Landmark ECJ case impacting VAT rules on toll manufacturing

With the judgment in case C-547/18 (Dong Yang Electronics) of May 7th, 2020, the Court of Justice of the European Union has provided important clarifications in regard to the notion of fixed establishment, a concept playing a role of fundamental importance for the determination of the place of supply of services and, consequently, the liability to charge VAT on this type of transactions. This ECJ case is expected to impact businesses with a toll manufacturing structure as well as other companies with analogue activities.

In a nutshell, the CJEU confirmed that the existence of a fixed establishment may not be inferred from the mere fact that that a non-EU company has a subsidiary in a Member State and that a supplier of services is not required to investigate the contractual relationships between the two entities for the purposes of such an assessment.

Background

Dong Yang, a Polish established entity, entered into a contract with LG Korea, established in the Republic of Korea, for the provision of services consisting in the assembly of printed circuit boards from certain components owned by LG Korea. The materials cleared customs in Poland and were delivered to Dong Yang by LG Poland, a Polish subsidiary of LG Korea. After the assembly, Dong Yang was delivering the products to LG Poland, which was carrying out a further processing activity.

LG Korea, even though VAT registered in Poland, confirmed to Dong Yang that it did not have a fixed establishment, employ staff, own property, or have technical equipment there. On this basis, Dong Yang treated the assembly services as services provided outside the European VAT territory and, accordingly, issued an invoice with no application of VAT to LG Korea. On the other hand, the Polish tax authorities claimed the application of Polish VAT on the services provided, considering that - by “exploiting the economic potential of LG Poland” - LG Korea would have itself created a fixed establishment in Poland.

The dispute was whether the services rendered by Dong Yang were to be considered as provided to the Korean contractor or to the Polish subsidiary of the Korean contractor, in reason of the fact that its involvement in the transaction would constitute a fixed establishment in Poland.

CJEU Judgment

The questions raised to the Court were i) whether the mere fact that a non-EU company has a subsidiary in the territory of Poland triggers the existence of a fixed establishment in Poland; and ii) whether a third party is required to examine the contractual relationships between the non-EU company and its subsidiary in order to determine whether the first has a fixed establishment in Poland.

The first consideration of the Court was that according to article 44 of the VAT directive, when services are provided to a fixed establishment located in place different from the country of establishment, the place of that fixed establishment has to be considered as the place of supply of the services.

Secondly, the Court referred to Article 11 of the implementing regulation 282/11, which defines the fixed establishment (different from the place of establishment) as “any establishment characterized by a sufficient degree of permanence and a suitable structure in terms of human and technical resources to enable it to receive and use the services supplied to it for its own needs”. However, the Court observed that the consideration of economic and commercial realities constitutes a fundamental criterion for the application of the common VAT system and therefore the existence of a fixed establishment in the territory of a member State cannot be inferred from the mere fact that the company owns a subsidiary therein. The Court also clarifies that it is anyhow possible that a subsidiary constitutes a fixed establishment, but this needs to be assessed by reading the prescriptions of Article 11 of the implementing regulation 282/11 in light of economic and commercial realities.

In order to determine whether the supplier of services is required to examine the contractual relationships between that company and its subsidiary, the CJEU makes reference to article 22 of the implementing regulation 282/11, prescribing the criteria that the supplier of services must take into account in order to identify the customer’s fixed establishment. On this basis, the supplier of services must examine the nature and use of the service provided and, in case this wouldn’t be sufficient, it will be required to check whether the contract, the purchase order and the VAT identification number identify the fixed establishment as the customer of the service and whether the fixed establishment is the entity paying for the service. In case these two criteria do not lead to the identification of a fixed establishment of the customer, the supplier may legitimately consider the place of establishment of the customer as place of supply for the services provided.

Consequently, the Court concluded that the supplier of the services concerned cannot be considered liable to examine contractual relationships between a company established in a non-EU country and its subsidiary established in a Member State in order to determine whether the former has a fixed establishment in that Member State. The responsibility to undertake these actions lays with the tax authorities and in any case can be shifted to the supplier of services, which, in general, does not even have access to these elements.

How can we help your toll manufacturing business with EU VAT?

The toll manufacturing scheme often requires multiple VAT registrations across Europe in order to account for an intra-Community acquisition (or import, if the goods come from outside the EU) followed by a local sale of goods. The owning entity when the goods arrive at the territory of destination will need a VAT number although it has no presence in the country. Marosa has extensive experience helping businesses with a toll manufacturing structure to meet their VAT obligations in each European country. Our dedicated team will advice on the correct VAT treatment and administrative obligations of these businesses in each country.

Contact us to receive a call from one of our experts in VAT rules on toll manufacturing.