Her Majesty’s Revenue and Customs (HMRC), the UK taxman, regularly uses tax bulletins to announce policy changes resulting from legislation, litigation or their policy reviews. So tax professionals routinely watch HMRC’s web space for the next bulletin to be released with a keen eye. Rarely do they encounter surprises, since most of the changes are either trailed or foreshadowed by relevant events. But the bulletin that came out on 16 May 2011 was different. It has caused some stir and a fair amount of head-scratching, even in some official circles. Dubbed “Revenue & Customs Brief 20/11”, and targeting yacht purchases in the main, it announces a change in policy concerning the so called “fallback arrangements”. This is the VAT treatment where a business uses a UK VAT registration number to deduct VAT on goods sent from one EU Member State to another, without the goods arriving in the UK. As it is treated as part of the UK for VAT purposes, the Isle of Man, which has become a yachting business hub, is implicated in the change.
The change means that, with effect from 1 June 2011, VAT is no longer recoverable on intra-EU yacht purchases as part of the standard accounting procedure, unless it can be demonstrated that the yacht physically arrived in the UK. Prior to that date, it was normal for a UK VAT registered business to declare and simultaneously deduct acquisition VAT in the UK on a yacht purchased from a supplier in another EU Member State without the yacht arriving in the UK. Typically, a VAT-registered business in the UK would buy a yacht from a supplier in say Italy, and the yacht is being removed from Italy to say France where it will be hired on charter. Under the rules, the supplier would exempt the supply from VAT in Italy, since the liability to account is created in the UK by the use of the VAT number. The UK business would fulfill its obligation to declare the acquisition VAT in the UK and in so doing exercise its legal right to deduct the VAT immediately. There was no need for the yacht to actually come to the UK. The policy change now means that the liability for the UK business to account for UK acquisition VAT on that example will still exist. However, there is no right to recover the acquisition VAT on the yacht as input tax until the yacht sails into the UK. The only exception in which UK VAT can be adjusted in this scenario is if VAT is accounted for correctly in the Member State of arrival – France in our example.
The HMRC measure, which is a complete reversal of the policy that has been in place since 1997, has caused a great deal of concern. Critics complain that it flies in the face of commercial logic. In effect it implies that the UK business in the example must not take the booked charter in France at that time, but instead head immediately for the UK in order to neutralise its VAT liability. Or else it could take the booked charter in France, but at pain of a cash flow disadvantage from the resulting delay in recovering the VAT on the value of the yacht in the UK. Alternatively, it must seek a second VAT registration in France in order to exercise its right to simultaneously deduct the VAT payable on the acquisition of the yacht. None of these options is without costs and administrative burden. So detractors are already citing this as one more alarum from the UK authorities that yachting undertakings should vacate its shores and set up in other EU locations. That is simplistic, of course.
HMRC itself justifies the measure by citing the judgment of the European Court of Justice (ECJ) in the joined cases of X (C-536/08) and Facet BV (C-539/08) published on 22 April 2010 (Facet). In each of the cases, supplies of computer goods were sourced from Member States other than the Netherlands and sold to customers located elsewhere in the EU. Dutch VAT registration numbers were used to secure exemption of the intra-EU supplies. The ECJ was asked to consider whether there was a right to deduct the acquisition VAT each of the taxpayers was required to account for in the Netherlands as input tax.
In its decision the ECJ held that there could be no right to deduct acquisition VAT where it falls due under the fallback arrangements as the goods did not actually enter the Netherlands. The Court noted that if there were an unfettered right to deduct in these circumstances, it could jeopardise the operation of the normal rules as it would remove the incentive for the acquisition to be taxed in the Member State of arrival. HMRC has therefore premised the change on the VAT principle that VAT should be due where goods actually arrive. And when it comes to highly moveable assets like yachts then they ought to be able to sail to the jurisdiction where they have registered for VAT in the interest of certainty of VAT treatment. So the suspicion that HMRC was simply using the Facet decision as a fig leaf to cover its hostile attitude towards the yachting trade can hardly be justified.
That is not to say that there aren’t genuine concerns about the change of policy. There are, and they are as much to do with transposition of the context as with the interpretation of the facts.
Both Facet cases were concerned with a context that bears little resemblance to yachting. At their centre was so called “triangulation”, a chain of intra-EU supplies of goods involving three parties where the intermediate party acquires and supplies the goods, but instead of the goods physically passing from one to the other, they are delivered directly from the first to the last party in the chain. It is hard to see such triangulation occurring in a typical intra-Community yacht acquisition and movement. What tends to happen more is that the delivered yacht proceeds to another Member State under the same ownership in order to make a supply of charter services. The yacht’s stay there is often temporary and flitting and, quite rightly, the VAT law itself does not consider or treat such movements as intra-Community supplies. If certain conditions relating to non-establishment of the owner and the duration of stay of the goods are met, the law specifies that no acquisition VAT can be due in the Member State to which the goods are transferred. Therefore VAT accounting, let alone a second registration, at the temporary destination of the yacht is never really in point.
