The High Court held that it was necessary to make a reference to the European Court of Justice (ECJ) for a preliminary ruling on the proper interpretation of art. 4(5) of Council Directive 77/388 (‘the sixth directive’) to enable the court to determine whether the taxpayer councils were entitled to treat off-street parking as outside the scope of VAT.

Facts

The taxpayers were four local authorities which provided off-street car-parking facilities. Article 4(5) of the sixth directive exempted certain public authorities (including local authorities) from the status of taxable persons in respect of certain activities in which they engaged as such but cancelled that exemption if conferring it would lead to significant distortions of competition.

The private sector also provided like facilities and there was, therefore, the potential for competition between the public and private sectors since, if the public sector was exempt from VAT on its car-parking revenue, it had the opportunity to undercut the private sector. A local authority's provision of such facilities would be within its own area, so that the market affected (if at all) by its exemption from VAT would be a local one. Customs took the view that the non-imposition of VAT gave the taxpayers an artificial advantage over their private operator competitors which could lead to a change in market share in favour of the local authorities. The distortion was significant in that 70 per cent of off-street parking in the UK was provided by local authorities.

The taxpayers appealed contending that the onus of showing that they were brought into the charge to tax by the second subparagraph of art. 4(5) lay with Customs. They argued that the disapplication of VAT would result in no distortions of competition and maintained that art. 4(5) was neither derogation from art. 4(1) nor was it affected by principles of fiscal neutrality. The VAT tribunal held that the economic investigation that the second subparagraph of art. 4(5) intended was a local one. It conducted such an investigation in relation to each of the four local authorities and concluded in each case that their exemption from taxable status would not lead to significant distortions of competition. The result was that all were exempted from having to account for VAT on their off-street car-parking revenue (Decision No. 19,427).

Customs appealed against those decisions. Their main point was that the tribunal was in error in conducting an investigation of the impact of any tax exemption on the particular market in which each local authority was respectively operating. Their submission was that art. 4(5) did not intend any ‘real world’ investigation of that sort but a nationwide investigation extending across the UK directed at identifying an overall picture as to the impact upon the private sector generally of the exemption of local authorities generally from taxation in respect of off-street car-parking.

Issue

Whether the VAT tribunal had properly interpreted the provisions of art. 4(5) in concluding that the taxpayers were entitled to exemption from VAT on the revenue from the provision of off-street parking.

Decision

Rimer J (making a reference to the ECJ) said that there was no doubt that the issues raised by the appeals were of general importance and potentially involved huge sums of money. Customs had emphasised that, if they were wrong on their assertion that the economic question posed by the second subparagraph of art. 4(5) required a nationwide inquiry on what they referred to as an ‘activities’ (i.e. off-street car-parking) basis, they might be faced with hundreds of local inquiries directed at answering the question on an ‘authority by authority’ basis. The taxpayers' response was that Customs' interpretation of the relevant provisions made neither legal nor economic sense, and that its correct interpretation did carry with it the potential for an endless multitude of inquiries and repeat inquiries.

Customs had also submitted that the tribunal had misdirected itself in its approach to the question of whether the non-taxable status of the local authorities would lead to significant distortion of competition.

Their submission was that Community learning showed that the quoted words meant ‘could lead to’, a phrase whose true sense was that there was a real risk.

That was a question of importance to the application of art. 4(5) since, if Customs were right, it probably meant that a public authority's scope for avoiding classification as a taxable person was more limited than if the words of the directive were interpreted as meaning what they might appear to be saying; and Customs said that in the present case the tribunal had not applied the right test. They further said that the tribunal misdirected itself in its interpretation of significant distortions of competition'. Finally, if they were wrong in their criticisms of the tribunal's directions on the law, they complained that its fact-finding was in material respects either perverse or at least insufficiently reasoned for them to understand why they had lost.

Having considered the parties' submissions, the court decided against attempting to rule on the outcome of Customs' appeal, being satisfied that the case raised questions of general importance that only the ECJ could answer. Accordingly the court would refer to the ECJ for a preliminary ruling on the question whether, in conducting an investigation into the impact of a tax exemption on the market in which each taxpayer was operating, art. 4(5) intended any ‘real world’ investigation or a nationwide investigation extending across the UK to identify an overall picture of the impact on the private sector generally of the tax exemption for local authorities in respect of off-street parking; the true meaning of the words ‘would lead to’ in the second subparagraph of art. 4(5); and the proper interpretation of ‘significant distortions of competition’.

The scheme of art. 4(5) was that the first subparagraph conferred an exemption from taxability on public bodies in relation to their activities as such; but the second subparagraph cancelled it in relation to any activity where conferring it would significantly distort competition. It did not, however, cancel it in cases in which an exemption would only distort competition insignificantly, a situation in which those carrying on the same activities were intended to be treated differently as regards the levying of VAT. If fiscal neutrality was the sacred watchword, there would be no scope for the exemption in such a case; and the only case in which any exemption might harmonise with the principle would or might be one in which the local authority was performing an activity which was not carried on in competition with others.

The tribunal had decided that the directive pointed to a ‘taxable person by taxable person’ approach: the economic question raised by the second subparagraph of art. 4(5) had to be answered in relation to each of the four local authorities separately. Taking each separately, the question was whether the conferring of an exemption would lead to significant distortions of competition in its local market. If not, it was entitled to exemption. Different answers could in theory be arrived at for each authority. The tribunal rejected the submission that the relevant inquiry was a nationwide ‘activities’ one. The tribunal had also grappled with the sense of ‘would lead to significant distortions of competition’ in art. 4(5) and recorded that the taxpayers' case was that, in discharging the evidential burden, Customs had to prove their factual case to a high degree of probability. Customs contended that it was enough to engage art. 4(5) if there was a possible distortion of future competition.

In all the circumstances, the court was satisfied that it could not safely embark upon an assessment of the correctness or otherwise of the tribunal's decision until it had the benefit of clear answers from the ECJ on the three legal issues identified, namely (a) the ‘activities’ approach as against the ‘taxable person by taxable person’ approach; (b) the true sense of the words ‘would lead to’ in the second subparagraph of 4(5); and (c) the true sense of the ‘significant distortions of competition’ in the same subparagraph.

The court was not persuaded that the Community jurisprudence positively supported the ‘activities’ approach. The tribunal's approach appeared to reflect the more natural interpretation of art. 4(5) but, if that was right, each of the 468 UK local authorities was entitled to say that it was only accountable for VAT on its car-parking activities if Customs could first prove a factual case for that by reference to the impact of a tax exemption of that authority on its local market. If any such local inquiry went against the authority, it could say in the following year that it had changed its charging policy and that Customs had to look afresh at its local circumstances before it could hope to recover any more VAT from it. Those consequences were sufficiently far-reaching to justify a reference to the ECJ for clarification as to exactly how in practice art. 4(5) was supposed to work in the context of the type of difference that had arisen between Customs and the taxpayers. As regards the two other questions, clear and unequivocal guidance upon them was required before the correctness of the tribunal's decisions under appeal could be considered on a measured basis. Community guidance thus far was insufficiently clear and so the questions should be referred to the ECJ.

Chancery Division.
Judgment delivered 16 February 2007.