Where a finance company supplies both cars and finance to customers, it can recover input tax attributable to the taxable element of the supply, namely the cars.


The case concerned the Volkswagen car dealership operation in the UK. When a customer of a VW dealership wished to purchase a VW car from the dealership using a deferred payment arrangement, the car was transferred to Volkswagen's financial services company (VWFS), who sold it to the customer under a hire purchase contract. For VAT purposes, VWFS was  deemed to be making two separate supplies (being a VAT exempt supply of finance and a taxable supply of the car). The issue on appeal was whether any of the residual input tax paid by VWFS in respect of general overheads was deductible against the output tax paid on the taxable supply of vehicles to customers. HM Revenue & Customs (HMRC) contended that all the residual input tax was attributable to the exempt supply of finance, whereas VWFS claimed a proportion of VAT recovery as being attributable to the supply of the vehicle.


The Upper Tribunal decided that VWFS' business was that of a finance house, with the result that its overhead costs are only related to exempt supplies (i.e., not recoverable). 

The Court of Appeal considered that VWFS' business is related to providing arrangements for customers to acquire vehicles using deferred payments terms; in order to do that, it had to make both a taxable supply of the car and an exempt supply of finance. The supply of the car was part of VWFS' relevant economic activity to which the general overheads are related. This was enough to establish the "direct and immediate link" to allow input tax recovery.

HMRC had argued for a zero attribution of residual input tax to the supply of the vehicle. This was not accepted by the Court, which, in the absence of an alternative suggested figure from HMRC, accepted VWFS' suggested 50 percent attribution.


Whilst the Court did not decide on what is a fair and reasonable percentage VAT recovery rate, this case provides an opportunity for other businesses offering similar deferred payment or hire purchase schemes to review their partial exemption special methods (and possibly increase their input tax recovery). HMRC are likely in other cases to contend that attribution to taxable supplies should be lower than 50 percent.