First-tier Tribunal (Tax)

[2010] UKFTT 126 (TC)

 

TC00437

 

Appeal number  LON/2009/147

 

 

VAT – input tax deductibility – extension and improvement building works on farmhouse – S 24(3) VAT Act 1994 – appeal allowed in part

 

 

FIRST-TIER TRIBUNAL

 

TAX

 

 

                                 QUEX PARK ESTATES LIMITED                Appellant

 

 

                                                                      - and -

 

 

                                 THE COMMISSIONERS FOR HER MAJESTY’S

                                                   REVENUE AND CUSTOMS               Respondents

 

 

 

 

 

                                                TRIBUNAL: Tribunal Judge Peter Kempster

                                                                        Mr John Agboola

                                                                       

                                                                       

 

Sitting in public in London on 30 November 2009

 

 

Mr John Shelley for the Appellant

 

Mr Rodney Dixon of Counsel instructed by the General Counsel and Solicitor to HM Revenue and Customs for the Respondents

 

 

© CROWN COPYRIGHT 2010

DECISION

 

1.     This appeal concerned the recoverability of an amount of VAT incurred on building works to improve a farmhouse.

The assessment, the appeal and the hearing

2.     On 24 September 2008 the Respondents (“HMRC”) issued a VAT assessment on the Appellant (“the Taxpayer”) in the amount of £38,645.00 (plus interest).  Following HMRC’s confirmation of its decision by way of a reconsideration, the Taxpayer’s agent appealed against that assessment on 17 December 2008.

3.     Both parties submitted document bundles to the Tribunal.  The Tribunal also took sworn oral evidence from Mr Anthony Curwen, the farm manager of the Quex Estate and a director of the Taxpayer.   The Tribunal found Mr Curwen to be a completely credible and reliable witness.

The facts

4.     In the nineteenth century Quex Park in Kent was part of a large country estate.  The freehold was vested in a family trust: the Powell-Cotton Settled Estates.  In 1923 the trustees established a company, the Taxpayer, which acquired beneficial ownership of the farming estate.  This currently comprises some 1,150 acres (470 hectares) of farmed land and another 150 acres (60 hectares) of woodlands etc.  Its annual agricultural turnover is around £1.5 million to £2 million.   As well as Mr Curwen there are 3 farm workers, an office manager and a part-time office assistant.

5.     At the hub of the farm is Nursery Cottage, built in 1880, which was originally the home of the gardener to the estate.  Between late 2005 and June 2006 building works were carried out on Nursery Cottage.  It is the VAT incurred on those works which is the subject of the current appeal.  Part of the house had a flat roof that was leaking and collapsing; that was demolished and replaced by a larger two storey space.  A conservatory was added.  Double-glazing was substituted and the property relagged – this was consistent with the general environmental policy across all estate buildings.  Repairs were carried out to the roof and chimney stacks.  The work was substantial and for some aspects it was felt wiser to replace rather than repair.  Mr Curwen described the work as bringing the property into the league of a farmhouse rather than a cottage.

6.     Mr Curwen’s father became farm manager of the estate in 1959 and it was a condition of his employment that he live at Nursery Cottage.  Mr Curwen was born in Nursery Cottage in 1961; he graduated from Wye Agricultural College; he became assistant farm manager at the estate in 1987 and lived in a tied cottage on the estate.  On his father’s retirement in 1991 Mr Curwen became farm manager of the estate; it was a condition of his employment too that he live at Nursery Cottage.  At that time he was single; he is now married with two children.  His full-time occupation is as farm and estate manager of the Quex Park estate.  He is a prominent person in the Kent agricultural community.  His residence on the estate is essential; none of the other farm workers live on the estate; Mr Curwen is the person responsible for taking out-of-hours telephone calls, attending to emergencies on the farm, and overseeing security (the machinery at the farm has a replacement value in excess of one million pounds). 

7.     Mr Curwen is one of four directors of the Taxpayer; none of the other directors are involved in agriculture or live near Quex Park.  Mr Curwen’s father was a director while he was farm manager.  Mr Curwen became a director in 1994, three years after he succeeded his father as farm manager (and the same period after he started to live at Nursery Cottage); on succeeding his father he did not anticipate necessarily becoming a director.  The Board meets once each year.  Mr Curwen was appointed managing director in 2006; the Board has a separate chairman.  Since 1991 Mr Curwen has produced regular business reports for the directors.  One such report proposed the work to Nursery Cottage and was approved by the Board.  Mr Curwen estimated that less than five per cent of his time is devoted to his role as a director, and if he were to leave the Board immediately then nothing would change except his attendance at the annual meeting. 

