Category Archives: Court

VAT: What is unjust enrichment?

By Marcus Ward 2 November 2022

If a business has overdeclared output tax on past returns then it seems reasonable that this should be corrected, either by adjusting a current return or submitting a form VAT652 if the “error” is over £10,000 net.

If it is a genuine adjustment, surely HMRC must recognise the correction and either make a repayment or offset the overdeclaration against a current amount of VAT due.

The answer is yes, but… “unjust enrichment”…

Unjust enrichment

HMRC has a defence of unjust enrichment via The VAT Act 1994, sect 80(3)

“It shall be a defence, in relation to a claim under this section by virtue of subsection (1) or (1A) above, that the crediting of an amount would unjustly enrich the claimant.”

This means that HMRC can refuse to repay a claim if they can show that it would unjustly enrich the taxpayer.

It should always be borne in mind that if a claimant absorbed the burden of the wrongly charged VAT himself then unjust enrichment cannot be used as a defence against refusal to repay the claim. Loss or damage to a business due to overpaid VAT is considered in detail here.

Meaning

A refusal to repay a VAT claim using the unjust enrichment contention is to prevent a business becoming enriched at the expense of other entities who actually bore the cost of the incorrectly charged VAT. The authorities consider that a taxpayer should not be put into a better position by recovering the VAT than if VAT had not been charged at all. HMRC regard it as appropriate for unjust enrichment to be considered every time a claim is made.

The recipients of the corrected supply may be final consumers but can also be businesses, charities, etc, who were unable to deduct the overcharged VAT as input tax.

The salient point being whether the VAT was added to the price charged by the claimant or whether the claimant would have charged less had he known that his supplies were not liable to VAT.

HMRC consider that the process of establishing whether a claimant will be unjustly enriched by payment of his claim is two-stage procedure.

First stage

Whether the burden of the overdeclared VAT being claimed was passed on to the claimant’s customers, that is, whether the claimant charged the market rate* plus VAT. This is done on the basis of an economic analysis of the market in which the claimant is operating see; Berkshire Golf Club [2015] UKFTT 627 (TC).

If the customer deducted the wrongly invoiced output tax as input tax, HMRC is entitled to assume that the supplier passed the economic burden of the tax charge on to its customers. In this case, the VAT wrongly accounted for is a cost neither to the supplier nor to the customer.

Second stage

This stage occurs if the claimant accepts that he passed the burden of the tax charge on to his customers but argues that doing that caused loss or damage to his business, for example, by loss of customers or of profits, ie; has the taxpayer been economically damaged by having to bear the VAT cost?

The burden of proof of establishing that there is unjust enrichment falls upon HMRC. The standard of proof is the civil standard of proof; on a balance of probabilities.

HMRC will require the claimant to provide all of the relevant information on; pricing, policy and any other relevant documentation that establishes the pricing strategy**. It is to the taxpayer’s advantage to demonstrate that their margins have been depressed, as they have been required to charge VAT incorrectly.

Factors that HMRC consider:

who are the claimant’s competitors?
what is its market? (comparisons made with other competitors’ products)
how does the business set its prices?
what are the business’ overheads?
any other factors that may affect the prices

The reimbursement scheme

This is an undertaking to comply with certain reimbursement arrangements. The full text of the required undertaking is set out here.

This scheme applies where a business accepts, or HMRC prove, that by receiving a refund of sums incorrectly accounted for as output tax the business would be unjustly enriched at its customers’ expense and it wishes to refund the money they overpaid. If a customer was able to deduct all of the mistaken VAT charge as input tax HMRC will not regard them as having borne the burden of the charge.

In such cases HMRC will only make a refund of overpaid VAT if the taxpayer agrees to reimburse those customers in accordance with the terms of the scheme. More details Notice 700/45.

If HMRC repay a claim and the claimant is unable or unwilling to reimburse its customers (who bore the cost) with any amounts paid to him by HMRC then unjust enrichment will always apply. See The Deluxe High Court case.

Prices after a claim

It is worth bearing in mind that where a claimant has kept prices the same after he has found out that no VAT was due on the supplies in question, courts are likely to assume that that is because the business was charging the market rate. That assumption is made on the basis that, if the market rate were less, he would be compelled to reduce his prices. HMRC often check any post-claim price changes (or lack thereof).

