Introduction
On 4 December 2023, the Arbitration Court (“CAAD”) published its decision on the VAT rate applicable to the supply of natural orange juices by pastry shops in eat-in regimes (i.e., to be consumed in the shops).
This decision is of high relevance for VAT practitioners, as it addresses one of the odd consequences arising from the formalistic approach taken by the EU VAT system: the fact that the supply of the same product – natural orange juice – may be subject to different VAT rates depending on the context in which the product is supplied. This strange outcome arises because – as we will see below – the Portuguese lawmaker opted to establish different VAT rates for the supply of beverages such as orange juices, depending if such supply occurs in the context of restaurant services or not.
The background
The Applicant in this process runs a group of (famous) pastry shops, where it sells its products a la carte (the customer chooses the individual products) or on menus. The products / menus can be consumed either in (eat-in) or outside (take-away) the shops.
Its top seller product is the breakfast menu (“Menu Pequeno-Almoço”). We may wonder who the Applicant is … The breakfast menus typically include a natural orange juice, a sandwich or a croissant or a “Pão de Deus” – now we all know who the Applicant is – and a coffee.
In what refers to the menus, in the year 2018, the Applicant applied the 6% VAT rate to the sale of orange juices in the context of menus for take-away. Differently, the 23% VAT rate was applied to the sale of the same orange juices in the context of menus in the eat-in regime.
The above-mentioned approach is in line with the (wording of) the Portuguese VAT Code provisions in force at the time, which established:
- the application of the reduced VAT rate (6% in the mainland) to supplies of natural juices, when such supplies qualify as “supplies of goods” (item 1.11 of List I Annex to the VAT Code);
That is the case of the supplies of natural juices a la carte or in menus, to the extent that those are for take-away.
- the application of the standard rate (23% in the mainland) to supplies of natural juices in the context of restaurant services[1];
That is the case of the supplies of juices a la carte or in menus, when to be consumed at the Applicant’s premises (eat-in).
Furthermore, the Portuguese Tax Authorities issued guidelines confirming such an approach: (i) the Circular Letter no. 30181, of 6 June 2016, (ii) the binding ruling no.10730, of 23 August 2016 and (iii) the binding ruling no. 13123, of 22 February 2018[2].
(As we will discuss below, different VAT rates apply to the supply of the same product because, from a VAT standpoint, the supply of orange juice in the context of restaurant services is considered a part of the restaurant services, whereas in all other situations, the supply of orange juice is considered a “supply of goods”).
It is worth noting that, notwithstanding the different VAT rates applicable, the Applicant does not reflect these differences in the prices charged to its customers (the price of the menus sold in the eat-in regime is the same as the price of the menus sold for take-away). This means that the Applicant economically absorbs the additional VAT cost – i.e., the difference between 6% and 23% – on the menus sold in the eat-in regime.
Disagreeing with the VAT rate applicable to the sale of orange juices in the eat-in regime, the Applicant challenged, before the Tax Authorities, the imposition of the 23% VAT rate to such sales. In particular, it was the Applicant’s view that the principle of neutrality governing the EU VAT system requires the 6% VAT rate applicable to the supply of juices (not in the context of restaurant services) to be extended to the supply of juices in the eat-in regime. If this request was not accepted, the Applicant subsidiarily requested the extension of the 13% intermediate VAT rate, applicable to beverages not explicitly excluded from the intermediate VAT rate in restaurant services, also to natural orange juices (where such benefit is explicitly excluded).
The Authorities did not attend to the Applicant’s arguments and, therefore, he opted to appeal before the Arbitration Court.
The Arbitration Court’s position
The Arbitration Court first analysed the VAT regime applicable, in Portugal, to the sale of food & beverages and the supply of restaurant services.
It explains that Portugal applies the standard VAT rate (23% in the mainland) to the majority of goods and services supplied, foreseeing the benefit of the intermediate (13% in the mainland) to the supply of restaurant services (however excluding certain beverages) and the benefit of reduced rates (6% in the mainland) to certain supplies of food and beverages products, as follows:
- the supply of milk[3], water (except spring and mineral waters)[4], fruit and algae juices and nectars[5] benefit from the 6% VAT rate;
- the supply of ready-to-eat meals (in both take-away and home delivery regimes) benefit from the 13% VAT rate[8];
- the provision of restaurant services[9] (excluding alcoholic beverages, soft drinks, juices, nectars and carbonated waters) benefit from the 13% VAT rate.
