to be applicable within the EU without any problem. For sales with installation carried out by providers established outside the EU, some comments are expected regarding the customs obligations in such a situation (risk of penalization for non EU importers?).
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Prior to the adoption of the Finance Bill, the taxpayer benefited from a special time period, as an exception to that provided by ordinary law, enabling him to apply for the refund of the taxes paid during the four years prior to the judicial decision that highlighted the non-compliance.

Under the Finance Bill for 2006, when it appears that a French tax provision violates a superior rule of law, taxpayers would be able to claim a refund only for the three years preceding the date of the decision (rather than four years, as was the case in the past).

Initially, the draft Finance Bill provided that it would only be possible to introduce a claim for the two years preceding the date of the decision.

Action: It is suggested that the litigation for non-compliance with a superior rule of law should be initiated. This will make it possible to avoid implementation of the specific limitation provided for by article L 190 of the French Tax Procedure Code.
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In its Opinion on the Commission’s Green Paper on Financial Services Policy (2005-2010) COM(2005) 177 final, the European Economic and Social Committee (EESC) stressed that since the adoption of the 6th VAT Directive, the lack of neutrality of the VAT treatment of financial services and the absence of legal certainty have become problematic. In addition, the Expert Group on Banking has pointed out that “a less punitive application of VAT on outsourcing is a key condition for a further integration of 'upstream' functions in 'centres of excellence' that will provide horizontal services to different parts of EU banking groups”.

Indeed, concerning data handling of transfers and payments, the ECJ’s criteria for VAT exemption in the SDC case could be summed up by saying that transactions concerning transfers and payments include operations carried out by a data-handling centre if those operations are distinct in character and are specific to, and essential for, the exempt transactions. However two recent cases in the sector of funds management need to be taken into account when making an overall analysis concerning VAT taxation of financial transactions (analogical reasoning via Article 13 B (d) (6) of the 6th VAT Directive). In the Banque Bruxelles Lambert (BBL) case, the Advocate General, Mr Poiares Maduro gave a ‘narrow opinion’, proposing a condition based on a sufficient financial and legal commitment or involvement. However there was no reversal of the SDC case-law, insofar as the ECJ rendered its decision without having to respond to this specific query. Another recent ECJ precedent should keep the SDC case-law intact, as in a recent and still pending case, Abbey National plc and Inscape Investment Fund, the Advocate General, Mrs Kokott reverted to the SDC criteria, as she proposed in her opinion that services provided by a depositary are exempt from VAT under Article 13 B (d) (6) of the 6th VAT Directive if the focus of those services is not on activities of safekeeping and administration within the meaning of Article 13 B (d) (5) of the 6th VAT Directive. Moreover, Mrs Kokott concluded that services provided by an external manager in the form of administrative operations in the management of the fund are exempt from value added tax under Article 13 B (d) (6) of the 6th VAT Directive if they form a distinct whole and are essential for and specific to the management of the common fund or investment company.

Action: the outsourcing companies should examine the possibility to consider that some of their services are VAT exempt, in order to increase their margin and/or to improve the attractiveness of their services .

1.2 Restructuring: Case-law ensuring VAT recovery (Judgements of 13 April 2005 and 8 July 2005)

Following the solutions adopted in other Member States, the Paris administrative court ruled that a mixed holding company may deduct input VAT on supplies in connection with the sale of securities held for long-term purposes.

Although the sale does not itself come within the scope of the VAT system, the supplies in question have a direct and immediate link with the whole economic activity of the taxable person.

The Paris administrative court has also specified that it is possible to deduct 100% of the input VAT (without applying the VAT deduction ratio) if the taxable person can establish that the costs of services purchased in connection with the operation constitute components of the price of its products.

It is important to stress that this solution is not in line with the French tax authorities’ position. Indeed the French tax administration adopts a very strict position and only allows taxable persons to deduct VAT concerning expenses linked to the acquisition of shares (BOI 3 A-01-06 N°2, 10 January 2006).

