The Court of Appeal has handed down its judgment in Littlewoods Ltd and others v HMRC  EWCA Civ 515, upholding the previous decision of the High Court that the taxpayer was entitled to compound interest on historic overpayments of VAT. Having regard to the particular facts and circumstances of Littlewoods’ case, the Court of Appeal concluded that simple interest did not provide an 'adequate indemnity', but stressed that compound interest would not be required in every case. The sums at stake are substantial (around £1.2bn in this case alone) and it is understood that HMRC are planning to seek permission to appeal to the Supreme Court.
The underlying issue related to overpayments of VAT by Littlewoods on sales agent commissions during the period from 1973 to 2004. HMRC have repaid the principal sums of overpaid VAT together with simple interest at the applicable statutory rate.
Littlewoods then asserted that simple interest was insufficient compensation for the loss suffered from their overpayments of VAT and that it had an EU law right to adequate compensation. Following the first decision of the High Court in 2010, a reference was made to the Court of Justice of the European Union (CJEU), which held that under EU law Littlewoods was entitled to an 'adequate indemnity' for its loss. The CJEU said that it was for national law to determine what constituted an 'adequate indemnity', including whether that required simple or compound interest.
The High Court held in its second decision (in 2014) that the concept of 'adequate indemnity' required payment of an amount of interest which is broadly commensurate with the loss suffered by the taxpayer of the 'use value' of the overpayment, which would be calculated as compound interest on the overpaid sums. The High Court’s view was that the correct approach was to calculate this use value from Littlewoods’ perspective, but as a practical matter it accepted that the valuation could be carried out by reference to the (objective) value of the overpaid tax to the government, ie by applying government borrowing rates.
The Court of Appeal judgment
The Court of Appeal’s judgment was given by Lady Justice Arden DBE on behalf of all three members of the court. The Court of Appeal stressed that the underlying factual dispute was no longer in point, and addressed the issues relating to the payment of interest by reference to a number of specific questions as set out below.
Were Littlewoods’ restitution claims excluded by the relevant UK legislation (sections 78 and 80 of the Value Added Tax Act 1994) as a matter of English law and without reference to EU law?
Littlewoods contended that, in addition to the statutory mechanism for the repayment of overpaid VAT with simple interest, they should also, as a matter of English law, be able to bring common law claims for the relevant amounts (either as a restitutionary / 'Woolwich' claim or a mistake-based claim). The Court of Appeal agreed with the High Court and held that Littlewoods’ common law claims were excluded as a matter of English law without reference to EU law.
If Littlewoods’ restitution claims were excluded by the UK VAT legislation, was that exclusion contrary to EU law? Specifically, notwithstanding the right to (simple) interest under the UK legislation, did that exclusion violate the principle of effectiveness under EU law by depriving Littlewoods of an adequate indemnity for the loss occasioned through the undue payment of VAT?
The Court of Appeal upheld the High Court’s decision on this point, finding in favour of Littlewoods. It stressed that the EU right to an 'adequate indemnity' is a private or personal right of the taxpayer, which entitles the taxpayer to reimbursement of the losses constituted by the unavailability of sums of money as a result of tax being levied. In Littlewoods’ case, having regard to all the circumstances, simple interest did not provide an adequate indemnity.
However, the Court of Appeal took care to emphasise that it reached its conclusions on the basis of the particular facts and circumstances of Littlewoods’ case. It considered that the principle of 'adequate indemnity' 'is not a rigid straitjacket, and certainly does not go as far as to require compound interest in every case'.
If the answer to the first two questions is yes, (A) can the UK VAT legislation be construed so as to conform with EU law (and if so how), or must it be disapplied and (B) if the UK legislation must be disapplied, must it be disapplied so as to allow (i) only restitutionary / 'Woolwich' claims, or (ii) both 'Woolwich' claims and mistake-based claims?
On issue (A), the Court of Appeal agreed with the High Court and concluded that the UK VAT legislation could not be construed so as to be compatible with Littlewoods’ EU law rights.
The significance of issue (B) was that the limitation period for a restitutionary or 'Woolwich' claim is six years from the relevant overpayment but, in contrast, the limitation period for a mistake-based claim is six years from the discovery of the relevant mistake (which in this case would allow Littlewoods to maintain its claims all the way back to 1973).
The Court of Appeal agreed with the High Court and held that it is a matter of choice for the claimant as to which of the domestic causes of action it can rely upon – so both types of claim were available to Littlewoods.
Quantum - the issue of quantum was split out into various sub-issues, including the following:
As a matter of English law, is the benefit to the UK government from the overpayments of tax correctly measured by (a) the 'objective use value' of the money measured by reference to the cost to the government of borrowing money in the amount of the sums overpaid or (b) by reference to the actual use made by the government of the overpayments and the 'actual benefit' which the government derived from them?
The High Court held that the correct approach to the quantification of the claims is to ascertain the 'objective use value' of the overpaid tax (which is properly reflected in an award of compound interest).
The Court of Appeal thought (in contrast to the High Court) there was potentially scope for taking into account the actual benefit to the government from the overpayments of VAT (given that it had been shown that this was less than the objective value of the time value of the money). However, placing some reliance on the fact that the government had been free to use the money as it chose, the Court of Appeal agreed with the High Court that an objective measure of valuation was appropriate in the circumstances of this case. Accordingly, Littlewoods was entitled to repayment with compound interest calculated at the rate at which the government was able to borrow at the relevant time.
If compound interest is payable, should it continue to run after the date of the repayment of the principal amounts of the overpaid VAT until the date of judgment?
The Court of Appeal agreed with the High Court that interest should continue to run on the outstanding accrued interest until the date of judgment.
The outcome of this decision is striking. Many commentators were surprised by the High Court’s decision and expected the higher courts to overturn it.
As it stands, the Court of Appeal’s decision is potentially helpful for other taxpayers who may have overpaid tax in breach of EU law. The judgment however does lay down a number of explicit markers that the right to compound interest on repayment of overpaid tax must be assessed on a case-by-case basis. One factor that seems particularly to have influenced the Court of Appeal in Littlewoods’ case is the length of time covered by Littlewoods’ claims, which it thought highlighted the difference between simple and compound interest, particularly where rates are low.
In that light, HMRC might try to distinguish other cases (or at least argue that they all need to be determined on their own facts). That approach would be in line with their view published after the High Court decision – ie that that decision was based on exceptional circumstances specific to Littlewoods and does not provide a clear basis for application to other claimants or a formula for doing so.
The Court of Appeal has also affirmed that it is a matter of choice for taxpayers as to which type of claim to bring at common law in circumstances where the UK legislation deprives them of an adequate indemnity. Any taxpayers with unfiled but in-time EU-law claims for overpaid tax should consider filing claims for both the tax and compound interest as soon as possible (and on as many alternative bases as possible) to preserve their rights to the maximum extent.
On the issue of quantum, the amount to be repaid to Littlewoods is to be determined by reference to an objective value rather than the actual benefit derived by HMRC from the overpayments of tax. It is difficult to see a clear basis for HMRC to distinguish this element of the decision and argue that quantum should be measured by reference to the actual benefit derived in other cases. There may however still be scope for other taxpayers to argue that the quantum of interest to be repaid should be determined by reference to ordinary commercial rates (rather than government borrowing rates), though there are suggestions in the Court of Appeal’s decision that this may not be the correct approach.
In the immediate term, this is not the end of the matter. HMRC have publicly stated their intention to seek permission to appeal to the Supreme Court, although it remains to be seen whether such permission will be granted. In the meantime, taxpayers with outstanding compound interest claims should wait and watch.