And if proof of belonging or accounting in the UK while these movements occur were the issue, there has been no suggestion that UK VAT registered yachting businesses have been failing to account for VAT on their yacht purchases. If anything they have a stronger incentive to account because they need to deduct the VAT they suffer within the rules. That cannot be contrary to the objectives of the VAT system. So the question may well be asked as to what is really achieved in imposing the form of the ‘Facet principle’ (arriving in the UK) on the self-incentivised compliance that already exists in the context of intra-EU yacht purchases and accounting.
More disturbing questions arise on closer examination of the specific details surrounding Facet. This was not just that several instances of flawed or irregular accounting were highlighted; it was actually established that VAT had virtually been lost in the supply chains. In some of the tax accounting periods in dispute, for example, both X and Facet, who used their Dutch VAT numbers to secure exemption on the goods they supposedly acquired under the intra-Community regime and sold on, erroneously included in their Dutch returns the VAT due in respect of the intra-Community acquisitions. They then deducted that VAT, contrary to the applicable law which requires the intermediate acquirer-supplier to omit details of the triangular transactions on its VAT accounting return. Both taxpayers also failed to make any recapitulative statement of their intra-Community transactions as required under Article 37a of the Dutch law on VAT and Article 22(6)(b) of the Sixth Directive (as was then). Moreover, it was not even established that the goods in question were actually dispatched or transported directly to the final customers in the chain as part of the transactions in dispute. And, to cap it all, the final customers in both cases did not declare the said purchases as intra-Community acquisitions in the supposed destination countries. Indeed Facet’s customers were not even registered for VAT in the country where the goods ended up!
In these circumstances it was hardly surprising that the Dutch administration took the defensive view that: both taxpayers had made intra-Community acquisitions in the Netherlands where they were answerable for VAT under their identification numbers; they were not entitled to deduct that VAT in the Netherlands unless they could establish (which they couldn’t) that acquisition VAT had been accounted for in the Member State of arrival of the goods; and the whole situation warranted a corrective imposition of additional assessments on the taxpayers for the likely tax leakage on the transactions. Understandably, the ECJ too noted in its ruling that allowing a right to immediately deduct VAT charged in an intra-Community acquisition “in such a case” would risk undermining the effectiveness of the normal rules “in view of the fact that the taxable person, having had the right to deduct in the Member State which issued the identification number, would no longer have any incentive to establish that the intra-Community acquisition in question had been taxed in the Member State of arrival of the dispatch or transport.”
The doubt therefore is in the notion that an intra-Community yacht purchase where the yacht proceeds from the Member State of supply to another Member State to perform charters, or whatever else, has so much resemblance to “such a case” as to warrant an additional condition for exercising the mainstream right to deduct input VAT immediately. That doubt is accentuated, not lessened, by the statement in the Business Brief that triangulation is exempted from the new policy measure, given that it is precisely the supply chain at the core of the Facet cases, on which HMRC has rested its own argument for the change. Add the fact that the fallback arrangements remain in place in most other EU Member States and you can predict the muddle the change is likely to cause.
HMRC’s policy measure may not amount to the motive hunting of a motiveless malignity that critics suspect. But it does raise questions of proportionality as well as pragmatism, which will not go away, and which may well require another amendment if the policy is to work as intended.
One, probably unintended, consequence of the change is already exercising minds. It is the one about that yacht which has visited the UK and deducted the VAT on its purchase, having to return each time it orders a new engine, a new tender or whatever else from another EU Member State!
That is why it is comforting to know that there are discussions ongoing at present with regard to these VAT fallback arrangements and HMRC’s interpretation of the ECJ ruling. The actual impact of the policy change on the UK, and particularly the Isle of Man, remains to be seen. But judging by the many changes over the years with regard to VAT structures and solutions, this is likely to be minimal. The fundamental entitlement of a VAT registered yacht owner to deduct the VAT payable on the value of the yacht is unaffected and durable. Therefore for most clients sailing the extra mile to the UK or the Isle of Man to prove their belonging there for the purposes of their registration and EU yachting business may be another headache they could have done without. But in the overall scheme of things it will be a relatively small price to pay.
Moore Stephens Consulting Limited