Action : mixed holding companies should examine each sale of securities in order to determine if it is appropriate to take an aggressive strategy and deduct the input VAT.

1.3 Incidental transactions: The New Definition

The definition of “incidental transactions” is fundamental to determining whether exempt financial transactions can be excluded from the denominator of the VAT deduction ratio.

In the recent Portuguese case of EDM (C-77/01, Fifth Chamber, 29 April 2004), the ECJ held that, in calculating the deductible proportion of input VAT pursuant to Articles 17 and 19 of the 6th VAT Directive 77/388, exempt financial transactions are to be regarded as “incidental transactions” within the meaning of the second sentence of Article 19(2) thereof insofar as they involve only very limited use of assets or services subject to VAT.

The decree of 26 December 2005 modified the French definition of “incidental transactions” in order to make it compatible with the 6th VAT Directive.

According to the new provisions of Article 212, Appendix II of the French Tax Code the following should be considered as “incidental transactions”:

- financial transactions which are linked to the main activity of the taxable person; and
- financial transactions which do not entail more than 10% of the use of goods and services subject to VAT.

The French administrative doctrine (BOI 3 A-01-06 No. 2, 10 January 2006) defines the implementation of Article 212, Appendix II of the French Tax Code.

Action: In practice, this provision seems favourable to the taxpayer with financial products, as it allows him to improve the VAT deduction right. However, the benefit of such an action may be limited because of the wages tax (in particular, for holding companies carrying out commercial and financial activities and employing a significant staff). Accordingly, an analysis of each situation is necessary before excluding any incidental financial transaction from the VAT deduction ratio.

1.4 VAT Sectors in the Banking Area (Judgement of 14 January 2005, Conseil d’Etat (French Supreme Administrative Court))

Banque Bruxelles Lambert (later taken over by ING Bank) had put in place a separate sector for its chargeable activity, whereas its banking activities are not subject to VAT (exempt). This sector dealt with rental of computer equipment and electronic payment terminals.

As a consequence, the bank deducted the whole of the VAT charged on rental assets, according to article 213, Appendix II of the French Tax Code. Article 213 provides that if a taxable person has several separate sectors which are not subject to the same regime regarding VAT, these sectors bring about separate VAT deductions.

The French Tax authorities challenged the ability to put in place separate sectors and according to them, Banque Bruxelles Lambert should have applied a general deduction ratio, according to article 212, Appendix II of the French Tax Code.

On 10 July 2002, the Paris Administrative Court of Appeal considered that the main purpose of the rental of computer equipment and electronic payment terminals is to improve banking services. As a result, these two activities are complementary and cannot be divided into two different VAT sectors (in the exempt banking sector).

The bank lodged an appeal with the Conseil d'Etat. Before the Conseil d'Etat could analyze the issue, the French Tax Authorities decided to cancel the reassessment, i.e. they accepted that two sectors could be created. Consequently, the Conseil d'Etat acknowledged this cancellation.

1.5 Investment funds & VAT option: New Rules – Greater Flexibility

The amended French Finance Bill for 2004 provides for three main changes related to financial services. The French tax authorities published public notice No. 3 L-3-05 on 3 August 2005 explaining these amendments and have made additional comments.

1. Amendment of Article 260B of the French Tax Code:

Article 260 B provides that the option for payment of VAT on specific VAT exempt services is now revocable (previously, it was irrevocable), as from 1st January 2005, for a five-year period under certain conditions.

2. Amendment of Article 260 C of the French Tax Code:

Article 260 C provides that the commission relating to the issuing and placement of shares will no longer benefit from the option for payment of VAT as from 1st January 2005.