Case law (summary)

The salient points from European Court of Justice case law may be summarised as:

a person who has wrongly accounted for VAT is entitled to recover it
HMRC is entitled to refuse to repay where it can show that the claimant did not bear the economic burden of the wrongly paid tax but passed it on to its customers
the invocation of the unjust enrichment defence is the restriction of a personal right derived from EU law, and so it is something that should be done only exceptionally
the unjust enrichment defence cannot be invoked simply on the grounds that the VAT was shown separately on an invoice
before HMRC can invoke the unjust enrichment defence it must carry out an economic analysis of the market in which the claimant is operating
the case law of both the European and the UK courts assumes that, in a free market economy, a trader required to account for a transaction-based tax will charge the market rate, not market rate plus tax

* The case law of the European Court of Justice and of the courts in the UK begin with the assumption that in a free market economy (and probably even in a managed economy) a business will charge the market rate and account for any VAT out of his profit margin.

** A pricing strategy is a business’s approach to determining the price at which it offers goods or services to the market. Pricing policies ensure businesses remain profitable and they give them the flexibility to price separate products differently.

Pricing policies refer to the processes and methodologies a businesses uses to set prices for their supplies. There are various pricing strategies that may be used, but some of the more common ones include:

value-based pricing
competitive pricing
price skimming
cost-plus pricing
penetration pricing
economy pricing
dynamic pricing

Further reading

A VAT Did you know?

By Marcus Ward 26 October 2022

In the Spearmint Rhino case it was ruled that there is no VAT on lap dances, however in Wilton Park Ltdthe decision was that VAT was due.

A VAT Did you know? – Latest from the courts

By Marcus Ward 5 October 2022

A new Tribunal case ruled that marshmallows of an unusual size are zero rated, while normal sized marshmallows continue to be standard rated.

VAT: Updates on appeals to courts

By Marcus Ward 21 September 2022

Latest from the courts

HMRC has published an update on taxpayers’ appeals. This is a round up of the status of recent cases.

It is helpful for businesses which operate in similar areas, or have tax issues with HMRC and for a general overview on how the courts are approaching certain matters.

The cases which HMRC lose often provide opportunities for retrospective claims for other businesses.

VAT: Input tax attribution to business and non-business activities

By Marcus Ward 15 September 2022

HMRC has issued new guidance on the amount of input tax claimable when an element is attributable to non-business (NB) activities.

If an entity is involved in both business and NB activities, eg; a charity which provides free advice and also has a shop which sells donated goods, it is unable to recover all of the VAT it incurs. VAT attributable to NB activities is not input tax and cannot be reclaimed. Therefore it is necessary to calculate the quantum of VAT attributable to business and NB activities. That VAT which cannot be attributed is called overhead VAT and must be apportioned between business and NB activities. There are many varied ways of doing this as the VAT legislation does not specify any particular method. Therefore it is important to consider all of the available alternatives. Examples of these are; income, expenditure, time, floorspace, transaction count etc (similar to those methods available for partial exemption calculations).

The new guidance is mainly as a result of the Sveda ECJ case.

The definition of business and NB here.

Legislation: The VAT Act 1994 Section 24(5).

Further reading

The following articles consider case law and other relevant business/NB issues:

Lajvér Meliorációs Nonprofit Kft. and Lajvér Csapadékvízrendezési Nonprofit Kft

Healthwatch Hampshire CIC

Pertempts Limited

Northumbria Healthcare

VAT: Which entity receives a supply? The Star Services case

By Marcus Ward 8 September 2022

Latest from the courts

In the Star Services Oxford Limited (Star) First Tier Tribunal (FTT) case the issue was the identity of the entity receiving the supply, whether it held a valid tax invoice, and whether input tax could be claimed.

Background

The appellant claimed input tax incurred on rental payments to Oxford City Council. This was disallowed by HMRC on the grounds that the rental agreement was with Mr Latifi (a sole proprietor in a property rental business) and not the company which was VAT registered.

After the rental agreement was signed the business was incorporated and carried on a bed and breakfast activities from the premises, along with two separate sub-lets to third parties. One party paid rent to Star and one directly to Mr Latifi.

