The concept of ‘substance over form’ in value added tax (VAT) allows certain rights to be exercised if the substantive requirements of the law are satisfied, even if the taxpayer has failed to comply with some of the formalities. The oft-cited example is the right to deduct VAT in situations where the taxpayer holds an invoice containing some formal errors. The case-law of the courts has generally favoured the right to deduct despite those errors.
But what happens if all the formal requirements are followed but there is no substance? Well, this can lead to a finding of “simulative behaviour” – entirely mechanistic actions which seek the VAT outcomes but are not grounded on the purpose or realities of the system.
Consider the VAT rules behind the exemption from VAT of transactions which take place outside the customs territory of the EU. Applying these rules literally by just moving goods around can backfire, in a big way.
How often do we hear the cliché about buying or selling a yacht in Europe: close in ‘international waters’ to avoid VAT. Or about chartering a yacht in Europe: make sure you include some non-EU sailing in your itinerary to reduce or eliminate VAT on your charter fee. Or about bunkering: exit the EU promptly to get the fuel 30% cheaper without the tax. All useful lore, perhaps, and yet dealmakers sometimes encounter a demand for tax after closing on what looked like a well-executed no-tax deal. Why?
Because tax authorities consider substance over form. Indeed, they practically look beyond form and substance to the purpose of what is done by the law. You sailed out beyond 12 nautical miles of an EU country, but could that amount to a cruise to nowhere after the transaction had effectively closed in the port? Your charter itinerary included international waters, but without a call at a foreign port it may not count much as a foreign departure. Fuelling up at an EU port and departing to foreign shores may be irrelevant in a VAT system where exemption on exportation excludes “goods transported by the customer himself for the equipping, fuelling and provisioning of pleasure boats”.
Both EU Customs and VAT legislation is defined by purpose. That is why scholars of EU VAT are often advised to take a ‘purposive’ approach to its interpretation. The key question is what the lawmakers had in mind. This goes beyond the wording of the legislation. Oftentimes, the danger comes with relying on the formalities, or in the wording and the actions, rather than the substantive purpose that justifies the outcomes wanted.
Some years ago, we were asked to assist when French customs demanded VAT on the sale of a yacht that was lying in Antibes when Seller executed the Bill of Sale. Seller expected to deliver the yacht in international waters in two days’ time. Come day two morning, the parties signed the Protocol of Delivery and Acceptance in mutual excitement and in anticipation of sailing out. However, bad weather frustrated the attempt to leave port that day and the day after. Consequently, the yacht arrived in international waters on day five and, after taking AIS readings of its location, returned to port in Antibes with a neat pack of all her new ownership papers.
French Customs boarded the yacht and demanded VAT on its value, citing the basic law that the supply of goods within the territory of a Member State is subject to VAT. “Supply of goods shall mean the transfer of the right to dispose of tangible property as owner”, they reminded. It turned out that in all important respects that yacht had been supplied in France; the trip to international waters was an idle formality.
Information in our blogs is very general in nature and should not be acted upon without first consulting with a tax advisor. Please feel free to contact Y & A Group, LP to schedule a complimentary consultation.