3. Amendment of Article 261 C of the French Tax Code:

Article 261C confirms that, as from 1st July 2005, all management funds, including investment funds, are exempt from French VAT (i.e., the same regime applies for both Investment Funds and SICAVs (UCITS): exemption with the ability to opt for the payment of VAT). [align] => right [html] => non [caption] => [lien_externe] => [lien_externe_type] => [thumbnail] => 0 [bgcolor] => [bordure] => [breakafter] => [position] => 13 [photo] => none [photo_old_path] => none ) [results] => 5 [stat] => ok [generated_in] => 0.16 )
ECJ Diary

u[ FROM 16 JANUARY TO 3 FEBRUARY 2006 ]u

u[ EUROPEAN COURT OF JUSTICE ]u

Thursday 19 January - L.u.p. - Hearing C-106/05

Do Article 13 A(1)(b) and (2) of the Sixth Council Directive 77/388/EEC of 17 May 1977 on the harmonisation of the laws of the Member States relating to turnover taxes allow for the tax exemption for medical laboratory tests ordered by general practitioners to be made subject to the conditions specified in those provisions, even where medical care by such practitioners is exempt from taxation in any event?

Thursday 19 January - Commission v. Luxembourg - Judgment C-90/05

By not observing the six-month period for refunds of VAT to taxable persons established within the country, did the Grand Duchy of Luxembourg fail to fulfil its obligations under Article 7(4) of Eighth Council Directive 79/1072/EEC of 6 December 1979?

Thursday 2 February - United Utilities - Hearing C-89/05

Does the exemption for betting laid down in Article 13B(f) of the EC Sixth Council Directive of 17th May 1977 (Directive 77/388/EEC) apply where a person ("the Agent") provides services on behalf of another person ("the Principal") of accepting bets from customers and communicating their acceptance by the Principal to customers where:- (a) the actions of the Agent perform a necessary step in creating the legal relationship of a bet between the Principal and its customer and thereby consummate the betting transaction; but (b) the Agent makes no decisions as to the setting of odds, the odds being set by the Principal or in some cases determined by third parties under the rules of the sport in question; and (c) the Agent decides whether or not to accept bets on behalf of the Principal in accordance with criteria laid down by the Principal so that the Agent has no discretion?
4.1 News

French Administrative doctrine

BOI 3 A-01-06 N°2, 10 January 2006 ‘Incidental operations’ & Decree No. 2005-1648, 26 December 2005 amending article 212, App. II of the French tax code
In light of the recent ECJ case-law (see our above comments on the EDM case), the French authorities provide French taxpayers with further details: the definition of ‘incidental transactions’ makes it possible to determine whether exempt financial transactions can be excluded from the denominator of the VAT deduction ratio. The classification of incidental operations is given to financial operations provided that:
- the financial transactions are linked to the main activity of the taxable person and
- the financial transactions do not entail more than 10% of the use of goods and services subject to VAT.

***
BOI 3 L-3-05 N°134, 3 August 2005 ‘Investment Funds & VAT option’
See above in the News section: ‘Investment Funds & VAT option: New Rules – More Flexibility’

4.2 Drafts

French Administrative doctrine

Drafts concerning the Travel Agents’ margin regime

This draft comments the TA margin regime and inter alia the undisclosed Agents’ regime for TA v. the Disclosed Agents’ regime for TA.

***
Drafts concerning rationalisation of the right of deduction

The French authorities are processing a new mathematical way of calculating the right of deduction in complicated situations.
Article 94 of the amended Financial Bill for 2005 amends Article 283 of the French Tax Code. It provides that, from 1st September 2006, where the delivery of goods or the supply of services is carried out by a taxable person established outside France, VAT is paid by the buyer or the recipient registered for VAT purposes in France (the reverse charge mechanism).

This provision implements Article 21-1 a of the 6th EU directive (many other Member States have already implemented the simplification provided for by Article 21-1 a).

This provision extends the situations where the reverse charge mechanism applies. The reverse charge mechanism was already applied for intra-community transport of goods, intangible services and certain services rendered by intermediaries. As from 1st September 2006, French tax will be due by the recipient in particular for services connected with real property and services relating to cultural, artistic, sporting, scientific, educational, entertainment or similar activities.

