Taking counsel: Lack of clear criteria in VAT taxation

  • 2006-04-19
  • Jurate Truskaite
Following the general rule of VAT law, activity of the state and municipalities is neither an economic activity nor a VAT object, even if taxes and customs are paid for such activities. The law defines such activity of the state and municipalities, their institutions and offices, as well as other public legal persons that the latter are obliged to perform by law. Still, it is obvious that quite often the state, while accomplishing the public interest, is engaged in activities with features of "economic activity."

Although formally provisions of Lithuania's VAT law as regards the definition of a VAT object are harmonized with EU law, it is important how these provisions are implemented in practice. Unfortunately, it is still very difficult to find clear criteria in VAT application for Lithuanian public legal persons. Specific examples of VAT taxation raise certain doubts regarding such criteria.
For example, even such institutions as the State Tax Inspectorate or the State Labour Inspectorate are registered VAT-payers. Conversely, while solving problems of VAT taxation of other public legal persons, STI often doesn't pay attention to the economic dimension of their activity. STI usually considers all activities of public persons that are performed on the basis of their legal duties as VAT nontaxable. Other criteria (payment for services, economic features of their activities and competition with activities of private persons) are often not taken into consideration.

Because of such inconsistent practices, its impossible to predict whether some state or municipal institution that today counts sale and purchase VAT will be declared tomorrow as not in compliance with criteria of the VAT law and registered out of the VAT-payers, or vice versa. Lack of clear criteria in the practice of implementation of the VAT law, especially in distinguishing when state and municipal institutions, offices and organisations and other public legal persons must apply VAT, and when not, may potentially cause unpleasant consequences for both public persons and their contractual parties.
Since the VAT system is based on a principle of sale and purchase VAT balance, an unexpected change of taxing status directly influences the persons who bought goods or services from a public legal entity. According to the law, VAT-payers who buy taxable goods or services have a right to deduct the paid VAT amount. However, after a change of a seller's VAT status 's i.e., VAT on its activities was calculated improperly 's buyers who paid VAT have to recalculate a previous VAT report and return the respective VAT amount to the budget. Such unexpected circumstances can influence negatively their activity and in some cases even endanger their solvency.

While searching for a solution of the problem, the tax administrator and public legal persons should take into account provisions of the Sixth Council Directive of May 17, 1977 on the harmonization of laws of member states relating to turnover taxes 's a common system of value-added tax 's a uniform basis of assessment and the practice of the European Court of Justice in interpreting these provisions.

Jurate Truskaite is a lawyer at Jurevicius, Balciunas & Bartkus, a member of Baltic Legal Solutions, a pan-Baltic integrated legal network of law firms including Teder Glikman & Partnerid in Estonia and Kronbergs & Cukste in Latvia, dedicated to providing a quality 'one-stop shop' approach to clients' needs in the Baltics.