The recently published Decree of the Presidium of the Supreme Commercial Court of the Russian Federation, in which the Court states that incentivising bonuses should not be VATable, turns out to be favourable for taxpayers; however, the wording of the Decree is rather ambiguous. What could be the practical implications for retail market players?
Business practice between producers, suppliers and retailers demonstrates that the granting of bonuses and discounts often constitutes the cornerstone of their relationships. In particular, the issue of VAT taxation on such incentives has often created misunderstandings between the parties and the tax authorities, which, in turn, has led to additional tax charges and prolonged disputes. Generally, suppliers tend to motivate their retailers by allowing so-called “retrospective” bonuses based on sales results for the previous period. Today, the two main mechanisms of granting retrospective bonuses are: either the retailer sells a predetermined amount of goods and receives a premium from the supplier; or the retailer purchases the goods from the supplier at reduced prices, and the difference received from the retail sales becomes his profit.
As of the end of 2010, tax experts have been following with interest the developments in the “Leroy Merlin case”, where the tax authorities claimed that retrospective bonuses which Leroy Merlin Vostok (“LMV”), a Russian retailing company, received from its suppliers constituted payment for services, thus they were subject to VAT. The prolonged dispute ended in February 2012, when the Presidium of the Russian Supreme Commercial Court1 delivered its final Decree (the “Decree”).
Below, we have reviewed the main existing positions as to VAT treatment of incentivising sales bonuses granted to Russian retailers, and have analysed in detail the LMV case as the latest precedent in this area.
Current positions on VAT taxation of retrospective bonuses
As a preliminary comment, no unified approach on the VAT treatment of bonuses, which suppliers grant to their retailers and distributors, exists both in the position of the Russian tax authorities and opinions of the arbitration courts.
In the majority of its Letters on this issue2, the Russian Ministry of Finance concludes that since in the case of retrospective bonuses no realisation of goods (works, services) takes place and no payment for goods arises, these bonuses are not subject to VAT3. More generally, the Russian tax authorities have confirmed that incentivising sales bonuses are not subject to Russian VAT, if they do not alter the price of the goods sold and do not assume the counter provision of services or completion of works.
The Russian arbitration courts – again, in the majority, but not in all cases4 – also recognise that incentivising bonuses received by taxpayers for certain volumes of purchases are not subject to Russian VAT, since they may not be treated as proceeds from the sale of goods (works and services). At the same time, however, in December 2009, the Presidium of the Russian Supreme Commercial Court concluded, upon examining the “Dirol Cadbury case”5 , that all bonuses which result in changes in prices, without reference to the system of calculating the bonus and the payment modalities, are subject to VAT.
Background of the Leroy Merlin case
LMV has been receiving two types of retrospective bonuses from its suppliers (“stimulating progressive bonuses” and “bonuses for the presence of goods in stores”), provided for by supply agreements and calculated on the basis of the volume and price of goods supplied. LMV did not charge VAT on the bonuses, considering that they were not connected to the payment for services. However, the competent tax authorities challenged this approach and charged VAT on the entire amount of the bonuses received by LMV. The taxpayer had to refer the case to the arbitration court.
Before the Leroy Merlin case reached the Supreme Commercial Court (the “SCC”), decisions of lower instances were in favour of LMV. However, in November 2011, the Russian SCC did not agree with the conclusions of the courts and transferred the matter to the Presidium for further examination.
Indeed, the arguments stated in the Decision of the SCC on transferring the case to the Presidium6 are quite remarkable. According to the opinion expressed in the Decision, the bonuses received by LMV should be treated as payment for services consisting of “the provision of the possibility of the suppliers’ selling the goods in LMV stores” and should, therefore, be VATable.
The fact that the SCC based its reasoning on a rather unusual interpretation of the legal nature and purpose of bonuses raised numerous discussions and doubts among taxpayers. But, fortunately, the final Decree of the Presidium did not support the interpretation initially proposed by the SCC, as follows.
Position of the Presidium of the SCC on the Leroy Merlin case
According to the Decree, the Presidium of the SCC qualified the payment of stimulating progressive bonuses and bonuses for the presence of goods in stores to LMV by its suppliers as a measure aimed at stimulating LMV to acquire and resell more significant amounts of goods. The Presidium also stated that since the bonuses were connected with the supply of goods, they should be treated as commercial discounts influencing the price of the goods.
The Presidium also stated that under the provisions of the Tax Code, suppliers should determine the VAT base for the sale of goods by taking into account all changes that alter the tax base. Specifically, if a bonus payment results in a decrease in the price of goods, the VAT base of LMV’s suppliers relating to the sale of goods should be subject to adjustment. In addition, the amount of VAT deductions claimed by LMV should also be decreased proportionally in the relevant tax periods.
Based on the above, the Presidium concluded that since bonuses paid by the suppliers to LMV decrease the price of goods supplied, which entailed the necessity to alter the VAT base of the suppliers and the amounts of tax deductions of LMV, such bonuses do not constitute payment for services and are not VATable.
Interpretation of the Decree and its practical implications
The following main conclusions may be extracted from the position expressed in the Decree:
- Incentivising sales bonuses paid by suppliers to retailers should not be treated as payment for services and are, therefore, not VATable.
- However, at the same time, such bonuses alter the price of goods and, therefore, have influence on the VAT base of both suppliers and retailers.
From a formal standpoint, the Decree may be treated as being in favour of LMV, since the incentivising bonuses received by the latter from its suppliers were not qualified as payment for services, but, on the contrary, as types of commercial discounts; and it was confirmed that such bonuses are not VATable.
At the same time, LMV’s input VAT for the purchase of goods was regarded as overstated, as the Presidium concluded that the amount of LMV’s VAT deductions should be decreased because the bonuses granted in fact decrease the price of the goods supplied7. This approach is once again detrimental to LMV, so it is questionable whether the decision was effectively in favour of the taxpayer.
In any event, it is doubtful whether the Decree will lead to the end of disputes between taxpayers and the tax authorities in terms of the VAT treatment of incentivising sales bonuses. In this respect, the tax authorities could continue to claim VAT on such bonuses, despite the stated position of the Presidium of the SCC.
Taking into account the uncertainties, we note that other schemes may be envisaged by retail market players (for example, structuring contractual relationships between suppliers and distributors (retailers) to grant discounts for the future shipment of goods rather than for preceding periods) to avoid unnecessary risks of disputes with the tax authorities.