The 14th of the month is one of the most important dates for every company, because it is related to the payment and the deduction of value added tax (VAT). Companies face VAT every month, and on a yearly basis this tax generates considerable sums.
In case of a tax audit the losses due to non-recognition of the tax credit would be more than significant. We will look at the preconditions which the law, the tax and the jurisprudence require for the recognition of the right to deduct VAT.
Strict criteria have been established for the lawful deduction of tax credit by the recipient companies of the service. These companies are examined first by the tax authorities when initiating a revision proceeding, and then by the court – in judicial proceedings when there is an appeal against the revision act.
The statements in the revision act are considered to be true until proven otherwise. If the right to tax credit is not recognized, the affected company has to refute the tax authorities’ statements and prove that the contract is veritable.
Here we will not regard the absolutely necessary prerequisites, namely – the receiver and the supplier must be registered under the VAT Act and the delivery must be taxable with VAT. The preconditions which the tax authorities examine in order to assess the supply are more interesting and more problematic. The assessment is not commeasurable only with invoices between the two sides.
Firstly, in order for the right to deduct tax credit to be recognized, the transaction with a deducted VAT has to be impeccable from an accounting point of view.
The requirements are pointed in Art. 71 from the VAT Act, according to which a registered person can exercise the right to deduct credit tax when they have a document for every delivery in which the tax is indicated on a separate line. In general, an invoice is required, in which the tax is on a separate line and which has all the necessary requisites in accordance with the law.
The requirement for requisites is not absolute – the lack of a certain element is assessed considering the other data which individualizes the deal between the two sides. For example, if the name of the materially responsible person is incorrectly written this will not affect the deduction of tax credit given the fact that it is clear which are the sides and the subject of the transaction.
The second condition is the coverage of the transaction in the supplier’s sales log and the purchaser’s log of purchases.
This regards the coverage of the transaction in the accounts of both parties by transferring sums in the respective debit and credit accounts in the book-keeping of both contacting parties. This is connected with the traceability of the transaction. Practice shows that it is very hard for the experts and the appellant to get assistance from the supplier for verification of their account when there is a judicial appeal against an audit act. The lack of assistance could be due to the deregistration of the person according to the VAT Act or, as it is generally, because a few years have passed and the parties are no longer in trade relations and/or the governing authorities are different and contact cannot be established. The result is that there is no possibility of tracing the invoices in the supplier’s accounts.
There is another opportunity though – tracking the invoice in the purchase and sales logs, submitted by the parties in the territorial directorates of the National Revenue Agency (NRA) declarations. This information can be required by request to the NRA in case of appeal against the revision act. This does not mean that the invoices are automatically included in the purchase and sales logs. It is possible that an invoice is included in the logs but is not accounted and vice versa. In court proceedings it is assumed that the inclusion of the invoice in the purchase and sales logs is evidence of its accounting.
The next condition for a lawful deduction of tax credit is the payment of the delivery price. Although at first this condition looks logical and clear, in practice it is very often that the receivers deduct tax credit on deliveries which they have not paid.
Payment of delivery does not necessarily result in recognition of the right to tax credit but constitutes a serious indication of the reality of the supply. In its decisions the Supreme Administrative Court (SAC) takes into account the judicial and logical aspects of the payment by stating that the payment would have been devoid of economic logic if the goods were not actually delivered (Decision 13.01.2010 of the Supreme Administrative Court on administrative case 12971/2009).
Furthermore, it is necessary that the received delivery finds realization in the receiver’s trade activity. Cases when owners of companies buy goods and possessions, which they use for personal needs and have no connection with the company’s activity, are very often. If a pig farming company buys a garden swing or a snowmobile, it is not possible to deduct tax credit for these purchases.
Here it should be considered whether it is appropriate to make such “personal” deliveries through a company, given the real risk after a few years the amount of the deductible tax credit to be due, together with accrued interest.
So far the listed prerequisites are, to some extent, in the power of the recipient of the supply and they have the control to request and receive an invoice to post, to pay the due price, to use the commodity or service for their trade. The revenue authorities investigate a long and burdensome set of facts and circumstances in order to assess whether the delivery is real. In many cases there is a jarring between the approach of the tax administration and the Supreme Administrative Court.
