“High standards of professional work.” (IFLR1000, 2017)
“High standards of professional work.” (IFLR1000, 2017)
iFinanses published an article by Zane Eglīte-Fogele, partner of PRIMUS, and Tatjana Sinkeviča, Associate of PRIMUS which describes notification regarding the type of main activity in accordance to NACE code for tax administration and enforcement purposes
Notification requirement and the definition of NACE code
On 13 October 2015, amendments to the Law On Taxes and Duties, which lays down the obligation for taxpayers to provide the State Revenue Service (hereinafter- SRS) information regarding the type of main activity according to statistical classification codes of economic activities- NACE, entered into force.
According to Section 1 Paragraph 32 of the Law On Taxes on Duties a type of activity of the taxpayer classified in accordance with Regulation with the highest proportion in the total turnover in the taxation year. The type of the principal activity for taxpayers which commence economic activity, shall be determined according to the planned indicators of turnover.
In Section 15 Paragraph One, Clause 15 of the Law On Taxes and Duties, the taxpayer is obliged to submit by 1 May each year information regarding the main activity of the previous taxation year (NACE code) to the tax administration via SRS Electronic Declaration System, if it has changed during the previous taxation year and does not conform to the information provided to the tax administration. The requirement for notification of a type of activity is not attributable to taxpayers- natural persons who do not preform economic activities.
Section 27.10 of the Cabinet Regulation No. 537 of 22 September 2015 Regulations regarding the Registration of Departments of Taxpayers in the State Revenue Service establishes that information regarding the taxpayer’s type of principal activity and the type of ancillary activity according to NACE Revision 2 of the Statistical Classification of Economic Activities in the European Community must be entered with the detail up to four digits.
Relevance of the NACE code and the consequences of value added tax
In addition to the general requirements specified above, registering the value added tax (hereinafter- VAT) in the Register of Taxpayers and filling in the application for registration in accordance with Annex 2 of the Cabinet Regulation No. 17 of 3 January 2013 “Procedures regarding the application of the provisions of the VAT Law and certain requirements for the payment and administration of value added tax”, the taxpayer in relation to the types of activity (NACE2) must indicate both the main activity and also three other types of activity, if any.
This requirement is not formal as the SRS, while carrying out the inspections, is paying particular attention to the NACE code provided by the taxpayer. The reported NACE codes serve as an additional argument in assessing the diligence of the taxpayer in the choice of the counterparty. In determining discrepancies between the type of activity declared by an undertaking and the type of transaction, it might be questioned whether the declared transaction has actually occurred, resulting in deprivation of the right of deduction of input VAT by the taxable person.
In order to assist taxpayers in avoiding unfair counterparties, the SRS has developed information material “Recommendations on the State Revenue Service for the Assessment of the Counterparty and Transaction Risk” (hereinafter- SRS guidelines), available at the SRS website .
The case law of national courts of Latvia has established that only a taxpayer who did not know or could not have known about that the supplier of the transactions in question was conceived as fraud or that another transaction falling within the supply chain before or after the transaction carried out by the taxable person concerned the evasion of value added tax cannot be punished by a refusal of the right to deduct input tax.
It is also apparent from the case law of the Court of Justice of the European Union that, where there are indications which allow suspicion of unlawful or alleged fraud, an informed market operator may be required to establish information on the other market operator, in accordance with the circumstances of the case, from which he intends to purchase goods or services in order to ascertain his credibility.
Both the courts and the SRS, in assessing whether the taxpayer knew or should have known about engaging in a business chain to obtain a fiscal advantage in the form of the VAT, would asses the fact that the taxpayer had not taken reasonable steps to verify the counterparty’s reliability and did not act as a good and thorough owner if not assured of the nature of the principal activity of the counterparty of the offeror’s transaction.
The implementation of the measures recommended in the SRS Guidelines does not give rise to the legitimate expectation of the taxpayer that the tax control measures cannot clarify the tax charges imposed on transactions with the counterparty whose credibility has been assessed by the taxpayer, but may serve as an additional proof both in the SRS and, if necessary, in the courts, that the taxpayer acted as a good and thorough owner and has taken reasonable steps to verify the reliability of the counterparty.
Similarly, in the judgment of the Supreme Court of 10 September 2013 in Case Nr.SK A-12/2013 the court concluded that such an impression was caused by the circumstances established by the institution: the type of activity declared BY SIA “X” did not correspond to the content of the disputed transaction, as a result of which the SRS was justifiably depriving the taxpayer of the right to deduct input tax in the transaction with the SIA “X” (judgment in Case No. A420420114 paragraph 11).
Judgment of the Administrative District Court of 13 December 2019 in Case No. A420235218 (judgment under appeal) contains an indication of the discrepancy observed during the audit of the SRS between the transaction carried out and the type of activity declared by the counterparty.
Administrative District court in its judgement of 18 February 2019 in case A420273917 (judgment in effect on 27.9.2009) stated that for a long period of time the Commercial register has ceased to register the type of business and the merchant can change these types of activities freely. Therefore, this comment does not, by itself, suggest that the applicant or its counterparties have acted in a dishonest manner.
However, it is essential to point out, that the requirement for indicating the type of activity (NACE code) stems from the obligation and requirements of the Law On Taxes and Duties, which are included when registering in the VAT register. Consequently, the conclusion of the District Court does not alter the requirements regarding the taxpayer’s obligation to alter the requirements for the taxpayer’s to notify the types of activity (NACE codes) and to examine the type of activity declared by the co-operation partner and to assess its compliance with the intended transaction.
Relevance of NACE codes in the implementation of enterprise income tax
Similarly, the problem of misreporting the type of economic activity may affect the correct application of the enterprise income tax (EIT). The SRS may question the costs which the taxpayer considers to be related to economic activity if it is found that the notification of an inappropriate NACE code to the economic activity actually carried out by the taxable person is not relevant.
According to Section 8 of the EIT Law, when identifying expenditure not related to economic activity, it is assessed not only in accordance with the legal form but also in the economic nature of the transaction. It should be pointed out that the case-law reinforces the fact that the same supporting documents (invoices of transactions) are taken into account regarding both in the calculation of EIT and VA, the both are covered by the provisions at the Law On Accounting, as Section 2 on the presentation of true information in the accounts as well as Section 7 Paragraph One on making entries in the accounting records only in accordance with the supporting documents.
To ensure smooth functioning of the tax system and the prevention of fraud, there is no basis for applying different criteria for each tax on the same transactions, unless it has an objective basis resulting from the nature of the tax. Therefore, at the discreditation of the Supreme court, there is no basis to further develop a different view of the two taxes in cases where the circumstances established by the tax administration call into question the counterparty’s actual ability to secure the transaction.
Therefore, it is recommended that the taxpayer regularly follow whether its declared NACE code corresponds to the economic activity actually carried out and, in the event of changes, to communicate the current nature of the core activity of the SRS. It is equally important to carry out a verification of the conformity of the type of activity declared by the counterparties with the intended transaction in order to avoid the occurrence of negative tax effect.