The recent judgment of the Court of Justice of the European Union (ECJ) in the GfBk case provides important guidance on the VAT treatment of advisory services to investment funds and investment vehicles. In the time since the decision, the case has assisted the analysis and structuring as regards investment funds and investment vehicles established in the EU, regardless of where the manager is located, and also as regards investment managers located in the EU. This article is written from the perspective of Irish VAT law, but should have similar application across the EU.
In Ireland, the case is relevant to Irish domiciled fund vehicles (both those regulated by the Central Bank of Ireland and those outside the scope of that regulation) and also Irish investment vehicles (known as "section 110 companies") commonly used by Cayman Islands, Delaware and Channel Islands funds to hold their underlying investments.
The main points are as follows:
- Investment advice relating to a specified investment vehicle can qualify as a VAT exempt service;
- There should be greater scope to structure the provision of advice and investment management in a tax neutral manner; and
- Regulated investment funds, other investment vehicles, such as securitisation vehicles, and their advisors should review their own position in light of the judgment.
GfBk provided investment advice and recommendations on asset selection to an investment management company (IMC) of a German investment fund. The IMC merely checked that the recommendations did not infringe the relevant statutory restrictions and then implemented them, often within a few minutes of receiving the recommendation.
GfBk claimed that its services were VAT exempt as part of the general VAT exemption for management of special investment funds. The German authorities disagreed, arguing that investment advice was an activity which was distinct from management and therefore was subject t o VAT. This reflected the view t hat investment services are only exempt if the provider has the ability to contract on behalf of the investment fund, rather than just providing recommendations.
Ultimately the court concluded that GfBk's services should be VAT exempt on the basis that they constituted management. Following earlier case law (such as the ECJ Abbey National decision) the court noted that management is something which is defined by reference to the type of service supplied, rather than the identity of the person making the supply. In other words, the investment manager is not the only person who can make VAT exempt supplies of management. The VAT status of the services depended upon whether they are "intrinsically connected to the activity characteristic of an IMC, so that it has the effect of performing the specific and essential functions of management of a special investment fund". In this case the court, following the Advocate General, held that the advisory services were of such an intrinsic and essential character and therefore were exempt from VAT.
The level of litigation in this area is partly due to the uncertainty as to how one identifies what is "specific and essential" to the functions of an investment vehicle. The court in GfBk did not engage in the same level of detailed analysis as the Advocate General in his earlier opinion, however it does appear to approve of his approach. The Advocate General focused on a number of criteria which assisted him in identifying the precise content of the rule of specificity and distinctness:
- The service provided by the third party must be intrinsically connected to the service provided by the management or investment company;
- It must have a significant degree of autonomy as regards its content;
- The service must be continuous or, at least, foreseeable over time; and
- It does not appear to be relevant whether the outsourced service brings about a change in the legal or economic situation of the company which receives it (in other words, the investment advisor does not need to be able to bind the investment fund).
The services supplied by GfBk satisfied this test. It is likely that the implicit approval of the Advocate General's approach will mean that these factors will be employed by advisors and tax authorities in ascertaining whether a specific fact pattern comes within the scope of the exemption. The judgment is potentially relevant to other services provided to investment vehicles by third parties. The concept of "management" is not exhaustively defined in the functions listed in Annex II of the UCITS Directive. Advisory and informational services are not included in that list; however this did not preclude them from being exempt. By extension, other non-specified services which are intrinsic to the management of the vehicle (such as perhaps risk monitoring of regulated investment funds) should also be within the scope of the exemption.
Under Irish law, capital markets issuers and finance companies which qualify under section 110 of the Irish Taxes Consolidation Act 1997 are entitled to the same VAT exemption as a regulated fund. As noted, these vehicles are widely used by international hedge funds and private equity funds to hold the underlying investments of the fund.
Advisors should consider whether their own VAT position is affected by the decision. If they provide investment advice and claim deductions on the basis that this constitutes a taxable supply, they may need to adjust this treatment and suffer a loss to their input deduction.
This decision is good news for the investment funds and capital markets issuer industry in Europe. The decision provides greater clarity on the treatment of investment advice and should allow market participants greater flexibility in choosing the form of organisation which best suits them from a commercial perspective, without running the risk of a VAT charge.
Investment vehicles and third party managers should review their contracts and arrangements to ensure that they are consistent with the judgment. Some may be in a position to reclaim VAT from their service providers, or where they accounted for VAT on a reverse charge basis, to reclaim the VAT from the tax authorities.
This article was first published in AIMA Journal Q4 in December 2013.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.