The Court further highlights that, from a VAT perspective, the transactions detailed in (i), (ii) and (iii) above are considered supplies of goods, whereas the transaction mentioned in (iv) is treated as a supply of services[10].
Such a split was initially made by the Court of Justice of the European Union (“CJEU”) in its Faaborg-Gelting Linien case[11], where the characterization of restaurant services for VAT purposes was addressed. With this regard, the Court argued that “[t]he supply of prepared food and drink for immediate consumption is the outcome of a series of services ranging from the cooking of the food to its physical service in a recipient, whilst at the same time an infrastructure is placed at the customer’s disposal, including a dining room with appurtenances (cloak rooms, etc.), furniture and crockery (…)” and concluded that “(…) restaurant transactions are characterized by a cluster of features and acts, of which the provision of food is only one component and in which services largely predominate (…)”.
The Arbitration Court also noted that, the definition of restaurant services has, in the meantime, been codified into the EU VAT Regulation[12]. This definition is in line with the previously ruled by the CJEU in Faaborg-Gelting Linien.
Being clear that, due to the options of the Portuguese lawmaker, the supply of natural orange juices is subject to different VAT rates depending on if such supply is carried out on an isolated basis – where it is subject to 6% VAT – or in the context of restaurant services – where it is subject to 23% VAT -, the Arbitration Court reviewed if such difference could constitute a breach of the principle of neutrality of VAT.
To carry out this analysis, the Arbitration Court referred to the previous CJEU YD case[13], where the European Court had analysed a comparable situation: a Polish domestic VAT law establishing different rates for the supply of hot dairy beverages and the supply of similar (but not exactly the same) beverages in the context of restaurant services. The Court was asked if this distinction breached the principle of neutrality of VAT.
In its decision, the CJEU first recalled that Member States are free to determine the different VAT rates applicable to the sale of goods / services within their territories, provided that such criteria does not breach the principle of neutrality. As per the Court, that will be the case if “(…) similar supplies of goods or services which compete with each other [are] treated differently for VAT purposes”.
To assess the similarity of the goods and services, “(…) account must be taken primarily of the point of view of an average consumer”, concluding that “[g]oods or services are similar where they have similar characteristics and meet the same needs from the point of view of consumers (…)”. In addition to the characteristics of the products, the CJEU noted that the circumstances in which they are supplied should not materially differ, to the point that “(…) that difference is liable to have a decisive influence on the choice of the consumer to purchase one or the other of those beverages (…)”.
The Arbitration Court then applied the aforementioned reasoning to the case at hand. For such purpose, it first reviewed if denying the benefit of the 6% VAT rate, applicable to the (isolated) supply of orange juices, to the supply of the same juices when carried out in the context of restaurant services would go against the principle of neutrality.
It pragmatically concluded that the criteria mentioned by the CJEU in YD case are not met as, in its view, the supply of natural orange juices on an isolated basis is not equivalent nor comparable to the supply of the same juices in the context of restaurant services. In the first situation, a good is being supplied, in the second, a composite service – including different goods (amongst them one orange juice) and services – is being provided.
Thus, the first request presented by the Applicant was denied by the Arbitration Court, not being the Applicant able to extend the 6% rate to the situations where its orange juices are sold in the context of restaurant services.
The Arbitration Court subsequently reviewed if denying the extension of the benefit of the 13% VAT rate applicable to restaurant services to the supply of orange juices in the context of restaurant services collides with the above-mentioned principle.
In this regard, it noted that natural orange juice is, according to the criterion of the average consumer, similar to other beverages (e.g., water, tea, …) that may be supplied in the context of restaurant services and are not expressly excluded from the benefit from the 13% rate[14]. As per the Court, in both cases the beverages are (i) supplied in the context of restaurant services, (ii) deemed, by the consumer, as healthy products[15], (iii) equally suitable to be consumed with a meal[16] and (iv) able to satisfy the same need (thirst).
A final argument was also brought by the Arbitration Court: the State Budget Law for 2024 amended item 3.1 of List II annex to the VAT Code. As per this Law, since 1 January 2024, only alcoholic and soft drinks supplied in the context of restaurant services are excluded from the benefit of the 13% VAT rate[17]. Being aware that this new wording does not apply to the case at hand (as the facts relate to 2018), the Court considered that this amendment proves the inconsistency of the previous wording of the provision[18].
