There has been ongoing discussion and controversy between the Tax Authority and taxpayers operating in free trade zones as to whether services received by these entities are subject to VAT.
Turkish VAT law provides that services performed or used in Turkey should be subject to VAT. The Tax Authority is generally of the view that, as free trade zones are within the geographic boundaries of Turkey, services received into these zones either from the resident or non-resident companies should be subject to local VAT, since the services are deemed to be utilized in Turkey.
The only exceptions to this are services that are actually performed within free trade zones i.e maintenance work and contract manufacturing services performed by Turkey companies for their customers in free trade zones. Other than these two exceptions, all other services received by entities in free trade zones are subject to VAT.
Entities operating in free trade zones are currently required to calculate VAT on a reverse charge basis on services received from non-resident companies. Such entities should be declaring and paying VAT via a VAT-II tax return. This will result in an actual output VAT liability as the VAT incurred on these services will not be regarded as deductible on the basis that these entities are not considered VAT taxpayers. The VAT incurred is therefore regarded as an additional cost. Such an interpretation clearly creates a competitive disadvantage for these companies compared with the VAT registered companies located outside the free trade zones. This situation also clearly contradicts the main purpose of establishing free trade zones.
Recent court decisions
The recent court decisions acknowledge that, even though free trade zones are within the political and geographic boundaries of Turkey, they have been formed to increase exportation and are therefore outside the customs area. As such, the Courts accepted that free trade zones should be regarded as being outside of Turkey “economically” and that the services received in these zones from resident or non-resident suppliers should not be subject to Turkish VAT.
Possible actions to be taken by taxpayers
As of yet there has been no change in VAT legislation to reflect the outcome of the court decisions. Tax payers in free trade zones are still required by law to self account for VAT on the receipt of services from non-resident companies. However, when paying VAT, such taxpayers can declare their VAT –II returns based on a “reservation clause” that preserves their right to file a law suit against the Tax Authorities for the recovery of this VAT in the future if it is found not to have been payable. Certain conditions and deadlines must be fulfilled in filing this reservation clause.
Taking into consideration the recent court decision, filing VAT returns on this basis and commencing legal proceedings should be considered by taxpayers in free trade zones as this may result in significant VAT savings assuming the court rules in their favor.