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A VAT group consisted of a holding company and a trading company. The latter owned and operated a luxury hotel in Birmingham, the former provided “management services”.

The holding company decided to set up another luxury hotel in Milton Keynes. To help pay for this it decided to sell its shares in the trading company. The holding company reclaimed the VAT incurred on the professional fees for the sale.

The sale of existing shares is seen as an exempt activity for VAT purposes.

HMRC disallowed the VAT reclaim on the basis that the holding company was not making any economic supplies. HMRC contended that the management services were made by individuals who were directors of both the holding and trading companies so were services provided as directors of the trading company rather than management services from the hold company.

By the time the case reached Tribunal HMRC had accepted that the hold co was undertaking taxable activities. If this was the reason for HMRC to issue the assessment then it would seem case closed, but the taxpayer put forward three arguments as to why the VAT incurred was reclaimable:

  • there was a direct link to the investment in the MK hotel and the future taxable supplies this would make;
  • as a VAT Group the sale of the shares was outside the scope of VAT rather than exempt (this is based on a  previous case where an initial share offering was seen as outside the scope of VAT and as such the VAT incurred in making this supply was seen as an overhead of the business);
  • the sale of the shares should be treated as a Transfer of a Going Concern (TOGC).

Points 2 and 3 were dismissed by the Tribunal. The Tribunal analysed two pertinent (and relatively recent) cases, VW Finance and Frank A Smart. The latter was a farming business that bought up Single Farm Payment Entitlements (the press called them milk quotas) from other farms to produce a substantial income stream from Single Farm Payments. This income was to be used to develop the taxable activities of the farming business.

VW Finance was a partial exemption issue; HMRC said that the partial exemption allocation should not take into account the value of the car being sold on finance. The European Court (when it had ultimate say on these things) rules that the car was a clear, taxable cost component of the supplies being made.

The Tribunal took the view that the costs were directly linked to the “downstream” taxable supplies of the Milton Keynes hotel and this chain was not broken by the share sale.

Blimey, I hear you say, you’re going on a bit here. But the point is an important one. Taking all the above into consideration it shows that the courts are taking a view diametrically opposite to HMRC’s position of simply looking at the VAT status of the transaction effected rather than the reasoning behind the transaction in the ultimate use to which the funds generated are put.

Therefore, if VAT on costs have not been reclaimed by using “HMRC’s view” it may be time to revisit to see if there are grounds to recover. Equally, if HMRC are challenging the VAT recovery for a business that has grants/subsidies as an income stream there may be grounds to counter challenge.

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