The
Committee consisted of the following
Members:
Chairman:
Mr.
Eric
Martlew
Alexander,
Danny
(Inverness, Nairn, Badenoch and Strathspey)
(LD)
Battle,
John
(Leeds, West)
(Lab)
Caborn,
Mr. Richard
(Sheffield, Central)
(Lab)
Chapman,
Ben
(Wirral, South)
(Lab)
Cunningham,
Tony
(Workington)
(Lab)
Fraser,
Mr. Christopher
(South-West Norfolk)
(Con)
Gauke,
Mr. David
(South-West Hertfordshire)
(Con)
Goldsworthy,
Julia
(Falmouth and Camborne)
(LD)
Hands,
Mr. Greg
(Hammersmith and Fulham)
(Con)
Heathcoat-Amory,
Mr. David
(Wells)
(Con)
Hoyle,
Mr. Lindsay
(Chorley)
(Lab)
Kennedy,
Jane
(Financial Secretary to the
Treasury)
Mitchell,
Mr. Andrew
(Sutton Coldfield)
(Con)
Newmark,
Mr. Brooks
(Braintree)
(Con)
Simon,
Mr. Siôn
(Birmingham, Erdington)
(Lab)
Singh,
Mr. Marsha
(Bradford, West)
(Lab)
Wright,
David
(Telford)
(Lab)
John
Benger, Committee
Clerk
attended the Committee
Fourth
Delegated Legislation
Committee
Monday 22
October
2007
[Mr.
Eric Martlew
in the
Chair]
Value Added Tax (Supply of Services) (Amendment) Order 2007
4.30
pm
The
Financial Secretary to the Treasury (Jane Kennedy):
I beg
to move,
That the
Committee has considered the Value Added Tax (Supply of Services)
(Amendment) Order 2007 (S.I. 2007, No.
2173).
It is a
pleasure to be here, especially as there were problems on the west
coast main line, as you also experienced, Mr. Martlew, and I
did not know whether I would be here at all. However, we did struggle
in, and it is a pleasure to be here and to serve under your
chairmanship.
The
order was laid on 25 July 2007 and came into force on 1 September. It
amends the Value Added Tax (Supply of Services) Order 1993, statutory
instrument 1993/1507. It removes two sections from that order, which
are now ineffective following a ruling from the
European Court of Justice. That legislation was
introduced in 2003 to close a tax avoidance opportunity which arose
following an earlier decision by the European Court of Justice in the
case of Lennartz. The ruling concerned the VAT treatment of assets that
are used by businesses and other organisations for both business and
non-business activities. The court has consistently said that, under EC
VAT law, the owner has the right to allocate such an asset
wholly to its business
purposes.
That is often
called Lennartz accounting, after the name of the leading
case.
The benefit of
Lennartz accounting is that the owner can recover from Her
Majestys Revenue and Customs most, and often all, of the VAT
charged in the purchase of the asset. At the same time, the owner must
pay to HMRC VAT on the non-business use of the asset during its
economic life. However, it is clear that that VAT treatment
allows a significant cash-flow advantage, especially for high-value
assets with a long life, such as
buildings.
The 2003
legislation, which is now being repealed, was introduced to prevent
Lennartz accounting on land and buildings, on the back of a provision
of EC law that appeared to allow that. Other EC member states had
similar legislation. However, in the summer of 2005, the European Court
decided in the Dutch case of Charles and Charles-Tijmens that
Lennartz accounting could not be prevented in that way and confirmed
that it could be used for buildings. That decision made the UKs
earlier legislation
ineffective.
I hope
that the order will be uncontroversial. I know that hon. Members may
wish to ask questions. The order repeals the dead-wood legislation,
thereby
implementing the European Court of Justice decision. The repeal was
announced in this years Budget and was welcomed by businesses
and tax advisers. I hope that the Committee will agree to the order in
due
course.
4.33
pm
Mr.
David Gauke (South-West Hertfordshire) (Con): It is a
great pleasure to serve under your chairmanship, Mr.
Martlew.
As the
Financial Secretary anticipated, we do have some questions with regard
to the legislation and the repeal of some of the 2003 measures. The
measures were introduced in 2003 in anticipation of a scheme that was
being marketed, which looked as if it might cost the Exchequer
considerable sums of money. The figure that was quoted by the Economic
Secretary at that time, the hon. Member for Wentworth (John Healey),
was at least £165 million a year. I should be grateful if the
Financial Secretary would outline any concerns that she might have,
given that the legislation will no longer be on the statute book, as to
the cost to the
Exchequer.
The former
Economic Secretary highlighted two particular areas where problems
might arise. The first area involved the change in assets from business
use to non-business use; the concern was that there may not be a rise
in output tax, and the 2003 legislation was intended to prevent that
from happening. The second point highlighted was that the intention
behind the 2003 legislation was to put beyond doubt that, where
services are to be used for non-business purposes, full input tax
recovery is not available. The explanatory notes make it clear that
there is a potential risk of revenue, but state that other measures may
well be used to deal with this matter. I would be grateful for
assurances from the Financial Secretary on whether she is confident
that the ECJ judgment will not cause a loss to the Exchequer. Are steps
being taken to mitigate
that?
