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VAT is a major source of revenue in all EU Member States. It is also a key source of financing for the EU budget since 0.3% of VAT collected at national level is transferred to the EU as own resources, representing 12% of the total EU budget[1].
Businesses nowadays hesitate to expand to smaller markets due to the VAT compliance costs. In addition, the current EU VAT system seems not totally aligned with today’s ways of doing business digitally.
Interactions between transfer pricing and VAT in Luxembourg
On the one hand, transfer pricing is more and more relevant for Luxembourg taxpayers when entering into business transactions. In fact, transfer prices are significant for both taxpayers and tax authorities because they determine to a large extent the income and expenses, and therefore the taxable profits, of associated companies in different tax jurisdictions.
According to the OECD[2], “transfer prices are the prices at which an enterprise transfers physical goods and intangible property or provides services to associated enterprises. Two enterprises are associated if one of the enterprises participates directly or indirectly in the management, control, or capital of the other or if the same persons participate directly or indirectly in the management, control, or capital of both enterprises.”
On the other hand, Value Added Tax (“VAT”) is a general tax that generally applies to commercial activities involving the production and distribution of goods and the provision of services, and is borne ultimately by the end consumer. This tax is levied at each stage in the production and distribution chain and aims neutrality independently of the number of transactions involved. For the sake of clarity, VAT is namely due on the following transactions: (1) deliveries of goods and services made by taxable persons in the course of their business, (2) Intra-Community acquisitions of goods made by taxable persons and private individuals and (3) imports of goods made by taxable persons and private individuals.
In Luxembourg the direct tax[3] and indirect tax[4] authorities are increasing their scrutiny on transfer pricing and VAT files. This is reflected in the greater number of cases ruled on by the Luxembourg administrative and judicial courts. In this respect, companies typically consider transfer prices as a corporate income tax issue, whereas in reality transfer pricing adjustments may trigger a VAT impact. More precisely, a transfer pricing adjustment can give rise to a supply of goods or services for VAT purposes, impacting downwards or upward the initial consideration.
Interactions between transfer pricing and VAT are even more relevant since 31 July 2018. At that date, article 80 of the VAT Directive[5] was implemented in Luxembourg: the arm’s length principle went beyond a single statement through the introduction of a new paragraph 3 inserted in article 28 of the Luxembourg VAT Law[6]. Before, the sole reference to transfer pricing in the field of VAT was the arm’s length principle under article 32 of the Luxembourg VAT Law regarding the exchange of goods/services without cash consideration as foreseen by article 31 of the Luxembourg VAT Law.
Therefore, the Luxembourg VAT Law already covers the following specific scenarios:
- consideration received by the supplier is below the open market value and the recipient has a limited input VAT recovery right in Luxembourg;
- consideration received by the supplier is below the open market value and the supplier has a limited input VAT recovery right, when the supply is exempt according to article 44 of the Luxembourg input VAT (i.e., exemptions not entitling to recover input VAT); and
- consideration paid by the recipient exceeds the open market value and the supplier benefits from a limited input VAT recovery right.
In a nutshell, the Luxembourg VAT authorities want to tackle situations where a taxpayer artificially mitigates the amount of VAT as a final cost or increases its input VAT recovery right.
There is no definition of «consideration» in either the VAT Directive or the Luxembourg VAT Law. Nevertheless, «consideration» shall mean everything received in return for the supply of goods or the provision of services, including incidental expenses, public subsidies or taxes other than VAT, and in the event of a barter transaction, the value of the goods and/or services received in exchange.
These anti-avoidance provisions will soon celebrate their fifth anniversary and without any doubt they contributed towards an increased and more complex litigation. The Luxembourg VAT authorities can perform their checks when carrying out a VAT audit or, also likely, when checking cross-border transactions by using the VAT Information Exchange System (VIES).
Based on the above, Luxembourg taxpayers should anticipate the transfer pricing aspects of all their intragroup transactions established on market-based approach, by providing coherent, relevant and comprehensive transfer pricing documentation, in compliance with the Luxembourg legal framework and international transfer pricing standards.
Interactions between transfer pricing and VAT are even more relevant since 31 July 2018. At that date, article 80 of the VAT Directive[5] was implemented in Luxembourg: the arm’s length principle went beyond a single statement through the introduction of a new paragraph 3 inserted in article 28 of the Luxembourg VAT Law[6].
The “VAT in the Digital Age” initiative. What is it about and what are the expected changes?
The EU Commission launched[7] the VAT in the Digital Age (“ViDA”) initiative, an ambitious action plan to achieve fair taxation of both online and traditional economic transactions in the digital age. At the same time, the aim of the EU Commission is to make the VAT system more resilient to fraud by embracing and promoting digitalization.
