The question of a fixed establishment, especially in value added tax, remains a complex issue. This is true despite the fact that, in addition to the VAT Directive (2006/112/EC), Council Implementing Regulation (EU) No 282/2011 and the Hungarian VAT law (Act CXXVII of 2007), an increasing number of ECJ cases are helping the work of taxpayers and tax experts. Why is this important and what does the latest European Court of Justice judgment add to this?
Legislative environment and conditions
The term fixed establishment is most often used in international terminology, but Hungarian law uses this as another possible form of economic establishment alongside registered office. The question of what exactly this concept means tends to arise when a foreign entity carries out some assembly work or provides some service in Hungary, and fulfils the order to a certain extent by using its own employees and assets.
Based on the legal definitions and professional guidelines, we can say that a fixed establishment is a physically demarcated place for the pursuit of an economic activity over a lengthy period, where the conditions for the independent pursuit of that activity are available. In practical terms, this means the availability of human resources (labour) and technical resources (equipment and technical conditions). The term for a lengthy period is perhaps even more problematic than the other two factors. Professional guidelines issued by the tax authority suggest that work of six months or more has a good chance of creating a fixed establishment for the foreign entity, provided the other two conditions already mentioned are met.
Why is the concept of fixed establishment important?
This subject is important because legislation “attaches legal impacts” to the existence of a fixed establishment. The place of supply of a transaction, generally a service, and its tax liability are affected by the existence of a fixed establishment. If a foreign service provider has a fixed establishment, they cannot avoid charging VAT on an invoice issued to a Hungarian customer. Otherwise, however, the foreign company can use the tax number of its country of establishment, and does not need to apply for a Hungarian tax number and charge Hungarian VAT. In this case, the Hungarian taxperson using the service will pay the tax under the reverse charge rules.
As the entity ordering the service, we need to check whether we have a fixed establishment near our head office that is affected by use of the service. If so, the place of supply for our ordered service will typically be in that country, and it is here that we may be liable to declare and pay tax, rather than in the country of establishment.
Background to court case in question
This is the fifth case in the last five or six years that has questioned the criteria for a fixed establishment. And it is not the first in which the question concerns whether a company can be considered a fixed establishment of its parent company or of another group company. Since the Dong Yang judgment (C-547/18) in 2020, which held that a similar consequence cannot be ruled out, several tax authorities began looking for fixed establishments in group structures. In the Adient case (C-533/22), which is the focus of our article, the Romanian tax authority asked whether a Romanian company could be a fixed establishment of a corporate group in Germany that it had a contractual relationship with. Here, the place of supply of the service in question, and therefore the place of taxation, would not be Germany, but Romania.
Facts
Adient Ltd & Co. KG (Adient DE) is part of a group of companies supplying the automotive industry. In June 2016, Adient DE concluded a contract with a Romanian company in the group for a complex service producing and assembling upholstery components. The Romanian company has two sites in Romania, where the corresponding products are manufactured for Adient DE. Adient DE purchases the raw material for the transaction, which it sends to the Romanian group company for processing. In connection with this work in Romania, the German company uses the Romanian VAT number it previously requested, both for Romanian domestic and intra-Community purchases of goods and for the supply of goods manufactured by the Romanian company. The Romanian company argued that the place of supply for its services to Adient DE was the registered office of the recipient (Germany), and therefore it did not charge and pay Romanian tax.
Views of the parties
During a tax audit by the Romanian tax authority, it was established that Adient DE had two Romanian establishments in Romania through the Romanian group company, and thus had human and technical resources, so it fulfilled the criteria for a fixed establishment in Romania. Consequently, the services provided by the Romanian company to Adient DE are taxable in Romania.
The German company, on the other hand, believes that the requirements for a fixed establishment in Romania are not met. Adient DE does not have human resources in Romania, since the Romanian company employs the staff and the Romanian company decides on the equipment needed for the processing activity too.
Conclusion of the European Court of Justice
In its judgment, the ECJ underlined that an autonomous company belonging to the group but in another Member State cannot be considered a fixed establishment within the meaning of the VAT Directive solely because of its links under company law. Even a contractual relationship for the supply of a complex service cannot, as a general rule, result in the service provider supplying a taxable service to the recipient’s fixed establishment that is created as a result. The place of supply of the services is independent of the physical location of the manufacturing or assembly transaction, and of whether the recipient of the service supplies goods or services as its own “output” transaction.
The court ruled that a fixed establishment only exists if it replaces a head office in another Member State. On this basis, a contract with a service provider can only create a fixed establishment if it doesn’t relate exclusively to the supply of services for the purposes of the recipient’s activities. In other words, it must be typically aimed at providing the necessary human or technical resources to enable the recipient to provide services or make sales at the site (i.e. at the fixed establishment) that are similar to those from the head office.
If you need support regarding the tax treatment of complex cross-border service arrangements, assessing the risk of fixed establishments or, where appropriate, the entire administration related to that, you can rely on our colleagues. The tax advisory team at WTS Klient Hungary has significant expertise in the taxation of various international transactions. Feel free to contact us.
