Out-Law News 3 min. read

Court of Appeal: university VAT saving was 'abuse of rights'


Complex property leasing arrangements which allowed the University of Huddersfield to save over £600,000 in VAT that would otherwise have been due on redevelopment works were an "abuse of rights", set up for no reason other than to avoid tax liabilities, the Court of Appeal has ruled.

The judgment of the court largely endorsed an earlier decision by the Upper Tribunal, which found in 2014 that "facilitating VAT planning" was the sole reason behind the arrangements. The university had argued that its intention was simply to "defer" its VAT liability, rather than to create an "absolute VAT saving".

Tax disputes expert Stuart Walsh of Pinsent Masons, the law firm behind Out-Law.com, said that the judgment provided "further guidance on what is an abusive arrangement and how transactions are to be redefined once abuse has been established".

"The pattern that is firmly emerging from the courts, following on from the Supreme Court judgment in the Pendragon case last year, is that this redefinition should simply result in the removal of the abusive elements of the arrangements in order to deprive the taxpayer of the illegitimate advantage, and does not extend to providing the taxpayer with the opportunity to replace the abusive scheme with a different, and wholly fictional, arrangement," he said.

"That is another consideration that taxpayers must factor in when deciding on how best to structure their business arrangements," he said.

The dispute in this case dated back to the university's purchase, in 1995, of a derelict mill for conversion into university buildings. As a supplier of education, the university itself is generally exempt from VAT which prevents it from recovering input tax on redevelopment work to the extent that the redeveloped buildings would be used for educational purposes. On the advice of its accountants, the university set up discretionary trust to which it leased the building, which meant that it could offset the input VAT on the cost of redevelopment works against the output VAT it received on the trust's rental payments.

Both HM Revenue and Customs (HMRC) and the courts accepted that the scheme technically worked, in the sense that the arrangements were "not … shams". However, the sole purpose behind the arrangements was "obtaining a fiscal advantage ... [with] no independent business purpose". In deciding whether the scheme amounted to an abuse of rights, the court found that it was also relevant that the university was able to "collapse the leasehold structure as soon as it was advised to do so".

The test for whether particular arrangements are an abuse of rights is a two-stage one: firstly, the arrangements must deliver a tax advantage contrary to the purpose of the VAT code; and secondly, the essential aim of the arrangements must be to establish that tax advantage. In this case, there was no dispute that the university obtained a tax advantage through its use of the arrangements. The court, and the Upper Tribunal, therefore had to decide whether the arrangements were actually abusive in line with the first part of the test.

Delivering the judgment of the court, Lord Justice Lewison said that the "heart" of the principle of abuse of rights was whether there had been "the artificial creation of conditions which formally comply with the requirements for obtaining a tax advantage".

"On the facts found by the [First Tier Tribunal] I agree with the Upper Tribunal that the tax advantage was the ability to deduct the whole of the input tax, which the university did in its return for the period 01/97," the judge said.

"[The university] argued that if the leases in the present case had run their course, then there would have been no more than a cash flow advantage accruing to the university. But … there was never any real possibility that the leases would run their course. The scheme was abusive from the outset, and there was no need to wait for the inevitable collapse of the leasehold structure," he said.

Having found that both stages of the test for abuse of rights had been met, the Upper Tribunal was correct to redefine the transactions by "disregard[ing] the artificial steps", the judge said. The university had objected to this on the grounds that it could have achieved the same tax advantage by entering into a similar leasehold arrangement as part of an arms' length financing package. However, the Court of Appeal said that the redefinition exercise did not "enable past history to be completely rewritten".

"The fact that other, non-abusive, structures could have been adopted does not undo the abusive nature of what the university in fact did," the judge said.

"The task for the Upper Tribunal was to remove the abusive elements of the scheme; not to replace them with a different and wholly fictional scheme. That is precisely what they did. I cannot see any legal error in their approach," he said.

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