In line with the above, the Arbitration Court concluded that the natural orange juices supplied by the Applicant in 2018 in the context of restaurant services should also be subject to the 13% VAT rate (as per item 3.1 of List II annex to the VAT Code), as these juices are similar, according to the average consumer criterion, to other beverages covered by this provision[19]. It is of the utmost relevance to highlight that the Arbitration Court reached this conclusion despite the wording of the provision in force at the time excluding “juices” from its scope.
The Court finally analysed if refunding the Applicant from the VAT at stake – the difference between the 23% VAT rate and the 13% VAT rate – would unjustly enrich the Applicant. In this regard, although the Portuguese VAT Authorities had argued that any VAT amounts to be potentially refunded to the Applicant should then be refunded to the customers[20], the Arbitration Court invoked settled case-law from the CJEU establishing that no unjust enrichment should occur in situations where the taxpayer bears the VAT at stake and does not (economically) pass on such cost to his clients[21].
As, in the case at hand, the applicant accommodated the costs of the different VAT rates applied to the sale of natural orange juices for take-away versus eat-in (always charging the final price of EUR 2,5 per menu), the Arbitration Court concluded that the refund of the VAT amounts at stake does not constitute unjust enrichment[22].
Key takeaways
This recent decision from the Arbitration Court brings awareness to the fact that, although Member States have the freedom to choose the goods and services benefiting from reduced VAT rates[23], such choice shall always take into account the principle of neutrality of VAT. The threshold is set high.
As highlighted by the Arbitration Court, this results from the CJEU’s YD and Dyrektor Izby Administracji Skarbowej w Katowicach[24] cases – where the Court concluded that “(…) similar supplies of goods or services which compete with each other [shall not be] treated differently for VAT purposes”.
Interestingly, the determination of the similarity between supplies of goods and/or services is based on the criterion of the average / typical consumer, a criterion that, in my view, could not be more subjective. As ruled by the CJEU[25], for the application of this criterion one shall have regard “(…) in an overall assessment, to the qualitative and not merely quantitative importance of the elements of supply of services in relation to the elements of supply of goods”.
In light of this criterion’s subjectivity, it appears that taxpayers have the green light to challenge the (non)application of reduced VAT rates to the products they sell, provided that these are similar to other products benefitting from a reduced rate, and can demonstrate that such products are comparable according to the eyes of the average consumer. As per the Arbitration Court in the decision under analysis, it seems that the ability to satisfy the same need (in the case at hand: thirst) makes two products comparable…
Thus, and looking at the reduced VAT rates in force in Portugal, one may wonder (i) if the concessionaires of highways with bridges crossing other rivers than Tejo can invoke the benefit of the reduced VAT rate to tolls charged?[26] or (ii) if the producers of canned fish or meat may argue the benefit of the intermediate rate to the cans produced[27]? Both seem to have strong arguments to sustain that, according to the – extremely subjective – criterion of the average / typical consumer, crossing Tejo river should be similarly treated in terms of taxation to crossing Douro river, and buying canned mollusks should also be similarly treated to buying canned fish or meat.
If one does the same exercise in the other 26 Member States part of the European Union, I anticipate that hundreds (?) of situations where the principle of neutrality is potentially breached may be found.
On the other hand, one shall bear in mind that reduced rates themselves constitute derogations to the principle of neutrality: each time the lawmaker introduces a new reduced VAT rate, it indirectly influences the consumption patterns of the customers, who will tend to consume more the goods / services benefitting from such reduced rate (assuming that the price decreases accordingly)[28].
Therefore, one may ask: if the application of reduced rates is an area of exception within the VAT system – which admittedly breaches the principle of neutrality -, should the same principle of neutrality be adequate to test the validity of such reduced rates? I tend to conclude that, from the moment the lawmaker opts to establish the goods/services benefitting from reduced VAT rates using a (closed) list, full neutrality will never be achieved. There will always be goods/services capable of satisfying the same needs, that are not being considered in the closed lists.
Consequently, in my view, the principle of neutrality should not be used as a parameter to ascertain the (in)validity of reduced rates in force in the Member States.
