There is always a moment where digital economy and the brick-and-mortar world meet each other. The presence of data centers, physical networks such as cables and technical relays (e.g., local servers and  satellites), for the purpose of supporting digital and remote businesses, has in particular given rise to difficult questions regarding the nature and taxation of such infrastructure, and the tax obligations for taxpayers holding such infrastructure. This is as true for VAT (and GST) as for other taxes, notably in Europe where the digitalization of the economy and the importance of ensuring latency in different markets triggers an increasing presence of these infrastructures.

While cables, data centers, and other assets used in the digital economy are generally considered real estate or property in different member states, the provision of services connected with or using these physical infrastructures is not necessarily considered as "services relating to immovable property" as this concept is defined for VAT purposes. Many EU member states have not yet finalized their position on this topic, though a recent decision of the CJEU with respect to retail data centers has provided – for the first time – EU level guidance as to the correct VAT treatment. The absence of harmonization means that there is also the potential for inconsistency when it comes to determining whether these physical infrastructures constitute a fixed establishment for VAT purposes. Again, this is a question that has been recently considered by the CJEU.

1. The VAT treatment of data center services

There is no clear regulation on the VAT treatment applicable to services supplied through data centers, and member states have typically taken differing approaches to such treatment. The two key questions are whether such services involve the grant of a right over immovable property and, if so, whether the service should therefore be considered a service relating to immovable property or as a bundle of services taxable under the general rule. The answer to these questions has an impact not only on the place of supply (and so the means by which the customer can seek recovery of VAT) but also the VAT liability of the supply itself, i.e., many member states would treat a supply of immovable property as exempt from VAT.

In this context, the CJEU decision in A Oy[2], published on 2 July 2020, seems to be the only reliable jurisprudence concerning data centers. A Oy addressed the question whether colocation (retail) data center services (i.e., the making available of a cabinet and/or server in a data center), should be characterized as a supply of services relating to immovable property or as a "general rule" service.

The CJEU judgment confirms two important considerations:

  • First, server cabinets are not an integrated part of the building in which they are set up, so the provision of such space does not constitute a supply of immovable property.
  • Second, retail data center services do not constitute services connected to an immovable property within the meaning of Council Implementing Regulation (EU) No 1042/2013 of 7 October 2013 (IR 1042/2013) since the lessees do not have an exclusive right for the part of the building in which the server cabinets are located.

​Rather, retail data center services comprise a bundle of elements, including power, security, connectivity, etc., which are taxable pursuant to the general rule and which are not exempt from VAT.

2. Relevance of real estate interests to VAT fixed establishment

In considering whether a taxpayer has a VAT fixed establishment (VAT FE), the CJEU case[3] of Welmory sp. z o.o, passed on 16 October 2014, is likely the best driver for analyzing if the local physical presence of technical resources such as computer servers, software, servicing and the system for concluding contracts with consumers and receiving income from them is sufficient to be regarded as a VAT FE.

It is worth noting that a recent CJEU decision[4] held that a property company established in Jersey and letting a property in Austria, without the use of its own human resources for this activity, does not have a VAT FE in Austria. This is because, in line with Welmory, a VAT fixed establishment requires the presence of both human and technical resources, and so a real estate interest cannot be sufficient – by itself – to create a fixed establishment for an entity established in another member state.

3. Overview per country

France

In case n° 19VE00526, the Court of Appeal of Versailles ("Court") considered[5] that functions consisting of hosting and managing a data center as a single service, which does not relate to immovable property. These functions included, among others, the performance of installation service, the hosting of the customer's IT equipment, as well as the provision of office space, and the provision of services related to the hosting; in return for the payment of installation fees, monthly fees for the provision of the customer area, power supply, connection services plus one-off charges when needed.

To assess its position, the Court pointed out the fact that the allocation of a secure and non-private space to install equipment and the service provider as defined by the contract did not confer any rights over the space to the customer. In this regard, the Court noted that the service provider was granted the right to move the equipment to another data center if needed, while the customer rights were limited to access granted only to pre-authorized persons[6]. The Court also considered that the interconnection service, which requires the physical connection of the customers' servers to the service provider network by cables, does not give the entire service a predominant real estate character.

If this case clarifies the nature of service for VAT purposes and the place where it should be subject to VAT (according to Art. 44 of the VAT Directive, it is the place where the B2B buyer is established), no general position can be identified concerning VAT FE issues. This is likely due to the fact that each case is fact-specific, and a factual analysis may lead to varying outcomes. Nevertheless, some indications transpire from the overall context.