After the verification of the accounting and the payment transaction, the tax authorities check the documentary justification of the delivery. At this stage the instrumented transaction documents are examined. Most often the required documents are: a contract or another document which gives rise to contractual relations between the parties; correspondence regarding the assignment of the order (directions, letters, assigning a supply or service), delivery documents (protocols, acts for execution of construction work, maps for work performed by machines and so on).
The tax administration often does not take into account the flexibility and speed of the trade turnover, including the fact that some transactions do not produce a whole set of documents between the two parties. For example, it is unlikely that two parties will conduct a written contract for the purchase of stationery materials for 100 – 200 BGN, a letter for the purchase and a protocol. Most probably such as transaction will be objectivized in an invoice and eventually in an email between the two parties (often the order is made on the phone or in the trade center, which leaves no traces that can be used in a revision proceeding).
Now imagine how for a five-year revised period you made orders for stationery material about 50 times and how in order to prove that you actually did make these purchases you have to secure at least 100 witnesses (2 for every transaction) about how you ordered and received the goods. Unfortunately, this actually happens, so sending an email with a duly indicated order would effectively save a lot of trouble for the merchant in the event of a revision in the future.
Another common problem with documentary justification is the long-standing practice of the tax administration not to accept the documents submitted by the revised person as valid on the ground that they are not official (issued by a state or authorized body within the scope of its competence), but private (constructed by the two parties).
In the above described situation there can be no other documents besides those between the parties. In the trade turnover relations develop between equal subjects – merchants, not between a merchant and an authority. This is why this common persuasive is incorrect, to say the least. The instituting of correspondence with a date (e-mail, shipment by courier or mail) would be useful in order to leave traces of the relations between the two parties.
The court practice on the subject is diverse. The principle is to examine every case and the existence or absence of this prerequisite to be assessed in the light of all the other requirements. Overall, there is a tendency that SAC takes into account the trade turnover and the impossibility of documenting each particular stage of the transaction.
The documentary justification seems hard and unnecessarily formalized, but the next criterion is the most difficult to cover as far as the revised person is concerned. One of the most frequent reasons that the tax authorities refuse the right to deduct tax credit is the lack of staff and technical support for the supplier to execute the delivery or service.
You order a company to repair your office and after a few years your company is audited. The revenue authorities find out that the company which carried out the repair did not have the materials and the instruments to do so, nor did it have employees with a contract of employment to work on the site. Thus, a sanction for you follows – non-recognition of paid VAT. When assessing the reality of each supply, the tax authorities examine how many workers/employees the supplier has. The number of the employees is related to the volume of the invoiced work and their qualification. It is possible to be assessed that the employed in the company-supplier, let’s say, five workers, do not have the ability to do the negotiated between the parties work in due time or they do not have the required competence.
The material security of the supplier is also examined – what and how many machines and materials does they have, are they sufficient for the given order. Most often the lack of these prerequisites is imputed to the recipient of the service by not recognizing his right to deduct a tax credit.
The court’s approach is very different from the tax administration’s one. The SAC’s practice excludes the revised person’s responsibility for the negligence of their supplier. This is also the practice of the Court of Justice of the European Union which is compulsory for all member states, in accordance with Judgment in joint cases C-80/2011 and C-142/2011 of the Court of Justice of the European Union: “…a national practice, according to which the tax authorities refuse to recognize the right to deduct tax credit because the taxable person has not assured themselves that the issuer of the invoice is a taxable person, that he had the goods (subject of the delivery), that he could deliver them and could fulfil his obligations to declare and pay VAT, or because the taxable person in question does not have documents other than the invoice showing the existence of these circumstances, is not allowed.”.
In other words, you are not obliged to know whether the company which you hired has employees under an employment contract or it uses persons under a civil contract or with no contract at all. You are not obliged to know whether the machines your supplier uses are their own, rented or used on another basis.
The deduction of tax credit is a possible mission, especially when rules for choice and correspondence with business partners are applied. The different approaches of the tax administration and the court shows the opportunities for protection of revised persons against the formalization of the tax administration when dealing with trade relations.
Author: Plamena Vasileva, Attorney-at-law