Supreme Court: participants in complex arrangements must have borne burdens and received goods or services for their business to recover VAT

In relation to a complex VAT mitigation arrangement, the Supreme Court ruled that a UK company, WHA, was not entitled to recover the VAT charged by garages on car repair services as it had not received those supplies for the purposes of its business. Rather the services were supplied directly to the insured party and not WHA. WHA administered motor insurance policies on behalf of Viscount, a reinsurer based in Gibraltar. It was key component of the mitigation arrangement that WHA was considered to have received the supplies from the garages.

In a unanimous judgment (19-page / 82KB PDF), Lord Reed said that HM Revenue and Customs (HMRC) was right to consider the "economic reality" of the complex arrangements between the companies. Intermediaries that did not add value to a transaction in a supply chain should not be considered recipients of supplies and so be able to recover VAT as they had not suffered the "burden" of the tax, he said.

"The [European] Court of Justice has consistently stressed that the deduction of input tax is meant to relieve the trader entirely of the burden of the VAT payable or paid in the course of all of his economic activities," he said. "In the present appeal, however, WHA does not bear the burden of the VAT paid to the garage: it pays the garage out of the float provided by Viscount, and its profit or loss is unaffected by the VAT."

"The consequence of the deduction of input VAT is that the tax is charged, at each stage in the production and distribution process, only on the added value, and is ultimately borne only by the final consumer," he said.

The case related to a complex scheme designed to minimise the overall liability for VAT of a group of companies involved in car insurance. As the supply of insurance is exempt from VAT under EU law, insurers cannot charge VAT on premiums and are not entitled to recover VAT on supplies of goods or services, such as repairs, which they use in the course of the business and on which VAT is charged. The scheme was designed to enable one or more members of a group of companies to which an insurer belonged to recover VAT.

Following the 'Redrow' principle, as well as the Supreme Court's ruling in March in a case concerning the VAT treatment of goods and services supplied to consumers in exchange for loyalty points, Lord Reed said that just because WHA was paying for a service did not necessarily mean it was entitled to claim input tax. To rely on the Redrow principle, WHA had to show that it received something for use in its business in exchange for the payment. In this case, WHA's business itself was simply the making of that payment so the principle could not apply, he said.

VAT and indirect tax expert Darren Mellor-Clark of Pinsent Masons, the law firm behind Out-Law.com, said that the unanimous judgment provided a "welcome degree of unequivocal clarity" from the court on the case, which was first heard before a tax tribunal in 2002.

"The case involved a complex series of arrangements and straddled the emergence of the abuse of rights concept and an increasingly sophisticated approach to anti-avoidance by HMRC," he said. "It may be that the very complexity of the arrangements, including 'escape routes' for anticipated attack by HMRC, contributed significantly to the appeal's dismissal."

"As the arrangement concerned a 'construct of contractual relationships', the Court considered the matter as a whole to determine its economic reality as it did in the Nectar points case. This enhanced substantive scrutiny revealed a lack of sufficient substance and allowed their Lordships to conclude that WHA added no value and bore burden, therefore it could not receive the supplies from the garages," he said.

"In reaching this conclusion, their Lordships appear to highlight once again the necessity for participants in such arrangements to genuinely share in commercial risks and rewards," he said.