On 9 December 2015 the European Court of Justice ("ECJ") issued its decision in the case of Fiscale Eenheid X. The ECJ was asked to consider whether a non-UCITS fund vehicle investing solely in real estate assets would qualify as a "special investment fund" for the purposes of the fund management exemption under the VAT Directive. The ECJ ruled that such a fund could qualify as a "special investment fund" if (among other things, but, perhaps, most significantly) it is subject to "specific state supervision" at national level. Consequently the ECJ held that fund management services provided to the fund in question should be treated as a VAT exempt supply.
The "specific state supervision" concept is a new development and one which, unless further defined or refined by the ECJ or individual Member States, could well bring all funds regulated under the AIFMD within the scope of the "special investment fund" definition. Whilst there is some uncertainty among industry observers as to whether, for instance, EuVECA and sub-threshold AIFs would also be deemed to be subject to "specific state supervision", the consensus seems to be that, despite the light-touch nature of these regimes, they would. Queries have also been raised as to whether funds which are subject to stock exchange supervision would also qualify.
Although the answers to these questions remain unclear, the Eenheid ruling may have paved the way for the majority of Member States to adopt a far broader interpretation of the fund management exemption than before, aligning the pan-European position with that already established in Luxembourg. If adopted, the implications for fund managers from a VAT perspective are potentially significant.
Prior to the Eenheid ruling, well-advised fund managers looking to establish on-shore fund structures could capitalise on Member States’ differing interpretations of the VAT Directive and its exemptions. For instance, a UK based advisor could provide fund management services to a Luxembourg based fund and recover against the supply in the UK (where the management exemption has been narrowly construed historically, with the supply being standard rated), but treat the supply as exempt in Luxembourg. The net result of such structures has been (generally) that no VAT is incurred at fund level.
Harmonising the application of the fund management exemption across the EU in accordance with the Eenheid ruling (and the Lux position) should ensure VAT neutrality for EU fund vehicles (which, as a general rule, make VAT exempt supplies). However, fund managers are likely to find it increasingly difficult to recover input VAT, which could lead to VAT leakage (particularly in connection with set up and abort costs). As a result, the VAT efficiency of traditional cross-border, on-shore fund structures may require re-appraisal and/or fund service costs may increase to reflect the loss of input VAT recoverability.
Although the full implications of the Eenheid ruling remain to be clarified, the Channel Islands (falling outside the scope of VAT and offering a range of flexible structuring options) continue to provide fund managers with the most VAT efficient structuring solutions. Recent developments in hybrid fund structuring should also make it possible for managers to establish passportable, AIFMD-compliant structures which retain the VAT efficiency and day-to-day ease of use associated with doing business in the Channel Islands (for more information, please follow this link).
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