This case concerns the availability of a VAT input credit for fees paid by Airtours to PwC under a tripartite agreement between Airtours, PwC and a number of financial institutions. The case was brought to the Upper Tribunal (UT) on appeal by HMRC against the decision of the First-tier Tribunal (FTT) which had previously allowed the appeal by Airtours against HMRC’s refusal to allow a deduction of input tax. The UT reversed the decision of the FTT and allowed HMRC’s appeal (reported in the December 2010 issue of tax.point).

The case was brought to the Court of Appeal; the taxpayer argued that the UT had erred in law in allowing HMRC’s appeal given that the UT had merely disagreed with the FTT on matters of fact.

Background

Airtours was in financial difficulty, owing approx. £2 billion to about 80 banks and other institutions (“the Financial Institutions”) and was due to renew its revolving credit facility in December 2002. PwC was engaged in November 2002 to provide an insight to the Financial Institutions into what was happening at Airtours.

The terms of the engagement stated that PwC had been retained by the Financial Institutions to provide the services outlined in the Letter of Engagement. PwC’s role was to obtain and comment on the financial position of Airtours. Information produced was addressed to the Financial Institutions with a copy to the director of Airtours. PwC carried out its work between November 2002 and January 2005 in five phases. Following the November 2002 letter of engagement, there were four further engagement letters which set out the scope for each subsequent phase of work. Airtours was responsible for PwC’s fees, expenses and disbursements incurred in carrying out the work.

Airtours sought to deduct the VAT which it had been invoiced and had paid in respect of PwC’s fees as input tax in its VAT returns for the relevant periods. HMRC maintained the position that PwC’s services were not supplied to Airtours, with the result that Airtours was not entitled to deduct the VAT on PwC’s fees as input tax.

Decisions

The three judges gave detailed consideration to the terms of the contract and letter of engagement between Airtours, PwC and the Financial Institutions.

Judge Vos was of the view that “the appropriate test to determine whether there is a supply of services to a taxable person is to ask whether something was “being done for him [the taxable person] for which, in the course or furtherance of a business carried on by him, he has had to pay a consideration which has attracted value added tax”. The most important elements of the analysis was to ascertain, by reference to the economic realities, the nature of the transaction and what, if anything, the taxable person was receiving in exchange for payment.

According to Judge Vos “the main features that governed the FTT’s decision were its view that Airtours was genuinely involved in selecting PwC and authorising it to do the work, that Airtours was to receive the copy report, that Airtours was under no legal obligation to provide such a review to the banks, and that Airtours needed the review for its own purposes”. The UT had disagreed that these features really existed as a matter of the construction of the contract. In the judgment of Judge Vos, the contract provided for the services of PwC to be supplied to the Financial Institutions. Some duty of care was owed to Airtours who paid the fees but the contract terms were that the services were primarily supplied to the Financial Institutions. The FTT was wrong to use the evidence of Airtours’ “need” for the report to override the clear meaning of the contract. The UT had stated the correct legal question and then interpreted the contract, in substance, by deciding that Airtours was a party not to obtain any service from PwC for use in its business, but to pay the fees. Judge Vos dismissed the appeal.

Judge Moore-Bick considered that the critical question was whether, as a matter of economic reality, PwC provided a service to Airtours or to the Financial Institutions alone and in order to answer that question it was necessary to consider the nature of the transaction under which the service was provided. The Letter of Engagement provided that the reports and letters produced by PwC were for the sole use of the Financial Institutions and that PwC assumed a duty of care to the Financial Institutions. However, the letter contained no corresponding assumption of liability to Airtours. Nothing in the letter of engagement suggested that PwC were undertaking any obligation to Airtours.

According to Judge Moore-Bick it was apparent that the FTT made an error of law and that the UT was entitled to re-make the decision. Agreeing with Judge Vos, it was held that the questions were not whether Airtours needed the report to be produced or whether it obtained a benefit as a result of its production, but whether in producing it PwC were providing a service to Airtours for which they paid. Judge Moore-Bick held that the UT correctly answered that question in the negative.

Judge Gloster reached a different conclusion, agreeing with the taxpayer. According to Judge Gloster the issue in this case was whether the arrangements as between the Financial Institutions, PwC and Airtours involved the supply of services to Airtours or merely payment of fees by Airtours for services rendered by PwC to the Financial Institutions alone.

Judge Gloster’s view was that there were two distinct supplies of services provided by PwC within the same overall transaction. There was the supply by PwC to Airtours which involved reviewing and validating its financial statements and reporting on such matters to the Financial Institutions. Secondly, there was the supply of services by PwC to the Financial Institutions in order to enable them to decide whether to continue their credit facilities to Airtours. Judge Gloster concluded that the UT reached the wrong conclusion as a matter of law, in deciding that no separate supply of services had been made; in so doing, the UT failed correctly to construe and analyse the contract.

Judge Gloster held “I would allow the appellant’s appeal against the FTT Decision and declare that the appellant is entitled to deduct the input tax in question on the payments made to PwC”. However since Judge Moore-Bick and Judge Vos took a different view, the appeal was dismissed.

Judgement

The Court of Appeal, by a majority decision (2:1), upheld the UT’s decision that VAT charged by PwC in respect of certain services provided in the context of a large-scale restructuring of Airtours was not an allowable VAT input credit for Airtours.

The case as before the Upper Tribunal was summarised in the December 2010 issue of tax.point.

The full judgement of the case before the Court of Appeal is available from http://www.bailii.org