The High Court allowed an application by a repayment trader for permission to challenge Customs' decision requiring it to make three-monthly VAT returns in line with its associated supplier where Customs had failed to consider fully whether mismatched accounting periods might be justified by ignoring the position as it would have been if the manufacturer had exported its cars itself.

Facts

The taxpayer was a company incorporated in Germany. Its principal business comprised the manufacture of cars in Germany and acquiring ‘at the factory gate’ vehicles manufactured outside Germany by suppliers under contract to it. The taxpayer bought cars from the manufacturer (‘UKM’) a subsidiary of its UK holding company (‘BUK’) and acquired all of UKM's vehicle production, both for the UK domestic market and for export. The taxpayer also acquired goods and services from third party UK suppliers.

BUK and UKM were part of a UK VAT Group. The taxpayer was separately registered in the UK for VAT. It was a repayment trader whose business was largely exporting so that it was entitled to repayment from Customs of the input tax it had paid to its suppliers, after deducting any output tax it might have received from its customers. Since 1 December 2002 it had been permitted to adopt monthly accounting periods.

The original purpose of providing for monthly staggers (the expression often used by Customs to refer to accounting periods) was to alleviate the burden of the cash flow disadvantage of VAT for repayment traders. In May 2004 the policy of Customs was set out in the VAT Manual Section V1-24A headed ‘Stagger Manipulation and the Alignment of Accounting Periods between Associated Businesses’ which stated:

‘This guidance provides best practice on dealing with cases of perceived manipulation of stagger to obtain a cash flow advantage’. The policy was for staggers to be aligned if there was a consistent pattern of supplies between associated businesses, timed so that there was a VAT cash flow advantage to the business with little or no apparent commercial reason for the supplies to be timed as they were.

On 15 June 2005 Customs issued a Business Brief_: ‘VAT: Aligning VAT accounting periods’, which stated that Customs continued to be concerned about situations in which businesses staggered their VAT accounting periods in order to gain an unjustified and unintended cash flow benefit at the expense of the Revenue and intended to continue to exercise their power to align VAT periods between associated businesses, where there was little or no commercial rationale for the VAT period ‘stagger’ between the associated businesses besides obtaining the cash flow advantage. They might do so, notwithstanding that the usual policy for businesses expecting to make regular claims for repayment of VAT in other factual situations was to allow monthly returns.

On 22 June 2006 Customs directed the taxpayer that it was no longer allowed to make VAT returns in respect of periods of one month and was instead required to make returns in respect of the same three-month period as UKM pursuant to reg. 25 of the Value Added Tax Regulations 1995 (SI 1995/2518). Their view was that routing transactions through associated businesses did not affect the amount of tax payable by the business, but that the effect of the different staggers was to provide the business with an interest-free loan of the VAT involved at the expense of the exchequer. The taxpayer applied for permission to apply for an order quashing that decision. Its case was heard together with two other very similar applications by other car exporters (JCE and LRE, except that there was an issue of delay in relation to JCE and LRE, which did not arise in relation to the taxpayer).

Issue

Whether Customs had power to make the direction; and, if so, whether the decision was irrational.

Decision

Tugendhat J (allowing the taxpayer's application but dismissing the other two) said that reg. 25 was to be construed broadly and consistently with the purpose of the sixth directive. Where Customs had allowed or directed a trader to make a monthly return there was nothing in the text to suggest that the Revenue might not withdraw it. Provided that Customs exercised their powers to allow and direct under reg. 25(1)(a) in other respects lawfully, that paragraph gave Customs power to allow or direct subject to such conditions, and for such period, as they thought fit. The power was not confined to allowing in perpetuity or not at all.

Accordingly, Customs had power to make the direction which was challenged and the contrary was not arguable.