8.     There is a farm office, which is some 150 metres from Nursery Cottage, where all the administrative tasks are performed and the farm records are kept.  Although some informal meetings take place at Nursery Cottage, most meetings are held at the farm office. 

9.     Mr Curwen owns another house, which is currently let.  It is too far from the farm to enable him to perform his duties if he resided there, and he saw it as suitable for his retirement in due course.

10.  The Taxpayer is registered for VAT purposes and, because of its mix of agricultural and property supplies, is a partially exempt trader.

Relevant statutory law

11.  Section 24(1) of the VAT Act 1994 (“VATA”) defines “input tax” for VAT purposes:

“Subject to the following provisions of this section, “input tax”, in relation to a taxable person, means the following tax, that is to say—

(a)     VAT on the supply to him of any goods or services …

being … goods or services used or to be used for the purpose of any business carried on or to be carried on by him.”

12.  Section 25(2) VATA gives credit for input tax:

“[The taxable person] is entitled at the end of each prescribed accounting period to credit for so much of his input tax as is allowable under section 26, and then to deduct that amount from any output tax that is due from him.”

13.  Section 26 VATA states:

“The amount of input tax for which a taxable person is entitled to credit at the end of any period shall be so much of the input tax for the period … as is … attributable to supplies within subsection (2) below.

(2) The supplies within this subsection are the following supplies made or to be made by the taxable person in the course or furtherance of his business—

(a)     taxable supplies; …”

14.  Section 24(5) VATA provides:

“Where goods or services supplied to a taxable person … are used or to be used partly for the purposes of a business carried on or to be carried on by him and partly for other purposes, VAT on supplies … shall be apportioned so that only so much as is referable to his business purposes is counted as his input tax.”

15.  There is a further restriction in s 24(3) VATA:

“… where goods or services are supplied to a company … and the goods or services which are so supplied … are used or to be used in connection with the provision of accommodation by the company, they shall not be treated as used or to be used for the purposes of any business carried on by the company to the extent that the accommodation is used or to be used for domestic purposes by—

(a)     a director of the company, or

(b)     a person connected with a director of the company.”

16.  These domestic UK provisions have their origin in the EC VAT Directives.  Using the directives in force at the time of the disputed transactions (rather than the principal VAT directive 2006/112/EC which came into force on 1 January 2007) Article 17 of EC Council Directive 77/388 (the Sixth Directive) states:

“1. The right to deduct shall arise at the time when the deductible tax becomes chargeable.

2. In so far as the goods and services are used for the purposes of his taxable transactions, the taxable person shall be entitled to deduct from the tax which he is liable to pay:  

(a)     value added tax due or paid within the territory of the country in respect of goods or services supplied or to be supplied to him by another taxable person;…

6. Value added tax shall in no circumstances be deductible on expenditure which is not strictly business expenditure, such as that on luxuries, amusements or entertainment.”

 

Submissions on behalf of the Taxpayer

17.  Mr Shelley for the Taxpayer contended that despite the legal position of the Taxpayer owning the farm, Mr Curwen was effectively the farmer.  Corporate ownership of farmland was a common feature of modern agriculture and the Taxpayer should not be disadvantaged for VAT purposes by operating in that format rather than as a partnership or some other structure.  While Mr Curwen lived in Nursery Cottage, he really occupied the whole farm rather than just the farmhouse; living in the farmhouse was just an incident of being in working occupation of the farm. 

18.  Referring to HMRC’s VAT Manual section V-13 (“the Manual”), paragraph 14.5 gave HMRC’s policy reasons for restricting the input tax recovery – it was to prevent the deduction of VAT on directors’ benefits:

“It is not uncommon for limited companies to own domestic property which is used for no other purpose than providing accommodation for the directors of the company.  Allowance of input tax deduction in respect of employees accommodation once had the effect of enabling a number of company directors to recover VAT incurred in the provision of their own domestic accommodation.  In order to prevent potential misuse of the input tax regulations, s24(3) of the Value Added Tax Act 1994 specifically excludes from input tax any VAT incurred on goods or services relating to the provision of accommodation to company directors or connected persons.”

That was not the case here – the expenditure was part of the company’s business and for the company’s benefit.

19.  Paragraphs 14.9 to 14.11 of the Manual specifically covered the matter of farmhouses and (at the end of 14.9) correctly required the test of dominant purpose:

“[The Tribunal has] consistently rejected the area measurement approach to apportionment. Instead they have applied a more subjective test of assessing the 'dominant purpose' as to why the expenditure was incurred.”

