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Navigating the VAT treatment of security tokens in the EU

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Vincent Martin and Tomas Papousek of Deloitte Luxembourg analyse the complicated relationship between security token offerings and the EU’s VAT rules.

In recent years, security token offerings have become an alternative to raising capital through debt or equity. This increased interest in security tokens raises questions regarding the practical aspects of managing such a process, including the VAT consequences of transactions involving such tokens.

VAT in the EU is a transaction-based tax, levied either on the supply of goods or the provision of services at each stage of production, distribution, or sale, with specific exceptions.

In this article, we summarise our views on the VAT treatment of security tokens applying EU VAT rules.

The difficulty in determining whether VAT should apply (and how) to security tokens stems from the absence of specific references to crypto assets in current EU VAT legislation (notably Directive 2006/112/EU) and how they should be treated for VAT purposes. It is worth noting that the EU VAT system is based on principles set out in the 1970s (with key amendments in 1992 and 2010) and, at that time, crypto assets were, to the best of our knowledge, nonexistent (for context, cryptocurrencies were considered only in the 1980s, and bitcoin was only created in January 2009 by Satoshi Nakamoto). To this day, the CJEU has only made a single reference to crypto assets, and more specifically to bitcoins (in C-264/15 Hedqvist). In this case, the CJEU highlighted that transactions involving non-traditional currencies, such as bitcoins, that have no purpose other than as a means of payment, should be treated as financial transactions for VAT purposes.

As there are no specific VAT rules relating to security tokens, their VAT treatment should be based on the general rules outlined in the current VAT legislation. In this regard, the CJEU’s settled case law emphasises that:

  • VAT treatment should solely be based on the nature of the service (C-2/95 SDC); and

  • The fact that a service is performed entirely by electronic means does not in itself preclude the application of a VAT exemption (C-59/20 DBKAG).

Accordingly, when considering security tokens from a VAT perspective, it is important to focus on the underlying service, and the fact that this service is rendered by means of security tokens should not impact its VAT treatment.

A security token is a tradeable financial instrument that represents claims or rights to an asset or bundle of assets. Such security tokens can be classified into two main categories: equity tokens and debt tokens. These tokens generally should entitle the holders to rights similar to those associated with a conventional security relating to equity or debt. In that sense, an equity security token would represent a share in the equity of a company, including voting and dividend rights, and a debt security token would represent ownership in a debt and include rights to the debt’s interest, coupons, and/or principal.

Based on the above, an equity security token has functions similar to those of more traditional shares in a company. Thus, such a token should confer on the token holder rights over a legal person, including the right to vote (and thus share in the decisions about strategic aspects of the legal person) and the right to receive dividends from it. It is therefore arguable that the VAT treatment of equity security tokens should, in principle, be the same as is currently applied to shares in a company, subject to a detailed analysis of the transaction and of the contractual documentation.

Two key transactions involving equity security tokens can be identified:

  • The issuance of equity security tokens to investors; and

  • The trading of issued equity security tokens among different investors.

In this regard, the issuance of equity security tokens, under which an issuer obtains equity financing and should be paying dividend income, should not attract VAT. This would be comparable to the of issuance of new traditional shares, which, in accordance with case C-465/03 Kretztechnik, falls outside the scope of VAT.

The sale of equity security tokens also would not attract any VAT on the basis that it would be similar to the sale of traditional shares (C-29/08 AB SKF).

A similar parallel can be drawn between traditional debt instruments and debt security tokens. In such cases, no VAT would be due on the issuance or trading of debt security tokens.

For the sake of completeness, it should be noted that, as part of any security token offering, various other services may be provided, including advisory services (such as legal advice). Each service needs to be considered on a standalone basis depending on the nature of the underlying service. For instance, legal advice related to security token offerings likely would be subject to VAT.

As stated earlier, the above interpretation is based on general VAT principles. However, the EU VAT treatment of crypto assets remains a difficult topic with differing viewpoints among VAT experts. This is primarily due to the limited guidance available within the EU.

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