VAT – Claiming Refund

Introduction

This case deals with the question of whether the interest paid on tax refunds should be simple interest or compound interest.

The Facts

Chalke was a small family-run motor dealership business operating in South West England. The business was first established in the late 1920s as a small country garage, and had been in the ownership of the same family ever since. The business was incorporated in May 1960, and since then Chalke had held dealership franchises with a number of different car manufacturers. The business had expanded since its incorporation.

On 26 July 1999, Chalke submitted a claim to the Commissioners for its overpayment of VAT in relation to the sale of demonstrator vehicles during the period of three years from 1 May 1996 to 30 April 1999. The amount of the claim was £12,974.30. The claim was a “capped” claim because the three year cap was still in force. On 9 August 1999 the Commissioners paid Chalke's capped claim relating to the demonstrator vehicles in full, and on 16 September 1999 they paid simple interest on that sum of £694.20. On 27 September 1999 Chalke submitted a capped claim in respect of the same three year period relating to manufacturers’ bonus payments in the sum of £18,685.98. This claim was also paid in full on 12 October 1999, together with simple interest of £1,487.39 paid on 20 October 1999.

On 11 July 2002 the ECJ delivered judgment on the capping of claims, and on 5 August 2002 the Commissioners issued business brief 22/02 introducing a retrospective transitional regime in response to the judgment. By a further business brief issued on 7 October 2002 (No. 27/02), the transitional period was extended by three months to 30 June 1997.

This transitional regime was itself found to be unlawful, and the Commissioners should simply have disapplied the three year cap in relation to accrued claims. However, the transitional regime allowed Chalke to submit uncapped claims in relation to manufacturers’ bonus payments and the sale of demonstrator cars going back to 1973. Chalke had been repaid all of the tax which it had overpaid, going back to 1973, together with simple interest.

Chalke made an amended claim to the High Court (Chancery Court) in which it alleged that Community law required the principal sums to be repaid “with interest on that sum paid at a commercial rate and on a compound basis”. On the basis that the statutory interest paid by the Commissioners on the principal sums was at a rate lower than a commercial rate, and calculated on a simple basis, with the result that Chalke “has not received full compensation”. Chalke argued that Revenue were in breach of Chalkedirectly effective Community law rights.

The Issue

There were two core questions in this case:

• Was the right to interest under UK domestic law exhaustive?
• Did Community Law override domestic law so that compound interest should be paid?

The Decision

While this case report dealt with Chalke, it was in fact a test case whereby all the claimants were motor vehicle dealers or persons who carried on a motor vehicle business of a similar nature.

It is important to set the scene by way of outlining where the VAT refunds arose. The overpayments of VAT arose as a result of the Commissioners’ treatment of:

1. “manufacturers’ bonuses”, typically paid by a car manufacturer to a dealer who purchased a demonstrator vehicle, or paid to a dealer in the form of a rebate when certain volumes of sales were achieved; and
2. onward sales of demonstrator vehicles, typically after their use by the dealer for demonstration purposes and the provision of test drives to customers for a period of between six months and one year.

All demonstrator cars were treated as if they had been purchased for exclusively private use, regardless of the extent to which they were so used. Further, the Commissioners took the view that when such a car was sold to a private purchaser, output tax should still be charged, although only on the difference, or “margin”, between the purchase price and the sale price. This system was generally known as “the margin scheme”.

Following the ECJ decision in EC Commission v Italian Republic (Case C-45/95), the Commissioners advised that businesses could choose either to continue to use the margin scheme or to rely upon the ECJ judgment and treat the sale of input tax blocked cars as being exempt. A business brief was issued which said that the Commissioners would accept claims for refunds of tax that had been overpaid as a result of the UK applying a margin scheme as opposed to an exemption, but that such refunds would be subject to the three year cap which was in force at that time.

In relation to the treatment of manufacturers’ bonuses, prior to the judgment of the ECJ in the Elida Gibbs case, the Commissioners took the view that, as a matter of law, bonuses paid by car manufacturers to dealers on demonstrator vehicles, or to dealers or other customers on bulk orders, were to be treated as payments for a supply of services by the dealer or customer to the manufacturer, i.e. the manufacturer was entitled to deduct input tax on the “supply” of services, but the dealer had to account to the Commissioners for the output tax.

Following the Elida Gibbs case, the Commissioners issued business brief 16/97 which accepted that manufacturers’ bonuses should normally be treated as discounts by the manufacturers which reduced the value of their supplies. Businesses which believed that they had overpaid VAT in the past three years were invited to contact their local VAT business advice centre.