Revenue and Customs had a legal duty to the general body of the taxpayers to treat taxpayers fairly; to use their discretionary powers so that, subject to the requirements of good management, discrimination between one group of taxpayers and another did not arise; to ensure that there were no favourites and no sacrificial victims. The court could not in the absence of exceptional circumstances decide to be unfair that which Customs, by taking action against the taxpayer, had determined to be fair (RvC & E Commrs, exparte British Sky Broadcasting Group plc [2001] BTC 5,123; [2001] EWHC Admin 127 applied).

Relief from the difficulty in financing the temporary tax burden was the only benefit intended when Customs allowed monthly accounting. The cash flow implications of VAT provided opportunities to traders to attempt to obtain unintended and unjustified advantages by arranging their corporate structure, and other matters, with that in view. Any exporting company would be expected to want to account for VAT monthly, as did the taxpayer. To that extent, Revenue and Customs had lost nothing by the fact that UKM and the taxpayer were associated that they would not have lost if the two companies were not associated. The benefits that UKM and the taxpayer obtained from their respective VAT accounting arrangements were incidental to arrangements they would make and keep in place, whatever the VAT consequences. But it did not follow that Customs were bound to disregard the fact the two companies were associated.

As a matter of principle, it was not irrational or unfair for Customs to treat an export company differently where it was associated with its supplier, and where it was not. The fact that any cash flow benefit of the arrangements might be an unsought benign incident of arrangements put in place for other reasons did not mean that Customs were bound to allow it to continue.

It was a separate question whether, in a particular case, Customs should treat an export company differently where it was associated with its supplier, and where it was not. The policy was not incoherent or irrational and, since Customs were not required to treat each trader in isolation and to ignore its economic links with other traders, the policy did not breach EU law

(Optigen Ltd & Ors v C & E Commrs (Joined Cases C-354/03, C-355/03 and C-484/03) [2006] BTC 5,050; [2006] ECR I-483 distinguished).

The essential concern of Customs was the gaining by traders of unjustified and unintended cash flow benefits at the expense of the Revenue. Mismatched accounting periods were not in themselves a matter for concern, unless they gave rise to such unjustified and unintended gains. The interposition of an associated export company might do no more than shift to the export company a cash flow benefit substantially equivalent in value to the benefit which the manufacturer would enjoy if it were the direct exporter, with the result that the group as a whole enjoyed no new benefit from the arrangement. If the disadvantage which concerned Customs arose in that way, it was not logical or fair to characterise it as unjustified or unintended.

However, logic and fairness required that, in applying the policy in a particular case, there should be some enquiry as to what financial difference, if any, resulted to the traders (and thus also to Customs) by the use of the associated export company. It was not logical or fair to apply a policy directed to preventing unjustified and unintended cash flow benefits at the expense of the Revenue under the assumption that the benefit would be unjustified and unintended if there was a mismatch of accounting periods which was not explained by administrative difficulties, and ignoring what the position would be if the trader exported his cars direct. It might be that, if the comparison was investigated, it could still appear that the benefit to the taxpayer was significant, unjustified and unintended, providing a sound basis for a direction to the taxpayer to account three-monthly. But as matters stood, there had been no such investigation, and the decision making process was flawed. On that limited basis, the permission sought by the taxpayer would be granted.

However the applications of JCE and LRE would be dismissed as they had not been filed promptly, or within the three-month time-limit, as required by CPR, r. 54.5(1), and they had failed to show good reason for an extension of time. It would be unfair to allow JCE and LRE to piggy-back on the taxpayer's application, when the other manufacturers could not make applications out of time. In all the circumstances, it could not be said that those applicants had acted reasonably in delaying the issue of proceedings. What had happened was that after an adjudicator rejected their complaint based only on issues of timing, they had changed their minds and decided to raise complaints of substance.

The test to be applied in this case was such that if the applicants were correct, it would follow that Customs could not refuse an application by an exporter in a similar position to the taxpayer to be permitted to account monthly. So in any event, it was open to JCE and LRE, as to other manufacturers, to make a fresh application to be allowed to account monthly in the light of this judgment, if so advised.

Chancery Division.

Judgment delivered 9 May 2008.