The dominant purpose here was that the expenditure was incurred wholly for the purposes of the farming activities of the Taxpayer.

20.  Mr Shelley submitted that the VAT Tribunal decisions cited to this Tribunal by HMRC and in the Manual must be approached with caution, if not entirely discounted.  They all predated two pertinent decisions of the European Court of Justice: Lennartz v Finanzamt München III [1995] STC 514 and Danfoss A/S and another v Skatteministeriet (Case C-371/07) [2009] STC 701. 

21.  Breaking from Mr Shelley’s submissions – as to Lennartz see paragraphs 29 to 32 below.  As to Danfoss – this was a referral by the Danish courts for rulings on a number of points, one of which concerned the recoverability of input tax incurred on the provision of meals to staff and customers of the taxpayer.  For present purposes two passages from the opinion of the Advocate General will suffice:

“50. … the cost of providing a canteen lunch, or a tray of sandwiches, free of charge to business contacts during a short break (or even without a break) in the course of a day-long business meeting seems likely to be incurred for business purposes—to avoid the discomfort of hunger or the inconvenience and wasted time entailed by seeking other possibilities for lunch, with a resulting loss of efficiency for the meeting—whereas the cost of offering a free lunch, as an alternative to a meal at the participant's own expense in a nearby restaurant, once the meeting is over, is less likely to be so. The former should therefore give rise to a right to deduct input tax as a cost component of the business's taxable output supplies, whereas the latter should, if input tax is deducted, be treated as an application for private use in accordance with art 6(2) of the Sixth Directive.

…

54. It is, of course, for the national court to determine in the main proceedings whether, both as regards business contacts and as regards staff, the provision of canteen meals, or trays of sandwiches, free of charge does in fact serve principally the purposes of the business or the private purposes of the recipients …”

22.  Mr Shelley submitted that there was no need for any apportionment of the input VAT.  Mr Curwen was appointed as the farm manager as part of the Taxpayer’s agricultural business activities.  His residence on the farm was essential to that business.  He was required to live there under the terms of his employment.  The fact that his family lived there with him was irrelevant.  The building works were incurred 100% for business purposes and thus the input tax was (subject to any partial exemption issues) fully deductible by the Taxpayer.  The fact that what was being provided (living accommodation) was something that in other contexts might constitute private use did not matter – the same could be said of the meals provided by Danfoss.  What mattered was the purpose of the taxpayer in providing the farmhouse to the farm manager; that was entirely a business use – as were the meals in Danfoss.  Any apportionment should be from the business/non-business use perspective of the Taxpayer - not by reference to any domestic use by Mr Curwen.  Hence there was no requirement for any restriction or apportionment.

23.  Mr Shelley submitted that absent s 24(3) VATA that would be the end of the matter.  That UK domestic provision added a restriction that was not present in Arts 6 or 17.  The provision of a farmhouse for a farm manager did not amount to “luxuries, amusements or entertainments” within Art 17(6).  There might be a benefit to the employee but that was irrelevant (so far as VAT was concerned), as was any consideration of a duality of purpose. 

 

Submissions on behalf of HMRC

24.  Mr Dixon for HMRC submitted that s 24 VATA was consistent with Arts 6 and 17.  Section 24(3) did not completely block a reclaim but instead required an apportionment “to the extent that the accommodation is used or to be used for domestic purposes by a director of the company”.  HMRC’s view on the information available was that 90% of the disputed input tax was referable to domestic use by a director.  That was in line with the Tribunal decision in Wright (12984 – MAN/94/220) where the facts were similar to the present appeal.  HMRC had invited the Taxpayer to provide evidence justifying a smaller domestic use apportionment but none had been provided. 

25.  Mr Dixon submitted that while Wright (as a VAT Tribunal decision) is not binding on this Tribunal, it is instructive to consider the approach adopted in that case.  In Wright there was expenditure on refurbishment of a farmhouse occupied by a married couple who were both working directors.  The farmed area was 203 acres (80 hectares).  Some business activities took place at the farmhouse but all the rooms in the farmhouse were of a normal domestic type; there was a farm office separate from the farmhouse itself.  HMRC (HM Customs & Excise as then was) argued for zero business apportionment, contending any business use was merely incidental.  The taxpayer argued for 39% business use, presenting in evidence photographs and measured dimensions of the various rooms at the farmhouse, and descriptions of how each room was typically used.  The Chairman criticised the taxpayer’s approach as “too formularistic” and concluded,

“I am left at the end of the day with making an assessment as a matter of impression after weighing up all the evidence before me. On that basis I consider that the business use of the farmhouse would be adequately reflected by an allowance of 10 per cent and I so find.”