Core Question 1

Domestic law provided for the refund of VAT as follows:

“80. Recovery of overpaid VAT

1. Where a person has (whether before or after the commencement of this Act) paid an amount to the Commissioners by way of VAT which was not VAT due to them, they shall be liable to repay the amount to him.
2. The Commissioners shall only be liable to repay an amount under this section on a claim being made for the purpose.
3. It shall be a defence, in relation to a claim under this section, that repayment of an amount would unjustly enrich the claimant.
4. No amount may be claimed under this section after the expiry of 6 years from the date on which it was paid, except where subsection (5) below applies.
5. Where an amount has been paid to the Commissioners by reason of a mistake, a claim for the repayment of the amount under this section may be made at any time before the expiry of 6 years from the date on which the claimant discovered the mistake or could with reasonable diligence have discovered it.
6. A claim under this section shall be made in such form and manner and shall be supported by such documentary evidence as the Commissioners prescribe by regulations; and regulations under this subsection may make different provision for different cases.
7. Except as provided by this section, the Commissioners shall not be liable to repay an amount paid to them by way of VAT by virtue of the fact that it was not VAT due to them.”

Taking subsections 1 and 7 together, the Judge stated that the only basis upon which the Commissioners were to be liable to repay overpaid VAT is by means of a claim brought under subsection 1.

Domestic law provided for the payment of interest as follows:

“78. Interest in certain cases of official error

1. Where, due to an error on the part of the Commissioners, a person has –
   1. accounted to them for an amount by way of output tax which was not output tax due from him and which they are in consequence liable to repay to him, or
   2. failed to claim credit under section 25 for an amount for which he was entitled so to claim credit and which they are in consequence liable to pay to him, or
   3. (otherwise than in a case falling within paragraph (a) or (b) above) paid to them by way of VAT an amount that was not VAT due and which they are in consequence liable to repay to him, or
   4. suffered delay in receiving payment of an amount due to him from them in connection with VAT, then, if and to the extent that they would not be liable to do so apart from this section, they shall pay interest to him on that amount for the applicable period, but subject to the following provisions of this section.
2. Nothing in subsection (1) above requires the Commissioners to pay interest –
   1. on any amount which falls to be increased by a supplement under section 79; or
   2. …
3. Interest under this section shall be payable at such rates as may from time to time be prescribed by order made by the Treasury; and any such order –
   1. may prescribe different rates for different purposes; and
   2. shall apply to interest for periods beginning on or after the date in which the order is expressed to come into force, whether or not interest runs from before that date;
      and the first such order may prescribe, for cases where interest runs from before the date on which that order is expressed to come into force, rates for periods ending before that date.
      [Subsections (4) to (9) then set out detailed rules for determining the “applicable period” for cases falling within the different categories identified in subsection (1)]
      (10) The Commissioners shall only be liable to pay interest under this section on a claim made in writing for that purpose.
      (11) No claim shall be made under this section after the expiry of 6 years from the date on which the claimant discovered the error or could with reasonable diligence have discovered it.
      (12) “…
      The claimants argued that section 78 provided only a limited framework for the payment of simple interest in certain circumstances.
      According to the Judge, all of the interest claimed in the present cases was interest in respect of the original overpayments of VAT. He explained the significance of this point-section 80 provided an exclusive regime for recovery of the overpaid VAT, any right to recover interest on the repayment as a matter of domestic law must likewise be found within the confines of the statutory scheme, i.e. either in, or through, section 78. The true analysis, according to the Judge was that section 78 provided a limited, and exhaustive, right to interest in respect of payments due from the Commissioners to taxpayers. The Judge concluded that there was no room for a common law right to recover compound interest by way of restitution to co-exist with the de-limited statutory scheme.

Core Question 2

Firstly, it was noted that the Sixth Directive said nothing about the restitution of VAT that had been improperly levied. On this basis, ECJ cases were considered.

The Judge concluded that Community law did override the exhaustive and exclusive statutory scheme for the payment of interest on overpaid VAT, where the overpayment arose from breach of directly effective provisions of Community law. Subject to the Commissioners’ secondary defences, therefore, the claimants were entitled to an award of compound interest on the tax which they have overpaid, at any rate from 1 January 1978 when the Sixth Directive came into effect in the UK. The basis for this decision was that it was only in this way that effect could be given to the underlying principle that the UK should not be permitted to profit from the overpaid tax.

The Judge then went on to consider whether the claimants were entitled to compound interest. The claims for compound interest were dismissed. The reason for this decision was that the restitutionary claims advanced by the claimants for the recovery of such interest were time-barred, because the extended time limit for bringing the claims in the relevant section of the Limitation Act 1980 had already expired before the present claims were begun, and the claims were not revived by any acknowledgment or part payment within that section.

The judgment is available online at http://www.bailii.org/ew/cases/EWHC/Ch/2009/952.html.