This simplification will apply to sales with installation and, as a consequence, would avoid the registration for VAT in France of a provider established outside France. It appears to be applicable within the EU without any problem. For sales with installation carried out by providers established outside the EU, some comments are expected regarding the customs obligations in such a situation (risk of penalization for non EU importers?).
The Finance Bill for 2006 creates a procedural novelty which affects the rights and guarantees available to taxpayers in case of litigation for non-compliance with a superior rule of law. This change will be provided for by article L 190 of the French Tax Procedure Code.

Prior to the adoption of the Finance Bill, the taxpayer benefited from a special time period, as an exception to that provided by ordinary law, enabling him to apply for the refund of the taxes paid during the four years prior to the judicial decision that highlighted the non-compliance.

Under the Finance Bill for 2006, when it appears that a French tax provision violates a superior rule of law, taxpayers would be able to claim a refund only for the three years preceding the date of the decision (rather than four years, as was the case in the past).

Initially, the draft Finance Bill provided that it would only be possible to introduce a claim for the two years preceding the date of the decision.

Action: It is suggested that the litigation for non-compliance with a superior rule of law should be initiated. This will make it possible to avoid implementation of the specific limitation provided for by article L 190 of the French Tax Procedure Code.
1.1 Outsourcing: a Way of Optimisation

In its Opinion on the Commission’s Green Paper on Financial Services Policy (2005-2010) COM(2005) 177 final, the European Economic and Social Committee (EESC) stressed that since the adoption of the 6th VAT Directive, the lack of neutrality of the VAT treatment of financial services and the absence of legal certainty have become problematic. In addition, the Expert Group on Banking has pointed out that “a less punitive application of VAT on outsourcing is a key condition for a further integration of 'upstream' functions in 'centres of excellence' that will provide horizontal services to different parts of EU banking groups”.

Indeed, concerning data handling of transfers and payments, the ECJ’s criteria for VAT exemption in the SDC case could be summed up by saying that transactions concerning transfers and payments include operations carried out by a data-handling centre if those operations are distinct in character and are specific to, and essential for, the exempt transactions. However two recent cases in the sector of funds management need to be taken into account when making an overall analysis concerning VAT taxation of financial transactions (analogical reasoning via Article 13 B (d) (6) of the 6th VAT Directive). In the Banque Bruxelles Lambert (BBL) case, the Advocate General, Mr Poiares Maduro gave a ‘narrow opinion’, proposing a condition based on a sufficient financial and legal commitment or involvement. However there was no reversal of the SDC case-law, insofar as the ECJ rendered its decision without having to respond to this specific query. Another recent ECJ precedent should keep the SDC case-law intact, as in a recent and still pending case, Abbey National plc and Inscape Investment Fund, the Advocate General, Mrs Kokott reverted to the SDC criteria, as she proposed in her opinion that services provided by a depositary are exempt from VAT under Article 13 B (d) (6) of the 6th VAT Directive if the focus of those services is not on activities of safekeeping and administration within the meaning of Article 13 B (d) (5) of the 6th VAT Directive. Moreover, Mrs Kokott concluded that services provided by an external manager in the form of administrative operations in the management of the fund are exempt from value added tax under Article 13 B (d) (6) of the 6th VAT Directive if they form a distinct whole and are essential for and specific to the management of the common fund or investment company.

Action: the outsourcing companies should examine the possibility to consider that some of their services are VAT exempt, in order to increase their margin and/or to improve the attractiveness of their services .

1.2 Restructuring: Case-law ensuring VAT recovery (Judgements of 13 April 2005 and 8 July 2005)

Following the solutions adopted in other Member States, the Paris administrative court ruled that a mixed holding company may deduct input VAT on supplies in connection with the sale of securities held for long-term purposes.

Although the sale does not itself come within the scope of the VAT system, the supplies in question have a direct and immediate link with the whole economic activity of the taxable person.

The Paris administrative court has also specified that it is possible to deduct 100% of the input VAT (without applying the VAT deduction ratio) if the taxable person can establish that the costs of services purchased in connection with the operation constitute components of the price of its products.

It is important to stress that this solution is not in line with the French tax authorities’ position. Indeed the French tax administration adopts a very strict position and only allows taxable persons to deduct VAT concerning expenses linked to the acquisition of shares (BOI 3 A-01-06 N°2, 10 January 2006).