The reforms would gradually enter into force between 1st January 2024 and 1st January 2028. In essence, the proposal can be divided into three main actions as depicted :
- modernization of the VAT reporting obligations (e-invoicing),
- address the challenges of the platform economy (introduction of tax collection obligation for platforms), and
- avoid VAT compliance obligations in more than one EU Member State (extension of the One Stop Shop (“OSS“) + simplification measure for the transfer of own goods).
1. E-invoicing (as of 2024)
E-invoicing would be the general rule for the issuance of invoices for transactions where the recipient is established in another EU Member State.
The invoices would have to include additional mentions (e.g., bank account information) and certain information would have to be shortly shared with the VAT authorities. It means that it would not be necessary anymore to file European Sales Lists of goods/services since the information reported will be shared between EU Member States.
The aim of this measure is not to harmonize procedures at EU level, since e-invoicing and digital reporting would be mandatory only for EU cross-border transactions (optional for domestic transactions).
Nevertheless, there is a risk this measure is burdensome for some taxable persons since it will trigger more administrative obligations.
2. Introduction of a tax collection obligation for platforms (as of 2025)
This measure has been very likely motivated by the “VAT gap”, i.e. the estimated difference between expected revenues in EU Member States and the revenues actually collected.
The rise of the platform economy business model has triggered new problems for the VAT system (e.g. VAT inequality[8]). A platform economy can be defined as a multi-sided model of transactions where there are three or more parties involved and an online platform facilitates the transactions.
As a consequence, a deemed supplier regime for online platforms will be put in place when they facilitate the supply of passenger transport and short-term accommodation services (≤ 45 days). The online platforms would become liable for collecting and remitting VAT to the competent authorities. The place of supply should be the place where the underlying transaction is rendered based on the VAT Directive.
The scope of the current deemed supplier regime for online marketplaces facilitating sales of goods would be extended: the marketplace would be always considered to be a deemed reseller. It means that all the sales of goods located within the EU and facilitated by online marketplaces would fall under the extended deemed supplier regime (regardless of the location of the seller).
The scope of the current deemed supplier regime for online marketplaces facilitating sales of goods would be extended: the marketplace would be always considered to be a deemed reseller. It means that all the sales of goods located within the EU and facilitated by online marketplaces would fall under the extended deemed supplier regime (regardless of the location of the seller). However, the extended deemed supplier regime would not apply to service providers that provide their VAT registration number to the platform operator.
As a consequence, the supply of accommodation and passenger transport services would be split into two deemed supplies: one between the service supplier and the platform (exempt or falling outside the scope of VAT) and another one between the platform and the end consumer (taxable at the applicable rate).
3 – Extension of the OSS and simplification measure for the transfer of own goods (as of 2025)
Another groundbreaking measure would be the single VAT registration across the EU: deemed supplies of goods within the EU could be reported in the OSS VAT return. Hence, it would eliminate a VAT registration obligation in the EU Member States where the own goods are shipped to since it would not be necessary anymore to declare an intra-Community acquisition of goods.
In addition, the reverse charge mechanism would become mandatory for domestic supplies carried out by a foreign supplier to a local customer (currently it is an option given to the EU Member States). As such, a local VAT registration of the foreign supplier would be avoided.
To be noted as well the end of the call-off stock simplification measure: thus, one of the “quick fixes” in foce since 1st January 2020 would be disabled (i.e., the harmonization of the call-off stock rules across the EU) on 31 December 2025.
Takeaways
It would be no exaggeration to say that VAT and transfer pricing are more connected than ever in Luxembourg. Consequently, it is highly recommended that Luxembourg taxpayers monitor transactions carried out with related parties in order to avoid adverse Luxembourg tax consequences. Transfer pricing documentation may now also be sought by the Luxembourg VAT authorities for investigation purposes.
The VAT Directive has more than fifty years (despite several amendments) and, as such, the default reporting requirements are not digital. Thus, the measures included in ViDA would in general be more than welcomed by companies carrying out cross-border transactions.
The ViDA initiative announced by the EU Commission in its 2020 Action Plan seems quite ambitious but is, in any case, necessary to embrace the digitalisation era. It is not clear at this stage whether ViDA becomes effective as of 1st January 2024 in its current shape and/or proposed calendar. In fact, this initiative needs consent from all 27 EU Member States…
[1] Explanatory Memorandum to the Proposal for a Council Directive amending Directive 2006/112/EC as regards VAT rules for the digital age.
[2] OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations, Preface, January 2022.
[3] Administration des Contributions Directes
[4] Administration de l’Enregistrement, des Domaines et de la TVA
[5] Council Directive of 28 November 2006 on the common system of value added tax
[6] Law on Value Added Tax dated 12 February 1979, as amended
[7] Proposal – COM (2022)701 – published by the EU Commission on 8 December 2022
[8] Private individuals and small businesses can provide their services without charging VAT through a platform and with the economies of scale and network effect be in direct competition with traditional VAT registered businesses.
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