In this regard, if neither the mere possession of a real estate property, nor having the possession or the use of local IT equipment constitutes the presence of a VAT FE per se, outsourcing services to another legal entity can no longer be considered an absolute firewall to mitigate VAT FE risk. It appears that the decisive factor is what the operator is doing with the respective servers in the local data center rather than the mere presence of such servers.

In addition, recently, the French Supreme Court adopted an extensive approach of permanent establishment with regard to VAT and CIT[7][8].

Spain

Cables and data centers would be considered real estate assets only in cases where they are fixed to a proper real property. If they are not fixed or they could be "easily" removed from the respective real property, they should not be considered real estate assets.

Following that approach, services provided in respect of those assets will be under the scope of the general B2B place of supply rules, except in certain cases where they should be considered as real estate assets.

The Spanish Tax Authorities (STA) generally maintained that a foreign company, being the tenant of a Spanish real estate asset, generates a VAT FE in Spain. For instance, this criterion is applied by the STA when dealing with logistic agreements – which do not constitute a VAT FE – vs the rental of warehouse premises, – which constitutes a VAT FE. Renting a warehouse constitutes a VAT FE because the tenant has real property at disposal. On the contrary, having a logistic agreement does not generate a VAT FE even though the content of both agreements could be similar.

During the last years, the discussion regarding VAT FE has focused on the "intervention" of the VAT FE in the activities performed (not if the real estate asset rented itself generates a VAT FE). Whether the rented real estate constitutes a VAT FE, when the tenant has no other resources available to perform an economic activity from the respective real property, is questionable, especially in light of recent case law released by the CJEU. Currently, this discussion is still ongoing and seems to be not aligned as yet with the judgments rendered by the CJEU.

There are no guidelines related to the condition of VAT FE for data centers or physical networks, such as cables and technical relays (e.g., local servers, antenna satellites). However, a tax ruling was released on 17 January 2018 analyzing the condition of a local server as a permanent establishment (PE) from an international tax perspective. The aforementioned tax ruling states that if the server is at the tenants' disposal because it has been rented, it constitutes a PE; nevertheless, it does not constitute a PE if the agreement consists of a party rendering services by using a server.

Based on the above, it could be argued that if what it is contracted is not the rental of the local server but the logistic services of a third party to operate the local server, it does not constitute a VAT FE.

The STA had not issued any guidelines regarding the condition of VAT FE of data centers, physical networks such as cables and technical relays (e.g., local servers, antenna satellites) from a VAT perspective.

However, following the CJEU criteria stated in A Oy, if the hosting services in a data center consist of making rack cabinets available to the respective clients and supplying them with ancillary goods and services, such as electricity and various services aimed at guaranteeing the use of these servers; such hosting services do not qualify as real estate leasing service. Therefore, those services should not be considered a rental of real estate from a Spanish perspective and hence, should be out of the discussion of its condition as a VAT FE.

Sweden

Co-location providers in Sweden are in general not exempt from VAT. A data center could be considered real estate property in Sweden. However, co-location services should still be subject to VAT.

Overruling earlier precedent, the Supreme Administrative Court (SAC) decided, in a ruling dated February 2021, that the supply of connectivity, capacity and space in a data center should not be exempt from VAT liability as letting of immovable property. The exclusive right to dispose of a certain space in the data center should be considered of secondary importance to customers, who request access to connectivity primarily, and subsequently, the entire supply should be subject to VAT.The ruling basically aligned Swedish law with the reasoning of A Oy. Prior to the ruling from the SAC, co-location services were in general exempt from VAT.

There are no specific guidelines or case law in regard to the recognition of a VAT FE for a data center. It is expected that a general VAT FE assessment would be made based on the following three cumulative criteria (to be met):

i) establishment operated by personnel

ii) access to technical resources

iii) a sufficient permanency to enable sale of or acquisition and use of goods or services The Swedish Tax Agency would basically make an assessment depending on the circumstances in the specific case.

Germany

It is unclear whether a data center or a cable would be considered real property in relation to outgoing supplies in Germany. For instance, if a cable is leased to connect data centers with one another, then this lease arguably concerns the possibility of transferring data but it is also a physical structure. With respect to the data center, there is a risk of qualifying as a real-estate-related service when a dedicated server rack within this data center is provided to a customer, when the customer has access to this rack. In principle, it is more likely than not that such contracts should, however, lead to general B2B services because the customer arguably is interested in the operation of the server rather than in the operation of the actual building.