Contentions

HMRC argued that:

Mr Latifi and the Appellant are separate legal entities, both of whom are required to register for VAT separately if carrying on taxable business activities
the assessment was correct as the company was not entitled to an input tax credit as it was not the person who had incurred the liability
the Appellant did not hold a valid VAT invoice, which entitles it to deduct the input tax

Star contended:

there was a technical error in the lease agreement
the assessment was excessive
subsequent to the assessment, the lease was registered to the Appellant
the lease was acquired in Mr Latifi’s name because the Appellant did not exist at the time that the lease agreement was entered into. At the relevant time there was an innocent omission to transfer the lease from Mr Latifi’s name to the Appellant’s name, and the delay was caused by forgetfulness
a company may, under The VAT Act 1994 s. 24(6)(c) and if permitted by Regulations, claim input tax on the pre-incorporation supplies received for its business
the Appellant has accounted for the VAT (therefore there was no loss of tax)
the fact that Mr Latifi is beneficial owner of both “the company” (by virtue of controlling shares and directorship) and “the property” must have an impact on the decision to assess

Decision

The appeal was dismissed.

The Appellant was not entitled to claim input tax on the invoices and HMRC were correct to disallow input tax. It did not receive the supply and it did not hold a VAT invoice.

It was decided that the legal relationship was between Oxford City Council and Mr Latifi. This is because the lease agreement was between these parties and not the Appellant.

It was found that the rent from one sub-tenant was paid to Mr Latifi directly and is not accounted for by the Appellant and that the reassigned lease has no bearing on the property rental activities undertaken by Mr Latifi prior to the reassignment.

The rules on pre-incorporation supplies* do not apply in this case because Mr Latifi, as sole proprietor, and the Appellant, are separate legal entities, requiring separate VAT registration.

Interestingly, a recent case was relied on: In Tower Bridge GP Ltd the Court of Appeal ruled that absent a valid VAT invoice showing the supplier’s VAT number and the customer’s name, the right to deduct input tax on that invoice could not be exercised.

Summary

An unfortunate oversight was sufficient for HMRC to refuse the input tax claim. This case does have a whiff of unfairness about it, but by applying the letter of the law the outcome is unarguable. The contentions here are similar to those in the Aitmatov Academy case.

Another case of taking care with claims.

* A business may, generally, claim the VAT incurred on services it has purchased for its taxable business purposes during the six months prior to VAT registration .
The VAT Act 1994, s 24(6) (c) and The Value Added Tax Regulations 1995, Reg 111.

VAT: Business or non-business? The Towards Zero Foundation case

By Marcus Ward 16 August 2022

Latest from the courts

In the The Towards Zero Foundation First Tier Tribunal case the issue was whether part of the appellant’s activities could be “stripped out”, classified as non-business, and therefore result in a loss of input tax.

This case follows a long succession of recent cases on the distinction between business (economic activity) and non-business. I have considered these in other articles:

Northumbria Healthcare

Wakefield College (referred to at this Tribunal)

Lajvér Meliorációs Nonprofit Kft. and Lajvér Csapadékvízrendezési Nonprofit Kft

Healthwatch Hampshire CIC

Pertempts Limited

and new HMRC guidance on the subject.

VAT attributable to non-business activities is not input tax and cannot be reclaimed. However, if the non-business activity is part of wider business activities then it may be recovered as input tax.

Background

The Appellant is a charity. Its primary objective is to achieve zero road traffic fatalities principally through the operation of New Car Assessment Programmes (NCAP) – testing car safety.

When it received money as consideration for carrying out the testing, it was agreed by all parties that that this represented economic activity.

As part of this activity, the charity purchased new cars (so called “mystery shopping” exercises) and carried out tests at its own expense. In this start-up phase for an NCAP it is necessary to test vehicles without manufacturer support as the independence of the testing programme is critical in order to establish consumer credibility.

The results of the tests (usually giving rise to substandard or unsatisfactory outcomes) are published and the Appellant generates publicity of the results through social media, news coverage, trade press etc. These results inform and influence customer buying behaviour which in turn drives manufacturers to improve the safety features.

As the market sophistication increases the NCAP star ratings for vehicles are used by the manufacturers in promotion of its vehicles.