26.  Mr Dixon submitted that the contents of the Manual were only general guidelines to be considered in the circumstances of any particular case, but were in accordance with the approach adopted by HMRC in the present appeal.  Wright was one of the cases cited in paragraph 14.7 of the Manual.  The 70% business use guideline that had been notified to the NFU was described in paragraph 14.10 of the Manual but this was inapplicable to the Taxpayer because (i) the Taxpayer was a company, not a sole trader or partnership; (ii) the disputed works went beyond repairs and maintenance; and (iii) Nursery Cottage was not a typical farmhouse but instead a normal private family home with a new conservatory.  Paragraph 14.10 went on to consider extensions and alterations of farmhouses and stated that it was unlikely that the business proportion would exceed 40%; again, HMRC had heard nothing to disturb their view that 10% business use was a reasonable figure.  Paragraph 14.11 considered “farms that are limited companies”, which was the position of the Taxpayer, and referred to s 24(3) and its coverage in paragraphs 14.5 to 14.7, which brought one back again to Wright. 

27.  Mr Dixon referred the Tribunal to the VAT Tribunal case of Sangster Group Limited (15544 - LON/97/394) at para 48:

“It is clear from the terminology of section 24(3) that if a company makes accommodation available for domestic purposes to a director or connected person, that constitutes the provision of accommodation; if this were not the case the subsection would have no point. In such event the expenditure is disallowed to the extent of the actual or intended domestic use. The domestic purposes in question are those of the user and the company's intention in providing the accommodation is immaterial; a company does not have domestic purposes. The mischief against which section 24(3) is directed is a conflict or possible conflict of purposes between company and director, providing for disallowance on the basis of the director's domestic use; in particular a company may quite legitimately provide accommodation for a director's personal use as a form of executive remuneration.”

28.  Mr Dixon submitted that Danfoss considered the issue of business and non-business use but concluded that any particular case must turn on its own facts.  The Taxpayer had claimed 100% business use and HMRC had seen nothing prior to the hearing or at the hearing to displace their estimate of 10% business use.

Further representations relating to Lennartz

29.  During the hearing Mr Shelley referred to the ECJ decision in Lennartz and contended that some of the VAT Tribunal decisions referred to by HMRC (for example Wright) had been overtaken by Lennartz.  Lennartz was not mentioned in the original grounds of appeal stated in December 2008, nor in the revised grounds of appeal stated in February 2009, nor in the Appellant’s skeleton argument (dated November 2009).  It was raised for the first time in oral argument before the Tribunal.

30.  Having considered this matter the Tribunal felt it would not be appropriate to draft a decision in this appeal without making reference to the Lennartz point.  Accordingly, the Tribunal invited both Mr Shelley and Mr Dixon to make written representations on the following points:

1. What is the effect, if any, of Lennartz in relation to the appeal of Quex Park Estates Ltd?
2. If, contrary to the taxpayer’s contention, there is a non-business use element of Nursery Cottage then how does Lennartz affect the input tax calculation?  (Bearing in mind that a supply of domestic accommodation would appear to be an exempt supply by Group 1 schedule 9 VATA 1994.) 
3. What is the effect, if any, of the recent ECJ case of Puffer v Unabhängiger Finanzsenat Außenstelle Linz [2009] STC 1693?  (See in particular paragraphs 39 – 41 of the decision.)

 

31.  Mr Shelley for the Taxpayer made the following points:

(1)  Lennartz establishes that the Taxpayer’s right to deduct the input tax in dispute in full is unqualified and should not be subject to an apportionment (subject to any partial exemption restriction).

(2)  The Taxpayer is a company and it is difficult to see how it could derive a non-business use or enjoy a business asset for a “private purpose” in circumstances where the farmhouse (a business asset) was made available for occupation by a director of the company in his capacity as the tenant farmer.  Even if Mr Curwen and his family enjoyed an element of private use as a director, that use should not be confused with the company’s use of a business asset as the employer.

(3)  Puffer is consistent with Lennartz and Danfoss.  Quex Park is a large farming estate with many buildings, including Nursery Cottage, and accordingly all of its land and buildings are business assets used for the business of farming.

