The European Court of Justice (Third Chamber) ruled that the words ‘special investment funds’ in art. 13(B)(d)(6) of Council Directive 77/388 (‘the sixth directive’) were capable of including closed-ended investment funds, such as investment trust companies. Moreover, that provision allowed member states a discretion in defining the funds located on their territory which were covered by the notion of ‘special investment funds’ for the purposes of the exemption provided for by that provision. However, in the exercise of that power, member states had to respect the objective of art. 13(B)(d)(6), which was to facilitate investment in securities for investors through investment undertakings, while guaranteeing the principle of fiscal neutrality from the point of view of the levying of VAT on the management of special investment funds which were in competition with other special investment funds. Finally, art. 13(B)(d)(6) had direct effect, in that it could be relied on by a taxable person before a national court in order to challenge the application of national legislation allegedly incompatible with that provision.

Facts

The first taxpayer was an investment trust company ITC) which engaged the management services of a third party to manage its investment portfolios. ITCs were collective investment schemes constituted as limited liability companies quoted on the stock exchange. Customs took the view that the taxpayer was subject to VAT on those management services. The second taxpayer, an association representing a number of ITCs operating within the UK market, challenged that decision before the VAT and Duties Tribunal on the ground that the management of authorised unit trust schemes (AUTs) and open-ended investment companies (OEICs) (collective special investment funds, in which the respective number of units or shares held by investors varied in accordance with their investment) were exempt from VAT. The tribunal stayed proceedings and referred to the European Court of Justice for a preliminary ruling on the interpretation of art.13(B)(d)(6) of Council Directive 77/388 which exempted from VAT ‘management of special investment funds as defined by member states’.

Issues

Whether the words ‘special investment funds’ in art. 13(B)(d)(6) were capable of including closedended investment funds, such as ITCs; if so, whether the phrase ‘as defined by member states’ in art. 13(B)(d)(6) allowed member states to select certain of the special investment funds within their jurisdiction to benefit from the exemption of the supply of management services and exclude others, or whether the benefit of exemption should extend to all funds; if the member states could select which special investment funds benefited from the exemption, how the principles of fiscal neutrality, equal treatment and the prevention of distortion of competition affected the exercise of that discretion; and whether art. 13(B)(d)(6) had direct effect.

Decision

The European Court of Justice (Third Chamber) (ruling accordingly) said that art. 13(B)(d)(6) laid down no definition of the words ‘special investment funds’ which covered special investment funds whatever their legal form and that it was not apparent from either the wording or the context of art. 13(B)(d)(6) that it was the intention of the Community legislature to authorise member states, when they defined the terms of the exemption, to make a distinction according to the mode of operation used by the special investment fund. An interpretation of art. 13(B)(d)(6) exempting from VAT the management of open-ended funds, and not the management of closed-ended funds, would be contrary to the principle of fiscal neutrality on which, in particular, the common system of VAT established by the sixth directive was based, and which precluded economic operators carrying out the same transactions being treated differently in relation to the levying of VAT. Closed-ended funds presented no relevant difference which precluded their classification as special investment funds along with open-ended funds. A closed-ended investment company such as an ITC, which used external management services, was liable to fall within the definition of ‘special investment funds’ in art. 13(B)(d)(6). That interpretation was not undermined by the fact that closed-ended funds were not required to use external management but could opt to manage themselves. The fact that, unlike OEICs, closed-ended funds such as ITCs had the option of self-management and were not required to have recourse to external management had no effect on the position of an ITC which decided to use external management. Where such a fund chose to use external management, it was objectively in the same position as an open-ended fund such as an OEIC which was required to use external management. Therefore, the words ‘special investment funds’ were capable of including closed-ended investment funds, such as ITCs.

The task of defining the meaning of the words ‘special investment funds’ did not permit the member states to select certain funds located on their territory and grant them exemption and exclude other funds from that exemption. The term ‘special investment funds’ was the starting point for the discretion conferred on the member states. An interpretation which would allow member states to select the investment funds which were eligible for the exemption and exclude others would negate the significance of the terms ‘special investment funds’’ in art. 13(B)(d)(6) whose objective was to prevent discrepancies in the application of VAT to such funds. Thus, art. 13(B)(d)(6) only granted to member states the power to define, in their domestic law, the funds which met the definition of ‘special investment funds’, to be exercised subject to the objective pursued by the sixth directive and the principle of fiscal neutrality of the common system of VAT.

Article 13(B)(d)(6) was intended to ensure that the common system of VAT was fiscally neutral as regards the choice between direct investment in securities and investment through undertakings for collective investment. Secondly, the principle of fiscal neutrality precluded economic operators carrying out the same transactions from being treated differently in relation to the levying of VAT. That principle did not require the transactions to be identical but precluded treating similar goods and supplies of services, which were in competition, differently for VAT purposes. The principle of fiscal neutrality included the principle of elimination of distortion in competition as a result of differing treatment for VAT purposes. Distortion was established once it was found that supplies of services were in competition and were treated unequally for the purposes of VAT. It was irrelevant, in that connection, whether the distortion was substantial. Any application of national legislation which excluded the management of special closed-ended investment funds from the exemption provided for by art. 13(B)(d)(6) was contrary to the objective of that provision and to the principle of fiscal neutrality where those closed-ended funds were collective investment undertakings which allowed investors to invest in securities and where those funds were in competition with funds exempt from VAT.

It was for the national court to verify whether the application of the national legislation was consistent with the objective of art. 13(B)(d)(6) and with the principle of fiscal neutrality. AUTs, OEICs and ITCs were three forms of special investment which spread risk. In addition, ITCs, like AUTs and OEICs, involved investment in securities through the intermediary of a collective investment undertaking which allowed private investors to invest in wide ranging investment portfolios and thus reduce the stock market risk. Thus, the management of ITCs fell within the objective of the sixth directive and ITCs constituted investment funds comparable to AUTs and OEICs which fell within the definition of ‘special investment funds’. In those circumstances, the exclusion of ITCs from the exemption provided for by art. 13(B)(d)(6) did not appear justified. It should also be borne in mind that the classification in national law of special investment funds could not suffice to justify their qualifying for a Community exemption. They also had to be funds covered by the notion of ‘special investment funds’ within the meaning of art. 13(B)(d)(6) and liable to be exempt in the light of the objective of that directive and the principle of fiscal neutrality.

Finally, the fact that art. 13(B)(d)(6) allowed member states a discretion, indicating that they were responsible for defining special investment funds, did not prevent the persons concerned from relying directly on that provision, where a member state exercising that discretion had adopted national measures which were incompatible.

European Court of Justice (Third Chamber).
Judgment delivered 28 June 2007.