One of the aspects of the amendment to the VAT Act which, according to plan, should have come into force in January 2019 (judging by the current state of the legislative process, the amendment might not be even adopted by then) is determining who is a taxable person and an interpretation of the term economic activity. The change is connected among others to the judgement of the Supreme Administrative Court (further “SAC”) No. 2 Afs 100/2016 which concluded that the legislator transposed the term economic activity as defined by the EU Directive on VAT No. 2006/112/ES (further “EU Directive”) incorrectly in the Czech VAT Act. The as of now in force reading of Article 5 (2) of VAT Act provides a list of activities which may be considered economic activity (positive determination) and at the same time it defines activities which cannot be viewed as economic activity (negative determination). In the negative determination, the Act stated that this term does not include activities of natural persons whose income is taxed as income from dependent activity as per Article 6 of the Income Tax Act (which includes executive directors of business corporations – natural persons – when performing the function). The Czech legislation referred to the Income Tax Act and thus supposed a dependence of the executive director as well as of other members of the statutory bodies on the business corporation. Seeing that the performance of economic activity is one of the main criteria based on which the obligation to VAT is assessed, according to this negative determination in Czech legislation, the executive director does not belong in the category of persons subject to VAT. According to the findings in the SAC’s judgement, this interpretation is not in accordance with the EU Directive and the position of executive director shall fall in the category of economic activity.

Until the amendment to the VAT Act comes into force, the persons who may be affected by the decision of the SAC are given a free choice whether they will follow the EU Directive directly and consider the position of executive director an economic activity, or whether they will follow the Czech VAT Act. In the second case, no obligation to VAT arises for executive directors of legal entities. Because the discrepancy between Czech legislation and the EU Directive follows from an incorrect transposition done by the lawmaker, the financial administration cannot call for a direct effect of the EU Directive or impose any obligations based on the EU Directive. They also cannot deny anyone their right to deduction of VAT in the case where the executive director poses as a person subject to VAT and his or her remuneration is subject to VAT (in cases of VAT payers). However, this approach shall be changed by the amendment.

The postscript, according to which activities taxed as per Article 6 of Income Tax Act do not belong in the economic activities category, will no longer be included in the VAT Act. But the amendment suggests the category of persons subject to tax explicitly exclude not only members of groups but also employees or other persons who are conducting economic activity based on an employment, service or similar relationship. Whether the relationship falls within one of these categories will be decided individually for each specific case. It will be necessary to analyse in detail especially whether the executive director acts alone or is subordinate to the business corporation and whether he or she carries some risk. With respect to the dissemination of the position of executive director conducted by the SAC, it will probably be very difficult to find arguments to support the claim that executive directors do not conduct economic activity in line with the VAT Act.

The amendment to the VAT Act will bring a number of obligations for executive directors (natural persons) who will be considered persons subject to tax after their individual assessments. These persons will be obliged to monitor their turnover, and if necessary to register for VAT and submit VAT returns or control statements regularly. Their remuneration will be subject to VAT and upon complying with general conditions they will be able to exercise their right to deduction of input VAT from relevant payments. Everyone affected should prepare thoroughly for the expected changes which the new amended version of the VAT Act will bring in a few months.

Soňa Hanigovská & Michal Scholtz