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The adjustment period
A company starting up always hopes that its investments (machine tools, IT equipment, etc.) will enable it to increase its sales. However, despite all the efforts made, success may not be forthcoming: steadily increasing losses, a lack of orders, doubts about the profitability of the business. As a result, a shareholder may decide to put an end to the business.
This raises the issue of repayment of the VAT initially deducted on capital expenditure. VAT on a purchase is immediately and fully recoverable. However, in the case of capital expenditure, the deduction is not definitively acquired until the end of a review period (5 years for movable property and a maximum of 20 years for immovable property). The company must adjust VAT initially deducted if the asset is no longer used for business purposes during the review period.
How should VAT be regularized when investment projects are abandoned?
Traditionally, it was accepted that a company did not have to regularize VAT when it could demonstrate that it had intended to carry out an economic activity but had been unfortunate in business. When investment projects are abandoned due to circumstances beyond the company's control, there is no need to adjust VAT. This is the famous INZO ruling from 1996.
Even if the business ceases trading for good?
The case brought before the Court of Justice relates to a company that had incurred significant R&D expenditure in creating a prototype of a medical device with a view to its subsequent commercialization on the market. However, once the project was completed, it was not commercially successful and, after making a loss for several years, the company decided to cease trading. It went into liquidation and applied to have its VAT number cancelled.
The company was then subject to a tax audit, which ended in a reassessment, with the tax authorities taking the view that it should repay the VAT initially deducted in respect of all unsold goods or services, plus interests for late payment and an administrative fine.
On the basis of the INZO case law, the company challenged the administration's position and the case ended up before the Court of Justice.
What did the Court of Justice say?
Against all expectations, the Court of Justice ruled in favor of the tax authorities, correcting its previous case law.
When a company cancels its VAT number, it means that it no longer intends to use or exploit previously acquired investments to make sales subject to VAT, and does so definitively. The direct link between the input purchase and the output sale is broken and the regularization mechanism must be applied. It does not matter why the activity is stopped. What triggers the VAT adjustment is, therefore, the fact that you no longer intend to use the capital goods on a permanent basis.
The VAT expert's eye
The idea behind the INZO case law was not to burden a company that was already unhappy with its business. Thirty years later, the Court of Justice has partially modified its position. Henceforth, VAT deducted on capital goods that remain unsold after the company has definitively ceased trading must be adjusted.
Has your company decided to cease trading? If you don't analyze your situation beforehand, you risk not only commercial failure but also the wrath of the tax authorities, who will be quick to put the final nail in the coffin.