In its recent judgment, PORR Építési Kft (C-691/17), the Court of Justice of the European Union (CJEU) has interpreted Directive 2006/112/EC on the common system of value-added tax (Directive) with respect to supplies of services whereby the recipient unduly paid value-added tax (VAT) to the suppliers when the reverse charge mechanism should have been applied.
Background
The request for preliminary ruling has been submitted to the CJEU in the proceedings between PORR Építési Kft (PORR) and the Hungarian Tax Authority (tax authority).
According to this request, PORR accepted several invoices in which VAT was charged to it in connection with the construction of a motorway in 2010 and 2011. PORR settled these invoices, deducted the input VAT and asked the tax authority to reimburse the amount of the latter.
The tax authority considered that the principal activity of the supplies documented with these invoices was construction works, which should have been subject to the reverse charge mechanism.
Therefore, the tax authority found that no VAT should have been charged in the invoices and denied PORR’s right to deduct the input VAT that had unduly been charged to it. The tax authority claimed that PORR could request its suppliers to correct their invoices, reclaim the VAT that they had unduly paid to the tax authority by filing a self-revision of their VAT returns and reimburse the amount thereof to PORR.
PORR challenged the findings of the tax authority before the competent domestic court. In its appeal, it claimed primarily that the supplies were not subject to reverse charge. Instead, PORR argued that it had been deprived of the right to deduct input VAT even if the supplies were subject to reverse charge.
PORR emphasized that the tax authority did not question whether the supplies had taken place between the parties indicated on the invoices and added that its suppliers had probably paid the VAT indicated therein to the tax authority.
PORR pleaded that the tax authority should have ascertained whether the suppliers could still correct their invoices and reclaim the VAT unduly paid to the tax authority (domestic legislation rules out self-revisions following a tax audit). PORR asserted that its suppliers were most probably barred from reclaiming the VAT unduly paid by them to the tax authority.
In its submission to the domestic court, the tax authority argued that it granted PORR the right to deduct input VAT in relation to invoices issued in compliance with the reverse charge mechanism, thus, PORR was not subject to double taxation.
The domestic court recited the case law of the CJEU according to which, if the reimbursement of the VAT paid in error to the tax authorities becomes impossible or excessively difficult, in particular in the case of the insolvency of the supplier, the principle of effectiveness requires that the recipient of the goods in question be able to address its application for reimbursement to the tax authorities directly. Thus, the member states must provide for procedural rules enabling the recipient to recover the unduly invoiced tax in order to observe the principle of effectiveness.
The domestic court took the view that the tax authority should have ascertained whether the suppliers could reimburse to PORR the VAT that it had paid in error to them and whether they were entitled to reclaim that VAT from the tax authority.
The domestic court decided to seek the interpretation of the CJEU on the relevant provisions of the Directive and referred the case to the CJEU.
Questions Referred to the CJEU
The CJEU examined the questions referred to it together and reframed them as follows:
Do the provisions of the Directive and the principles of proportionality, fiscal neutrality and effectiveness preclude—in the absence of any suspicion of tax evasion—the tax office from denying the right of deduction of a recipient of services regarding the VAT this latter unduly paid to its supplier based on an invoice issued in accordance with the rules on the ordinary VAT regime even though the supply was subject to the reverse charge mechanism where the tax office did not:
- examine, before refusing the right to deduct, whether the supplier could reimburse the VAT unduly paid and could correct that invoice, in accordance with the applicable national rules, in order to recover the VAT which it unduly paid in turn to the tax office; or
- reimburse the recipient the VAT which it unduly paid to the supplier and that this latter, subsequently, unduly paid to the tax office?
Assessment of the CJEU
Firstly, the CJEU examined whether the right of deduction could be lawfully denied in a situation such as that of PORR.
The CJEU cited Article 199(1) of the Directive to emphasize that the recipient of a service which is subject to the reverse charge mechanism is not obliged to hold an invoice in order to be able to exercise its right to deduct and only has to fulfill the formalities laid down by the member state concerned. The invoices issued to PORR did not satisfy the formalities imposed by the Hungarian legislation.
Furthermore, in the view of the CJEU, PORR did not meet a substantive condition of the right of deduction, namely the payment of the VAT by the recipient to the tax office. This prevented the tax office from investigating the application of the reverse charge mechanism and led to a risk of losing tax revenue.