There is no local case law and there are no guidelines on these specific issues. Hence, the German tax authorities will presumably apply A Oy because it is in line with their general VAT guidelines on the lease of dedicated real estate. Currently, there are no VAT guidelines from the German authorities, specifically on whether datacenters should be considered a VAT FE. However, local case law has established that in the special case of a wind turbine, a VAT FE can be assumed even if there is only technical infrastructure but no personnel. Data centers arguably do not have the same kind of permanence as a wind turbine, since they require a greater level of human intervention compared to a wind turbine, which only needs to be erected and then generates turnover on a standalone basis. However, it is unclear at present whether this case law might extend to other kinds of establishments that predominantly require equipment to render a service.

Luxembourg

As in Germany, in Luxembourg, it cannot be confirmed that the VAT authorities consider a data center or a cable an immovable property within the meaning of IR 1042/2013. On top of that, the Luxembourg VAT Law does not provide a definition of immovable property.

The VAT authorities have not issued guidelines on these specific issues, so it is very likely that they would decide the specific VAT treatment on a case-by-case basis, applying the abovementioned implementing regulation, the related explanatory notes published by the European Commission and A Oy.

Poland

There is no domestic definition of immovable property for VAT purposes[9]. In this respect, data warehouses/cables as such are considered real estate for VAT purposes.

Services that have sufficiently direct connection with a data center will be considered "connected with immovable property" for VAT purposes (e.g., construction works, fit-out works, assembly, etc.). The other issue is whether services supplied with the use of this infrastructure (e.g., servers), i.e., co-location services should be considered "connected with immovable property." In this respect, this issue was, in the past, subject to contradicting case law in Poland. The latest case law suggests that co-location services in respect to servers should not be considered connected with immovable property. However, everything may depend on the actual structure and exact scope of a provided service – for example, whether the service recipient is given an exclusive right to use a specific, defined part of a data warehouse.

In regard to a VAT FE, an aggressive approach of the Polish tax authorities (and some administrative courts) practice has been observed. In this respect, after the Welmory case – which seems to be misinterpreted by the Polish tax authorities and Polish administrative courts –, the practice of the Polish tax authorities and Polish administrative courts has become much more aggressive in situations where a foreign entity does not have its own technical and human resources in Poland, but acquires various services from entities established in Poland, which enables this foreign entity to carry out business transactions. The current tax authorities' approach may – in simplified terms – be summarized as follows: "Anytime a taxpayer established outside Poland (but performing supplies of goods/ services where the place of supply is Poland) acquires from a Polish-based entity services which enables or at least significantly supports its taxable activity in Poland, this entity should be viewed as having a VAT FE in Poland."

For example, the Polish tax authorities consider that a company with its principal establishment outside Poland (even without having an exclusive access to any part of a warehouse in Poland) has a VAT FE in Poland. For instance, a foreign company that is the owner of raw materials and purchases in Poland production services on these raw materials (so-called "toll manufacturing services") has a VAT FE in Poland. Similarly, a foreign company active in the e-commerce business selling goods in Poland via its online store and purchasing complex logistic services in Poland (e.g., storing goods, preparing goods for shipment, handling goods returns) might have a VAT FE in Poland.

Therefore, if a taxpayer with its principal establishment outside Poland provides, e.g., electronic services to its (business or non-business) customers and this taxpayer acquires co-location services in Poland, and these services enable or support its taxable activity, the Polish tax authorities may potentially take the approach that this entity should be considered to have a VAT FE in Poland (even if the services acquired by this taxpayer are supplied by an unrelated, independent service provider).

United Kingdom

In principle, cables are not regarded as real estate assets (for example, cables that are merely plugged in should be moveable assets), unless they are permanently fixed onto the ground or walls and removing them would damage the structure, which requires a case-by-case analysis. The key, though, is to consider the contractual arrangement in place but generally, retail data center services are not considered land for place of supply purposes and they are generally considered taxable services. Typically, data center services that include a specific space together with connectivity should in principle not qualify as land-related as they go beyond a bare lease. That said, if third parties are involved in providing construction or maintenance of the data center, a case-by-case analysis will be required to assess the position.

Moreover, a real estate property alone – i.e., without any human resources – is generally not considered a VAT FE. As regards servers in particular, HMRC have expressly upheld that the presence of computer servers alone in the UK does not constitute a VAT FE.

3. Conclusion

The lack of guidance issued by the local VAT authorities has given rise to uncertainty and inconsistent treatment for taxpayers when it comes to determining the VAT treatment applicable to services related to cables and data centers and the potential existence of a VAT FE as a result of real estate interests. The recent decisions of the CJEU in this area provide welcome guidance and should lead to a greater degree of harmonization, as those decisions are reflected in the practice of the local tax authorities. Taxpayers should, however, continue to clearly document contractual arrangements so that it is clear what is being supplied, with appropriate contractual protections included to guard against potential challenges in local jurisdictions.