Are you sure you can form a VAT Group?

The Common VAT Agreement of the States of the Gulf Cooperation Council (GCC) (hereinafter referred to as ‘VAT Agreement’) which has been assented by the Kingdom of Bahrain, has introduced the concept of forming a VAT group in the member state. In this aspect, Article 4 of the VAT Agreement states that: “Each Member State may treat the VAT Group as a single Taxable Person in accordance with the rules and conditions it puts in place for that purpose. A VAT Group means two or more Corporate Persons who are Residents of the same Member State.”

The recently introduced VAT law in United Arab Emirates (UAE) and Kingdom of Saudi Arabia (KSA) brings out the intricacies regarding the key parameters which need to be fulfilled to form a VAT group.  The key parameters are - 

1. Two or more corporate/legal persons can form a tax group
2. Each person shall have a place of establishment or fixed establishment in the member state
3. The relevant persons shall be related parties
4. One or more persons conducting business in a partnership shall control the others

On the first reading, the provisions seem pretty straight forward. However, there are certain practical challenges in complying with these parameters.

One of the basic challenge is that a VAT group can only be formed between two or more legal persons.  There are several types of legal structures which can be adopted for doing business in Bahrain, such as a Bahrain Shareholding Company (B.S.C.) – Public, Partnership Company, Commandite by Shares, Bahrain Shareholding Company (B.S.C.) – Closed, With Limited Liability Company (W.L.L.), Single Person Company (S.P.C.) or a Foreign Company Branch. The Ministry of Industry, Commerce and Tourism (MOIC) of Bahrain has further allowed Bahrain and GCC Nationals to register their sole proprietary firms as an ‘Individual establishment’ and thereby they could have an Individual Commercial Registration (ICR).

In the GCC region, businesses which were established by individual tradesmen have advanced with time to form complex conglomerates today. However, the legacy of the tradesmen, in many cases, is still conserved in a small legal structure, such as, a sole proprietary or individual establishment which controls other business corporates of the tradesmen. Now, the question arises, whether such sole proprietary firm or an unincorporated body/trust/charity or an individual establishment, which does not enjoy the status of a corporate person, can enter into a VAT group? As per MOIC an ‘Individual Establishment’ is a non-incorporated entity and is owned by one individual only. Thus, the underlying legal structure of such an unincorporated individual establishment could be construed as a sole proprietary business under VAT Law. .

From the recent VAT implementations, it is clear that only two or more legal or corporate persons can form a VAT Group. This limiting factor that a non-corporate or non-legal person cannot enter into a VAT group, would affect the traditional sole proprietor who operates on a centrally run cost or revenue models for all their group companies. Here, the effect of not grouping would colour all inter-company supplies as taxable in the VAT regime, leading to unwarranted cash outflow of five percent, being the VAT, on all taxable inter-company supplies/cost recharges. 

Reference is drawn to the summary of responses relating to the consultation on the scope of VAT grouping published in January 2018 by HMRC, a department of the UK Government responsible for the collection of taxes in UK. One of the key deliberations of the consultation was extending eligibility to non-corporate bodies to become a member of a VAT group.  While HMRC is yet to formulate a legal resolution to this response, it will be interesting to observe how the revenue authorities in Bahrain would assess this situation considering there are many businesses groups which are controlled by an Individual Establishment.  

Until this issue is deliberated and concluded by revenue authorities of Bahrain, businesses operating here would need to find a reasonable solution to circumvent this evident fallacy in the law before the break of dawn. Business groups also need to revisit and revise other parameters to justify the presence of economic, financial and regulatory control between the members to qualify for a VAT Group.  With limited time left to prepare for VAT, it is a prerequisite for all businesses operating in Bahrain to assess the overall impact of VAT on existing business structure and take steps to identify and mitigate any potential risks to ensure they can transition smoothly in the VAT regime.

About the Author

Nirav Rajput

Manager

Tax Advisory (VAT)

Grant Thornton Abdulaal

M +973 38967876

E nirav.rajput@bh.gt.com

Disclaimer:

This article is solely to provide useful information to the readers. Views expressed are personal and they do not necessarily reflect the views of the Company and further, the views are not binding on any person. The author and publisher are not offering it as legal, accounting, or other professional service advice.