Swedish CJEU referral on input VAT recovery for supplies taxable abroad – a storm in a teacup?

A request for a preliminary ruling from Sweden’s Supreme Administrative Court (lodged 28 January 2026)¹ raises a familiar, yet apparently unsolved, question: can a Member State deny input VAT deduction where a supplier’s cross‑border B2B service is exempt (or not taxable) in the customer’s Member State, even though it would have been taxable if supplied domestically?

The question arises specifically where the mismatch would potentially flow from differing national implementations of the exemption for management of special investment funds under Article 135(1)(g) of the VAT Directive².

At the outset, however, it is important to stress that the reference is built on a factual premise which appears to have made some noise in the Luxembourg VAT sphere and that many VAT practitioners would most likely contest.

The referring court (as well as the Swedish Tax Agency, and the taxpayer’s application for an advance ruling) indeed proceed on the assumption that the “transaction structuring services” supplied to a securitisation vehicle would be VAT exempt in Luxembourg. If that assumption appears to be incorrect as a matter of Luxembourg law, market practice, or administrative position, then the case becomes less a “Luxembourg exemption” case and more a hypothetical / theoretical feature for testing the proper construction of Articles 168(a) and 169(a) of the VAT Directive.

Even on that basis, the question is not academic. It goes to whether Article 169(a) is capable of protecting neutrality and the internal market where cross‑border supplies collide with divergent exemption boundaries across Member States.

 

Literal interpretation of Article 169(a)

Article 169(a) extends the right to deduct input VAT where inputs are used for transactions carried out outside the Member State where the VAT is due or paid, provided those transactions are ones “in respect of which VAT would be deductible if they had been carried out within that Member State” (subject to a carve‑out for transactions exempt under Article 284³).

Crucially, Article 169(a) does not expressly state that deduction is conditional on the output being taxable in the Member State where the supply is actually located. This textual point is sharpened by the fact that the legislator did insert a targeted exclusion for Article 284 exemptions, suggesting that where it intends a cross‑border restriction it says so expressly.

Against that, the Swedish Tax Agency relies on the CJEU’s “twofold condition” language in the CJEU Morgan Stanley case⁴, often paraphrased as requiring the output to be “taxed” both (i) where it is carried out and (ii) in the input VAT Member State under the counterfactual domestic test.

 

Why Morgan Stanley may not be a perfect analogy

In Morgan Stanley, the Court held that the right to deduct under Article 169(a) depends on a “twofold condition”: the transactions must be taxed if carried out in the Member State of input VAT, and must also be taxed in the Member State where they are subject to VAT.

However, Morgan Stanley concerned a single taxable person operating through a head office and branch in different Member States, addressing how input VAT incurred by the branch should be recoverable by reference to the activities of both establishments, including in a partial exemption context. That is a very different setting from an ordinary B2B export of services to an unrelated customer.

There is logic in conditioning recovery on the VAT character of the activity in the Member State where a business chooses to operate: establishment and branch structure are within the taxpayer’s sphere of decision‑making. It is another step entirely to condition a supplier’s input VAT recovery on where its clients are established and how the client’s jurisdiction classifies the supply. In cross‑border services, the supplier generally cannot control or reliably predict the recipient Member State’s exemption boundary, particularly where national discretions exist.

This is the key distinction the Swedish reference forces into focus: Morgan Stanley’s “twofold condition” may make sense for allocating deduction within a single taxable person operating across borders, but it is far less justified as a rule making deduction depend on the recipient Member State’s VAT treatment in a third-party B2B supply.

 

Article 169(a) as an internal market safeguard

Article 169(a) is commonly understood as preventing distortions of competition and barriers to cross‑border trade by ensuring that input VAT is not “trapped” merely because the output is carried out outside the Member State of input. This aligns with the principle that the right to deduct is a cornerstone of VAT neutrality and should not be restricted except under clearly defined conditions.

If Sweden may deny deduction whenever the customer’s Member State treats the service as exempt, Swedish suppliers would be incentivised to avoid supplying into jurisdictions where exemption risk exists. That is difficult to reconcile with enabling free movement of services within the single market. The supplier’s VAT position in Sweden would become hostage to a foreign legislature’s classification choices.

The Swedish Tax Agency’s narrative that “deduction must be offset by output tax”⁵ does not dispel this concern. While the Court has emphasised that deduction is linked to output tax collection, that proposition safeguards the VAT chain’s integrity within the system’s own boundaries — it does not justify Member States extracting a fiscal gain from exports by denying deduction where they would never have taxed the output in the first place.

 

Neutrality cuts both ways

A common reaction is that it appears “unfair” if the supplier recovers input VAT in Sweden while no VAT would (allegedly) be accounted for in Luxembourg. But the mirror-image unfairness is equally acute: if Sweden blocks deduction on an exported service, it effectively enriches itself by turning VAT into a cost for the exporting business, despite never being entitled to output VAT on the supply. Had the supply been made to a jurisdiction where it would be taxable, Sweden would neither have collected output VAT nor been entitled to block input VAT recovery. Sweden’s denial of deduction is therefore not about ensuring symmetrical taxation, but about the VAT treatment in the recipient jurisdiction.

The CJEU has previously held that a Member State cannot refuse deduction solely because the output did not give rise to VAT payment in the other Member State⁶. Those cases did not involve an exemption in the place‑of‑supply Member State, but they underscore an important baseline: absence of foreign VAT payment is not, by itself, sufficient to deny deduction under EU law.

If a “no‑VAT‑anywhere” outcome is thought undesirable, one might imagine a legislative safety net whereby – in similar cases – output VAT is accounted for by the supplier where no VAT is paid in the country of the recipient. The VAT Directive does contain such a mechanism in the context of intra‑Community acquisitions of goods, but there is no equivalent for cross‑border B2B services, and Article 169(a) is not drafted as one.

 

What to keep in mind

The outcome will likely turn on whether the Court treats Morgan Stanley’s “twofold condition” as a generally applicable gloss on Article 169(a), or confines it to its establishment/branch context, especially now that Article 169(a) expressly references Article 284 as a specific cross‑border limitation.

If the Court endorses a broad “double condition” for exported services, suppliers will face an additional VAT cost driver: recipient‑jurisdiction exemption risk, including where created by national discretions such as the definition of “special investment funds” under Article 135(1)(g).

If instead the Court follows a literal, counterfactual reading of Article 169(a), Member States will be constrained from denying deduction merely because a foreign jurisdiction treats the output as exempt or not taxable, leaving fairness concerns to be addressed by legislative change rather than administrative denial.

 

---

¹ T-96/26 - TellusTax Advisory
² Directive 2006/112/EC
³ Small enterprises exemption
⁴ Morgan Stanley & Co International (C 165/17)
⁵ See Avdragsrätt - Skatterättsnämnden
⁶ See for instance RBS Deutschland Holdings GmbH, C-277/09 (paragraph 46)