In addition, the CJEU held that the VAT paid by PORR to its suppliers was not due, however, the right of deduction can be exercised only in respect of the VAT that is actually due.
Based on the above, the CJEU concluded that PORR could not deduct the VAT charged to it in error by its suppliers.
Second, the CJEU considered whether the tax office should establish, before refusing the right of deduction of the recipient, whether the supplier is able to correct its invoices and reimburse the recipient the VAT charged to it in error.
The CJEU recalled that, in the absence of EU rules regarding the repayment of taxes, these procedural rules should, pursuant to the procedural autonomy of the member states, be established by their domestic laws.
The CJEU noted that these rules must observe the principles of equivalence and effectiveness. The CJEU reaffirmed that these principles are observed by a regime in which, firstly, the supplier of services which has paid the VAT to the tax office in error may seek to be reimbursed and, second, the recipient may bring a civil law action against that supplier for recovery of the unduly paid VAT. Therefore, such a regime enables the recipient to obtain reimbursement of the unduly paid VAT.
In light of the above, the CJEU answered the referred question in the negative, i.e. the tax office may refuse the right of deduction of the recipient in a situation such as that of PORR even if it did not reimburse the recipient the VAT unduly paid and even without assessing beforehand whether the supplier could reimburse the recipient the VAT unduly paid.
However, if the reimbursement by the supplier to the recipient of the VAT unduly invoiced would be impossible or excessively difficult, in particular in the case of the insolvency of the supplier, the recipient must be able to address its application for reimbursement directly to the tax office (with such an application being distinct from deducting the input VAT). The domestic laws of the member states must set out the procedure for this direct reimbursement.
Planning Points
The introduction of the reverse charge mechanism in Hungary and the changes in the scope of reverse charge has often rendered it difficult to determine the VAT treatment of certain supplies. This uncertainty results in tax exposure (including tax penalty on top of the tax underpayment) for the taxpayers involved in such supplies.
According to Guideline 2016/30 issued by the tax authority, in cases where the supplier charges VAT in the invoice even though the reverse charge mechanism should be applied, the VAT treatment of the supply should be corrected as follows:
- the supplier has to amend the invoice and may account for the decrease in its VAT liability in the return submitted for the period in which the recipient has received the amended invoice.
This means that the supplier can ask for the reimbursement of the VAT unduly paid to the tax authority without filing a self-revision and this reimbursement would not be constrained by a tax audit conducted at the supplier. The rules underlying this public guideline are only effective from 2014, thus, these were not applicable in respect of the invoices issued to PORR. Therefore, situations such as PORR’s may be remedied based on the correct application of the rules currently in force.
Nevertheless, in cases where the supplier has been liquidated or is insolvent, it is evident that it cannot reclaim the VAT and reimburse it to the recipient.
In 2017, the CJEU ruled in the Farkas case (C-564/15), and reaffirmed in its judgment in the case of PORR, that the domestic legislation of the member state should allow for the recipient to request reimbursement directly from the tax office under such circumstances. However, the Hungarian legislation still does not provide for a formal procedure in such cases.
It is worthwhile to mention that if there is no supply underlying the invoice in which VAT is charged, the issuer of such an invoice would not incur VAT if:
- it proved beyond doubt that the supply indicated in the invoice did not occur between the parties indicated in the invoice; and
- it cancels the invoice without delay, or, if the invoice is issued in its name by another person, notifies the customer without delay that no supply has been rendered between them.
According to a recent judgment of the Supreme Court of Hungary, the supplier may rely on the decision of the tax authority concluding an audit conducted at the customer (or a court decision upholding this decision) in which the invoice is found to be fictitious to prove that no supply took place between the parties indicated in the invoice and the cancellation of the invoice should be deemed to have been undertaken without delay even if it took place subsequent to the conclusion of the remedy procedure initiated by the customer against the aforementioned decision of the tax authority.
Based on the above, although it is crucial to determine the correct VAT treatment of supplies which may be subject to reverse charge, there may be several options to rectify the invoice and correct the VAT treatment, unless the supplier is insolvent or has already been liquidated. In these latter cases, the recipient may consider directly addressing the tax office to reimburse the VAT in accordance with the case law of the CJEU.
János Pásztor is a Senior Associate at Wolf Theiss, Hungary.