32.  Mr Dixon for HMRC made the following points:

(1)  Lennartz is of no assistance to the Taxpayer.  That case established the principle that a taxable person may elect to recover input tax in full up-front on supplies received resulting in the creation of a new business asset, but with a subsequent adjustment to output tax to reflect any private/non-business use.  A taxable person could, however, elect to recover the VAT for business use only and exclude a percentage for private use.  The Taxpayer has always followed the latter course, seeking throughout to argue that there is no private use of the Nursery Cottage.  Even if, which was disputed, it were now possible for the Taxpayer to switch to the former course, it would still be necessary to make a subsequent adjustment for percentage private use – and the taxpayer has contended throughout that there was no private use at all of the farmhouse.  HMRC have accepted that there was some limited business purpose to the director’s use of Nursery Cottage, hence the offer of apportionment using the principles outlined in the cases such as Wright.

(2)  Were the Appellant to elect to adopt the Lennartz mechanism (which it has not done) and were it to satisfy the requirements (which it has not argued) then it could seek to recover the full input tax but a substantial adjustment would be required to reflect the private use of the farmhouse.  Given the Appellant’s arguments throughout the proceedings, that scenario is hypothetical.  Whether private use attaches to the farmhouse per se or what is the appropriate apportionment is a factual question and Wright and the other cases referred to at the hearing provide useful guidance.  Lennartz has not “overtaken” those cases.

(3)  Puffer reiterates the principles in Lennartz.  In the case of the construction of a mixed business and private use building, there was a right to choose to deduct the VAT but with the subsequent staggered imposition of that VAT on the private use of the building.  The private use percentage of the building must still be decided.

 

Decision

33.  Section 24(3) gives a precise requirement to disallow recovery of VAT incurred where goods or services supplied to a company are used in connection with the provision of accommodation by the company, to the extent that the accommodation is used for domestic purposes by a director of the company (or a person connected with such a director).

34.  We find that Nursery Cottage was used to an extent for domestic purposes by Mr Curwen (a director of the Taxpayer) and his family.

35.  We do not agree with the Taxpayer’s contention that there can be no private use of the asset because the Taxpayer (as a body corporate) can have only a business purpose in making the property available to the farm manager (indeed, requiring him to live there).  We follow the logic set out in Sangster: “The domestic purposes in question are those of the user and the company's intention in providing the accommodation is immaterial”.

36.  We consider that Danfoss is a particular instance of the need to distinguish business and non-business use but does not assist the Taxpayer on the particular facts of its case, especially given the wording of s 24(3).  On Lennartz we prefer the submissions of Mr Dixon on behalf of HMRC; the Taxpayer has not chosen to follow a “Lennartz accounting” approach and so the Tribunal need only consider the alternative route that was followed. 

37.  In deciding the extent to which Nursery Cottage was used for domestic purposes by Mr Curwen and his family, we consider the correct approach is that adopted in Wright: “making an assessment as a matter of impression after weighing up all the evidence before [us]”.

38.  Having considered all the evidence put before us, especially the testimony of Mr Curwen, the Tribunal considers that while the Taxpayer has not discharged the burden of proof on it in relation to the figures put forward by HMRC, a lower figure for domestic purposes than that proposed by HMRC should be substituted.  We consider that the extent to which Nursery Cottage was used for domestic purposes by Mr Curwen and his family was 70%.

39.  Accordingly, the assessment under appeal should be adjusted to reflect our decision.  Liberty to the parties to apply for clarification or determination of figures.

 

Other matters

40.  Mr Shelley on behalf of the Appellant made an application for costs, which we refuse.

Right of appeal to Upper Tribunal

41.  Section 11 of the Tribunals, Courts and Enforcement Act 2007 provides that any party to a case has a right of appeal to the Upper Tribunal on any point of law arising from a decision of the First-tier Tribunal. The right may be exercised only with permission which may be given by the First-tier Tribunal or the Upper Tribunal.  Rule 39(2) of The Tribunal Procedure (First-tier Tribunal) (Tax Chamber) Rules 2009 SI 2009/273 provides that a person seeking permission to appeal must make a written application to the Tribunal for permission to appeal, which application must be received by the Tribunal no later than 56 days after the date that the Tribunal sends full written reasons for the Decision.  Rule 39(5) provides that an application for permission to appeal must identify the decision of the Tribunal to which it relates, identify the alleged error or errors in the decision, and state the result the party making the application is seeking.

42.  This document contains the full written reasons for the Decision.

 

 

 

 

 

TRIBUNAL JUDGE

 

 

RELEASE DATE: 22 March 2010