ES1.2.1 General aspects

Three general aspects were initially examined for the purposes of answering the first research question: the concept of economic activity, the right to deduct input VAT, and the criterion of the direct, permanent and necessary extension of a taxable activity (‘the extension criterion’), with a model being developed to highlight the relationship between these concepts.

Firstly, an economic activity comprises the totality of activities resulting in a person or entity being classified as an entrepreneur (or taxable person) under Article 7 VAT Act 1968 (Article 9 VAT Directive). This involves the performance of business or professional activities, or the exploitation of tangible or intangible property for the purpose of obtaining income on a continuing basis. A characteristic feature of an economic activity is an effort to obtain income from taxable supplies (income production criterion). In principle, this effort should not be occasional or incidental (regularity criterion). Furthermore, an economic activity is also required to comprise inter alia a certain degree of professionalism (professionalism criterion). This is sometimes referred to in case law as an activity performed for a business or commercial purpose, although more recent case law seems quick to classify activities as economic activities, providing they generate income on a continuing basis.

With regard to the second aspect, a person or entity classified as an entrepreneur is entitled, under Article 15 VAT Act 1968 (Article 168 VAT Directive), to deduct input VAT insofar as the person uses goods or services purchased for consideration for the purposes of taxed transactions. Based on case law, the requirement for use for the purposes of taxed transactions should, in my view, be assigned a wide-ranging interpretation. This requirement is met if an entrepreneur incurs costs in respect of the economic activity, except if the goods or services purchased are used for exempt supplies. Causality, finality and the objective contents of supplies are tools that can be used to establish how goods and services are used. According to the Court of Justice, there should specifically be a direct and immediate link between costs incurred and outputs, or between costs incurred and the overall economic activity. If an entrepreneur incurs costs for non-taxed transactions, the Dutch Supreme Court examines whether the supplies performed for consideration are related, or are embedded in some other way in the enterprise. If so, costs are regarded as being incurred by the enterprise. In more recent judgments the Supreme Court has stated that its rulings represent a more detailed elaboration of the approach adopted by the Court of Justice.

The third aspect, the extension criterion, has been developed in Court of Justice case law and refers to the direct, permanent and necessary extension of a taxable activity. In extending such activities, the person or entity acts in the capacity of an entrepreneur. Transactions (supplies) comprising a direct, permanent and necessary extension of a taxable activity should also not be incidental within the meaning of Article 174(2) VAT Directive. The income obtained from such supplies consequently has to be taken into account when determining the deductible proportion (or partial recovery rate) of input VAT on general expenses. The scope of this criterion is uncertain.

The following layered model was devised partly in order to place the extension criterion in a clearer context:

This model seeks to highlight a subdivision in the types of transactions of which an economic activity may consist. Firstly, there is the taxable activity at the core of the model, comprising transactions that are characteristic of the relevant economic activity (i.e. the core business). Secondly, there is the direct, permanent and necessary extension of the taxable activity, consisting of activities that are not characteristic of, but arise systematically from the relevant economic activity (i.e. ‘must haves’). Lastly, there are other transactions, which are classified neither as a taxable activity nor as the direct, permanent and necessary extension of such an activity (i.e. ‘nice to haves’). Only these other transactions can be incidental within the meaning of Article 174(2) VAT Directive.