Practice of European Court of Human Rights in Tax Disputes

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This is not a rare occasion nowadays that the practice of the European Court of Human Rights is used by local courts to resolve certain disputes. For the present, this practice is recognized as an independent source of law and is mandatory for the application by the courts (para 1 of s. 17 of the Law of Ukraine "On the Enforcement of the Judgments and the Application of the Practice of the European Court of Human Rights").

There are no exceptions in respect of tax disputes, where the courts more and more often begin to employ the practice of the European Court of Human Rights.

The analysis of the practice of the European Court of Human Rights in tax disputes shows that the most frequently it concerns Art. 1 of the Protocol 1 to the Convention for the Protection of Human Rights and Fundamental Freedoms.

This article enshrines the right to peaceful enjoyment of possessions. Especially, it reads that every natural or legal person is entitled to the peaceful enjoyment of his possessions. No one ought to be deprived of his possessions except in the public interest and subject to the conditions provided for by law and by the general principles of international law.

In the context of tax disputes imposing the duty to pay tax/depriving the right to receive a tax benefit (input VAT or VAT refund) is viewed as a deprivation of property. Accordingly, it should be exercised “subject to the conditions provided for by law and by the general principles of international law”.

The best known for Ukraine seems to be the practice of the European Court of Human Rights as regards the application of art. 1 of Protocol 1 on such matters as (1) the entitlement of a taxpayer to VAT input/VAT refund arising from the transactions with non-bona fide (from a tax perspective) suppliers and (2) the "quality" (predictability, precision) of tax laws.

Problem suppliers

To date, one can make note of three main judgments of the European Court of Human Rights on this issue. These comprise the judgments in Intersplav v Ukraine (2007, application No 803/02), "Bulves" AD v Bulgaria (2009, application No 3991/03), and Business Support Centre v Bulgaria (2010, application No 6689/03).

In these cases the local tax authorities denied the VAT payers’ right to input VAT /VAT refund in view of the abuses aimed at obtaining illegal VAT refund committed by their suppliers.

Checking the denial of the taxpayer’s right to input VAT/VAT refund against the requirements of Art. 1 of the Protocol 1, the European Court of Human Rights resorted to the principle of proportionality. This principle appears to be part of the rule of law principle and demands a "fair balance" to be struck between the public interest on one side and the protection of the rights of individuals subjected to the state intervention on the other side.

On the facts of the case, the European Court of Human Rights found that the "fair balance" requirement is not met when the taxpayer is deprived of his entitlement to input VAT/VAT refund in the absence of (1) evidence indicating his direct involvement in VAT abusive practices (2) evidence that he had knowledge or the means to obtain the knowledge of the fraud in relation to the VAT system committed by his suppliers.

Consequently, the court revealed a violation of Art. 1 of Protocol 1 guarantying the right to peaceful enjoyment of possessions.

"Quality" of tax law

As noted above, in accordance with Art. 1 of Protocol 1 no one ought to be deprived of his possessions except subject to the conditions provided for by law.

In the understanding of the European Court of Human Rights a law is not recognized as such, if it does not gratify the requirement of "quality of law". Quality of the law alludes to its precision and clarity.

In other words, if an obligation to discharge a tax is imposed by the law that does not satisfy the condition of "quality of law", the payment of such a tax is contrary to Art. 1 of Protocol 1.

In the cases of Shchokin v Ukraine (2010, applications No 23759/03 and No 37943/06) and  Serkov v Ukraine (2011, application No 39766/05) the European Court of Human Rights observed the violation of Art. 1 of Protocol No 1 because of the noncompliance with the requirement of "quality" of tax laws.

In the case of Shchokin v Ukraine the European Court of Human Rights treated as being of “low-quality” the law laying down the rate of personal income tax applied to the income earned outside the principle place of employment. At the time when the respective transactions were taxed the Decree of the Cabinet of Ministers of Ukraine “On Citizens' Income Tax” set forth a flat 20% rate, while the Presidential Decree “On Increasing the Amount of Tax-Free Monthly Income and Rates of Progressive Taxation of Citizens' Income” stipulated a progressive rate.