The aim of the Appellant is for each jurisdictional NCAP to ultimately become self-funding through manufacturer testing fees.

Contentions

HMRC argued that when the appellant carried out tests on purchased vehicles this should be recognised as a specific activity which could not be a business as it generated no income – the tests should be considered in isolation. Consequently, the input tax which was recovered was blocked and an assessment was issued to disallow the claim.

The Foundation contended that it published the results of those tests, and this resulted in the commercial need for manufacturers to improve safety standards by way of commissions for further research. This research was funded by the car makers and was therefore economic activity. The “free” testing needed to be undertaken so as to create a market for manufacturer funded testing – the initial testing was just one element of the overall taxable supply. Consequently, all residual input tax incurred is attributed to its taxable business activities and fully recoverable.

Decision

The FTT found that it was clear that manufacturers would not proactively seek to have vehicles tested without an initial unfavourable baseline assessment. If the free testing had been a genuinely independent activity HMRC would be correct, but the evidence did not support this analysis. It found that the provision of free testing was an inherent and integral part of the appellant’s business activity.

This being the case there was no reason to attribute any VAT to non-business activities, and the input tax weas fully claimable.

Commentary

Another reminder, if one were needed, of the importance of correctly establishing whether the activities of a body (usually charities, but not exclusively) are business or non-business. The consequences will affect both the quantum of output tax and claiming VAT on expenditure. More on the topic here.

The decision was as anticipated, but this case illustrates HMRC’s willingness to challenge (often unsuccessfully) VAT treatment in similar situations.

VAT: No invoice – no claim. The Tower Bridge GP Ltd case

By Marcus Ward 9 August 2022

Latest from the courts

In the Court of Appeal (CoA) case of Tower Bridge GP Ltd the issue was whether the appellant could claim input tax in a situation where it did not (and does not) hold a valid tax invoice.

Background

Tower Bridge was the representative member of a VAT group which contained Cantor Fitzgerald Europe Ltd (CFE). CFE traded in carbon credits. These carbon credit transactions were connected to VAT fraud.

The First Tier Tribunal (FTT) found that CFE neither knew, nor should have known, that the transactions it entered into before 15 June 2009 were connected to VAT fraud but that it should have known that its transactions were connected to fraud from 15 June 2009. The appeal relates only to transactions entered into before that date.

CFE purchased carbon credits from Stratex Alliance Limited (“Stratex”) The carbon credits supplied to CFE were to be used by the business for the purpose of its own onward taxable transactions (in carbon credits). The total of VAT involved was £5,605,119.74.

The Stratex invoices were not valid VAT invoices. They did not show a VAT registration number for Stratex, nor did they name CFE as the customer. Although Stratex was a taxable person, it transpired that Stratex was not registered for VAT (and therefore could not include a valid VAT number on its invoices) and that it fraudulently defaulted on its obligation to account to HMRC for the sums charged as output tax on these invoices.

Subsequent investigations by HMRC resulted in Stratex not being able to be traced.

Contentions

The appellant contended that it is entitled to make the deduction either as of right, or because HMRC unlawfully refused to use its discretion to allow the claim by accepting alternative evidence.

HMRC denied Tower Bridge the recovery of the input tax on the Stratex invoices on the basis that the invoices did not meet the formal legal requirements to be valid VAT invoices. HMRC also refused to exercise their discretion to allow recovery of the input tax on the basis that:

Stratex was not registered for VAT
the transactions were connected to fraud
CFE failed to conduct reasonable due diligence in relation to the transactions

Decision

Dismissing this appeal, the CoA ruled that where an invoice does not contain the information required by legislation (The Value Added Tax Regulations 1995 No 2518 Part III, Regulation 14), or contains an error in that information, which is incapable of correction, the right to deduct cannot be exercised. The appellant did not have the ability to make a claim as of right.

The Court then considered whether HMRC ought to have permitted Tower Bridge to make a claim using alternative evidence. It found that the attack on HMRC’s exercise of discretion fails for the reasons contended by HMRC (above). These were perfectly legitimate matters for HMRC to take into account in deciding whether to exercise the first discretion in the taxable person’s favour.

CFE had failed to carry out “the most basic of checks on Stratex”.

So, the appeal was dismissed.