Afonso Costa Gomes
April 2024
***
[1] This is because, although paragraph 3.1 of List II Annex to the Portuguese VAT Code foresaw the benefit of the intermediate rate to the supply of restaurant services, such provision excluded from this benefit the supply of alcoholic beverages, soft drinks, juices, nectars and carbonated waters or waters containing carbon dioxide or other substances. This provision has been amended by the State Budget Law for 2024 and, therefore, since 1 January 2024 only alcoholic beverages and soft drinks are excluded from its scope.
[2] The guidelines issued by the Tax Authorities also provide rules for the apportionment of the different rates between the products composing the menus.
[3] Item 1.4 of List I.
[4] Item 1.7 of List I.
[5] Item 1.11 of List I.
[6] Item 1.10 of List II.
[7] Item 1.11 of List II
[8] Except if the individual products are covered by the reduced VAT rate.
[9] Item 3.1 of List II.
[10] For VAT purposes, supplies of goods are defined as “the transfer of the right to dispose of tangible property as owner” (Article 3(1) of the VAT Code); whereas supplies of services are residually defined as “any transaction which does not constitute a supply of goods” (Article 4(1) of the VAT Code).
[11] Judgement of 2 May 1996, Faaborg-Gelting Linien v Finanzamt Flensburg, C-231/94, ECLI:EU:C:1996:184.
[12] Please refer to Article 6 of Council Regulation 282/2011, of 15 March.
[13] Judgement of 5 October 2023, YD, C-146/22.
[14] At this point it shall be recalled that, as per the wording in force until 31 December 2023, the following beverages were excluded from the benefit of the intermediate rate: alcoholic beverages, soft drinks, juices, nectars and carbonated waters.
[15] The Court highlighted, however, that this similarity should not extend to alcoholic and soft drinks, as (i) those aim to satisfy a different need and (ii) are typically subject to higher consumption taxes in order to discourage their consumption.
[16] The Arbitration Court even mentions the question often asked by waiters: “to accompany the meal, water, lemonade or juice?”
[17] Juices, nectars and carbonated waters which, until 31 December 2023, were not covered by the intermediate rate are now in-scope of that provision.
[18] However, one of the Judges (Guilherme W. d’Oliveira Martins) disagrees with this position and argues the opposite: as per the Judge, the amendments brought by the State Budget Law for 2024 represent a clear change in legislative policy in these products, which confirms that up to 2024 the differentiation of VAT rates on juices and nectars was actually in force.
[19] It is worth to note that, in this decision, the Arbitration Court contradicted its previous decision issued in 25 June 2021 (process no. 302/2020-T) involving the same party (but with respect to VAT charged during 2017). In such decision, the Arbitration Court – composed by different judges – had ruled that the principle of neutrality does not impose all beverages that may be supplied in the context of restaurant services to benefit form the same – intermediate – VAT rate.
[20] As Article 37 (1) of the VAT Code foresees the legal repercussion of VAT on invoices issued to clients.
[21] Judgement of 18 June 2009, Stadeco, C-566/07.
[22] It was also noted that there is no risk of loss of tax revenue for the State, as (i) the Applicant’s customers are mostly final consumers and (ii) in Portugal, beverage services do not grant the right to recover input VAT (Article 21 (1) (d) of the VAT Code).
[23] According to Articles 98 and 99 of the VAT Directive, Member States are allowed to apply one or two reduced rates (of at least 5%) to the supply of goods and services listed in Annex III of the Directive. Article 99 of the VAT Directive has, in the meantime, been repealed, and the rules governing reduced VAT rates are now all in Article 99 (with the wording brought by Directive 2022/542, of 5 April 2022).
[24] Judgement of 28 May 2011, Dyrektor Izby Administracji Skarbowej w Katowicach, C-703/19.
[25] See inter alia the Judgement of 10 March 2011, Bog, C-497/09.
[26] As per item 2.21 of list I annex to the VAT Code only tolls of bridges crossing the Tejo river benefit from the reduced rate.
[27] As per item 1.2.1 of list II annex to the VAT Code, only canned mollusks benefit from the intermediate VAT rate.
[28] Similarly, the European Commission: “As for VAT differences within a member state, VAT differences between member states have the potential to distort consumers’ buying decision and to cause an efficiency loss. In addition, VAT differences between member states have the potential to change the pattern of trade between member states and to redistribute VAT revenue between member states. For these reasons, the VAT structure has clear implications for the functioning of the internal market” (European Commission, Study on reduced VAT applied to goods and services in the Member States of the European Union – Final report, June 2007).