The UK Supreme Court has restricted the ability of a customer to recover incorrectly charged VAT from HMRC, preventing principles of restitution being used to circumvent the statutory limits set out in UK VAT legislation except in narrow circumstances.
In the Investment Trust Companies case related to circumstances where customers had been charged VAT on supplies of investment management services which were exempt from VAT under the EU VAT Directive, but were treated as taxable due to the incorrect transposition of the Directive into domestic law. The investment managers had deducted input tax with respect to those supplies. Both the payment and deduction of VAT took place under a mistake of law, as the Directive had direct effect. UK law was subsequently revised to correctly reflect the exemption.
The managers sought to recover from HMRC the VAT which had been incorrectly charged. However, certain of the investment managers had since become insolvent, while the three year limitation period in the UK's VAT legislation limited the amount of VAT which could be recovered. Further, HMRC only made repayment of the "balance" of the VAT paid to HMRC after deduction of input tax, rather than the amount paid by the customers. Some of the managers accounted to the customers only for the "balance".
The customers therefore brought an action against HMRC seeking recovery of the outstanding amounts. The Court of Appeal had allowed the claim.
Following the decision in the Court of Appeal, the Supreme Court identified three key questions that it needed to resolve, namely:
1. Did the claimants have a common law claim against HMRC in principle, subject to any statutory exclusion of such a claim?
First, the court ruled that there was no unjust enrichment of HMRC at the expense of the customers. In particular, there was no transfer of value from the customers to HMRC: the customers accepted that there was no connection between payments made by them and the payments received by HMRC based on agency.
Secondly, as the payments made to the managers by the customers formed part of the managers' general assets, it was impossible to trace the payments into the subsequent payments by the managers to HMRC.
Thirdly, the court held that the fact there were two separate transactions was a consideration that could not be disregarded: "[t]he first transfer did not even bring about the second transfer as a matter of causation", with the result that the court did not challenge the rejection of the "but for" causal link by the lower courts. This was on the basis that the VAT liability of the managers arose from the supply of the management services and did not arise from payment for the services by the customers.
The court concluded by stating that the customers had a right to restitution against the investment managers for the entire amount paid in respect of VAT, as the managers did not in principle have a change of position defense with respect to the deduction of input tax.
2. If so, did the legislation bar such a claim?
The court held that the right of the managers to obtain repayment under the legislative scheme "bars claims by the consumers who ultimately bear the burden of the VAT." The court held that the scheme created by the law is inconsistent with the existence of a concurrent non-statutory liability on HMRC, and in any event explicitly excludes such a liability. In reaching this conclusion, the court took the view that "Parliament cannot sensibly be taken to have intended, when it created this scheme for the reimbursement of suppliers (with provision for them in turn to reimburse their customers), subject to strict time limits, that it should exist concurrently with non-statutory liabilities towards suppliers and their customers which were potentially wider in scope and were subject to longer and less certain limitation period". The result of this finding is that the claims by the claimants were time-barred and there was no common law right to circumvent the legislation.
3. If the claimants have no claim against HMRC, either because no such claim is recognised at common law or because a common law claim is barred by section 80, is that compatible with EU law?
The three year limitation period (as it was then) imposed by section 80(4) of the VAT Act 1994 was found to be compatible with EU law. In reaching this decision, the court referred to Marks & Spencer plc v Customs and Excise Commissioners (Case C-62/00), where it was held that the limitation period applicable to claims under section 80 was reasonable. This conclusion ensured that the limitation periods were compatible with the principle of effectiveness.
Further, the court accepted that a system under which only the supplier is entitled to seek reimbursement of VAT from HMRC, provided the consumer can seek restitution from the supplier, is in line with EU law (Reemsta Cigarettenfabriken GmbH v Ministero delle Finanze (Case C-35/05)).
The Supreme Court's judgment will be disappointing to others with similar claims. However, the decision is likely to have limited practical effect for future periods, particularly in light of the UK's exit from the European Union.