Calculation of the (Pre-) Pro Rata under EU VAT Law - empcom.gov.in

derlying the common system of VAT. Before attributing
inputs to taxed and exempt economic transactions, taxable
persons have to attribute input tax to economic and
non-economic activities (the pre-pro rata).
Calculating the pre-pro rata solely on the basis of turnover
or proceeds – without the possibility to exclude certain
incidental transactions – would not objectively reflect
the use of the inputs for economic and non-economic activities.
Application of an investment formula would be a
more appropriate method for apportioning VAT relating
to the issue of shares. However, the investment formula
is also not ideal, for example in the case of charities that
receive non-taxable subsidies. Moreover, it is difficult to
apply that formula in practice. Ad hoc apportionment of
European Union
Calculation of the (Pre-) Pro Rata under EU VAT Law
input VAT on the basis of actual use of individual goods
and services would be the preferred option for determining
the rate of deduction of VAT relating to individual
inputs.
The existing rules for adjusting initial input tax deductions
only apply to changes in the use of business goods
for taxed and exempt purposes. From 1 January 2011, the
principles underlying the existing adjustment rules also
apply to goods that are used for both business and private
(non-business) purposes. The rules to be introduced
for the purposes of determining the rate of deduction in
respect of inputs used for economic and non-economic
purposes must be more comprehensive and include services
as well.
The Right To Deduct for Partially Exempt
Bodies
1. Introduction
The question of the right of bodies engaged in making
both taxed and exempt supplies (“partially exempt bodies”)
to deduct input tax is a sub-topic of the more general
question of input tax deduction. Theoretically, in relation
to partially exempt bodies, the only question to be
considered is the methodology to be used to calculate the
deductible input tax. However, that question conceals a
number of other questions that need to be considered and
that take us back to the more general question of input
tax deduction, primarily: what are we trying to achieve
by input tax deduction and what kind of expenditure is
in principle deductible?
The starting point for a consideration of those questions
(which do not call for a definitive exposition in the present
context) is inevitably to be found in the model of VAT
that one is using and, for practitioners, in how the policy
questions arising from that model have been resolved in
practice by the legislature.
For example, the EU model of VAT is based on transaction
chains and provides that input tax is deductible in
so far as inputs are used for taxed transactions.
That model was adopted because the EU VAT system was
designed for the specific purpose of resolving problems in
the application of turnover taxes to transnational transactions
(or transaction chains) within the European Union
(i.e. transactions or transaction chains involving more
than one tax jurisdiction). Accordingly, the EU VAT system
is based on considerations that are not relevant to
a tax that is intended to operate only within a single tax
jurisdiction, albeit that the EU system applies the same
approach to input tax deduction relating to national
transactions.
Paul Lasok*
An important consequence of the EU model is the need to
allocate inputs to the correct transaction chain (or to that
transaction chain to the correct extent) so that, in the case
of the problematic transaction chains (the transnational
ones), the correct tax treatment is given in the correct tax
jurisdiction.
An additional feature of the EU model – the one that is
of concern here – is the presence, in the model, of transactions
that are exempt from VAT. Such transactions
are not taxed but, in the EU model, do not permit the
deduction of input tax. The transaction chain, for VAT
purposes, therefore ends where there is an exempt transaction.
Thus, in the case of a partially exempt trader, the ability
to deduct input tax arises, in the context of the EU model,
only to the extent that inputs can be included in a transaction
chain producing a taxed output.
A further complication arises from the phenomenon of
the so-called non-economic activity, i.e. the use of inputs
for a purpose that does not amount to the making of a
taxed or an exempt transaction. Of course, that complication
may apply to all traders, not just those who are partially
exempt. Although a consideration of non-economic
activities is not strictly relevant to what is considered here,
a brief word should, perhaps, be made about that topic.
The general category of non-economic activities comprises
a range of diverse situations that, for VAT purposes,
cannot be assumed to produce the same tax consequences.
At the risk of overgeneralization, some forms of
non-economic use, properly understood, involve internal
* Paul Lasok QC FIIT MA (Cambridge), LLM (Exeter University), PhD
(Exeter), Head of Chambers, Monckton Chambers, England.
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