The taxpayer appealed against HMRC's decision to treat supplies of toasted sandwiches known as toasted Subs and meatball marinara as being standard-rated rather than zero-rated for the purposes of VAT. The appeal was one of over 1200 appeals from Subway franchisees challenging the correct VAT treatment of such supplies.

Background

This case concerns the taxpayer's appeal against the decision of the First-tier Tribunal (FTT) which had dismissed their appeal against HMRC in October 2010. The FTT held that the toasted Subs and meatball marinara were above ambient air temperature at the time of the supplies and they had been heated for the purposes of enabling them to be consumed at such temperature and therefore were subject to the standard rate of VAT.

The taxpayer appealed to the Upper Tribunal on the grounds that the FTT asked itself the wrong question in reaching a decision, conclusions were reached on evidence which was irrational and the Tribunal's conclusions gave rise to a result that is in breach of European Union Law. This breach arose because of two reasons; firstly there is inequality of treatment as between the taxpayer and other traders making objectively similar supplies and secondly the taxpayer's supplies were goods and not services.

EU Principles

A number of general principals of European Law were relevant in the course of this appeal. The most important principle is that of fiscal neutrality which precludes treating similar goods and supplies of services which are in competition with each other differently for VAT purposes.

Two aspect of the ECJ's jurisprudence with regard to Article 110 of the Principle VAT Directive – granting of exemptions and reduced rates of VAT – were also relevant; the Court's general approach to the extent to which Member States may legitimately zero rate goods and services in reliance upon Article 110; and the interaction between Article 110 and the principle of fiscal neutrality.

Domestic Legislation

UK VAT legislation under Note 3 (b)(i) to Schedule 8 Part II of the VAT Act 1994 was relevant to this appeal. This legislation provides that food of a kind used for human consumption is not taxed with the exception for “a supply in the course of catering” (Note 3 (b)(i) to Schedule 8 Part II of the VAT Act 1994). A supply in the course of catering includes two types of supply; first the supply “for consumption on the premises on which it is supplied” and second, any supply of hot food for consumption off those premises.

The first exception, according to the Tribunal, differentiates between food for consumption on the premises and food for consumption off the premises. This type of supply is excepted from zero-rating regardless of whether the food is cold or hot. The Tribunal considered that the policy here is clear, namely that human beings don't have to go out to restaurants, bars or cafés to eat. If they choose to do so, they will be taxed for the privilege.

The second type is a supply of “hot takeway food”. This type of supply is excepted from zero-rating only if the food is “hot”. The Tribunal considered that human beings don't have to buy hot takeaway food since they can cook food themselves. If they choose to buy hot takeaway food, they will be taxed for the privilege.

“Hot food” is food that is above ambient air temperature at the time of supply i.e. above room temperature. This definition is limited by the provision that the food must have been heated for the purpose of enabling it to be consumed at a temperature above the ambient air temperature. The key feature is the purpose for which the food was heated and not the intention, according to the Tribunal.

Relevant Case Law

The Court of Appeal in John Pimblett and Sons Ltd v Customs and Excise Commissioners [1988] STC 358 (Pimblett) considered “a supply in the course of catering” In this case the taxpayer operated a bakery and baked and sold pies. The taxpayer contended that the pies were not heated with the intention of enabling then to be eaten hot but it was common ground that the purpose was to provide a pleasant small and atmosphere in the bakery. Both the VAT Tribunal and Court of Appeal considered strictly Note (3)(b)(i). The VAT Tribunal considered that the test under Note (3)(b)(i) was a subjective test of the purpose of the supplier and held that a proportion of the pies were standard-rate and the rest zero rated. On appeal from the Commissioners on the ground that the test was an objective test, the Court of Appeal considered that the main question to be answered was Were the pies heated for the purpose of enabling them to be consumed hot?’ While the Court of Appeal did not explicity reject the Commissioners contention that the test was an objective one the findings presented have been taken to mean that the test is subjective.

The Pimblett decision has also been considered in Malik v Customs and Excise Commissioners [1998] STC 537 and Deliverance Ltd v Revenue and Customs Commissioners [2011] STC 1049. As in the Pimblett case, in Malik and Deliverance, no reference was made to EU law. Further there were no arguments that the Pimblett decision should be reconsidered.

In further decisions which followed the Pimblett case, there was inconsistent treatment of similar or identical supplies of “hot food”. Some were held to be zero-rated and others standard rated.

Compliance with EU law

The taxpayer contended that Note (3)(b)(i) did not comply with EU law and in particular the principles of fiscal neutrality and objective assessment and therefore the Note must be disapplied, the consequence being that the taxpayer's supplies should be treated as zero rated. HMRC submitted that it was possible to construe Note (3)(b)(i) as imposing an objective test (contrary to the decision in Pimblett) and it did not infringe the principle of fiscal neutrality. Therefore the taxpayer's supplies were to be standard rated.

The Tribunal noted it is common ground that EU law requires Note (3)(b)(i) to be construed as imposing an objective test, and that, to the extent that Pimblett decides differently, it is wrong in law. The Tribunal found that it was also obliged to depart from the Pimblett decision in this case by virtue of Article 4(3) TFEU and the Marleasing principle (domestic legislation must be construed so far as is possible in conformity with, and to achieve the result intended by, the directive).

