VAT Deduction Restrictions in the Absence of Actual Transactions: Insights from Lithuania's Supreme Administrative Court

This article deals with cases where the right to deduct input VAT is denied where transactions have not actually taken place. The article reveals the specific circumstances of the disputes and how they are assessed by the case law of the Supreme Administrative Court of Lithuania ("SACL''), which is based on the decisions of the Court of Justice of the European Union ("CJEU'').

If transactions (economic operations) have not actually taken place

Unfortunately, the practice in Lithuania and other EU Member States shows that often uncertainties for accountants arise and even turn into the subject of tax disputes when it is established that transactions (economic operations) have not actually taken place. The right to deduct VAT cannot then be exercised and there is no need to prove dishonesty. The latter cases should be examined in the case law of the Supreme Administrative Court.

For example, in a new case before the Supreme Administrative Court, the subject matter of the dispute is whether the tax authorities were lawful and justified in concluding that economic transactions between the applicant and other companies did not take place and that the company was therefore liable to pay additional tax.

Here, in response to the appellant's claims that the tax authorities should have investigated the good faith of the company, the Court noted that the dishonesty of an economic operator can only be proved if the existence of a real economic transaction is established, whereas the conclusion that no economic transactions have taken place negates the obligation to prove the bad faith of the person seeking to exercise the right to deduct VAT. Moreover, the Supreme Administrative Court emphasised that, when assessing evidence, the court must be guided not only by the rules of evidence, but also by the laws of logic, the criteria of justice, reasonableness and fairness.

It should be noted that in the appeal lodged, the applicant put forward a group of arguments concerning transactions with JSC X and stated that it had actually purchased and installed goods from JSC X for its customers. The Court of Appeal disagreed with these arguments of the applicant.

It should also be noted that the appellant also submitted that the criminal order of the district court was not taken into account. In response, the Supreme Administrative Court noted that in the criminal order of the district court referred to by the applicant, it was the manager, not JSC S, who was the defendant and it was the manager who was found guilty of the criminal offence. In view of the above, there are no grounds for annulment of the fines imposed on the basis of Article 132 of the Law on Taxes on account of a fine imposed on another person in a criminal case.

The Supreme Administrative Court noted that the evidence in the case must be assessed systematically. The case establishes that the VAT invoice indicates the manager as the seller of the goods. It is proven that he was not employed by JSC X at that time. The VAT invoice does not indicate the person who accepted the goods, only the signature. The accounting records show that the applicant paid JSC X in cash for the windows and doors purchased. The windows and doors were paid for by a manager on the applicant's side, and the money received was deposited by the manager, as a representative of JSC X, into the cash register of JSC X, but no supporting documents were provided. According to the accounting documents, a loan in the name of a natural person (the formal director) was used for the settlement, but in his explanation the manager stated that he did not lend money to the applicant from a natural person. JSC X did not declare the supplies subject to VAT in its initial VAT return, nor did it declare the supply on another VAT invoice. Furthermore, the ledger entries of JSC X confirm that JSC X did not hold the stocks (windows and doors) for which the applicant had accounted for the purchase from it.

The Supreme Administrative Court held that the tax administration and the court were justified in stating that the taxpayer's right to deduct VAT could not be exercised in the case of economic transactions which had not actually taken place. It noted that the Supreme Administrative Court has stated in its rulings that if it is established that transactions (economic operations) did not actually take place, the right to deduct VAT cannot be realised. However, what were the specific circumstances assessed by the court, which is relevant in practice?

According to the Supreme Administrative Court, the above-mentioned and other evidence collected by the tax administration confirms that the applicant did not purchase the windows and doors specified in the VAT invoice from JSC X. The transaction referred to in the VAT invoice did not take place. The evidence submitted by the appellant is based on subjective considerations and, in the light of the above facts, is not sufficient to prove that the economic transactions took place. According to the Supreme Administrative Court, the appellant's allegations are contradicted by the objective accounting documents and were therefore rejected by the Supreme Administrative Court. In the absence of an actual economic transaction, the taxpayer's right to deduct VAT cannot be exercised, since there is no VAT object and the accounting document submitted by the taxpayer, although containing the formal requisites laid down in the legislation, is considered to be devoid of any legal effect.

