Real estate leasing by non-resident companies without local employees does not constitute a permanent establishment for VAT purposes and triggers the application of the reverse charge mechanism.
On 3 June 2021, the CJEU delivered its ruling in the Titanium case (C-931/19). The company Titanium Ltd. ("Titanium"), whose registered office and management were located in Jersey, let – subject to VAT – a property it owned in Austria to two entrepreneurs in Austria. Titanium did not maintain own local employees for the letting activity; Titanium had appointed a property management company to invoice rental fees and operating costs, to do the bookeeping and to prepare advance VAT returns and annual VAT returns, etc. Titanium itself made all corporate decisions relating to the property.
Titanium took the view that a let property alone does not constitute a fixed establishment in Austria for VAT purposes and issued invoices without VAT. In contrast, the competent tax office in Austria referred to the VAT Guidelines, according to which Titanium was to be treated as a domestic entrepreneur in the case under consideration, and the recipient of the service was not liable for the tax on this turnover.
Titanium ruling: without local employees there is no permanent establishment for VAT purposes
The question referred for a preliminary ruling was whether, in the case of a property letting that is subject to VAT, human and technical resources must always be available and the entrepreneur must therefore have his own local employees for the provision of services in connection there with to be regarded as a fixed establishment in the country where the property is located (in this case, Austria).
The CJEU confirmed this with reference to its settled case law, according to which a fixed establishment implies a minimum degree of stability,
derived from the permanent presence of both the human and technical resources necessary for the provision of given services.
Ruling contradicts German VAT Application Decree and German case law
This ruling has consequences not only for Austrian but also for German practice: According to the German VAT Application Decree (section 13b.11 (2) sentences 2 et seq. UStAE), entrepreneurs who own a property located in Germany and let it subject to VAT must be treated as resident in Germany for VAT purposes. Such turnover must be declared in the general taxation procedure. The service recipient, on the other hand, does not owe VAT on that turnover. Input VATcan be claimed in the context of the advance VAT returns / annual VAT return (and not in the procedure for refund of foreign input VAT).
The above administrative instruction therefore contradicts the CJEU's interpretation of the term "fixed establishment" in the Titanium ruling, as the latter triggers the application of the reverse charge mechanism.
But a number of German tax courts have also affirmed the status of a wind power plant as a permanent establishment for VAT purposes, arguing that in this case a low level or even lack of personnel resources is compensated for by an above-average level of material equipment (Münster Tax Court, judgment of 5 September 2013 – 5 K 1768/10 U; Cologne Tax Court, court decision of 14 March 2017 – 2 K 920/14; Schleswig-Holstein Tax Court, judgment of 17 May 2018 – 4 K 47/17).
This case law should now also be deemed obsolete.
Legal and general uncertainty for non-resident property owners/landlords and their tenants
Although several months have passed since the publication of the ruling in the Titanium case, no reaction has yet been forthcoming from the German tax authorities. This leads to legal and general uncertainty for non-resident property owners/landlords and their tenants. While landlords have an interest in following the German VAT Application Decree in order to obtain the input tax deduction in the procedure of the advance VAT returns, tenants are now left wondering how best to deal with the CJEU case law in practice, pending a transitional provision.
But real estate transactions are also impacted, as the CJEU ruling is likely to lead to discussions on the wording of VAT clauses in the context of asset deals. In most cases, foreign real estate investors whose investment in Germany ends will wish to liquidate the investment vehicle in the medium term and, once their activity as landlords in Germany has ended, often do not have the possibility (due to termination of contracts with external service providers, expiry of IT licences, lack of staff capacities at group level due to the investment ending) to manage an implementation of the new "Titanium" case law in practice.
Accordingly, it would be desirable for the German tax authorities to react to this CJEU ruling promptly and create a generous transitional regulation.
What to look out for now when letting real estate in Germany
The judgment stipulates that it is only important to have a minimum level of human and material resources necessary to provide the services, while the decision-making power in connection with these services does not have to be transferred to the employees of the permanent establishment (for VAT purposes). However, even such a weakly structured permanent establishment is likely to be deemed a permanent establishment for German income tax purposes due to the fixed connection of the business premises to Germany (in connection with trade income as defined in section 49 (1) no. 2 f German Income Tax Act (EStG)).
It should also be noted that the CJEU's interpretation of the term of a permanent establishment for VAT purposes results in the assertion of input tax by the non-resident landlord/investor in the context of the procedure for refund of foreign input VAT. This may lead to a liquidity disadvantage to the detriment of the non-resident investor, as the reimbursement of input tax in the foreign input VAT refund procedure by the tax authorities is likely to be later in most cases than in the context of the assessment procedure. Furthermore, annual preclusion periods must be observed.
Pending any reaction from the German tax authorities, it is advisable from the perspective of landlords and tenants to prepare for the implementation of the judgment: Long-term rental invoices would need to be adjusted, new rental agreements possibly reworded, and addenda concluded for old rental agreements – depending on the wording in the existing rental agreements.
Tenants are well advised to communicate with their landlord and, if appropriate, to consider disclosing the circumstances to the competent tax office in anticipation of a practicable reaction from the German tax authorities.
Where transactions are concerned, a settlement should always be agreed that is worded to the satisfaction of both seller and buyer and takes into account both parties' interests. Of course, commercial aspects may well be significant here.
For future investments, non-resident landlords should weigh up what is more important to them: to have input taxes reimbursed as quickly as possible in the course of the assessment procedure (recommended especially in the construction phase or in the case of larger investments or maintenance on the part of the owner/landlord) or that no local material and personnel costs are incurred.
The right solution will need to be found case by case and should be sought in good time.