On 11 June 2020, the European Court of Justice (“ECJ”) rendered its judgment in the case ‘Vodafone Portugal – Communicaçoes Pessoais SA v Autoridade Tributária e Aduaneira’’ (C-43/19) following a request for a preliminary ruling. The judgment addresses the question as to whether termination fees are subject to value added tax (“VAT”) pursuant to Article 2(1)(c) of the Council Directive 2006/112/EC of 28 November 2006 on the common system of value added tax (the “VAT Directive”).
Vodafone Portugal supplied electronic communication services, fixed telephony, and wireless internet access. Some of the service contracts concluded with its customers included special promotions, usually related to the price payable for the contracted services, subject to conditions that tie these customers in for a predetermined minimum period (“tie-in-period”). In case customers fail to comply with the tie-in period, they need to pay an amount defined in the contracts. Such amount is calculated in conformity with national law in proportion to the completed part of the tie-in period, based on the benefits granted to the customers under the contract that are quantified therein. It may not exceed the costs incurred by Vodafone Portugal to install the service.
In November 2016, Vodafone self-assessed VAT based on the amounts received in respect of non-compliance with the tie-in period. In October 2017, it then challenged such self-assessment arguing that the amounts at issue were not subject to VAT. Following the rejection of the appeal, Vodafone brought an action before the Portuguese Tax Arbitration Tribunal, which then referred the preliminary question to the ECJ on the following:- in a scenario where amounts are received by an economic operator in the event of an early termination of a services contract, for reasons specific to the customer, and that services contract requires compliance with a tie-in period in exchange for granting that customer advantageous commercial conditions, should the VAT Directive be interpreted to mean that the amounts received by the economic operator must be considered to constitute a remuneration for a supply of services for consideration subject to VAT within the meaning of Article 2(1)(c) of the VAT Directive?
According to the ECJ, the amount payable in the event of early termination reflects the recovery of some of the costs associated with the supply of the services, which the operator has provided to his customers and which the latter committed to reimburse in the event of such a termination.
The Court takes on the perspective of economic reality stating that the amount due on the contract’s early termination seeks to guarantee the operator a minimum contractual remuneration for the service provided. Therefore, it must be considered as constituting an integral part of the price that the customer committed to pay to the supplier to fulfil its contractual obligations. In the ECJ’s view, both the service to be provided and the consideration for the right to benefit from that service are determined when the contract is concluded between Vodafone and its customers. In particular, the consideration for the service is determined according to well-established criteria, which define both the monthly instalments and the way in which the amount for early termination must be calculated. Thus, the amount due must be considered as a remuneration received by an operator for the supply of services for consideration and subject to VAT within the meaning of the VAT Directive.