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Managing Directors Becoming VAT Payers?

Towards the end of 2016, the Czech Supreme Administrative Court handed down a decision which opens the way for members of corporate bodies to become elective VAT payers, with all the rights and obligations that this entails.

Pursuant to the current wording of the VAT Act, persons (both natural persons and legal entities) fall under the purview of value-added tax (VAT) if they engage in independent economic activity.

The VAT Act, aside from enumerating activities which are considered in this sense to be economic activity, also defines certain cases which do not qualify as economic activity – among them the activity of persons whose income is taxed as 'income from dependent work'. However, according to the current wording of the Income Tax Act, the definition of 'income from dependent work' encompasses inter alia also the remuneration of members of corporate bodies, such as that of managing directors or board members.

By way of this reference to the Income Tax Act, the VAT Act thus exempts the performance as corporate officer from economic activity, so that the persons who perform as corporate officer do not come under the purview of value-added tax, and thus cannot become VAT payers (and if they already are on the basis of other circumstances, then this particular activity of theirs ought not be subject to VAT).

In its judgment 2 Afs 100/2016-29 of 22 November 2016, the Czech Supreme Administrative Court concluded, however, that – with a view to the specifics of the relationship between legal entities and their statutory body (managing director) – the performance as managing director does very well qualify as independent economic activity, and that the provisions of the VAT Act which exempt such performance from economic activity are at odds with the applicable European Directive (on a common system of value added tax), whose direct applicability may be invoked.

This conclusion by the Supreme Administrative Court cannot be narrowed such that it would purely relate to performance as a managing director – it must apply to all members of elected bodies at legal entities.

In practice, this means that – until a relevant amendment to the VAT Act is passed (note: the recent "tax package" does not address this particular matter) – the member of an elected body of a legal entity may freely choose, thanks to the direct effect of the said Directive, whether or not they wish to be a VAT payer and enjoy the benefits deriving from that status (namely, the opportunity to deduct input tax paid on received taxable performances and supplies within the context of their office). We should note that pre-tax deduction at the same time becomes available also to the legal entity. There is no need to fear the supplementary assessment of VAT by the competent tax authorities: the direct effect of a European Directive may only be interpreted to the benefit of individuals, but not such as to impose obligations on them.

The above-mentioned option may be interesting for the legal entity itself, in terms of the potential savings of administrative and payroll costs.

Source: Supreme Administrative Court Judgment 2 Afs 100/2016-29 of 22 November 2016 VAT Act (Act No. 235/2004 Coll.) Income Tax Act (Act No. 586/1992 Coll.)