The ECJ’s Morgan Stanley Case (C-165/17): Consequences and impact on Switzerland?
The European Court of Justice (ECJ) issued its decision in the Morgan Stanley case (C-165/17) on 24 January 2019.
The Morgan Stanley Case
Morgan Stanley´s head office is established in the UK. Subject to evaluation by the ECJ was the input VAT recovery right of a Morgan Stanley branch in France. The branch generated both turnover from financial and banking services opted for taxation to customers in France as well as turnover from services provided to the head office situated in the United Kingdom (UK). The latter did not qualify as vatable event (single-entity-principle). The French branch incurred costs that were (partly) attributable to the VAT exempt activities of the UK head office and claimed a full deduction of VAT on these costs arguing that the services would have been VAT taxed in France. The French tax authorities challenged that approach by claiming that the input VAT recovery must be corrected insofar as part of these costs were incurred (wholly or partly) in connection with activities performed by the head office in the UK. The UK head office did itself not have entitlement to full recovery.
The ECJ’s Ruling
The ECJ was asked whether and to what extent the French branch was entitled to deduct VAT. The question raised to the ECJ by the French court basically was, whether the branch in France was entitled to input VAT deduction and if it was required to calculate its input VAT deduction right by taking into account the input VAT deduction right of its head office in another jurisdiction.
In summary, the ECJ hold that the method of calculating the VAT recovery depends on whether the costs incurred relate to a specific field of business of the head office or whether the expenses serve both the business activities of the branch and of the head office (mixed-use/general costs). In both scenarios the branch should (partly) take into account the turnover of the head office when calculating its input VAT recovery ratio for these costs. The judgement leaves room to exclude turnover of the head office from the calculations if the costs lack a direct and immediate link with that turnover.
What impact will the ECJ’s ruling have in practice?
For businesses which are active on the European market with head office and branches being in different jurisdictions, the ECJ’s ruling calls for a review of the approach of calculating the right to deduct input VAT. In practice, a branch may be required to apply different input VAT recovery ratios for expenses that are (also) used by a foreign head office. It stands to reason that this principle also applies in the reverse situation whereby the head office incurs costs for a foreign branch or where a branch incurs costs for the benefit of another branch established in another country. One particular challenge following from this court ruling will be the consideration of the different VAT treatment of services as exempt or taxable according to local rules in the different jurisdictions. Most branches might only have considered their own taxable turnover for the recovery right and not the one from their head office established somewhere else in another jurisdiction.
In contrast to Europe, Switzerland does not follow the single-entity-principle – understanding the head office and its branches as one VAT subject – but applies the dual-entity-principle in the international context. According to the latter, the head office and its branch are treated for cross-border circumstances as two separate and independent VAT subject. Therefore, for Swiss VAT purposes a consolidated consideration of the turnover of the head office and its branch situated in another jurisdiction (or vice versa) will not apply for the purposes of the VAT recovery rate. In consequence the Morgan Stanley case should from a Swiss VAT perspective not trigger any immediate consequences for the calculation of the input VAT deduction right of Swiss VAT registered businesses. It remains to be seen what practical challenges and opportunities may arise from this ruling.
How can we support you?
We regularly assist our clients in reviewing the potential VAT position of their business. In case your business is active on the European market, we are pleased to discuss with you the potential impact of the ECJ's ruling.
Beat BaumgartnerPartner Attorney at law, Swiss certified tax expert
Beat Baumgartner, attorney at law and Swiss certified tax expert, is a partner in our Zurich office. He focuses on Swiss and international taxation, M&A, financing and capital market transactions.T: +41 43 434 67 10 M: +41 79 930 63 52 E: firstname.lastname@example.org