Addressing this issue, the Tribunal considered firstly the extent to which the principles of fiscal neutrality were engaged and secondly if, applying the marleasing principles, if it was possible to construe Note (3)(b)(i) in an objective manner which respected the principle of fiscal neutrality.

The Tribunal held the decision as to which supplies should be zero-rated for social reasons is in principle a matter of political choice for the UK. Accepting HMRC's submission, the Tribunal considered that the starting point is that it is for the UK to determine the boundary between zero-rated supplies and standard-rated supplies. The UK can distinguish between supplies which are different from the point of view of the consumer.

The Tribunal went on to find that it is possible to construe Note (3)(b)(i) in a manner which does not infringe the principle of fiscal neutrality according to the Tribunal. The Note must be interpreted as imposing a wholly objective test which will ensure that supplies which are objectively the same are not treated differently merely because of a difference in the intention of the supplier. Whether the food is hot at the point of supply because it has been heated for some other purpose and the reasons why consumers prefer to eat food hot must be considered. Following this approach, the Tribunal considered that it is possible to treat objectively similar supplies in the same manner and objectively different supplies differently.

Upper Tribunal Judgement

Decision of the First-tier Tribunal

The Tribunal, on an objective assessment, held that the toasted subs were heated for the purpose of enabling them to be consumed at above ambient temperature and not for some other purpose. It did not matter whether that was the taxpayer's subjective intention or whether the toasted subs were in fact consumed above ambient temperature. Likewise the meatball marina was heated for the same purposes. The First-tier Tribunal, although applying the wrong test, was correct in its conclusion.

Consequence of Previous Case Law

According to the taxpayer, the case law which followed the Pimblett decision and the inconsistent treatment in each case since then which resulted in similar supplies taxed differently, makes it impossible to interpret Note (3)(b)(i) in a manner consistent with fiscal neutrality. The taxpayer contended that HMRC is responsible for this state of affairs due to either one or more of; failure to legislatively overrule the Pimblett decision, failure to ensure correct application of EU law and failure to issue appropriate guidance.

HMRC did not dispute that there have been a number of inconsistent decisions in similar cases but disputed that this amounted to an infringement of the principle of fiscal neutrality for which the UK can be held responsible.

The Tribunal decided that Note (3)(b)(i) is capable of being construed in a manner which complies with fiscal neutrality and consequently held that this was something which the courts and Tribunals were always in a position to decide. The blame must be shared by taxpayers who decided that it was in their interest to rely on Pimblett rather than try to correct it and it was not HMRC's fault.

However, the Tribunal considered that the taxpayers arguments raised the question of the extent HMRC, as litigant, have a duty to ensure that the law is correctly applied by courts and tribunals including appealing adverse decisions. Considering the arguments in this case, the Tribunal was not “persuaded that HMRC's failure to appeal the adverse decisions in question combined with its support for the Tribunal's decision in the present case has placed the United Kingdom in breach of the principles of fiscal neutrality or effectiveness. The Tribunal went on to hold that “once it became clear that Pimblett was contrary to European law, the correct interpretation of Note (3)(b)(i) was open to re-consideration. That has now happened, and without the need even for the issue to be considered by the Supreme Court, let alone referred to the CJEU”. Importantly, the Tribunal held that it was not binding on the UK legislatively to overrule Pimblett.

Goods or Services Supplied by the taxpayer?

The taxpayer contended that its supplies of toasted subs and meatball marinara were goods and not services and relied on the authority in Case C-231/94 Faaborg-Gelting Linien A/S v Finanzmat Flensburg [1996] ECR I-2395 which found that “where the transaction relates to ‘take-away’ food and is not coupled with services designed to enhance consumption on the spot in an appropriate setting” the position is not the same as restaurant transactions. The taxpayer also relied on the decision in Joined Cases C-497/09, C-499/09, C-501/99 and C-502/09 Finanzamt Burgdorf v Bog [2011] ECR I-0000 where it was essentially found that where there is very little preparation involved in the sale of hot foods they could be treated as supplies of goods rather than services.

The Tribunal found that in general it did not matter for VAT purposes whether what is supplied is goods or services as the exception is not of “catering services” but of supplies “in the course of catering”.

Summary

The Upper Tribunal found that the toasted subs and meatball marinara supplied by Subway should be subject to VAT at the standard rate and not be zero-rated. It is possible to construe UK domestic legislation under Note 3(b)(i) to Schedule 8 Part II of the VAT Act 1994 in a manner which does not infringe the EU principle of fiscal neutrality. EU law requires that this domestic legislation be construed as imposing an objective test and to the extent that the widely followed Pimblett decision provides differently, it is wrong.

This case follows an extensive body of case law on the subject of hot food and the purpose for which it is heated. The decision in this case by the Upper Tribunal calls into the question the Pimblett decision which now appears to have no legal standing and potentially re-opens the debate on the pasty tax.

The full text of the Upper Tribunal judgement is available at http://www.tribunals.gov.uk/financeandtax/Documents/decisions/sub_one_v_hmrc.pdf