This week’s edition of Indirect Tax Update looks at the Advocate General’s opinion in a referral to the Court of Justice from the Irish Supreme Court.
In 2006, Ryanair Ltd, the well-known Irish airline launched a take-over bid for Ireland’s recently privatised national carrier Aer Lingus. Unfortunately, the European Commission blocked the bid on competition grounds. However, Ryanair had incurred considerable costs on advisory fees during the course of the bid and it sought to claim the VAT on those fees as input tax on the basis that it had intended to provide taxable management services to Aer Lingus after the take-over.
The Irish Revenue refused the claim on the basis that, as the bid ultimately failed, Ryanair did not provide any management services. The Advocate General disagrees with the Irish Revenue and would allow the claim.
This week also sees another household name – Marks & Spencer PLC at the First-tier Tax Tribunal. The issue in this case was whether M&S should account for VAT on wine supplied with its promotional offer of “Dine In for £10 with free wine”. M&S considered that no VAT was due but HMRC took the opposite view.
The Tribunal agreed with HMRC and dismissed M&S’ appeal.
The First-tier Tax Tribunal has also issued an interesting decision in the case of Healthspan Ltd – a Guernsey based distributor of non-prescription health products via a warehouse in The Netherlands to UK retail customers. The case related to determining the correct place of supply and whether that place was the UK making the companies supplies subject to UK VAT.
Court of Justice – Advocate General’s Opinion
Advocate General (Kokott) has issued her opinion in this referral to the Court of Justice by the Irish Supreme Court. The case involves the well-known Irish air carrier Ryanair which, in 2006 mounted a take-over bid for its recently privatised rival carrier Air Lingus. Ryanair incurred considerable fees in relation to the bid and sought to reclaim the VAT on those fees. Ryanair argued that it was entitled to reclaim this VAT on the basis that it had intended to provide management services to Aer Lingus after the take-over. However, ultimately, the bid was blocked by the European Commission on competition grounds and, as a result, Ryanair did not acquire the whole of the share capital of Aer Lingus and did not provide any management services either. The Irish Revenue considered that, in such circumstances, there was no direct or immediate link between the costs incurred by Ryanair and any taxable supply made by Ryanair.
During the subsequent litigation between the parties, the Circuit court made a binding finding of fact that Ryanair had an intention to provide management services to Aer Lingus after the company’s share capital had been acquired. Nevertheless the Irish High Court found against Ryanair and it appealed to the Irish Supreme Court which, in turn, decided to refer the matter to the Court of Justice. The Supreme Court referred two questions. Firstly, whether an intention to provide management services to a take-over target is sufficient to establish that the bidder company is engaged in an economic activity and secondly, whether there is a sufficient direct and immediate link between the costs incurred in relation to the take-over and the intended provision of management services to the target?
Advocate General Kokott is of the view that the answer to both of those questions is yes. A pure holding company that acquires shares in a target will only be able to reclaim VAT on associated costs if it can establish that, on an objective basis, there is an intention to supply management services to the target. In the absence of such an intention, the Court has previously held that the VAT would not be reclaimable as the mere holding of the shares in the target company is not regarded as an economic activity. However, in Ryanair’s case, it is not simply a pure holding company. Ryanair is a trading company (the supply of air passenger transport services) and its acquisition of the share capital of Aer Lingus was intended to further that activity on a much larger scale. As a result, the Advocate General considers that the intended provision of management services to Aer Lingus by Ryanair is something of a red herring. In circumstances where a trading company acquires the shares in a target in order to expand its own trading activities, there is no requirement for it to provide management services to the target (although it may well do). What matters from an input VAT recovery perspective is whether there is a direct and immediate link with the trading activities of the business after the shares have been acquired. On the evidence in this case that is exactly what was intended. In the circumstances, the Advocate General considers that Ryanair is a taxable person with a taxable economic activity which it sought to expand by the acquisition of Aer Lingus. That status is sufficient to allow recovery of the VAT incurred on the take-over costs even though, ultimately, the takeover did not occur. The case law of the CJEU has held that the neutrality of the VAT system would be at risk if fully taxable entities were precluded from recovering VAT incurred on costs. Had the bid been successful, and assuming that Ryanair traded profitably, the costs of the take-over would have been reflected in the price of its taxable outputs (air-fares). As such, the costs of the take-over would have become cost components of Ryanair’s taxable outputs and that is a sufficient direct and immediate link to give Ryanair entitlement to recover the VAT on the associated acquisition costs as input VAT.
Comment – The recovery of VAT on take-over costs is an issue that has rumbled along for many years. Since the Polysar case, we have known that the acquisition of shares for the purpose of simply receiving dividend income is not regarded as an economic activity for VAT purposes. Later case law has established that where there is an acquisition of shares but also a supply of management services by the acquiring company to the target company, the supply of management services is considered to be an economic activity which gives rise to the right of deduction.
