Could it be possible to recover 50% of VAT inputs in relation to vehicles provided on hire purchase?

Until recently practice would assume the answer to that question would be “no” but the 2011 First Tier Tribunal Case of Volkswagen Financial Services Limited v Revenue and Customs Commissioners may suggest otherwise.

The tribunal was asked to consider what was a fair and reasonable apportionment of residual input tax on costs incurred by Volkswagen in hire purchase transactions, which involved both a taxable supply of the vehicle being financed and an exempt supply of finance.

It is important to note in this case that no separate fee was charged by Volkswagen to cover its overheads which were built in to the interest rate, option to purchase fee and acceptance fee under the HP agreement. They did not form part of the cash price of the vehicle which was equal to the price Volkswagen paid to the retailer, with no mark-up.

Volkswagen argued that whilst some supplies in the retail car sector such as contract hire were clearly taxable supplies, in hire purchase transactions there is no single supply – supply of the car is taxable and supply of the finance is exempt. They therefore applied what was referred to as the “transaction count” method in terms of which each supply is weighted, with the outcome that 50% of the residual input tax that was apportioned to hire purchase transactions would be recovered as a taxable supply.

The Commissioners on the other hand treated each deal as one transaction (not weighted) and whilst they included the fees/overheads as a taxable supply, they excluded the value of the initial supply of the vehicle (so the value of the HP transaction is largely attributable to the exempt supply of finance) albeit a minimal amount of residual input tax was recoverable in respect of settlement charges and fees etc.

The Tribunal agreed with Volkswagen’s approach. They held partial attribution of residual input tax incurred by Volkswagen to the taxable supply of vehicles that it makes under hp agreements is fair and reasonable. The fact that only particular costs were recovered in the price they charged for making a particular supply did not lead to the conclusion that no other costs were cost components of that supply. Whilst only a tribunal case, this has significant beneficial implications on VAT recovery for lenders providing HP going forward.