The Court of Justice of the European Union (ECJ) published its decision on 19 July 2012 in a case involving Deutsche Bank AG, on the VAT treatment of discretionary fund management services. Following the opinion of the Advocate General published in May 2012, the ECJ ruled that discretionary fund management is a taxable service, not an exempt supply of financial services.
The bank and its subsidiaries were providing discretionary fund management services to clients in Germany and elsewhere. The bank was managing its clients' securities on a discretionary basis, buying and selling securities on behalf of and in the name of the clients according to agreed investment strategies but without further reference to the clients. The banks receiving a fee for its services (including management, execution, custody, and administration) calculated as a percentage of the assets under management.
The bank claimed the services were exempt from VAT, but the German tax authorities assessed the bank for Umsatzsteuer (German VAT) on the basis that the VAT Directive does not include asset management as an exempt category of supply.
The ECJ decided that the service included separate elements of analysing and monitoring the client's assets, and of buying and selling securities. However, from the customer's perspective, this was a single indivisible economic package of services that should not be artificially split into separate supplies, but the ECJ decided that both elements are equally important: neither element was a dominant or "principal" part, with the other element only "ancillary".
The ECJ then had to decide whether this single service was within the exemptions in the VAT Directive. It is not the "management of special investment funds" as specified in the Directive and interpreted by the ECJ as limited to management of collective investment schemes. As the exemptions have to be interpreted strictly, and analysing and monitoring investments was clearly an essential part of the service and not ancillary to the buying and selling of securities, the ECJ ruled that the combined supply could not fall within the exemption for "transactions in securities". This conclusion was bolstered by the separate exemption for "management of special investment funds", which would not be necessary if it would have been covered already by the exemption for "transactions in securities".
Even though the service is not exempt, the ECJ was able to conclude that this service is a "banking" or "financial" service which is treated as supplied where received when provided to clients who are either established outside the EU, or who are taxable persons in another EU member state. The ECJ ruled that the scope of the exemption does not delimit the sorts of services that are "banking" or "financial" with the reverse charge rules for this purpose.
As a result, the German bank will be required to charge VAT on the fees for discretionary fund management services supplied to all clients in Germany and to any clients established elsewhere in the EU who are not taxable persons. Any clients who are taxable persons in other member states must operate the reverse charge procedure, but the bank could supply services to clients who are non-EU persons without VAT. In any event, the bank should be able to recover associated input VAT.
HMRC will be issuing guidance shortly on the impact of this decision. Some UK discretionary fund managers will have considered their services to be taxable already, and will not be affected. Others will have split off the taxable advice element of their service into a separate supply from an exempt execution element. Whether a split treatment can be adopted in the future will depend on the details of the contractual relationship between the manager and their client, but this decision suggests that managers could find it more difficult to argue that there are two separate supplies, even if an execution-only service would be exempt.
The separate Wheels case has not yet been decided, in which the ECJ is being asked whether defined benefit occupational pension funds can be classified as "special investment funds" that are able to benefit from the exemption from VAT for the investment management services that they receive.
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