This case now identifies that an acquiring company is entitled to recover VAT incurred on acquisition costs even if it does not provide any management services. This is the case provided that, on an objective, functional analysis, it is demonstrated that, by its acquisition, the acquirer is seeking to further its own existing economic activity. The Advocate General confirms that, even if the acquisition is aborted, there would, in such circumstances, be a sufficient direct and immediate link between the acquisition costs and the intended taxable activity to enable the input VAT to be reclaimed.
First-tier Tax Tribunal
Marks & Spencer PLC
The well-known High Street retailer Marks & Spencer is in dispute with HMRC in relation to its promotional offer “Dine in for £10 with free wine”. Essentially, M&S considers that it should not be required to account for output VAT as the wine is supplied free of charge whereas HMRC take the view that customers are, in fact, purchasing a package of four items for £10, not three items of food for £10 with a bottle of wine for nil consideration.
The First-tier Tax Tribunal (FTT) was not persuaded by M&S’ arguments. The economic reality of the offer was that a customer could only obtain the bottle of wine if he paid £10 for the food (a starter, a main and a dessert). Accordingly, the wine was not free but was part of the package of four items. M&S were required, therefore, to account for output VAT on the part of the consideration that was attributable to the value of the wine.
M&S had previously run a similar promotion (Dine in for £10) which included the bottle of wine where it accepted that the £10 needed to be apportioned. HMRC argued that, in reality, nothing had materially changed with this promotion other than the marketing and the use of the phrase “with free wine”. The FTT agreed. In the context of this promotion, M&S used the word ‘free’ in a marketing sense but, in reality, a customer clearly paid for the four items as a single package at a substantial discount to their individual shelf prices. M&S must, therefore account for VAT on the value attributable to the supply of the wine.
Comment - Promotional offers and business promotion schemes can cause great difficulty in relation to VAT accounting. There have been many cases over the years which serve to highlight these complexities including Kuwait Petroleum, Naturally Yours Cosmetics, LMUK (the Nectar Scheme) and more recently, Marriott Rewards. The Supreme Court’s judgment in LMUK determined that in the absence of a written contract, the courts will look to the economic reality of the bargain when determining the nature of a supply for VAT purposes. In this case, on the evidence before it, the FTT found that the economic reality was that the customer was not given the wine in the sense of a free gift, but that he paid £10 for the whole deal including the items of foods and the bottle of wine. VAT was therefore due on the wine element of the supply.
The FTT has issued a decision in this case which relates to the VAT rules in connection with Distance Selling.
Healthspan Limited (“Healthspan”) sells non-prescription health products to retail customers, who place their orders using either the internet, telephone or mail order. Between 1 April 2012 and 31 January 2016, the overwhelming majority of Healthspan’s products were despatched from a warehouse in the Netherlands and delivered to customers in the UK. Most of the goods were delivered by post but some were delivered by courier. The question to be resolved was whether, during the relevant period, the goods hade been ‘delivered by or on behalf of Healthspan’. If they had been so delivered, then the supply of the goods would be deemed to be the UK and Healthspan would be liable to register for UK VAT and account for UK VAT on these supplies running to circa £27 million.
The Tribunal (Judge Redston) determined that, on the evidence, as far as telephone sales and goods delivered by courier were concerned, the goods were delivered on Healthspan’s behalf and fell to be treated as supplied in the UK. As far as internet and mail order sales were concerned, the Tribunal considers that, looking at the economic reality of the sales process, they were also ‘delivered’ on Healthspan’s behalf making them liable to UK VAT. However, the Tribunal has some doubt as to the correct interpretation of EU law on the point and has decided to make a reference to the Court of Justice for clarification of EU VAT law relating to distance sales. The Tribunal is unsure whether, in situations where the customer negotiates a separate contract for delivery of the goods with a third party provider, the goods can still be said to have been delivered “by or on behalf of the supplier”. In the FTT’s view, the answer to that question, based on the economic reality is “yes” but the issue is not clear.
Comment - The issue in this case is one of historic liability only as the company has changed the way it does business. This followed the publication in 2015 of the VAT Committee’s working paper on distance selling which intimated that in the circumstances where goods are delivered by a separate party, it would still be regarded as having been delivered “by or on behalf of “ the supplier of the goods. Healthspan had always accounted for Dutch VAT on the supplies but, following the VAT Committee paper, the Dutch authorities changed their view about the correct place of supply – accepting that the correct place of supply was the United Kingdom. In due course, the Court of Justice will deliver a judgment that will, hopefully, settle this long-running dispute.