Commentary

This was hardly a surprising outcome considering that if an exception were to be made, there would be a loss to the public purse consisting of the input tax, with no corresponding gain to the public purse from the output tax that Stratex ought to have paid, but fraudulently did not.

This case demonstrates the importance of obtaining a proper tax invoice and to carry out checks on its validity. Additionally, there is a need to conduct accurate due diligence on the supply chain. I have summarised the importance of Care with input tax claims which includes a helpful list of checks which must be carried out.

VAT: Welfare services – School Holiday Clubs

By Marcus Ward 27 June 2022

HMRC has published updated guidance on childcare following the decision in the RSR Sports Limited (RSR) case. The issue being what supplies fell within the definition of “services… closely linked to the protection of children and young persons” and supplies of “welfare services” – VAT Act 1994, Schedule 9, Group 7, item 9.

The guidance in VATWELF3032 states that RSR could be distinguished from Sports Academies (Decision No TC05171), a case where the tribunal had held that the activities element predominated.

The important key features were:

the members of staff were merely supervising activities
they did not hold any coaching or teaching qualifications
there was no external standard to which the services were being provided
the activities were merely an adjunct to the essential service which was childcare

Other providers supplying services can similarly exempt their supplies where the facts demonstrate that they qualify and exhibit the key features set out by the FTT in RSR.

HMRC no longer interprets activity-based clubs to include those clubs exhibiting these key features. Such clubs can therefore, qualify for the welfare exemption if they otherwise meet the conditions.

VAT: The meaning of “business” and “non-business”- New guidance

By Marcus Ward 15 June 2022

HMRC has issued new guidance: Revenue and Customs Brief 10(2022) on how to determine if an entity carries out business or non-business (NB) activities. This goes to the core of the tax and establishes whether a person:

is registerable for VAT
charges output tax
can recover input tax

It mainly affects charities, NFP, an organisation which receives grants or subsidies and entities which are carrying out NB activities.

Previous tests

Since 1981 previous cases (mainly Lord Fisher and Morrison’s Academy) have set out the following business tests:

Is the activity a serious undertaking earnestly pursued?
Is the activity an occupation or function, which is actively pursued with reasonable or recognisable continuity?
Does the activity have a certain measure of substance in terms of the quarterly or annual value of taxable supplies made?
Is the activity conducted in a regular manner and on sound and recognised business principles?
Is the activity predominantly concerned with the making of taxable supplies for a consideration?
Are the taxable supplies that are being made of a kind which, subject to differences of detail, are commonly made by those who seek to profit from them?

Changes

The guidance states that the ‘predominant concern’ is now irrelevant. The focus is on whether there is a direct link between the services the recipient receives, and the payment made rather than on the wider context of the organisation’s charitable objectives or motive. This is as a result of the Longbridge case.

I often think it helps if a person bears in mind here the comment in the EC case of Tolsma translated as: “…the question is whether services carried on by [a person] were carried on for the payment or simply with the payment”.

There is now a two-part test derived from the Wakefield College Court of Appeal case.

Test One:

The activity results in a supply of goods or services for consideration. This requires a legal relationship between the supplier and the recipient. The initial question is whether the supply is made for a consideration. An activity that does not involve the making of supplies for consideration is not a business activity.

Test Two:

The supply is made for the purpose of obtaining income therefrom (remuneration)

More on the definition of taxable supply here.

Where there is a direct or sufficient nexus between the supplies provided and the payments made, the activity is regarded as business (a taxable supply). The Wakefield case made a distinction between consideration and remuneration. Simply because a payment is received for a service provided does not itself mean that the activity is business. For an activity to be regarded as economic it must be carried out for the purpose of obtaining income (remuneration) even if the charge is below cost.

HMRC states that although it will no longer apply the above Lord Fisher tests, it accepts that they “can be used as a set of tools designed to help identify those factors which should be considered.” So Lord Fisher lives on in some form.

Further information

More detail is provided by HMRC in the updated Internal Guidance VBNB10000

Further reading

The following articles consider case law and other relevant business/NB issues:

Lajvér Meliorációs Nonprofit Kft. and Lajvér Csapadékvízrendezési Nonprofit Kft

Healthwatch Hampshire CIC

Pertempts Limited