Citing the principle of conflict of interest* incorporated into the tax laws of Ukraine, the court held that the more favorable for the taxpayer approach should have been employed, that is the flat rather than progressive rate of individual income tax should have been applied.

The similar findings were made by the European Court of Human Rights in the case of Serkov v Ukraine. In this case the court detected the lack of "quality of law" in the conflicting provisions of the Law of Ukraine "On Value Added Tax" and the Presidential Decree “On the Simplified System of Taxation, Accounting and Reporting for Small Businesses" in relation to levying VAT on importing goods to the customs territory of Ukraine carried out by unified taxpayers-individuals.

In lieu of conclusion

To finish on a good note, it is necessary to point out that it is not very difficult to find the examples of the application of the aforesaid practice of the European Court of Human Rights in the Unified State Register of Court Decisions of Ukraine with regard to the most topical tax cases. The most important thing seems to be that in many instances such an application is made in the interests of taxpayers.

The judgments in Intersplav v Ukraine and "Bulves" AD v Bulgaria are being applied in disputes concerning the input VAT/VAT refund arising from the transactions with non-bona fide VAT payers.

The judgment in Shchokin v Ukraine is being employed in disputes relating to carrying forward the tax losses (losses sustained in 2010 and the preceding tax periods).

* - Para 4.4.1 of the then effective Law of Ukraine “On the Procedure for Payment of Taxpayers' Liabilities to Budgets and State Purpose Funds”.

Practice of the European Court of Human Right and VAT refund

By Roman Blazhko 

Recently, more and more tax disputes have had a bearing on the issue of the responsibility of VAT payers for the abuses committed by their suppliers in the chain of supply. According to the tax authorities, a VAT payer (buyer of goods) is not entitled to input VAT (“tax credit”) and, accordingly, to VAT refund if some of its suppliers in the chain of supply have not declared their tax obligations or appeared to be fictitious companies (for example, those that are not located at their registered addresses, those that do not have sufficient fixed assets, those that are understaffed, etc.).

The Law of Ukraine "On Value Added Tax" and commencing 1 January 2011 the Tax Code of Ukraine do not provide an explicit answer to the question whether the VAT payer (buyer of goods) is eligible for input VAT (“tax credit”) as well as to VAT refund in such cases.

Fortunately, the above question finds its solution in the practice of the European Court of Human Rights. The practice of this court is recognized as an independent authority and must be applied by the courts of Ukraine (art.17 of the Law of Ukraine "On the Enforcement of Judgments and the Application of the Practice of the European Court of Human Rights").

To date, one can note three judgments of the European Court of Human Rights touching upon the issue in question. These encompass the judgments in Intersplav v Ukraine (2007, application No 803/02), “Bulves" AD v Bulgaria (2009, application No 3991/03), and Business Support Centre v Bulgaria (2010, application No 6689/03).

In the case of Intersplav v Ukraine (para 38 of the judgment), the European Court of Human Rights found for the VAT payer stating that the latter can not be denied the entitlement to VAT refund in the absence of any indication of its direct involvement in VAT abusive practices.

In the case of "Bulves" AD v Bulgaria (para 71 of the judgment), the European Court of Human Rights found that the VAT payer should not be held liable for the abuses committed by its suppliers, if it does not have knowledge of those abuses or the means to obtain such knowledge.

In the case of Business Support Centre v Bulgaria the European Court of Human Rights reaffirmed its conclusions contained in the case of "Bulves" AD v Bulgaria.

Consequently, relying on the practice of the European Court of Human Rights, it is possible to contend that a VAT payer should not be deprived of the entitlement to input VAT (“tax credit”) and VAT refund in the case of the abuse of its suppliers in the chain of supply. The exceptions are the only situations where VAT payer was involved in such abuses, or it had knowledge of those abuses or the means to obtain such knowledge.

To finish with a happy end, it is worth mentioning that the domestic courts have gradually begun to apply the practice of the European Court of Human Rights in relation to VAT disputes. For instance, as at 8 September 2011 there were 47 and 102 court decisions in the Unified State Register of Judgments of  Ukraine citing Intersplav v Ukraine and "Bulves" AD v Bulgaria, respectively.