We know that
regulations will be brought in under section 99 of the Finance Act
2007. Those were due to come into force by 1 September. I understand
from the explanatory notes that that is not the case and that the
regulations are due to come into force later in 2007. I should be
grateful for an update on that situation. There are two concerns
regarding losses to the Exchequer. One is about the interim between the
ECJ judgment in Charles and Charles-Tijmens in 2005 and the new
regulations being put in place and the other is about the cost going
forward. An estimate from 2003 put the cost at £165 million if
this area was not dealt with. I should be grateful for an update on
that.
In the context
of the Prime Minister having just sat down after his statement on the
Lisbon discussions on the new constitutional treaty, I noticed that the
Foreign and Commonwealth Office has produced 10 euro myths, which it
has attempted to deal with. No. 1
states:
The UK
has maintained national control over key areas including ...
tax.
We are debating an
area in which our tax law has been changed as a consequence of the
European Court of Justice.
When the 2003 measures were
debated, it was put to Ministers that the proposals might be in breach
of European law. The former Economic Secretary made it clear that they
had sought counsels opinion and believed that they were
entitled to pass the proposal because there was a derogation under
article 6(2) of the sixth VAT directive, which is now article 26(1)(a)
of the 2006 VAT directive. Indeed, the Financial Secretary has said
that the directive appeared to allow it. Of course, that was not the
case.
When this matter
was discussed in Committee, my hon. Friend the Member for Eddisbury
(Mr. OBrien) requested that the legal advice be made
available. As far as I can see, that basis, on which the Government
proceeded with the 2003 measures, was never made available. I should be
grateful if it would be possible to make that legal advice available so
that we can understand how the Government got this wrong or how the
European Court of Justice reached a decision that was contrary to
counsels advice. I say that because this sort of thing happens
rather frequently within tax law: the Government maintain that they are
entitled to do something, only to find that the ECJ says that they
are not. If we were able to understand how that
happens so frequently, it would be of great benefit to us
all.
I do not intend
to oppose these measures. They are necessary as a consequence of the
judgment. However, Conservative Members were somewhat
concerned about the proposals when originally introduced in
2003.
4.39
pm
Danny
Alexander (Inverness, Nairn, Badenoch and Strathspey)
(LD): It is a pleasure to serve under your chairmanship,
Mr. Martlew. It is also a pleasure to follow the hon. Member
for South-West Hertfordshire who is renowned for his knowledge on tax
matters. However, his approach to matters European is slightly less
sound. I had hoped that we might escape without any
Eurosceptic pronouncements from the Conservative Front Bench. He will
know that VAT matters have been part of the European Union for a very
long time indeed. The measures included in this regulation are pretty
essential to the operation of the single market. It is not his
partys official policy to get out of the single market, but
perhaps it is his policy. Without wishing to stray too far, I thought
that I would just make that point, Mr.
Martlew.
The hon.
Gentleman has drawn attention to some of the important questions about
this matter, not least his first point about the cost to the Exchequer.
He quoted the figure of £165 million, which I have seen quoted
too. I should be grateful for the Ministers assessment of
that.
I should be
grateful if the Minister would clarify a couple of points on the
regulatory impact assessment of these regulations. It
states:
In
view of the
above
the
analysis that the Minister has quite rightly
given
the
Government has decided to introduce three
measures.
The
first, which is the purpose of todays order, implements certain
European Court of Justice decisions by repealing ineffective
legislation. The second implements the ECJ decisions in Wollny. The
third clarifies the legislation
to resolve what is arguably a
loophole.
Will the Minister spell out in a
little more detail what she means by clarify in this context? Are we to
expect new legislation to follow in due course from the ineffective
legislation that this instrument repeals? If so, what are her plans for
doing that? What is the time scale? What will the nature of any changes
that she seeks to make to replace this legislation
be?
My second question
relates to the small firms impact test. The regulatory impact
assessment simply
states:
Small
firms that use Lennartz accounting will be affected by
these changes.
It does
not give any further information. Given the importance that all sides
attach to small businesses, will the Minister give us more detail on
that point? Has she made any assessment of how many small firms might
be affected and what the effect on their revenue incomes might be. Like
the hon. Gentleman, I have no intention of opposing the regulations,
which seem to be a sensible clarification, but having
a better understanding of the impact they will have on smaller firms
would be useful. With those few remarks, I look forward to the
Ministers
reply.
4.42
pm
Jane
Kennedy:
I appreciate the thoughtful and probing approach
that the hon. Members for South-West Hertfordshire and for Inverness,
Nairn, Badenoch and Strathspey have both taken to this broadly welcome
resolution.
