Following last year’s judgment in BAA Ltd v HM Revenue and Customs  EWCA Civ 112 (“BAA v HMRC”), HRMC has published new guidance which sets out the circumstances in which a holding company (“holdco”) may recover VAT. In particular, the guidance addresses the question of the degree to which holdcos may reclaim input tax on costs associated with professional advisers, such as architects and consultants. This is likely to be of interest to those structuring a land-related transaction by bringing a land-owning company into its VAT group.
Facts: BAA v HMRC
In BAA v HMRC, a company called Airport Development and Investments Limited (“ADIL”), a special purpose vehicle incorporated in 2006, had engaged financial and legal representatives during the preparation of its takeover of BAA plc (“BAA”). That takeover occurred in June 2006.
In engaging professional advisors throughout the transaction, ADIL expended considerable sums on VAT chargeable services. It subsequently joined BAA’s VAT group, which then sought to reclaim the VAT on costs incurred. HMRC disallowed the reclaim and BAA issued proceedings.
The First-tier Tribunal (“FTT”) allowed BAA’s claim. Amongst other issues, it considered the two questions which the Court of Appeal later identified as central to BAA’s claim, namely whether:
- ADIL was engaging in ‘economic activity’; and
- there existed a ‘direct and immediate link’ between the services received by ADIL and the taxable supplies made by the VAT group it later joined.
On both the FTT decided that the test was satisfied.
HMRC appealed the FTT’s decision in the Upper Tribunal (the “UT”). The UT decided that there was no direct and immediate link between ADIL’s inputs and BAA’s taxable outputs since the former resulted purely from the takeover and not from BAA’s general activities.
BAA appealed to the Court of Appeal. Mummery LJ dismissed the appeal, finding that:
- the lower courts were mistaken to accept that the takeover was in itself an ‘economic activity’. The judge found that ADIL had instead merely engaged ‘an act which would have economic consequences’; and
- when ADIL incurred its VAT liability (the “relevant date”), “the supplies to ADIL were only in connection with the act of taking over BAA”, and were “unconnected with any supply that ADIL intended at that date to make, let alone had actually made”.
The Updated Guidance
HMRC has therefore responded to this judgment by providing new guidance. Whilst there is no formal change in HMRC policy, the new section, VIT40600, provides examples and scenarios intended to illustrate how holdcos might meet the relevant conditions enabling them to recover VAT.
The following issues are addressed:
- Shareholding as an ‘economic activity’
The guidance states that the costs of acquiring and maintaining a shareholding will only be recoverable when the shareholding is intended to give rise to ‘economic activity’. HMRC states by way of example that a holdco holding shares in subsidiaries and providing management services for consideration is economic activity.
It also states by contrast that ‘Simply holding shares in order to receive dividends and perhaps sell them for capital gain is investment activity and not economic activity for VAT purposes’.
- A ‘direct and immediate link’ between costs incurred in the course of an economic activity and taxable supplies
As set out in BAA v HMRC, there must be a link between the taxable supply and the costs associated with making that supply. HMRC refers to such costs as ‘components of the price of a taxable supply’ and that they may be recovered only if ‘it is intended, at the time the costs are incurred, that the expenditure will be recouped from the income resulting from that supply’.
- Taxable services
Holdcos may also only recover VAT on costs ‘if the intention is to recoup the expenditure from the income resulting from the taxable services provided to subsidiaries’.
HMRC expects that such recovery will be ‘over a period of time’, and states it is ‘likely to challenge claims that the costs are to be recovered over timescales which would not allow the capital expenditure to be recouped for many years’.
- Joining a VAT group
If a holdco joins a VAT group which makes taxable supplies, it does not follow automatically that the holdco’s inputs will be recoverable. The criteria set out above must be met.
- ‘Mixed’ activity
In the event that a holdco is performing both economic and non-economic activities from a VAT perspective, only the supplies made in the furtherance of economic activity will be recoverable.
BAA v HMRC and the new guidance show that, in order to reclaim the VAT incurred during a transaction involving a holdco, well-defined conditions must be satisfied.
A VAT group intending to recover the VAT charged on professional services received by a holdco should ensure it can demonstrate an obvious link at the time they are procured between those services and the taxable supplies made by the group.
HMRC’s brief dated 25 September 2014 can be found here.
The updated guidance (VIT40600) can be found here.