The Concept of an exempt Investment Fund, from the Perspective of Investor Risk (X and Others, Joined Cases C‑639/22 and C‑644/22)

The case concerns Dutch pension funds, some of which are compulsory occupational pension funds, sectoral pension funds and company pension funds, and the question of whether these pension funds are regarded as investment funds whose management is exempt from VAT under Article 135(1)(g) of the VAT Directive. The pension funds in question had contracted the services of a foreign asset manager to manage their assets. The question was whether the purchase was subject to VAT based on Article 44 of the VAT Directive in the Netherlands.

The pension funds in question differed in detail but in general, the pensions paid from these pension funds were based on a contract characterised by the payment of defined pension benefits. The contributions were set by the pension fund to cover the pensions to be paid, considering the expected return on investments. The pension contribution was capped in some of the pension funds and, in one fund, employers guaranteed a certain amount of money to top up contributions if pension accrual was insufficient to guarantee pension rights. In some situations, members contributed based on their occupational income or company profits. In principle, however, the payment of pensions was based on the salary earned by the employee and the number of years worked or based on reference pension. However, the pension could be increased by a decision of the board of the pension fund, for example, based on the consumer price index. It was also possible to reduce pensions because of the economic situation.

The reference for a preliminary ruling concerned, in particular, what is meant by the obligation on member of the fund to bear the investment risk after the Netherlands tax authorities considered that such a risk was not sufficiently high in the pension funds in question. The case was based in particular on two previous preliminary rulings of the EU Court of Justice, namely Wheels Common Investment Fund Trustees (C-424/11), (the pension fund in question was closed to employees of a particular company and the pension was determined purely on the basis of salary and working time, with the employer guaranteeing the missing pension accrual), a case in which the Court of Justice ruled that in order to qualify as an exempt investment fund in Article 135(1)(g) of the VAT Directive, the persons buying shares of the fund must bear the risk of the fund’s return and the amount distributed must depend on the performance of the fund’s investments (para. 27). In ATP PensionService (C-464/12), Court ruled that exemption is not prevented by the fact that the member of the fund shares the risk with other members or because pensions are determined on the basis of the amount of fixed premiums and accrued income (para. 59).

Court of Justice has ruled that funds which constitute UCITS within the meaning of Directive 85/611 constitute a special investment fund as defined in Article 135(1)(g) of the VAT Directive (C‑44/11, Deutsche Bank, paras. 31 and 32; Wheels, para. 23 and ATP PensionService, para. 46). Other vehicles similar to UCITS may also be regarded as investment funds in Article 135(1)(g) of the VAT Directive, if the members of the fund are entitled to a profit or bear the risk of managing the fund (para. 42). Assessing whether a pension fund that is not a UCITS qualifies for the 135(1)(g) exemption must be assessed, in particular taking into account the legal and financial situation of the member of the fund on the basis of the principles defined by Court to exempt investment funds in Article 135(1)(g) of the VAT Directive (para. 64).

In the present case, the Court held that the risk must be reflected in the level of benefits (para. 46). One can only be considered to bear investment risk when the amount of the pension return depends mainly on the performance of the investments. Thus, a fund or other vehicle, which guarantees the level of return in advance to the investor on the basis of salary and years of service cannot be regarded as exempt based on Article 135(1)(g) of the VAT Directive (para. 47). Whether the risk is spread across all shareholders is irrelevant. It is also irrelevant how many years a member of the fund has accrued pension rights or whether accrual is interrupted at a certain point in time.

What is important is that the accrual of pensions depends on the performance of the pension fund’s investments, even if the accrual of the pension is partly based, for example, on the person’s salary and years of service. The risk associated with the investment must also be borne by the holder in all situations such as bankruptcy (paras. 50–56). If the investor has no significant risk from the investment, it is not regarded as exempt investment fund in Article 135(1)(g) of the VAT Directive.

In 2011, when Member States were trying to find a compromise on the reform of financial and insurance services, one of the stumbling blocks was investment funds. The diverging views of Member States largely focused on the tax treatment of pension funds. The new solution provides some additional clarity to the existing concept of tax neutrality in this respect, but it remains questionable when the distribution of the fund’s profits depends sufficiently on the fund’s performance and when the shareholder bears a sufficiently high risk. We can only wait for new court cases, even if there is a strong demand for legislative reform.

The analyze has been written for EU Law Live and published 17th of October 2024 in EU Law Live.