The issues were the interpretation of the partial exemption special method and the rejection by the commissioners of two voluntary disclosures consisting of claims for recovery of input tax previously categorised as wholly attributable to exempt supplies, but now considered by the appellant to be partly attributable to ‘foreign and specified’ supplies.

The appellant carried on business as a provider of assurance, insurance and banking services. It made both taxable and exempt supplies and was consequently partially exempt for VAT purposes. It submitted two voluntary disclosures in the combined sum of £12,858,684. These were made up principally of non-attributable input tax on costs incurred in the marketing, establishing and servicing of life insurance, pensions and related services supplied by the appellant's UK Life and Pensions business and on savings products and financial services supplied by Standard Life Bank. The relevant supplies included supplies to non-EU residents. The voluntary disclosures treated the relevant supplies as partially exempt and sought to recover input tax attributable to them to the extent allowed by the agreed partial exemption special method.

The partial exemption special method used had been approved by the commissioners by letter dated 4 April 2001. The basis of the agreement was that in steps 1 and 2 input tax attributable wholly to taxable and wholly to exempt supplies, acquisitions and imports would be identified. In step 3, input tax incurred on Systems would be attributed using an internal costs allocation analysis. In step 4, input tax not previously attributed relating to the Investment Department would be apportioned in accordance with the taxable supplies of that department as a proportion of its total supplies. Step 5 apportioned previously unattributed input tax relating to the Property Department in accordance with taxable input tax of that department as a proportion of its total input tax. Finally, step 6 provided for the balance of input tax not previously attributed to be apportioned using the formula: input tax attributed directly or indirectly to taxable supplies divided by total input tax. At the appeal hearing, the appellant contended that step 6 could be simply read as encompassing all inputs not attributed by the preceding steps. However, the commissioners contended that there was a gap in the agreement in that there were specified matters which must operate as a limitation. They stated that if the agreement was not construed in this way the overriding objective of a fair and reasonable attribution would not be achieved.

The commissioners contended that when construing the special method, it should be assessed against the measure of what is sensible within the overall objective of a fair and reasonable attribution of input tax. The agreement must be construed according to the parties’ understanding at the time of how it would be implemented. Accordingly, the method did not permit the approach adopted by the appellant. The overriding objective of ‘fair and reasonable’ must be applied rather than a literal interpretation of parts of the agreement.

The appellant argued that, in accordance with ordinary principles of interpretation of commercial contracts, an agreement should be construed by considering the whole expressed terms and any admissible surrounding circumstances in order to ascertain the meaning of the words. In the appellant's view, the meaning of the words was entirely clear. The reference in step 6 of the partial exemption method to ‘the balance of input tax’ was general and all encompassing and was not to be read as restricted to specific types of expenditure mentioned at the end of the paragraph that did not define exclusively the balance of input tax. The parties’ knowledge of the circumstances in which step 6 was agreed was that its purpose was to be all encompassing. That was also the commercially sensible construction, and the intention of the parties could not have been that a gap should be created.

The tribunal allowed the company's appeal.

1. The words in step 6 of the agreement were intended to, and did, encompass the entire balance of input tax not attributed in the preceding steps.
2. The appellant was correct in its approach to the construction of the agreement and the claimed refund of VAT was, in principle, payable.
3. The appeal was continued for six months to allow the commissioners to verify the appellant's claims individually and arithmetically.

1 No. 20,355