When Europe's highest court turns its attention to tax matters on Thursday, the main focus will be on a potentially historic case on direct tax brought by Marks and Spencer, the UK retailer.The case, which will determine whether losses incurred abroad can be offset against group profits for tax purposes, is hugely controversial. A victory for the taxpayer would reinforce a perception that the European Court of Justice is using the anti-discrimination provisions of the Treaty of Rome to harmonise Europe's corporate tax regimes.
But away from the limelight, the ECJ is also delivering some highly significant opinions on indirect tax. Today, for example, it will issue opinions that will determine whether the UK's Customs & Excise can exploit a new weapon against tax avoidance.
The outcome of the cases, involving Halifax, the UK mortgage lender, Bupa Hospitals and the University of Huddersfield, will help decide whether the "abuse of rights" principle of European law can be used to block transactions designed to avoid tax.
On the face of it, the indirect tax cases involving value added tax are much less controversial than the direct tax cases. VAT is, after all, already a Europe-wide tax, albeit one with significant variations in the rates applied in different countries.
But the cumulative impact of the cases being heard at the ECJ is significant. Paddy Behan, a partner at Grant Thornton, a professional services firm, says: "Beyond a doubt, this is going to be the biggest year for VAT litigation since it was first introduced. This is not just because of the volume of cases, but also because of the principles being tested which will point the way for years to come."
This proliferation of VAT cases is in some ways puzzling given that Europe's VAT system is so long-established - and is generally viewed as a successful tax. "The VAT system has for many years demonstrated its capacity to raise tax revenue in a neutral and transparent manner," a recent report by the Paris-based Organisation for Economic Co-operation and Development says.
However, the large number of such cases now before the ECJ reveals strains within Europe's 51-year-old VAT system. There are two main types of case: those involving threats to national exchequers through tax avoidance and fraud; and those brought by companies or the European Commission that hold that governments are incorrectly applying the tax.
The surge in cases concerning avoidance is a response to the increasingly energetic activities of the tax planning industry. Greg Sinfield, a partner of Lovells, a law firm, says: "Over the last few years, the incidence of VAT planning has increased as VAT rates have increased. It has become a more significant tax for business, especially the financial industry."
Outright fraud is also a growing problem for governments. In recent years, the VAT system has become "a target for serious criminal activity", according to the OECD. In particular, governments have lost huge amounts of money through "carousel" frauds since the late 1990s. These involve chains of cross-border transactions of small high-value items such as computer chips or mobile phones and take advantage of EU rules that allow a zero rate of VAT on a sale from one member state to another.
Carousel frauds were the subject of an ECJ opinion earlier this year, when the advocate-general found against the UK government's efforts to clamp down on traders innocently involved in a fraudulent chain. Even though the advocate-general pointed out that EU law allowed governments to find traders "joint and severally" liable if they knew or should have known about a fraud, the opinion was seen as a blow for governments.
Stephen Dale, chairman of the indirect tax working party of FEE, the European Federation of Accountants, says: "Carousel fraud touches the core of the VAT system itself. If upheld by the ECJ, the AG's opinion means that the whole of the VAT system is made fragile."
The second trend resulting in increased VAT cases at the ECJ stems from increased litigiousness among companies. Tony McClenaghan, global indirect tax leader of Deloitte, the professional services group, says: "The trend to litigate has increased over the years in VAT as it has in most areas of activity. Rates have increased. There is an awful lot of money at stake."
Companies are becoming less inhibited about challenging their tax authorities, he says. Globalisation has helped erode a perception that such a challenge was risky because it could lead to retaliation by the tax authorities and wrong because it undermined social solidarity. Local courts are also more willing to refer cases to the ECJ.
At the root of many of these cases are discrepancies in the way VAT is applied throughout Europe. Even though the sixth directive, which harmonised member states' law on VAT, was introduced back in 1977, there are still many differences in application of the tax.
One explanation for this lies in the tendency of those countries that already had a VAT system to make the minimum possible changes to their codes to fit in with the directive. Another comes from the ambiguity and discrepancies in the different versions of the directive. In the late 1980s it was drawn up in French and translated into different versions, sometimes by people who did not understand the concepts.
The Commission is trying to clarify the law by redrafting the sixth directive. But progress is unsurprisingly slow. The complexity and lack of glamour of the project put it low in the political priorities of the member states.
In the meantime, the task of ironing out discrepancies has largely fallen to the ECJ. According to Mr Dale: "What we are seeing is that slowly but surely, the court is helping to harmonise VAT regimes in Europe."
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