On 9 December 2015, the Court of Justice of the European Union (“CJEU”) published its decision in the case of Fiscale Eenheid X (C-595/13). The CJEU considered whether the VAT exemption applicable for fund management services applied to real estate investment funds and, if so, whether this included the day-to-day management of the real estate fund.
The CJEU confirmed that real estate funds may qualify as ‘special investment funds’ within the meaning of the VAT directive and therefore receive VAT exempt management services. The CJEU further held that fund management services do not include the actual management of the real estate.
Fiscale Eenheid X is a Dutch investment manager managing three companies founded by a number of pension funds and which invest their capital in real estate exclusively. The activities carried out by Fiscale Eenheid X included all aspects of the management of the investment companies and the actual management of the real estate.
Fiscale Eenheid X did not charge VAT to the investment companies as it considered that such services were covered by the VAT exemption provided for the management of special investment funds. This position was not shared by the Dutch authorities.
The Dutch Supreme Court decided to stay the proceedings and referred two questions to the CJEU: (i) whether an entity that invests in real estate may be regarded as a ‘special investment fund’ and (ii) whether the term ’management’ also covers the actual management of the real estate.
‘Special investment funds’
The CJEU held that real estate funds can be regarded as ‘special investment funds’ provided that the Member State concerned has made those entities subject to specific State supervision.
The CJEU emphasised that the power of Member States to define the notion of ‘special investment funds’ must be exercised consistently with the objectives of the VAT directive and the principle of fiscal neutrality. In particular, the Member States cannot say some special investment funds are eligible for the VAT exemption and others are not, so the VAT position will normally follow the fund regulatory analysis. The CJEU introduced a new requirement: a specific State supervision, but stated that the mere fact that an investment fund is subject to a specific regulation does not of itself mean that the VAT exemption applies.
In order to be regarded as a ‘special investment fund’, an entity must also display features that are sufficiently comparable to collective investment undertakings (as defined in the UCITS Directive) to be in competition with such undertakings, regardless of the nature of the investments.
Fund management services
The CJEU ruled that the actual management of real estate is not included in VAT exempt management services, although it does include services relating to the selection, purchase and sale of real estate as well as services relating to the administration of the fund. No additional clarifications were given as regards the definition of the notion of fund management services. The CJEU simply stated that in order to be exempt services provided by third party managers must, if viewed broadly, form a distinct whole and be specific to, and essential for the management of the special investment fund. The actual management of the real estate is not specific to the management of a special investment fund but is inherent to any type of investment.
Even though the case relates to real estate funds, it is relevant to all investment funds. The consequences of this decision will differ from one Member State to the other.
Indeed, it is not necessarily totally advantageous for services provided to a fund to be exempt, if the fund itself can recover the VAT (as can be the case in relation to funds investing in commercial real estate). This is because a manager can then not recover all of its own VAT costs and these will need to be factored into the amounts it charges to the fund. If the fund can recover the VAT, then it may, subject to cash flow implications, be better for the supplies made to it to be subject to VAT.
The CJEU emphasised the need for specific State supervision before a fund can be a special investment fund. The CJEU did not discuss the nature and extent of the State supervision and some discretion seems to be left to the Member States in determining whether this condition is met. New questions may arise on whether supervision at the level of the manager is sufficient or whether entities that benefit from an exemption from supervision may still be covered.
Regarding the definition of eligible services, the distinction between ’management of the fund’ and ‘actual management of its assets’ remains imprecise. The complexity of the structures, delegation of services to third parties, the systematic cross-border features as well as the application of different place of supply rules makes the determination of the appropriate VAT treatment in investment funds structures all the more difficult.
Contractual arrangements should therefore be closely monitored in order to ensure that they provide for sufficient distinction between VAT exempt and taxable services and optimize VAT costs when possible.
In relation to UK real estate funds investing in commercial real estate, it is normal for each significant property to be held in a subsidiary SPV rather than the fund itself and for day to day management services to be provided to the SPV rather than the fund. Any VAT charged is normally a cash flow cost only to the SPV and the management charge is frequently deductible for income tax purposes. There seems to be no reason for this to change.
It should be noted that the ruling does not affect the treatment of other services provided to a fund such as legal and accountancy services.