Action : mixed holding companies should examine each sale of securities in order to determine if it is appropriate to take an aggressive strategy and deduct the input VAT.

1.3 Incidental transactions: The New Definition

The definition of “incidental transactions” is fundamental to determining whether exempt financial transactions can be excluded from the denominator of the VAT deduction ratio.

In the recent Portuguese case of EDM (C-77/01, Fifth Chamber, 29 April 2004), the ECJ held that, in calculating the deductible proportion of input VAT pursuant to Articles 17 and 19 of the 6th VAT Directive 77/388, exempt financial transactions are to be regarded as “incidental transactions” within the meaning of the second sentence of Article 19(2) thereof insofar as they involve only very limited use of assets or services subject to VAT.

The decree of 26 December 2005 modified the French definition of “incidental transactions” in order to make it compatible with the 6th VAT Directive.

According to the new provisions of Article 212, Appendix II of the French Tax Code the following should be considered as “incidental transactions”:

- financial transactions which are linked to the main activity of the taxable person; and
- financial transactions which do not entail more than 10% of the use of goods and services subject to VAT.

The French administrative doctrine (BOI 3 A-01-06 No. 2, 10 January 2006) defines the implementation of Article 212, Appendix II of the French Tax Code.

Action: In practice, this provision seems favourable to the taxpayer with financial products, as it allows him to improve the VAT deduction right. However, the benefit of such an action may be limited because of the wages tax (in particular, for holding companies carrying out commercial and financial activities and employing a significant staff). Accordingly, an analysis of each situation is necessary before excluding any incidental financial transaction from the VAT deduction ratio.

1.4 VAT Sectors in the Banking Area (Judgement of 14 January 2005, Conseil d’Etat (French Supreme Administrative Court))

Banque Bruxelles Lambert (later taken over by ING Bank) had put in place a separate sector for its chargeable activity, whereas its banking activities are not subject to VAT (exempt). This sector dealt with rental of computer equipment and electronic payment terminals.

As a consequence, the bank deducted the whole of the VAT charged on rental assets, according to article 213, Appendix II of the French Tax Code. Article 213 provides that if a taxable person has several separate sectors which are not subject to the same regime regarding VAT, these sectors bring about separate VAT deductions.

The French Tax authorities challenged the ability to put in place separate sectors and according to them, Banque Bruxelles Lambert should have applied a general deduction ratio, according to article 212, Appendix II of the French Tax Code.

On 10 July 2002, the Paris Administrative Court of Appeal considered that the main purpose of the rental of computer equipment and electronic payment terminals is to improve banking services. As a result, these two activities are complementary and cannot be divided into two different VAT sectors (in the exempt banking sector).

The bank lodged an appeal with the Conseil d'Etat. Before the Conseil d'Etat could analyze the issue, the French Tax Authorities decided to cancel the reassessment, i.e. they accepted that two sectors could be created. Consequently, the Conseil d'Etat acknowledged this cancellation.

1.5 Investment funds & VAT option: New Rules – Greater Flexibility

The amended French Finance Bill for 2004 provides for three main changes related to financial services. The French tax authorities published public notice No. 3 L-3-05 on 3 August 2005 explaining these amendments and have made additional comments.

1. Amendment of Article 260B of the French Tax Code:

Article 260 B provides that the option for payment of VAT on specific VAT exempt services is now revocable (previously, it was irrevocable), as from 1st January 2005, for a five-year period under certain conditions.

2. Amendment of Article 260 C of the French Tax Code:

Article 260 C provides that the commission relating to the issuing and placement of shares will no longer benefit from the option for payment of VAT as from 1st January 2005.

3. Amendment of Article 261 C of the French Tax Code:

Article 261C confirms that, as from 1st July 2005, all management funds, including investment funds, are exempt from French VAT (i.e., the same regime applies for both Investment Funds and SICAVs (UCITS): exemption with the ability to opt for the payment of VAT).
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