EU REFERS VAT GROUPING CASE AGAINST UK TO ECJ

A European Commission press release dated 24 June 2010 confirmed that the infringement proceedings against the UK (and 7 other Member States) for breaches of the VAT grouping rules, has been referred to the European Court of Justice.

The Commission says the UK has not correctly implemented EU law on VAT grouping, because it allows dormant companies and ‘passive’ holding companies (i.e. ones that merely hold shares) to be members of VAT groups.  EU law on grouping prescribes that a ‘non-taxable person’ is unable to join groups, describing such entities as not being engaged in ‘economic activities’. The worry is that not only will there be an impact on corporate finance deals, where acquisition vehicles are commonly grouped with the target company to recover their VAT, and charities, where the parent entity only has non-business income and is grouped with a trading subsidiary to recover some of its VAT, the term ‘non-taxable person’ could also be extended to include corporate bodies making infrequent supplies, or start-up businesses where supplies are made some time after registration might. 

The matter will now be resolved by an ECJ decision (which might take a year or more to happen), with the likelihood being on the Court siding with the Commission.  That being the case, there will be a lot of degrouping to be done, which will be an unforeseen compliance cost to businesses, and will put a further strain on HMRC’s already overstretched resources. 

TRIBUNAL SAYS JERSEY LOAN STRUCTURE NOT ‘ABUSIVE’ 

The Appellant, 'Ocean Finance', is a well-known debt finance business which had set up a subsidiary ('newco') in Jersey to mitigate the effect of irrecoverable VAT incurred on advertising costs relating to exempt loans to UK customers.

HMRC challenged the structure, arguing that the Appellant provided the loan broking services and that the advertising was actually supplied to the Appellant, and that it should have accounted for VAT under the reverse charge. The secondary argument was that the structure was 'abusive'.  Ocean Finance insisted that newco provided the loan broking services to the UK customer, and received the advertising from a Jersey supplier.

The Tribunal found that newco supplied the loan broking services to lenders, and also received the advertising services. Whilst not conclusive, it noted that the construction of contracts is one of the factors that should be taken into consideration. The Judge saw that newco received and paid for the advertising services itself under a genuine contract. The Tribunal also noted that even though the Appellant had provided its subsidiary with an initial loan, this was repaid by the material time. The Judge said that even though the arrangements were not at arm’s length, it did not mean the Appellant was responsible for payment.

The Tribunal considered the principle of ‘abuse’ as defined in the Halifax case. HMRC argued that a principle of the tax is that someone making exempt supplies should suffer the tax incurred in making those supplies. HMRC added that the ‘insertion’ of the subsidiary meant the purpose of Community Law could not be achieved. The Tribunal disagreed that the subsidiary had been simply inserted. There had been a wholesale reorganisation, and not just a simple offshore loop as in the WHA case. The Judge said HMRC were incorrect to compare the results achieved by this structure to a situation where exempt supplies were made in the UK. The transactions should viewed by reference to the actual facts and circumstances. In this case, there was no UK exempt supply, so it was inappropriate to compare what was done with what could have been done.

After finding for the Appellant on the first condition, the Judge looked at whether the essential aim of the structure was to obtain a tax advantage. The Tribunal found that the essential aim was to obtain a tax advantage, but as it did not result in an outcome contrary to the Directive, abuse did not apply. However, the Tribunal said that if it had found abuse it would be required to neutralise the tax advantage by redefining the supplies, and agreed with the recent Atrium Club decision that any such redefinition could create a hypothesis outside the real world that was not bound by real world constraints.

(Paul Newey t/a ‘Ocean Finance’ (TC00487))