Flashback on ECJ cases C-396/98 (Schloßstraße) – No VAT deduction due to change in national law as a result of which it is no longer possible to opt for taxation of rental

On June 8, 2000, the ECJ issued its decision in the case C-396/98 (Schloßstraße).

Context: Turnover taxes – Common system of value added tax – Article 17 of the Sixth Directive 77/388/EEC – Deduction of input tax – Deduction precluded by an amendment to national legislation removing the possibility of opting for taxation of the letting of immovable property

Article in the EU VAT Directive

Article 13, 17 and 20 of the Sixth VAT Directive (Article 135(1)(l), 167, 168, 185 and 187 of the EU VAT Directive 2006/112/EC).

Article 13 of the Sixth Directive provides:

B. Other exemptions

Without prejudice to other Community provisions, Member States shall exempt the following under conditions which they shall lay down for the purpose of ensuring the correct and straightforward application of the exemptions and of preventing any possible evasion, avoidance or abuse:

(b) the leasing or letting of immovable property …

C. Options

Member States may allow taxpayers a right of option for taxation in cases of:

(a) letting and leasing of immovable property;

Member States may restrict the scope of this right of option and shall fix the details of its use.‘

4. Article 17 of the Sixth Directive provides:

1. The right to deduct shall arise at the time when the deductible tax becomes chargeable.
2. In so far as the goods and services are used for the purposes of his taxable transactions, the taxable person shall be entitled to deduct from the tax which he is liable to pay:
- (a) value added tax due or paid in respect of goods or services supplied or to be supplied to him by another taxable person;

3. Member States shall also grant to every taxable person the right to a deduction or refund of the value added tax referred to in paragraph 2 in so far as the goods and services are used for the purposes of:

(a) transactions relating to the economic activities as referred to in Article 4(2) carried out in another country, which would be eligible for deduction of tax if they had occurred in the territory of the country;
(b) transactions which are exempt under Article 14(1)(i) and under Articles 15 and 16(1)(B), (C) and (D), and paragraph 2;
(c) any of the transactions exempted under Article 13B(a) and (d), paragraphs 1 to 5, when the customer is established outside the Community or when these transactions are directly linked with goods intended to be exported to a country outside the Community.

5. According to Article 20 of the Sixth Directive:

1. The initial deduction shall be adjusted according to the procedures laid down by the Member States, in particular:
- (a) where that deduction was higher or lower than that to which the taxable person was entitled;
- (b) where after the return is made some change occurs in the factors used to determine the amount to be deducted, in particular where purchases are cancelled or price reductions are obtained; however, adjustment shall not be made in cases of transactions remaining totally or partially unpaid and of destruction, loss or theft of property duly proved or confirmed …
2. In the case of capital goods, adjustment shall be spread over five years including that in which the goods were acquired or manufactured. The annual adjustment shall be made only in respect of one fifth of the tax imposed on the goods. The adjustment shall be made on the basis of the variations in the deduction entitlementin subsequent years in relation to that for the year in which the goods were acquired or manufactured.
3. In the case of supply during the period of adjustment capital goods shall be regarded as if they had still been applied for business use by the taxable person until expiry of the period of adjustment. Such business activities are presumed to be fully taxed in cases where the delivery of the said goods is taxed; they are presumed to be fully exempt where the delivery is exempt. The adjustment shall be made only once for the whole period of adjustment still to be covered.
4. For the purposes of applying the provisions of paragraphs 2 and 3, Member States may:
- – define the concept of capital goods,
- – indicate the amount of the tax which is to be taken into consideration for adjustment,
- – adopt any suitable measures with a view to ensuring that adjustment does not involve any unjustified advantage,
- – permit administrative simplifications.

