A transaction fell to be redefined under the Halifax principle
Our pick of this week's cases
In Pendragon and others v HMRC [2015] UKSC 37 (10 June 2015), the Supreme Court, reversing the decision of the Court of Appeal, found that a scheme designed by KPMG to avoid VAT on the resale of demonstrator cars was abusive.
The object of the scheme was to ensure that companies in a car distributor group were able to recover input tax incurred on the price of new cars acquired as demonstrator cars, while avoiding the payment of output tax on the sale of these cars to consumers. The issue was whether it was abusive under the Halifax principle.
The KPMG scheme involved the sale by the distributors of newly acquired cars to captive leasing companies (CLCs); the leasing of the cars by the CLCs to the distributor’s dealerships; the assignments of the leasing agreements and titles to the cars to a Jersey bank (SGJ); the sale by SGJ of its hire business as a transfer of a going concern (TOGC) to a company of the distributor group (Captive Co 5); and, finally, the sale of the cars by Captive Co 5 to customers.
The success of the scheme relied primarily on the VAT (Cars) Order 1992 art 8, which provides that dealers in second-hand goods are allowed to charge VAT not on the whole consideration for the sale of the goods, but on their profit margin only.
The Supreme Court thus observed that the effect of the KPMG scheme was to enable the Pendragon Group to sell demonstrator cars second hand under the margin scheme, in circumstances where VAT had not only been previously charged but fully recovered, so ‘that no net charge to VAT was ever suffered, except on the small or non-existent profits realised on the resale’. The Supreme Court concluded that a system designed to prevent double taxation on the consideration for goods had been exploited so as to prevent any taxation on the consideration at all. The first limb of the Halifax test was therefore satisfied; the scheme was contrary to the purpose of the legislation.
As for the second limb, the Supreme Court found that the transaction had the essential aim of obtaining a tax advantage. Two steps had been inserted which had had no commercial rationale other than the achievement of a tax advantage. The first one was the leasing of the cars by the CLCs to ensure that one of the gateways of art 8 applied; the assignment of rights under a hire purchase or conditional sale agreement. The second one was the acquisition of the business by Captive Co 5, so that the acquisition of the cars was brought within the gateway for assets acquired as part of a business transferred as a going concern.
As the scheme was an abuse of law, it fell to be redefined as a sale and leaseback transaction, followed by a sale to customers to which art 8 did not apply.
Why it matters: The court highlighted two difficulties of the Halifax principle. The first arose from the assumption that the principle will not apply to ‘normal commercial transactions’, as ‘the VAT Directives must be assumed to have been designed to accommodate them’. This had led the Court of Appeal to find that the arrangements were not abusive. The second difficulty resulted from concurrent purposes. The question was then whether the commercial objective was enough to explain the particular features of the arrangements.
A transaction fell to be redefined under the Halifax principle
Our pick of this week's cases
In Pendragon and others v HMRC [2015] UKSC 37 (10 June 2015), the Supreme Court, reversing the decision of the Court of Appeal, found that a scheme designed by KPMG to avoid VAT on the resale of demonstrator cars was abusive.
The object of the scheme was to ensure that companies in a car distributor group were able to recover input tax incurred on the price of new cars acquired as demonstrator cars, while avoiding the payment of output tax on the sale of these cars to consumers. The issue was whether it was abusive under the Halifax principle.
The KPMG scheme involved the sale by the distributors of newly acquired cars to captive leasing companies (CLCs); the leasing of the cars by the CLCs to the distributor’s dealerships; the assignments of the leasing agreements and titles to the cars to a Jersey bank (SGJ); the sale by SGJ of its hire business as a transfer of a going concern (TOGC) to a company of the distributor group (Captive Co 5); and, finally, the sale of the cars by Captive Co 5 to customers.
The success of the scheme relied primarily on the VAT (Cars) Order 1992 art 8, which provides that dealers in second-hand goods are allowed to charge VAT not on the whole consideration for the sale of the goods, but on their profit margin only.
The Supreme Court thus observed that the effect of the KPMG scheme was to enable the Pendragon Group to sell demonstrator cars second hand under the margin scheme, in circumstances where VAT had not only been previously charged but fully recovered, so ‘that no net charge to VAT was ever suffered, except on the small or non-existent profits realised on the resale’. The Supreme Court concluded that a system designed to prevent double taxation on the consideration for goods had been exploited so as to prevent any taxation on the consideration at all. The first limb of the Halifax test was therefore satisfied; the scheme was contrary to the purpose of the legislation.
As for the second limb, the Supreme Court found that the transaction had the essential aim of obtaining a tax advantage. Two steps had been inserted which had had no commercial rationale other than the achievement of a tax advantage. The first one was the leasing of the cars by the CLCs to ensure that one of the gateways of art 8 applied; the assignment of rights under a hire purchase or conditional sale agreement. The second one was the acquisition of the business by Captive Co 5, so that the acquisition of the cars was brought within the gateway for assets acquired as part of a business transferred as a going concern.
As the scheme was an abuse of law, it fell to be redefined as a sale and leaseback transaction, followed by a sale to customers to which art 8 did not apply.
Why it matters: The court highlighted two difficulties of the Halifax principle. The first arose from the assumption that the principle will not apply to ‘normal commercial transactions’, as ‘the VAT Directives must be assumed to have been designed to accommodate them’. This had led the Court of Appeal to find that the arrangements were not abusive. The second difficulty resulted from concurrent purposes. The question was then whether the commercial objective was enough to explain the particular features of the arrangements.
