The Accountant – Business as Usual?  –  Spring 2020 (MIA Publication)

Hire purchase (HP) providers will find that the judgement of the Court of Justice of the European Union (CJEU) in the case of Volkswagen Financial Services (UK) Ltd: C-153/17 interesting.

The case deals with the right of recoverability of VAT incurred on ‘overhead’ costs by HP businesses and also provides guidance on the type of method to be used to determine the recoverable proportion of the residual input tax incurred by these businesses.

Background

Volkswagen Financial Services (UK) Ltd (VWFS) is a UK based company forming part of the German group, Volkswagen AG. VWFS operates in six sectors, one of these sectors being the ‘Retail’ sector which encompasses the HP sales, leasing of Volkswagen group vehicles to customers, and the provision of maintenance and/or service contracts.

In the course of its economic activity as a vendor/lessor of the vehicles and provider of maintenance and service contracts, the Retail sector involves other post-transaction responsibilities such as payment collection and dealing with customer complaints.

This case concerns the recovery of input VAT incurred on the overhead costs incurred by VWFS. The residual input VAT in question was incurred by VWFS on a wide range of ‘overhead’ costs including temporary staff, training, recruitment, travel and subsistence, marketing, IT, heating, lighting and premises, furnishings, printing, stationery, tax and legal costs. These costs do not relate solely to the HP, leasing and maintenance/service transactions, and thus are allocated between the six sectors.

Allocation is done either directly, if a cost is consumed in one particular sector, or in proportion to their turnover. In the other five sectors, turnover is used as a basis to calculate the recoverable proportion of the residual input VAT. However, in the case of the Retail sector, VWFS and Her Majesty’s Revenue & Customs (HMRC) did not agree on how the recoverable portion of residual input VAT should be calculated.
With respect to HP arrangements, VWFS purchases vehicles from dealerships and supplies such vehicles, in its own name, to customers to whom it also provides certain related services. The consideration paid by the customer under a HP agreement is divided into two parts:

1. the price of the vehicle, being equal to the price paid by VWFS to the dealership, and

2. the ‘finance charges’, being the interest charged to customers which includes a margin of overheads, all the other fees and provisions as well as a profit margin.

On the basis of the above, WVFS put forward its proposed methods of calculating the recoverable portion of residual input VAT which takes into account the fact that it makes both exempt and taxable supplies, however, HMRC did not agree with the proposed approach.

The following questions were posed to the CJEU:

1. “Where general overhead costs attributed to HP transactions (which consist of exempt supplies of finance and taxable supplies of cars), have been incorporated only into the price of the taxable person’s exempt supplies of finance, does the taxable person have a right to deduct any of the input tax on those costs?” and;

2. “What is the proper interpretation of paragraph 31 of Case C-93/98, Midland Bank, and specifically the statement that overhead costs “are part of the taxable person’s general costs and are, as such, components of the price of an undertaking’s products?”

Judgement

The CJEU started by addressing the nature of a HP transaction for VAT purposes. The CJEU held that it is for the national court to determine whether there is a single, complex, composite transaction or a number of separate supplies. In this case, the CJEU held that it was in agreement with what the Supreme Court had determined, i.e. that there were separate supplies of taxable goods and exempt finance.

Moving on, with respect to the question on recoverability of residual input VAT, the CJEU made reference to the principles and case law concerning deduction, in particular that a right of input tax deduction arises where there is a direct and immediate link between the input tax and a particular output transaction or with the overall economic activities of the taxpayer.

In this case, the costs in question had a direct and immediate link with the VWFS’ overall business activities, and the point that they were not factored into the taxable sale price of the goods did not affect such fact, and therefore these were to be considered as cost components of the Taxpayer’s overall activities, thus giving VWFS the right to deduction.

Having established this principle, the next step involved determining how the recoverable proportion should be calculated. In terms of the Directive, there are two possible ways how this can be calculated:

1. The turnover-based method (Article 173(1)), or

2. The use of any other method which would yield a fairer recovery (Article 173(2)).

Reference was made to the case ‘Banco Mais’ (C‑183/13), whereby the CJEU had determined that a Member State is not precluded from excluding the element of asset leasing income representing the cost of acquiring the goods from a use-based partial exemption pro-rata calculation. However, that did not mean that Member States could apply that exclusion as a general rule to all similar types of transaction.

It was also stated that if such an exclusion would mean that the recovery of input VAT failed to reflect the extent to which inputs were used for the purposes of taxed transactions, a method based on such an exclusion could not be more accurate than the turnover-based method.

In conclusion:

• The CJEU determined that the overhead costs were directly related to the activities of VWFS as a whole, and not merely with the activities of certain sectors.

• The fact that VWFS did not include those costs in the price of the taxable transactions (i.e. supply of vehicles), but included them only in the price of the exempt supplies (i.e. finance supply), did not change this position.

• Therefore, VWFS still had the right to deduct VAT proportionately.

• Furthermore, the CJEU concluded that in the case where Member States apply a special method of apportionment, such method should take into consideration the initial value of the goods supplied, to ensure a more accurate apportionment than that which would result from the application of the turnover-based allocation.

After graduating with a Masters in Accountancy, Yanica joined PwC in 2017 and joined the Firm’s Company Administration Services Department. During 2018 she moved to PwC’s Tax Compliance and Advisory Department whilst she is actively involved in PwC’s VAT Team.

Mark read law and an M.A. in Financial Services at the University of Malta. He joined the firm in 2012 and forms part of the PwC Tax & Legal team; involved in various tax and corporate advisory services. He also has substantial experience with the EU gambling regulatory environment, and forms part of high profile client service teams in the area, advising key industry players including European Union institutions. Mark read law and an M.A. in Financial Services at the University of Malta. He joined the firm in 2012 and forms part of the PwC Tax & Legal team; involved in various tax and corporate advisory services. He also has substantial experience with the EU gambling regulatory environment, and forms part of high profile client service teams in the area, advising key industry players including European Union institutions.