The hon.
Member for South-West Hertfordshire asked a number of questions,
setting aside his broader comments about Europe, which are perhaps for
a more robust debate on another day. On costs, I can tell him that I
believe the estimates given earlier are right. The estimate for annual
claims is around £75 million a year following the ECJ ruling in
2005. The Budget measures that were agreed this March prevent absolute
tax loss arising from that ruling. We estimate that they will save the
Government between £15 million and £25 million per annum,
mitigating the cash flow advantage that businesses would have seen had
we not taken the steps that we are proposing in later
legislation.
That
brings me to the hon. Gentlemans final point. He asked me about
costs. May I add one or two further points about mitigating the risks
to the Exchequer? This is a genuine and proper concern to raise.
Originally, there would have been two main avoidance opportunities. The
first would have arisen where artificial, non-business use of an asset
is created so that it becomes eligible for Lennartz accounting. This
would have afforded organisations, which ordinarily would suffer
significantly restricted VAT recovery, up-front recovery of most, if
not all, of the VAT that they would incur. But by requiring
non-business charges to be paid over fewer years, the Budget changes
reduce the attractiveness of this form of avoidance.
Secondly, where the economic
life of a building over which charges for non-business or private use
must be paid is longer than the 10-year period prescribed by the new
regulations, the taxpayer could previously have collapsed the Lennartz
accounting mechanism after 10 years in such a way as to avoid any
future charges. This would have provided an absolute tax saving, rather
than just a revenue deferral advantage envisaged by Lennartz
accounting. So the Budget changes proposed
in March prevent this form of avoidance. Although
the new regulations contain transitional provisions, which permit some
taxpayers a longer economic life than 10 years, because they already
operate the Lennartz mechanism, the amount of tax at risk is
significantly reduced in such
cases.
While we are on
the point of what might be coming and the loophole changes that were
effective from the Budget, which dealt with an omission in a related
provision which failed to tax surrenders of leases, for example, I
understand that we will consider two further orders later this year,
but not too much later, as they have already been laid. They will be
subject to the negative procedure.
In response to the hon.
Gentleman, this order is one part of a wider package of measures that
address the impact of the Lennartz accounting ruling from the Court. As
part of this package of new regulations, which come into force on 1
November, the main change that the regulations introduce is that the
time over which non-business use charges are to be paid has been set at
10 years for land and
buildings.
Mr.
Gauke:
Did the Minister say 1
November?
Jane
Kennedy:
Yes, 1 November. The hon. Gentleman made comments
about EU meddling. I would have put it more kindly and asked if this
was another case of Brussels interference in UK tax laws. We will not
get into a wider debate on that subject, Mr.
Martlew.
The
Chairman:
We certainly will
not.
Jane
Kennedy:
The European Court of Justice is responsible for
ensuring that EU law is interpreted consistently across the EU. As I
said, we framed our original tax law in the VAT proposal along similar
lines to other countries to ensure that it was consistent but the court
took a different view and we are legally obliged to give effect to the
courts judgments.
I think that I have covered all
the points raised, but I will read Hansard to ensure that I have
responded to all the questions asked by the hon. Gentleman, which he
put very thoughtfully and in a proper spirit.
The hon. Member for Inverness,
Nairn, Badenoch and Strathspey asked for clarification and I hope that
much of what I have said has already clarified some of the matters that
were causing him anxiety. I have talked about the further procedures
that will come before the House.
The hon. Gentleman asked about
small businesses. I do not have figures on the breakdown of responses
but I can get them if they are of continuing interest. Some
organisations complained that the changes introduced by this package of
measures would cause them significant cash flow difficulties, so we
considered whether additional transitional relief should have been
offered. However, we formed the view that no additional transitional
relief should be available outside that already contained in the
regulations.
Those
taxpayers who raised objections have enjoyed up-front recovery of VAT
in respect of their non-business use of the asset and they will still
have 10 years over which to repay that non-business and private use of
the asset, which remains a considerable cash flow advantage. This
approach, which is supported by the findings of the ECJ, also helps to
mitigate the considerable avoidance risks associated with Lennartz
accounting. When striking the balance between the two, 10 years is a
fair period of time. To offer further relief would simply open the door
to avoidance. Although that is a narrow response to the hon.
Gentlemans broader question, I will provide members of the
Committee who may have an interest with the breakdown of
responses.
The order
forms part of a package of measures to mitigate the effect of Lennartz
accounting and it implements the recent rulings of the ECJ. The repeal
of ineffective legislation that is the subject of this order has been
welcomed by business and the wider community and I hope that Committee
members of all parties will give it a fair
wind.
Question put
and agreed
to.
Resolved,
That
the Committee has considered the Value Added Tax (Supply of Services)
(Amendment) Order 2007 (S.I. 2007, No. 2173).
Committee rose at eleven
minutes to Five
oclock.