Possibility to include the difference between the sums of VAT charged in connection with purchase (import) of goods (works, services) and their further sale to the expenses.
In view of the adoption of the new Tax Code of Ukraine (hereinafter – “the Tax Code”) the issue regarding the possibility of including the differences between VAT amounts charged with respect to purchasing (importing) the goods (works, services) and their further sale to the deductible expenses has been arisen.
In this newsletter we consider the issue of VAT to be charged additionally on the sum of:
- excess of the arm’s length price over the actual sell price of goods (works, services) – “rummage sales”, free of charge rendering etc.;
- excess of the customs value of the imported goods over the actual sell price.
As a general rule, established by para.188.1 of the Tax Code, tax basis for VAT on operations of providing goods/ services shall be determined proceeding from their agreed (contractual) price but not lower than the arm’s length price.
That is why in case when the actual price of supply is lower than the arm’s length price, the seller issues two VAT vouchers: one – on the amount calculated proceeding from the actual price of supply, and the other – on the amount calculated proceeding from the excess of the arm’s length price over the actual. Such second VAT voucher is not provided to the customer, all copies of such VAT vouchers shall be kept by the seller. So, the seller shall not receive the VAT amount from the buyer which shall be included to the tax liabilities in VAT return for respective period. Under such conditions VAT is turned from ‘indirect tax’ to ‘direct’, since it is paid at the expenses of the seller not the buyer and such VAT shall not be reimbursed to the seller in the price of goods (works, services).
Analogical situation is with the supply of imported goods. In accordance with part three of para. 188.1 of the Tax Code, the tax basis of the operations on supply of goods imported to the customs territory of Ukraine, shall be determined proceeding from their agreed (contractual) price but not lower than the customs value of the goods. So, in the given case the point is in the necessity of additional charge of VAT on the customs value of imported goods in case when the sell price in Ukraine is lower than the customs value1.
In practice such situation may occur as a result of changes in the market conjecture, devaluation of goods etc., while the arm’s length price of the imported goods at the moment of their selling is lower than the customs value of such goods. Besides, such situation may be caused by overstating the customs value of the goods by the customs authorities when importing them, which occurs more often recently.
Besides, the order of issuance of the VAT voucher in such case is not envisaged by the effective tax legislation at all. We believe that in this case it is necessary to act by analogy and issue two VAT vouchers, one – on the amount calculated proceeding from the actual price of supply, and the other – on the amount calculated proceeding from the excess of the goods’ customs value over the actual price. Eligibility of such approach was confirmed by the STS of Ukraine, which in the letter as of 22.03.2012 No. 8225/7/15-3417-26 offered such actions by analogy with the situation of exceeding the arm’s length price over the actual price.
So, burden for the VAT payment, charged on the difference between the actual price of the imported goods and their customs value, completely relies on the seller. According to this mechanism “refund” of such VAT is not determined by the acting legislation. Respectively, the essence of VAT as indirect tax is broken, and the seller incurs additional costs on its payment at his own expenses.
Proceeding from the system analysis of the provisions of the Tax Code we believe that there is the possibility to struggle for expenses on the additional charge of VAT and, at least, to defend the right of the seller to treat such expenses as deductible for corporate profit tax purposes according to subpara.138.12.2 of the Tax Code as “other expenses of the business activity” for which there are no limits envisaged by Section II as to their deductibility.
The absence of prohibition on including the VAT ‘difference’, charged on the amount of exceeding the arm’s length price over the actual sell price of the goods (works, services) or on the amount of exceeding the customs value over the selling price of the imported goods, to the deductible expenses may be proved by the following arguments:
Subpara 138.12.2 of the Tax Code allows including any expenses except for those to which, firstly, Section II of the Tax Code of Ukraine directly sets limits as to their deductibility and, secondly, those which are not related to the business activity.
Subpara. 138.10.4 of the Tax Code includes other operating expenses related to business activity, including but not limited to, the amounts of accrued taxes and duties, established by the Tax Code, except for taxes and duties foreseen by subparas.139.1.6 and 139.1.10 of the Tax Code to other expenses of operating activity.
Respectively, Article 139 of the Tax Code contains the general list of non-deductible expenses. According to subpara.139.1.6 of the Tax Code VAT amounts not included inter alia to the price of goods, works or services acquired by the taxpayer for productive or non-productive use. Subpara. 139.1.10 concerns amount of duty for some types of entrepreneurial activity. There are no other limitations of the expenses deductibility envisaged by Article 139 of the Tax Code.
Subpara.139.1.6 of the Tax Code concerns the amounts of VAT which are (1) included to the price of goods and (2) paid by the taxpayer while purchasing something. In the case under consideration the difference is not included to the price and the goods are not purchased but sold.
Thus, Article 139 of the Tax Code does not provide for any limits for including the VAT charged on the difference between the actual price of selling goods (works, services) and their arm’s length price as well as on the difference between the selling price of the imported goods and their customs value.
However, considering the illegibility of the tax legislation on the subject matter and lack of direct regulations that would permit doing that, before implementing the suggested approach, it is strongly recommended to establish the order of accounting of such expenses in the accounting policy of the enterprise. Besides, in case of rather considerable amounts of ‘differences’ of VAT that are planned to be included to the seller’s expenses, it is advisable to receive the respective explanation of the Ministry of Finance of Ukraine (that such difference is the taxpayer’s expenses) and further to receive the analogue explanation of the tax authority.
Alternatively, the difference of VAT in question (in considerably small amount) may be included into the expenses of the reporting period and respective explanations to the CPT return have to be provided together with it. If the tax authority in the results of the desk audit of the CPT return reduces the expenses to this amount, then to appeal such reduction and establish the precedent on the issue.
For the sake of completeness we note that it is necessary to substantiate the connection of the considered “expenses” with the business activity of the seller (criteria, established by subpara.138.12.2 of the Tax Code).
Since sale of goods in the given case is performed at the price lower than the arm’s length price (customs value), tax authorities may dispute its “business essence”, because according to subpara. 14.1.36 of the Tax Code business activity is aimed at income receipt.
Thus, the seller has to explain the fact of selling goods (works, services) at the price lower than the arm’s length price (customs value). It can be caused by certain risks directly related to business activity such as demand reduction, change of the market conjecture, devaluation of goods etc. For managing the issues concerning the goods devaluation due to loss of their consumer properties it is necessary to adopt the appropriate orders at the enterprise.
The arguments as to the explanation of the fact of selling at the price lower than the arm’s length price or the customs value of the imported goods may differ depending on the type of goods to be sold.
We hope the information might be useful for you.
The above commentary presents the general statement for information purposes only and as such may not be practically used in specific cases without professional advice.
1We draw your attention that this rule shall be applied to all supply transactions of the imported goods (throughout the whole line of deliveries to the final consumer), but not only to the first delivery of the importer itself. For monitoring such operations additional compulsory requisite of the VAT voucher – Code under the Ukrainian Classification of Commodities for Foreign Economic Activity – was established.
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