We look at the role of fixed establishments and how they relate to VAT liabilities arising from overseas operations.
Businesses which begin to operate in additional territories should check if they are at risk of creating a VAT fixed establishment (FE) outside their home jurisdiction. This is key to determining their VAT obligations. But confirming either way is often not straightforward, and recent legal cases have created more questions than answers. Here’s our guide.
What is a fixed establishment?
For VAT purposes, an FE is an establishment of a business in a country other than where the principal place of business is located. An FE typically exists when a business has sufficient human and technical resources in a particular territory to enable it to both ‘receive’ and ‘use’ the services supplied to it for its own business activities in that territory.
Note that there are different criteria for a business to have a permanent establishment (PE) for Corporation Tax purposes. So the presence of an FE will not necessarily mean the existence of a PE, and vice versa.
Why does the presence of an FE matter so much?
Typically, a business which supplies B2B cross border services is not required to register for VAT outside its home jurisdiction. But there can be exceptions to this, depending on the kind of services and the extent to which the VAT reverse charge is permitted in the customer’s territory.
Most such businesses are only required to register for VAT outside their home jurisdiction if they’re deemed to have a separate FE, and if that FE is judged to be most ‘closely related’ to making and/or receiving a supply of services.
Take, for example, a UK business contracting with a business customer in France to provide IT services. Ordinarily, this supply would be outside the scope of UK VAT. The customer in France would apply the VAT reverse charge, so the supplier would not need to register for VAT in France.
But if the UK business has an employee living in France who undertakes the services, it would need to consider whether it has an FE in France for VAT purposes. In this case, and if that ‘establishment’ was most closely associated with the supply to the customer, the supplier would have to register for VAT in France. The position would always depend on the details.
What if the person in France undertaking the services is a subcontractor of the UK business, rather than an employee? In the past this would not have created the necessary ‘permanent human and technical resources’ for an FE. But the European Court of Justice (ECJ) case of Welmory held that an FE can exist where a business has as much control over the third-party activities as it would over its own employees.
There was another challenge to this principle in the recent ECJ case of Berlin-Chemie, where it was held that an FE should not exist where the same resources are used to provide and receive the same services.
So it’s vital to understand the contractual position between the contractor and the supplier to decide whether the business needs to register for VAT locally.
In the age of remote working and geographically dispersed employees, it’s especially important to determine whether the business has any additional VAT obligations.
A local tax authority can backdate a VAT registration indefinitely. So businesses that fail to VAT register can be charged late registration penalties and interest. There may also be difficulties receiving payment of local VAT due from the customer for historic supplies.
Supply and receipt of services
So for an FE to exist there must be sufficient presence in that territory for a business to effectively ‘receive’ and ‘use’ services there. Using the example above, this means that if the UK company’s employee in France procured services from an established supplier outside France, the UK company may have to apply the reverse charge and register for VAT in France.
This is the case even if it didn’t provide any services to customers in France on which it had to charge local VAT. So a company may need to register for VAT not only based on supplies made by an FE, but also based on its own receipt of services.
The position of the customer
Where a customer has more than one establishment, the supply will be subject to VAT at the establishment most closely associated with the receipt of that service. This means the supplier must consider where the customer is receiving and using the services.
A UK company entering into a global contract with another UK company may have to ascertain whether its services are received by a non-UK FE of that customer, to decide whether it should apply UK VAT. Not only must it check whether the customer has an FE outside the UK, but the terms of the contract would show whether it’s seen as a UK-to-UK supply or a supply to the customer’s overseas establishment.
Does a branch registration create an FE?
Typically, a supplier would know the customer’s location from its business address. But recent legal cases in the EU and UK have indicated a move towards a ‘substance over form’ approach to determining the presence, or not, of an FE.
In the recent case of Dong Yang Electronics, the ECJ held that the mere presence of a subsidiary in the EU did not indicate the creation of an FE. It also said the presence or otherwise of an FE did not depend on the legal form, but on the particular facts of the economic and commercial reality.
What’s more, in the UK case of HSBC Electronic Data Processing, the Upper Tribunal held that for a UK registered branch of a foreign company to join a UK VAT group, that branch must be undertaking economic activities in the UK. So a UK branch registration alone is not enough to be deemed an FE.
It is therefore important to consider each case on its own merits to determine whether a business, or its customer, has an FE, and clarify the VAT implications.
If you would like advice and support on any issues raised in this article, please contact Chris Riley.
