The Court of Appeal held that a direct and immediate link between the payments made by a taxpayer charity to production companies for putting on performances in its theatre and the provision by the taxpayer of programmes for sale to those attending the performances was sufficient to bring these payments within the partial exemption provisions in the Value Added Tax Regulations 1995, reg. 101(2)(d).

Facts

The taxpayer was a registered charity with the principal aim of encouraging the arts. It carried on business from a theatre in Southampton and paid production companies to put on performances in the theatre. Prior to the judgment in C & E Commrs v Zoological Society of London (Case C-267/00) [2002] BTC 5,224; [2002] ECR I-3353, the taxpayer charged and accounted for VAT on the sale of tickets, but following that judgment the taxpayer obtained agreement that it was making supplies within the terms of the cultural exemption so that its ticket sales were exempt from VAT. The taxpayer successfully applied for a refund of VAT overpaid and sought to extend the scope of its VAT recovery by contending that the input tax on amounts paid to production companies was attributable to both taxable and exempt supplies and was, therefore, to be treated as residual input tax within its partial exemption calculations. On that basis, the input tax would be partly deductible.

Customs argued that the input tax was wholly attributable to the exempt sale of tickets and was nondeductible. It was common ground that the legal test to be applied to the facts was that of a direct and immediate link. The primary case for the taxpayer was that its business comprised a wide range of outputs and, even though the main output was the sale of tickets, the non-ticket income formed an integral part of the business and was critical to its profitability. The taxpayer contended that there was an inextricable link between the consideration paid to the production companies and all of the income received and if just one of its taxable supplies was directly and immediately linked with the production that was sufficient to render the consideration a residual cost.

Customs maintained that there was no direct and immediate link between the consideration paid to the production companies and the taxable supplies made by the taxpayer.

The tribunal upheld Customs' contention that the whole of the services supplied by the production companies were used by the group exclusively in making the exempt supplies represented by the sale of tickets, and that therefore no part of the input tax paid was deductible ([2006] BVC 2,199; Decision No. 19,254).

The taxpayer appealed to the High Court contending, among other things, that the tribunal had misunderstood the principles enunciated in BLP Group plc v C & E Commrs (Case C-4/94) [1995] BTC 5,143; [1995] ECRI-983, in particular it had been wrong to look at the way in which the prices of the various taxable supplies had been set, and to conclude that the consideration paid was not a cost component of the taxable supplies.

Hart J allowed the taxpayer's appeal, holding that, on the facts found by the tribunal, there had been taxable supplies of the right to see the productions and the production costs were linked to those supplies in the same way as to the exempt supplies. Accordingly, there was a sufficiently direct and immediate link between the relevant inputs and any of the taxable supplies so as to make it impossible to say that the inputs were used exclusively for the exempt supplies ([2007] BTC 5,018).

Customs appealed and, in its respondent's notice, the taxpayer raised the additional argument that, among other things, the production inputs bore a direct and immediate link with its business as a whole, so that they were properly to be classed as ‘overheads’ (the ‘overhead analysis’). Alternatively, the production inputs bore a direct and immediate link not only with the exempt ticket sales but with one or more specific taxable outputs. That being so, the input tax on those outputs fell to be treated as ‘residual’ (the ‘specific attribution analysis’).

Issue

Whether the services supplied to the taxpayer under the production contracts were used by the taxpayer for the purposes of any of the taxable supplies of goods and services which the taxpayer made in the course of its business.

Decision

Carnwath LJ (Chadwick LJ concurring and Auld LJ agreeing) (dismissing the appeal) said that in simple terms the issue was how the services provided by the production companies under the production contracts (‘the production services’) were to be ‘attributed’ under reg. 101: Were they ‘used exclusively’ in making exempt ticket sales within para. (c), or partly for at least some taxable supplies, so as to bring the case within para. (d)?

The taxpayer's case was based principally on: its programme sales (zero-rated for VAT purposes); a percentage commission on the sale of the production company's merchandise (standard-rated); and supplies of sponsorship (standard-rated). It was not suggested that the other items in themselves would bring the case within the partial exemption rules. However, it was common ground that, if the taxpayer succeeded on any one of the items (or even a part of one item), the calculation under the ‘standard method’ would be the same. It would then be entitled to bring into account all its taxable supplies (regardless of attribution) in calculating the tax deduction. Further, for periods before April 2002, Customs would have no power to direct an alternative method of apportionment.

The overheads analysis was inapplicable to the facts of the present case. The taxpayer's argument depended on an interpretation of the concept which was not supported by the ECJ jurisprudence and seemed wrong in principle. The special treatment of ‘overheads’ or ‘general costs’ served a particular and limited purpose in the VAT system, for those inputs which would not otherwise be brought within the calculation. It should not be extended beyond that purpose. The present case was not about ‘overheads’ but about specific attribution. There was no doubt that the production services could be attributed to specific supplies in the form of the exempt ticket supplies. The only question was whether they could be attributed, in addition, to other (taxable) supplies.

The VAT tribunal had dealt with programme sales as parts of a group, including sales of confectionery and other merchandise. By dealing compendiously with all those items, the tribunal had failed adequately to address the particular characteristics of the programme sales, as distinct from the other items, for example, sales of confectionery and drinks. Rightly, the taxpayer had not sought on appeal to claim a sufficient link between such sales and the production services. Such sales were the same in character whether they were in an ordinary shop, a theatre kiosk, or a railway station. The programme sales were distinguishable, because of the necessary link between the contents of a programme and the particular production for which it was sold. The question for the tribunal was whether that link was ‘sufficiently close’ to meet the BLP test. Failure by the tribunal to recognise and address that distinction was itself an error of law, which entitled the Court of Appeal to reconsider the primary facts which were not in dispute.

Furthermore, applying the BLP test correctly, the only reasonable view was that there was a direct and immediate link between the production services and the programmes. It was true that the production companies were not directly responsible for the programmes, other than the provision of information. But the productions for which they were responsible, and which provided the subject matter of the contracts, also provided the subject matter of the programmes.

To that extent, they were as much part of the raw material used in preparing the programmes, as the paper and ink from which they were physically made.

That was an objective link, sufficiently close to satisfy the test. That conclusion was enough to support the judge's decision, albeit on different grounds.

Court of Appeal (Civil Division).
Judgment delivered 22 February 2007.