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VAT and Factoring Back  
A European Court of Justice (ECJ) judgement has improved the VAT position of companies who factor debts. In most cases this should reduce the cost to them of factoring transactions. Some taxpayers may have a right to recover VAT for past periods.
The judgement
Revenue issued a statement earlier this year on the VAT treatment of factoring and similar services. This was in response to a case decided by the European Court of Justice in 2003 (know as MKG). In that case, the ECJ held that non-recourse factoring (where the factoring company assumes the risk of loss), should be treated for VAT purposes in the same way as full-recourse factoring (where the risk of loss remains with the originator). The Court decided that both should excluded from VAT exemption. Previously many EU Member States had distinguished between recourse and non-recourse factoring (the former being regarded as VAT taxable and the latter being regarded as VAT exempt).
John McGlone

The outcome of this case has been good news for Irish factoring companies that supply services either to other Irish businesses with a VAT recovery entitlement, or to non-Irish businesses. In both cases the Irish factoring company will be entitled to recover VAT on its costs. In the former case any Irish VAT charged by the factoring company to a VAT taxable Irish customer would be recoverable by the customer. In the latter case the service would typically be regarded as outside the scope of Irish VAT (although in some cases the VAT position in the originator’s jurisdiction may need to be considered).

On the other hand, the subjecting to VAT of factoring services was not welcome news for Irish business using factoring services where they do not have an ability to recover VAT on costs (e.g. VAT exempt financial services companies using factoring services). While the Court ruling clarified the position concerning the VAT treatment of factoring services, the case has raised a number of questions on transactions that are not strictly factoring, but involve debts being assigned from one party to another. The main issue relates to the treatment of the assignee’s ‘service’ and, where that service is considered VAT taxable, the amount of ‘consideration’ which should be liable to VAT.

Revenue reaction
Revenue have stated that while they accept the principle of the MKG case, they will continue to treat as as VAT exempt, the ‘service’ provided by an assignee of a debt (that service being relieving the originator of the burden of the debt), where the debt collection function remains with (or is assigned back to) the originator. In these circumstances Revenue say that they will not allow VAT recovery for costs incurred by the assignee of the debts (which would include any VAT chargeable on debt collection services which are required to be ‘bought-in’ by the assignee). This approach will result in additional VAT cost in many cases (i.e. the denial of VAT recovery for assignee’s costs), but there may be other cases where the treatment of the assignee’s service as non-VATable may be of benefit (e.g. if the originator would not be in a position to recover VAT were it charged by the assignee). Revenue have also indicated that any interest component of a factoring service will be regarded as VAT exempt (with the same restriction on the right to recover VAT as described in previous paragraph). They do not go on to explain whether or how an interest component should be determined if the assignee does not charge interest but simply acquires the debts at a discount to their face value (which is the case in many debt assignments). The issue of whether a discount would represent consideration received by the assignee, and whether that should be regarded as VAT taxable, was one of the main unanswered questions in the MKG case. Revenue have also stated that they would not regard invoice-discounting as VAT taxable under the MKG principle, on the basis there is no collection function assumed by the invoice discount provider. These businesses will continue to suffer denial of VAT recovery on costs.

Overall, the Revenue statement does not add significantly to the understanding of the consequences of the MKG case. In some areas it can be argued that Revenue have misinterpreted the findings of the case and no doubt these and related issues will resurface in the very near future.

Taxpayer opportunity
The MKG case clarified the correct VAT treatement under EU law. That treatement should have applied throughout the EU at all times and not only from the date of the judgement. Accordingly some taxpayers may have underrecovered VAT input credits in the past due to the mistaken approach taken by the Irish Revenue to the issue. There may be an opportunity for some taxpayers, especcially those who had supplied non recourse factoring, to now reopen past periods and to seek a refund of the input credit recovery improperly denied in the past.

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