The Dutch Supreme Court has ruled on abuse of law
doctrine relating to hospital VAT leasing schemes. Remco Smorenburg
examines the decision and its implications.
The Dutch Supreme Court has provided guidance on the
application of the abuse of rights doctrine (the so-called Halifax
principle) to a hospital leasing scheme.
This case is particularly important
because it is the first time the Dutch courts have considered the
abuse of law doctrine in the sphere of VAT.
The abuse of law doctrine applies
where a transaction contravenes the spirit of the VAT rules. It was
first introduced by the European Court of Justice (ECJ) in the
Halifax case (C-255/02).
In broad terms, the abuse of rights
doctrine applies where:
(i) the transactions concerned
result in a VAT advantage which is contrary to the purpose of the
VAT directive and legislation; and
(ii) the essential aim of the
transactions is to obtain a tax advantage.
Where the abuse of rights doctrine
applies, the courts are able to recharacterise the transaction to
counter the VAT advantage.
The application of this principle
to leasing was first considered by the ECJ in the Weald Leasing
Here the ECJ held that replacing a
purchase of assets with an asset leasing transaction (the aim of
which was to defer the VAT charged) was not necessarily an abuse of
law, provided the contractual terms of the transactions, particularly the
level of rentals, correspond to arm’s length terms and are not “set
at levels which are unusually low or do not reflect any economic
Hospital leasing schemes have been
common in the Netherlands because a hospital generally conducts
VAT-exempt activities (medical services) and therefore it cannot
(fully) recover the input VAT (generally 19%) charged to it.
The aim of these schemes was to
reduce the amount of irrecoverable VAT.
The structure involved setting up a
Dutch limited partnership (CV) with two partners: the hospital and
an independently owned Dutch limited company, which was funded by
The CV would acquire the equipment,
which the hospital requested, and reclaim all input VAT charged to
it in connection with the acquisition. The CV would then lease the
equipment to the hospital for five years.
The hospital would be entitled to
acquire the equipment at the end of the lease for approximately 10%
of the original purchase price.
Assuming that all payments under
the lease were paid and the purchase option was exercised, the CV
would receive approximately 62.5% of the acquisition price for each
asset, and consequently would be making a loss.
This loss was covered by the
hospital making additional capital contributions into the CV.
The benefit to the hospital of
being able to reclaim the input VAT on the equipment purchase, and
the VAT on the low lease payments being spread over five years, was
that, if successful, the VAT cost of purchasing the equipment would
be reduced by approximately 40%.
The Dutch tax authorities
challenged the scheme on the basis that the CV should not be
entitled to recover the input VAT on the acquisition of the
equipment on the basis of the abuse of rights doctrine.
The CV argued the court should only
consider the tax position of the CV as actual taxpayer, and not
take into account the perspective of, and benefits obtained, by the
This point was referred to the
Advocate-General who concluded the benefits to the hospital were
relevant. The Dutch Supreme Court agreed with the
The Dutch Supreme Court considered
the set of transactions enabled the hospital from an economic point
of view (indirectly) to recover a substantial part of the input VAT
in respect of the equipment, and that this tax advantage is
contrary to the provisions of the VAT legislation.
The VAT rules aim to exclude input
VAT recovery where goods are used for non-VAT taxable activities,
such as providing medical services.
For the Supreme Court it was clear
the series of transactions was completely artificial and that the
sole purpose of the transactions (setting up the intermediate third
party, the favourable terms of the lease agreement and the
likelihood of the hospital exercising the purchase option) was to
obtain a tax advantage.
As a result, the Supreme Court
ruled that, as the set of transactions could be considered abusive,
“the transactions involved in it must be redefined so as to
re-establish the situation that would have prevailed in the absence
of the transactions constituting the abusive practice”.
Consequently, the court ruled that
the CV was not entitled to reclaim VAT on the purchase of the
The outcome is a clear victory for
the tax authorities. However, it will be good news for some
taxpayers, in that the judgment confirms the abuse of rights
doctrine is unlikely to apply to arm’s length leasing transactions,
even where there is a VAT benefit arising from the transaction.
As a result, the majority of
leasing transactions should be safe from any VAT
Remco Smorenburg is a tax
partner in the Amsterdam office of Norton Rose