VAT – cash flow effect

Introduction

This Court of Appeal case deals with the structuring of a corporate group for commercial results, such that one member is treated as separate from the Group for VAT purposes and could file monthly VAT returns resulting in cash flow advantage. Whether the Revenue were entitled to rescind the monthly VAT filing in such circumstances.

The Facts

BMW AG was a German incorporated company. With effect from 1 March 2000 it was registered for VAT in the UK and originally accounted for VAT quarterly. It acquired all of the vehicles manufactured by BMW UKM, a member of the same corporate group. It sold those vehicles either on the UK market or for export. There were valid commercial reasons, which had nothing to do with VAT, for the existence of BMW AG as an exporting company separate from the manufacturer BMW UKM. While some of the BMW UK companies were part of the UK VAT Group, BMW AG was separately registered. The reason given that it could not be a member of the UK VAT group was that it had no place of business in the UK. The UK VAT group was a payment trader accounting for VAT quarterly. In October 2002 BMW AG requested that it be placed on monthly VAT returns since, because of its export business, its input tax exceeded its output tax: it was a repayment trader. HMRC approved that application in November.

HMRC rescinded that decision with effect from 1 August 2006, and directed BMW AG to make the same quarterly returns as the UK VAT group. It was the view of the Revenue that BMW AG having a monthly VAT stagger gave a significant cash flow advantage and that there was no commercial rationale for having the monthly VAT stagger other than to obtain this cash flow advantage.

The cash flow advantage can be explained as follows:

BMW AG exported most of the cars it purchased from BMW UKM to places outside the United Kingdom. Such supplies were zero rated and gave rise to a right to recover input tax from HMRC with no obligation to account for output tax. As BMW AG was permitted to account for VAT monthly it had to file its return within one month of the end of the accounting period including any claim for repayment. The input tax had to be repaid within 30 days, if HMRC was to avoid liability to make an additional interest payment. BMW AG paid BMW UKM on the 15th day of the month following that in which an invoice was raised for the cars. As BMW AG, as a repayment trader, recovered input tax from HMRC before it was required to pay for that supply it received a cash flow benefit.

BMW AG challenged the decision of HMRC contending that HMRC had no power to withdraw the permission to account monthly, and that the policy was irrational and discriminatory. The High Court had earlier dismissed BMW AG's appeal by refusing BMW AG permission to challenge the decision on the grounds of lack of vires. BMW AG sought to appeal against that refusal in this Court. The High Court Judge also held that the HMRC direction rescinding the monthly returns was rational and lawful.

The Issue

Whether the policy pursuant to which the decision was made was rational and lawful. In addition, it was necessary to consider BMW AG's challenge to the vires of HMRC to rescind the decision.

The Decision

It was held (no dissenting Judge) that the policy adopted by HMRC was neither unlawful nor irrational. The VAT Directive confers a broad power on Member States to fix tax periods of a month, two months or a quarter.

According to UK VAT Regulations, the Commissioners may allow or direct a person to make returns in respect of periods of one month and to make those returns within one month of the periods to which they relate. However, the Regulations further provide that where the Commissioners consider it necessary in any particular case to vary the length of any period or the date on which any period begins or ends or by which any return shall be made, they may allow or direct any person to make returns accordingly, whether or not the period so varied has ended.

The Explanatory Note to the 1972 legislation explained that the purpose of permitting monthly as opposed to quarterly accounting periods was to alleviate the potential burden of a cash flow disadvantage for repayment traders.

In the particular circumstance of this case, HMRC's concern was to avoid the cash flow disadvantage it suffered in which it was compelled to repay input tax to a repayment trader which accounts monthly before it received output tax in respect of the same supply from a payment trader who accounted quarterly. The argument was further compounded by having associated traders – to permit monthly accounting to a repayment trader associated with its supplier brought an “unjustified and unintended benefit” at the expense of the Exchequer.

BMW AG's challenge to the policy rested on two propositions:

1. The cash flow disadvantage suffered by the Exchequer was exactly the same whether the repayment trader, permitted to account monthly, paid input tax in respect of a supply from an associated payment trader or from a non-associated payment trader. The delay suffered by the Exchequer between repayment of input tax and receipt of output tax was no greater whether the purchaser was associated with the supplier or not
2. The same temporary tax burden was suffered by an associated repayment trader, if required to account quarterly, as by one who was not.

HMRC's objection rested upon the fact that the mismatch of accounting periods between BMW AG and BMW UKM was used to ensure that the corporate group as a whole obtained a systematic cash flow advantage. The group ensured that where a supply was made from one group member to another, the purchaser recovered input tax before it paid the associated supplier and before that supplier was required to account for output tax in respect of the same supply. That ability to secure and maintain a systematic cash flow advantage to both purchaser and supplier, in HMRC's view, was a benefit which was not available to non-associated companies.

The Judge held that the power in the Regulations given to HMRC meant that it was for HMRC and not for the court to decide how best it may improve the cash flow disadvantage it suffered. Hence the policy adopted by HMRC was neither unlawful nor irrational.

Note: The Judgment contained a nice summary of the law of VAT, which readers may find helpful

A VAT registered trader accounts for VAT on its taxable supplies (output tax). It is entitled to reclaim VAT incurred for the purposes of making those taxable supplies (input tax). Such traders make VAT returns and account for VAT normally on the basis of an accounting period of three months. Those accounts show the amount of VAT payable by the trader to HMRC or by HMRC to the trader. Input tax is offset against output tax. If the output tax exceeds the input tax then the trader must make a payment of VAT; if he normally makes net payments of VAT he is known as a “payment trader”. If input tax exceeds output tax the trader is entitled to a net repayment of VAT from HMRC. If that is the normal situation he is known as a “repayment trader”.

If a payment trader receives payment from a purchaser before it is required to account for output tax then it will obtain a cash flow advantage. It will have the use of the output tax up to the time when it must pay VAT to HMRC. But if the payment trader does not receive payment for a supply until after it is required to account for output tax to HMRC in respect of that supply it will suffer a cash flow disadvantage.If a repayment trader recovers input tax from HMRC before it is required to pay for that supply the repayment trader receives a benefit. Conversely, it suffers a disadvantage if it is required to pay its supplier before it can recover input tax in respect of that supply from HMRC.

The judgment is available online at http://www.bailii.org/ew/cases/EWCA/Civ/2009/77.html.