Judgment - Commissioners of Customs and Excise v. Redrow Group Plc.  continued

(back to preceding text)

       The taxpayer is a house builder. The sale of a newly built house is zero-rated. Accordingly, no Value Added Tax is paid on the sale of the house, but the builder is credited with creditable input tax in respect of materials and services supplied to him for the purpose of his business and which have borne Value Added Tax.

       It is important to appreciate that the present appeal is not concerned with the attribution of input tax, but with the prior question whether the services in respect of which the taxpayer claims to be credited with input tax are supplied to the taxpayer at all. If they are supplied to the taxpayer, it is not disputed that the input tax is attributable to its taxable supplies.

The facts

       The taxpayer is the representative member of a group of companies almost all of which are involved in constructing new houses for sale in the private sector. Most prospective purchasers of a Redrow home have an existing home to sell and cannot proceed with the purchase unless and until they have a buyer for their existing home. To deal with this problem the taxpayer operates a sales incentive scheme. The scheme has two objectives: (i) to expedite the prospective purchaser's own sale; and (ii) to provide the prospective purchaser with a financial incentive to buy a Redrow home. To achieve these objectives the taxpayer chooses an agent (and takes care to choose the more effective agents); instructs him to value the prospective purchaser's existing home and to handle the sale; and monitors progress in the marketing of the property and, through frequent contact, maintains pressure on the agent to achieve a sale. It also agrees to pay the agent's fee on the sale of the prospective purchaser's home, though only if the prospective purchaser completes the purchase of a Redrow home.

       The taxpayer considers that the scheme has been highly successful in committing prospective purchasers to their purchase of a Redrow home. The mechanics of the scheme are as follows:

       (1) the sales staff at each Redrow development site recruit one or more local agents into the scheme;

       (2) if a prospective purchaser is interested in taking advantage of the scheme, the taxpayer instructs an agent of its choice to value the prospective purchaser's home;

       (3) an asking price for the house is agreed. This takes into account the agent's valuation and the expectations of the prospective purchaser. Unless the taxpayer considers the asking price to be a realistic one it will not proceed with the transaction. If the taxpayer decides to proceed it instructs the agent to put the house on the market;

       (4) while the prospective purchaser's house is on the market, the taxpayer's sales staff keep in close contact with the agent to ensure that maximum effort is being made to sell it;

       (5) the prospective purchaser must obtain the taxpayer's consent to any change in the terms of the sale of his house. He cannot, for example, unilaterally instruct a second agent to market his house jointly with the agent selected by the taxpayer, because this would alter the rate of commission payable to the scheme agent from the sole agency rate agreed with the taxpayer to the higher joint agency rate;

       (6) when the prospective purchaser has agreed to sell his own home subject to contract, he reserves a Redrow home (also subject to contract);

       (7) the subsequent exchanges of contract and completions between (i) the prospective purchaser and his purchaser and (ii) the taxpayer and the prospective purchaser are co-ordinated in the usual way;

       (8) upon exchange of contracts for the sale of the prospective purchaser's own home and his purchase of a Redrow home, the agent sends an invoice to the taxpayer for the commission payable upon completion;

       (9) once legal completion of the sale of the Redrow home has taken place, the taxpayer pays the estate agent's fees in full;

       (10) if the prospective purchaser finds a buyer through the scheme, but does not complete the purchase of a Redrow home, the taxpayer has no liability to pay the estate agent. To cover this eventuality, the taxpayer advises the agent to enter into a separate agreement for his fees with the prospective purchaser.

       The taxpayer deducted input tax in respect of the agents' fees. The Commissioners disputed the deduction. They considered that the services supplied by the agents are supplied to the individual purchasers and not to the taxpayer and raised an assessment accordingly.

       The Value Added Tax Tribunal allowed the taxpayer's appeal. The Tribunal concluded that on the evidence the agents' services are supplied to both the taxpayer and the individual purchasers. The Tribunal added, however, that not every agent instructed by the taxpayer makes a supply of services to it for Value Added Tax purposes. In any particular case it is necessary to await events and see to whom the agent has made the supply; it is only if the taxpayer becomes liable to pay the agent's fees that the agent's services are supplied to it. It can then proceed to recover the tax on those fees as creditable input tax.

       Potts J. dismissed the Commissioners' appeal. He held that there was abundant evidence on which the Tribunal was entitled to find that the agents' services are supplied to the taxpayer as well as to the individual purchasers. The Court of Appeal reversed his decision. They held that, in determining whether the tax borne on any services is creditable input tax, the services in question must have a direct and immediate link with the taxpayer's taxable transactions. They derived this test from the decision of the European Court of Justice in B.L.P. Group Plc. v. Customs and Excise Commissioners [1996] 1 W.L.R. 174 (the "B.L.P. case"). They held that, viewed objectively, the estate agent's services are directly and immediately linked to the sale of the individual purchaser's home and not to the concurrent sale of a Redrow home. Accordingly the Court ruled that, as a matter of law, the services are supplied to the individual purchaser alone and not to the taxpayer.

The structure of the tax

       My Lords, Value Added Tax, if I may be pardoned for adapting a famous observation of Lord Macnaghten, is a tax on added value. The basic principle of the tax is that is intended to be a tax on consumption and borne by the final consumer. But it is not chargeable only when a supply is made to the final consumer. It is chargeable on the value added by every prior taxable transaction in the chain of transactions which leads to him. Each of the parties to such a transaction collects and accounts to the authorities for the output tax in respect of supplies made by him, and deducts the input tax in respect of the goods and services supplied to him. The difference between the cost of the supplies in respect of which input tax is credited and the price of the services on which output tax is charged reflects the value added by the taxpayer. The final consumer makes no supplies himself. He collects no output tax and so has nothing against which the input tax which he has borne can be credited.

