Potential changes to cost sharing exemptions in the housing sector

Deloitte update on recent court cases that could result in a narrower availability of cost sharing exemption in the housing sector.

14 March 2017

The VAT cost sharing exemption (CSE) applies when two or more organisations (whether businesses or otherwise) with exempt and/or non-business activities join together on a cooperative basis to form a separate, independent entity (a cost sharing group, CSG), to supply themselves with certain services at cost and exempt from VAT.

Given that the receipt of residential rental income is exempt from VAT, the CSE has been applied by several groups of housing associations in order to reduce the VAT costs arising from specific parts of their business.

Advocate General (AG) Julianne Kokott has recently released her opinions in two European Court cases concerning the CSE and the application of this to specific scenarios, which we have summarised below. It is worth noting that the court has a good track record of following AG Kokott’s opinions.

If these opinions are followed when the full court issues its judgements later this year, this could significantly narrow the availability of the CSE in the housing sector.

AG Kokott’s opinion in the DNB Banka case

In the first case, with DNB Banka, AG Kokott suggested that the VAT exemption in the Principal European VAT Directive (PVD) could be relied on directly by taxpayers, even if it had not been transposed into national law. However, in order to rely on this exemption, the following must apply:

  • The CSG had to be an entity that was potentially a taxable person in its own right – DNB Banka could not claim the exemption based only on common membership of a corporate group.  

  • Furthermore, if the CSG made a profit on charges to its members (even a modest profit which was required by national direct tax rules) it could not apply the exemption.  

These findings would have defeated DNB Banka’s claim, but AG Kokott also raised a more fundamental objection. In her view, the exemption should only apply to members engaged in activities that are exempt based on the ‘public interest’ exemptions and was therefore not available to financial services organisations. Further detail on this was to follow in another opinion during the Aviva case on the same day.

AG Kokott’s opinion in the Aviva case

In her opinion in the Aviva case, AG Kokott elaborated her views on the scope of the cost sharing exemption. In the scheme of the Directive, AG Kokott suggested that the CSG exemption operated as an extension to the public interest exemptions, and there was therefore no basis to extend it to businesses in the insurance sector (and other sectors that claim exemption under Article 135 PVD). 

In any event, she continued, the exemption could not apply to cross-border CSGs. Therefore, the exemption could not apply to the European Economic Interest Grouping established by Aviva to provide shared services to members in 12 different countries (including Poland, which had referred the questions to the Court of Justice of the European Union). 

In the light of these views, AG Kokott’s opinion that CSGs should not in principle be subject to distortion of competition, and that national law does not need to expand on Article 132(1)(f) when enacting it, will be of little comfort.  

What does this mean for housing associations?

In terms of the application to housing associations, the rental of residential property qualifies for exemption from VAT under Article 135 of the Directive, rather than as a public interest exemption under Article 132.

Housing associations could therefore be impacted by the potential narrowing of the application of this exemption, although it is important to note that there are other cases regarding CSE progressing through the European Court that could further impact the outcome in this area, and the exact implementation of any decision in the UK also remains uncertain.

We recommend that any housing associations applying, or considering the application of, the CSE consult with their tax adviser regarding their specific circumstances, and therefore the likely impact of developments in this area.