Let us briefly mention some specific relevant facts. For example, the fact that the appellant also put forward a group of arguments relating to the purchase of construction services from JSC Z and indicated that the services were actually provided. The Supreme Administrative Court did not find these arguments to be proven. It noted that the contracts with JSC Z and the certificates of works carried out were not submitted. The applicant's director-manager, who represented JSC Z in negotiating the works, could not indicate how JSC Z was found and could not give any specific answer. Since the establishment of JSC Z, the only employee on a contract of employment was later on. died. Obviously, for JSC Z to be able to carry out the work referred to in the VAT invoices in question, it would have needed both human and material resources. But the case shows that there were no employees other than the director of JSC Z. Apart from the VAT invoices themselves and the payment documents, no other documents (e.g. transfer certificates for building materials) were produced to substantiate the work carried out by JSC Z. Although the applicant's director stated in his explanation that some of the materials had been left in the premises purchased from JSC P, this was denied by the director of JSC P. There was no balance of building materials in the applicant's accounts. The applicant had not purchased any building materials during the relevant period. The tax authorities argued that, according to the documents submitted, during the period in question, the applicant had purchased several items of stock which could theoretically have been used for repairs, but either the quantities do not correspond to the quantities of work stated in the VAT invoices of JSC Z, or it is not possible to determine where the purchased stock was used, as there are no de-stocking certificates. The allegations concerning the use of building materials for repairs are not supported by any evidence.

In the light of the foregoing, the Supreme Administrative Court agreed with the conclusion of the Tax Inspectorate that the applicant did not purchase the services referred to in the disputed VAT invoices from JSC Z. The economic transactions referred to in those VAT invoices did not take place. Therefore, the Supreme Administrative Court was justified in finding that, in the absence of economic transactions, the appellant's claims that the expenses should be recognised for the purposes of calculating corporation tax had no legal basis and were rejected by the Court.

Proof of the non-occurrence of a real economic transaction

In the context of the assessment of documents by accountants and disagreements with the tax authorities, the denial of a VAT deduction in the absence of an actual transaction and the allocation of the burden of proof are important. For example, in one case, the panel of judges of the Supreme Administrative Court of Latvia, after assessing the documents contained in the tax inspection material, decided that the tax administration had collected sufficient factual data to refute the content of the economic transaction recorded in the VAT invoice of JSC, as well as the reality of the transaction, while the applicant had not provided objective evidence of the actual supply of the goods/services referred to in the said VAT invoice. In the present case, the tax authorities limited the applicant's right to deduct VAT on the basis of the VAT invoice of JSC by establishing that the applicant had not actually been supplied with goods and services on the basis of that VAT invoice.

Here, the Supreme Administrative Court aptly observed that the mere fact that the applicant's appeal does not rely on objective factual data, on the basis of which the applicant questions the data collected by the tax administration, does not invalidate the tax administration's conclusions as to the reality of the transaction. The Court of First Instance, taking into account the allocation of the burden of proof relevant to the present dispute, properly assessed the evidence gathered in the case and came to the reasonable conclusion that the transaction referred to in the VAT invoice in the name of the JSC did not take place, i.e. the deduction of VAT on the basis of the invoice is not possible.

However, the Supreme Administrative Court agreed with the arguments of the appeal that the Court of First Instance, when examining the case, did not assess the circumstances set out in the applicant's complaint to the Court of First Instance concerning the calculation of the additional VAT amounts in relation to another credit VAT invoice issued by JSC, and did not clarify the circumstances relevant for the case in relation to this transaction, but merely reproduced the defendant's arguments in the reply to the applicant's complaint, i.e. i.e. did not examine the substance of that part of the tax dispute. Therefore, in the light of the above, the Supreme Administrative Court held that the Court of First Instance infringed procedural rules of law and that this infringement may have led to an incorrect decision in the case, and, therefore, upheld the applicant's appeal, annulled the judgment of the Court of First Instance under appeal, and referred the case to the Court of First Instance for a fresh examination.