Input tax deduction of a management holding company: "intermediary model" may be on the brink - ECJ case C-98/21

On 23 September 2020 (XI R 22/18), the German Federal Fiscal Court (BFH) decided to submit a request for a preliminary ruling to the European Court of Justice on the input VAT deduction of a management holding company (pending there, reference: C-98/21). The case concerned an "intermediary model" in which a company not entitled to a full input VAT deduction interposed a management holding company when purchasing services, which then claimed the input VAT deduction from these input services. The BFH has now granted a stay of execution in another case in view of this request for preliminary ruling (request of 30 March 2021, published on 5 August 2021, V B 63/20).

Preliminary ruling in the case: service is not provided for payment, but as a shareholder contribution

In the case at hand, the plaintiff (a holding company) was, together with other companies, a limited partner of two GmbH & Co. KGs. These had construction projects to build certain residential properties and then sold the individual residential units predominantly free of VAT. They were therefore not entitled to an input VAT deduction from input services received for this purpose.

All limited partners were to make shareholder contributions to the GmbH & Co. KG some of in the form of a cash payment. The plaintiff, on the other hand, made contributions, corresponding in value to the cash payment, in the form of gratuitous services to the respective GmbH & Co. corporation. The plaintiff purchased these services externally and claimed the input VAT deduction for these services. As the plaintiff did not pass on these services to the GmbH & Co. KGs in the form of a VAT-taxable service, but rather in the form of a non-taxable shareholder contribution, no non-deductible input VAT arose for the GmbH & Co. KGs as a result of this arrangement. At the same time, the plaintiff provided VAT-taxable accounting and management services to the subsidiaries, thereby establishing its status as a VAT-taxable person.

The BFH referred the question to the ECJ for a preliminary ruling as to whether the plaintiff was entitled to deduct input VAT from the input services. Its doubts were based on the fact that these services were not directly and immediately related to the plaintiff's output sales, but to the largely VAT-exempt sales of the GmbH & Co KGss. The BFH also wanted to know whether such an "intermediary model" could be justified by extra-tax reasons or whether it was an abuse of rights. After all, the input VAT deduction would be contrary to the system and would lead to the holding constructions providing a competitive advantage that would not exist for single-tier companies that provide VAT-exempt services.

Suspension case: Supplies to subsidiary for consideration, but input VAT relates to a claim for damages by the holding company

The German subsidiary of a German management holding company had built solar plants in Spain. At the time of planning and construction of the solar plants, Spanish law provided for certain feed-in tariffs. However, this subsidy was later restricted by law, which led to a decline in sales at the subsidiary and to an impairment of this investment at the holding company.

The holding company filed a claim for damages against the Spanish state for the impairment of its investment and claimed the input VAT deduction from consulting services. The holding company did not pass on these costs to the subsidiary. The tax office and tax court denied the input VAT claim.

However, in the opinion of the BFH, due to the legal ambiguity regarding the scope of the input VAT deduction in the case of management holding companies with their own business activities, there are

serious doubts about the legality of the refusal of the input tax deduction. With reference to the proceedings C 98/21, the BFH granted a stay of execution. In the summary review of the suspension proceedings, the BFH did not regard it as doubtful that the management holding company was a taxable person and thus in principle entitled to deduct input tax. By providing support for consideration in the restructuring of the financing, it had intervened in the administration of its subsidiary in the form of VAT-taxable services, thereby establishing its status as a VAT-taxable person. It was therefore entitled to an input tax deduction in principle. However, the BFH pondered whether the input tax deduction was also permissible with regard to the consulting services that the holding company obtained for the assertion of its claim for damages. According to the so-called exclusive reason for origin, the input tax deduction could be limited in this respect. The BFH saw parallels here with the preliminary ruling case in that it is true that the reason for origin in the preliminary ruling case was not the assertion of a claim for damages, but rather a contribution to the subsidiary. However, both cases had in common the fact that the input services received did not originate in taxable output services of the holding company.

Implications: Input VAT deduction by holding companies may be assessed more strictly in the future

For many companies that are not – or not fully – entitled to deduct input VAT, the question sooner or later arises as to whether the input VAT situation can be improved by purchasing the input services from a group company that is entitled to deduct input VAT. This mainly concerns the financial services and real estate industries. If the company not entitled to input VAT deduction is to bear the costs for these input services, however, in the end there is once again an invoice with VAT to this company. Replacing the oncharging of VAT with a non-taxable shareholder contribution appears to many to be an interesting solution. Of course, the ECJ decision remains to be seen in the preliminary ruling proceedings, but the BFH arguments cannot be dismissed out of hand in our view. If a company makes VAT-exempt output supplies, the VAT system dictates that the input VAT deduction is excluded. Intermediary models circumvent this system. The ECJ might put a stop to such arrangements. Affected companies should prepare themselves for the fact that the intermediary model could be a discontinued model.

The BFH seems to expect that the ECJ decision in the preliminary ruling case will also provide answers for the suspension case. However, the question is whether or not the two cases are too different for this. The preliminary ruling case concerned input services that were not for the holding company, but rather for the VAT-exempt output services of the subsidiary which were (likely) only purchased by the holding company because of the input VAT deduction. The ECJ will decide whether this is an impermissible circumvention. In the suspension case, on the other hand, the purchased service was in the interest of the holding company – but did not relate to its taxable output services, according to the BFH. Rather, the input services were purchased in connection with a subsidiary held as part of the company's assets. So, it seems that an abuse of rights as in the submission case can be ruled out here. The fact that the holding company purchased services that actually concerned taxable output services of the subsidiary was not an issue here. Therefore, the question is whether the BFH will demonstrate the same wisdom as before with regard to the suspension proceedings after the issue of the preliminary ruling by the ECJ. In any case, this suspension ruling confirms that holding companies, which are in principle VAT-taxable persons through taxable supplies to their subsidiaries, cannot automatically deduct all input taxes that are "somehow" related to the investment.

(Dated: 12 August 2021)