Private equity fund not a VAT taxable business

05/02/25

The Amsterdam Court of Appeal recently ruled on private equity ("PE") and the right to deduct VAT on transaction costs such as due diligence, legal, and tax advisory fees. The Court of Appeal ruled that the PE fund in question is not a VAT taxable business and does not have the right to deduct input VAT.

WHAT DOES THIS MEAN FOR YOUR ORGANISATION

In practice, there has been uncertainty for some time about the conditions under which there is a right to deduct VAT on (transaction) costs when PE funds incur expenses in the context of their investment activities. Discussions with the Dutch tax authorities frequently arise on this matter. This ruling by the Court of Appeal confirms that such organizations are generally free to choose a tax-efficient investment structure and that it is not uncommon for transaction costs to ultimately be borne by acquisition companies (“BidCos”). However, the passing on of transaction costs to these BidCos does not automatically result in the VAT taxable status and VAT recovery right for the PE fund.

This ruling confirms the complexity of this matter and the importance of timely and clear documentation of the tasks, responsibilities, and mutual services between the parties involved. It is important for PE funds to properly organize their intended transactions and the associated expenses in order to prevent non-deductible VAT where possible. We recommend organizations involved in mergers and acquisitions to discuss the impact of this ruling on ongoing and future transactions with their PwC VAT advisor.

Background

This case concerns a Dutch PE fund (a limited partnership) that charged two types of fees to its BidCos, which it had established for intended share acquisitions. The first type of fee was a one-time reimbursement of the transaction costs incurred by the fund in preparation for the share purchase by the BidCos. This included costs for due diligence, legal services, and tax advice. The second type of fee concerned annual payments for the PE fund nominating members for the supervisory board of the BidCos. To this end, the fund entered into a "board fee" agreement with the BidCos, issued invoices with VAT, and deducted the VAT on the transaction costs. The Tax Authorities refused the deduction on multiple grounds. Firstly, they argued that it is not the investment fund, but the underlying asset manager that is the recipient of the external services. Routing the contracts and payments through the PE fund in an artificial manner results in abuse of law, according to the tax inspector. In addition, the inspector disputes the VAT taxable status of the investment fund because the fund engages in the mere recharging of costs without performing any underlying services.

First-instance court ruling

In first instance, the district court ruled that the investment fund is the recipient of the services and that the tax inspector failed to demonstrate that the legal reality deviates from the economic and commercial reality. However, the court also ruled that the fund does not engage in economic activities and therefore cannot deduct VAT. The court considered that the underlying third-party services had already been consumed by the PE fund during the decision-making process, even before the BidCos were established. Therefore, even if the relevant advice and reports were important for the BidCos, their limited value to the BidCos would not be proportionate to the amount of the transaction costs. Furthe, the court ruled that the nomination of members to the supervisory board of the BidCos is an activity in the context of its shareholder capacity and therefore falls outside the scope of VAT.

Amsterdam Court of Appeal

The Amsterdam Court of Appeal essentially confirmed the judgment of the district court. According to the Court of Appeal, the tax inspector has not provided sufficient evidence to support the claim of abuse of law. The purely artificial nature of the transactions has not been proven. The Court does not understand why the inpsector argues that external advisory costs should be incurred by the fund, and the Court deems it not uncommon for acquisition companies to incur such costs. Furthermore, there may be commercial reasons for these costs. The Court emphasizes that taxpayers are free to choose their organizational structures as long as these are not purely artificial and reflect the economic reality.

However, the Court of Appeal, much like the district court, ruled that the PE fund is not a VAT taxable business in the relevant VAT return period. The PE fund argued that the incurred acquisition costs should be considered as preliminary costs related to its intended economic activities (providing documentation to the BidCos in exchange for reimbursement of the costs incurred). However, the Court of Appeal ruled that no objective evidence has been presented to support this argument and considers the most likely scenario to be that the recording of the intercompany transactions and recharges was the result of external VAT advice obtained later. The Court also agrees with the lower court's ruling that nominating supervisory board members for the BidCos does not constitute an economic activity. According to the Court, the right to nominate board members is not a taxable service as it relates to the mere exercise of shareholder rights and is not a service provided for consideration. The Court of Appeal rules that the PE fund is not a VAT taxable business in the relevant VAT return period and therefore does not have the right to deduct input VAT.