Facts

Schloßstraße is a company governed by civil law whose objects are to hold development rights in respect of land, to construct office and residential buildings thereon and to turn such assets to account on a long-term basis.
On 8 March 1991, Schloßstraße acquired development rights in respect of the abovementioned land and, on 16 March 1991, it applied for a building permit. An objection was raised that Schloßstraße’s plan did not conform with the town-planning rules and as a result the permit was not issued to it until 27 May 1993.
It is clear from a decision adopted on 11 June 1993 by the members of Schloßstraße that they had resolved to transfer the building permit to a third party immediately after its issue. However, in the absence of a purchaser, that decision could not be implemented. On 10 October 1993, Schloßstraße concluded a contract with an architect with a view to constructing the building. Work commenced in January 1994 and was completed in December of the same year.
The total area of the building was divided into three parts: 39.38% was let out for dwelling purposes; for the rest, 13.96% was leased to an architect’s firm and 46.49% to a public limited company (hereinafter ‘the finance company‘), 90% of whose business consisted in providing VAT-exempt financial services.
In its VAT returns for 1992 to 1994, Schloßstraße, relying on Article 9 of the UStG, waived exemption for the letting operations planned or carried out and claimed a right of deduction on invoices for goods or services relating to the construction work. Initially, that right of deduction was granted.
However, pursuant to Articles 164 and 168 of the AO, the relevant notices of assessment were issued subject to subsequent review.
The Finanzamt Paderborn undertook a review. Thereafter, it amended the abovementioned notices of assessment for 1992 and 1993 and drew up a first notice of assessment for 1994. In those notices, the Finanzamt agreed to the deduction of input VAT only as to 13.96% of the amounts declared, on the view that the only taxable use of the building was that of the architect’s firm. According to the Finanzamt, it was no longer possible to allow deduction of VAT in respect of the 46.49% of the building used by the finance company for exempt operations since, for operations of that kind, the possibility of waiving the exemption had been removed with effect from 1 January 1994 following the amendment of Article 9(2) of the UStG by the StMBG. The Finanzamt also considered that Schloßstraße could no longer rely on the transitional provisions of Article 27(2) of the UStG, as amended by the StMBG, because construction of the building had not commenced before 11 November 1993, the final date prescribed by that provision for waiver of the benefit of exemption to be available.
Schloßstraße lodged an objection against the VAT assessments for 1992, 1993 and 1994, which was rejected by the Finanzamt.
On 8 December 1995 Schloßstraße brought an action before the Finanzgericht (Finance Court) Münster against that adverse decision of the Finanzamt. By judgment of 8 October 1996, the Finanzgericht dismissed that action.
On 27 November 1996 Schloßstraße appealed on a point of law to the Bundesfinanzhof. In its appeal, Schloßstraße contends, first, that the restriction of the right to opt for taxation introduced by the StMBG is inapplicable to it since construction of the building must be deemed to have commenced on the date on which it applied for a building permit or, at least, the date of its grant. Furthermore, it infers from Case C-110/94 INZO v Belgian State [1996] ECR I-857 that, by virtue of the principle of the protection of legitimate expectations, it cannot ex post facto be divested of the right to deduct VAT paid during 1992 and 1993, in particular on architect’s fees and notarial fees.
The Bundesfinanzhof entertains doubts as to the successful outcome of the appeal on a point of law based on the UStG and the procedural rules contained in the AO. It considers, first, that Schloßstraße cannot rely on the transitional provisions of Article 27(2) of the UStG because construction of the building did not begin until January 1994. The services already provided in 1992 and 1993 form part of the construction costs of the building and, therefore, of the building as ‘capital goods‘. Consequently, the decision on the deduction of VAT paid in respect of those services cannot beadopted without taking account of the construction date or, therefore, of the limitation introduced by the StMBG, since it depends on the actual purpose of the building in question, that is to say leasing operations carried out in 1994, and whether those operations are taxable or exempt.
Since, according to the case-law of the Bundesfinanzhof relating to the UStG, a final decision on the right to deduction cannot be taken until the real use of capital goods is ascertained, the Finanzamt was, in its view, right, under Article 164(2) of the AO, to amend the notices of assessment issued subject to subsequent review and to disallow deduction to the extent to which the services provided were ultimately used for VAT-exempt operations.
Next, the national court observes that retroactive application of Article 9(2) of the UStG, as amended by the StMBG, to the services provided in 1992 and 1993 does not infringe the constitutional principle of non-retroactivity. On the date on which the new version of Article 9(2) of the UStG entered into force, the right of deduction in respect of capital goods had not crystallised because the final use of those goods had not yet been established and that factor is determinative as regards the decision on the right of deduction.
Finally, the Bundesfinanzhof considers that Schloßstraße cannot invoke the principle of the protection of legitimate expectations and rely on its conviction that it was entitled to exercise the option provided for by Article 9(2) of the UStG in respect of the planned leasing of the building because construction of it commenced only after the entry into force of the new rules. It also states that, according to the findings of the Finanzamt, Schloßstraße still envisaged, on 11 June 1993, transferring the building permit to a third party and that the instructions given to the architect were not accompanied by any firm order for building works. Moreover, according to the national court, the VAT for the years in dispute had been assessed subject to subsequent review, so that Schloßstraße could not legitimately expect that that assessment would not be amended

Questions

(1) According to the case-law of the Court of Justice (Case C-37/95 Ghent Coal Terminal NV, in which reference is made to Case C-110/94 INZO), a taxable person can retain the right to deduct tax charged on goods and services where, by reason of circumstances beyond his control, he has not made use of those goods and services for the purpose of carrying out taxable transactions.

According to that principle, does a taxable person also retain the right to deduct tax if he does in fact use the goods or services to carry out (leasing)transactions but, following a change in the law, is no longer entitled, after acquiring the goods or services, to opt to waive the tax exemption for the transactions carried out with them, and so cannot in fact carry out any taxable transactions?

(2) In such a case, where there is a subsequent change in circumstances, does the right to deduct tax also continue to exist if, under national law, the tax assessments were allowed to be subject to a subsequent review, enabling a quick tax assessment to be made solely on the basis of information supplied by the taxable person, but giving the revenue authority the right to correct the tax assessment in every respect on the basis of factual and legal considerations?

AG Opinion

Article 17(1) 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 – Common system of value added tax: uniform basis of assessment must be interpreted as meaning that a Member State that decides to abolish the right to opt for deduction of tax on particular economic activities cannot withdraw, with retroactive effect, the right to deduct VAT paid on capital goods prior to the entry into force of that derogation for the purpose of engaging in those economic activities. This shall apply even if the deduction was initially granted to the taxable person subject to review.

Decision

Article 17 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 – Common system of value added tax: uniform basis of assessment must be interpreted as meaning that a taxable person’s right to deduct VAT paid in respect of goods or services supplied to him with a view to his carrying out certain letting operations is retained where a legislative amendment post-dating the supply of those goods or services but pre-dating the commencement of such operations deprives the taxable person concerned of the right to waive exemption thereof, even if the VAT was assessed subject to subsequent review.

Summary

Impossibility of deduction due to change in national law as a result of which it is no longer possible to opt for taxation of rental

The right of a taxable person to deduct the VAT paid by him in respect of goods supplied to him or services rendered for him with a view to certain rental transactions continues to be acquired if, as a result of a change in the law, that taxable person after the supply of these goods or the provision of these services, but before the commencement of these transactions, no longer has the right to waive the exemption for these transactions, even if the VAT has been determined subject to subsequent verification.

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