       The key concept is that of supply. Article 2(1) of the Sixth Directive of 17 May 1977 (E.E.C. Council Directive 77/388) ("the Directive") imposes Value Added Tax upon "the supply of goods or services effected for consideration within the territory of the country by a taxable person acting as such." Article 4(1) defines "taxable person" as any person who independently carries out an economic activity. Article 6(1) defines "supply of services" as any transaction which does not constitute a supply of goods.

       The Directive is given effect in the United Kingdom by the Value Added Tax Act 1983 ("the Act"). Section 1 of the Act charges tax on the supply of goods or services in the United Kingdom. Section 2 confines the scope of the tax to any supply (other than an exempt supply) of goods or services which is a taxable supply made by a taxable person in the course or furtherance of any business carried on by him. Section 3(2)(a) excludes from the meaning of the word "supply" anything done otherwise than for a consideration. Section 3(2)(b) is of critical importance in the present case. Reflecting Article 6(1) of the Directive, it provides that anything (including the granting, assignment or surrender of any right) which is not a supply of goods but is done for a consideration is a supply of services.

       Credit for input tax is governed by Sections 14 and 15 of the Act. Section 14(2) entitles the taxpayer to credit for so much of his input tax as is allowable under Section 15. Section 14(3)(a) defines the input tax of a taxable person as:

     "tax on the supply to him of any goods or services . . . being . . . goods or services used or to be used for the purpose of any business carried on or to be carried on by him . . ."

Thus tax on supplies made "to" a taxable person and used "for the purpose of his business" (Section 14(3)(a)) is input tax. Whether the taxpayer is entitled to a credit for input tax, however, depends on Section 15. So far as material this restricts the amount of input tax for which a taxable person is entitled to credit at the end of any period to so much of the input tax for the period as is allowable under regulations as being attributable to taxable supplies.

       The corresponding provisions of the Directive are contained in Articles 17 to 20. The requirement in Section 14(3)(a) of the Act that the supply must be made to the person claiming the credit is contained in Article 17(2)(a). The restriction of creditable input tax in Section 15 to input tax which is attributable to taxable supplies gives effect to the opening words of Article 17(2) which restrict it to tax in respect of supplies used for the purposes of taxable transactions. Article 17 does not make separate reference to the supply being used for the purposes of any business, but this is implicit in the requirement that is used for the purposes of taxable transactions.

       Regulation 30 of the Value Added Tax General Regulations 1985/886 as substituted contains detailed rules for the attribution of input tax to taxable supplies. In brief, input tax on goods or services which are used or to be used exclusively in making taxable supplies is to be attributed to those supplies; tax on goods or services which are used or to be used exclusively in making exempt supplies is not to be attributed to taxable supplies; and the appropriate proportion of the tax on goods or services which are used or to be used in making both taxable and exempt supplies is to be attributed to taxable supplies. These rules give effect to the requirement in Article 17(2) that the taxable person is entitled to deduct input tax "in so far as the goods or services are used for the purposes of his taxable transactions"; and to the provision in Article 17(5) that:

     "As regards goods and services to be used by a taxable person both for transactions . . . in respect of which value added tax is deductible and for transactions in respect of which value added tax is not deductible, only such proportion of the value added tax shall be deductible as is attributable to the former transactions."

       These provisions entitle a taxpayer who makes both taxable and exempt supplies in the course of his business to obtain a credit for an appropriate proportion of the input tax on his overheads. These are the costs of goods and services which are properly incurred in the course of his business but which cannot be linked with any goods or services supplied by the taxpayer to his customers. Audit and legal fees and the cost of the office carpet are obvious examples.

       The Court of Justice has repeatedly emphasised the distinction between the acquisition of goods or services by a taxable person and the taxable use to which they are to be put. The former is the more fundamental requirement. It is the acquisition of goods or services by a taxable person acting as such that gives rise to the application of the Value Added Tax system and conse quently of the deduction mechanism. The use to which the goods or services are put or intended to be put merely determines the extent of the initial deduction to which the taxable person is entitled under Article 17: see Lennartz v. Finanzamt Műnchen III (Case C-97/90) [1995] S.T.C. 514 at 544, para. 15; Belgium v. Ghent Coal Terminal N.V. (Case C-37/95) [1998] S.T.C. 260 at 272, para. 18. The dichotomy is clearly brought out in the English legislation.

The B.L.P. case

       Paragraph 19 of the judgment of the Court of Justice in the B.L.P. case lays it down that, in order to give the right to deduct input tax under Article 17(2) of the Directive, the goods or services referred to in Article 17(5) must "have a direct and immediate link with the taxable transactions."

       In the present case the Court of Appeal treated this requirement as determinative, not merely of the question whether the agents' services are attributable to the taxpayer's taxable supplies, but also of the identity of the person to whom the supplies are made. They pointed out that two transactions are involved every time that the taxpayer becomes liable to pay the agent's fees. One is the sale of his own home by the individual purchaser, and the other is the sale of the new Redrow home by the taxpayer. It was, they said, self-evident that the services which the agent supplies have a "direct and immediate link" with the former transaction but not with the latter.