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You are here: BAILII >> Databases >> United Kingdom House of Lords Decisions >> Svenska International Plc v. Commissioners of Customs and Excise [1999] UKHL 23; [1999] 2 All ER 906; [1999] 1 WLR 769 (25th March, 1999)
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Cite as: [1999] UKHL 23, [1999] WLR 769, [1999] 2 All ER 906, [1999] 1 WLR 769

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Svenska International Plc v. Commissioners of Customs and Excise [1999] UKHL 23; [1999] 2 All ER 906; [1999] 1 WLR 769 (25th March, 1999)

HOUSE OF LORDS

Lord Slynn of Hadley Lord Lloyd of Berwick Lord Hope of Craighead
Lord Clyde Lord Hutton

OPINIONS OF THE LORDS OF APPEAL FOR JUDGMENT IN THE CAUSE

SVENSKA INTERNATIONAL PLC.
(APPELLANTS)

v.

COMMISSIONERS OF CUSTOMS AND EXCISE
(RESPONDENTS)

ON 25 MARCH 1999

LORD SLYNN OF HADLEY

My Lords,

I have had the advantage of reading in draft the speech prepared by my noble and learned friend Lord Hutton. If the facts are recited without a detailed reference to the legislation, the result arrived at by the Industrial Tribunal and by the Court of Appeal may seem decidedly odd. However, on an analysis of the relevant provisions of the Value Added Tax (General) Regulations 1985 and the Value Added Tax Act 1983, and having regard to the principle of fiscal neutrality upon which Mr. Pleming, Q.C. for the Commissioners of Customs and Excise laid much emphasis in his submissions, I have no doubt that the result arrived at by my noble and learned friend, and contended for by the Commissioners, is the correct one. I, too, would accordingly dismiss the appeal.

LORD LLOYD OF BERWICK

My Lords,

Svenska International Plc. ("Svenska") is a U.K. subsidiary of a Swedish bank. It has been registered for VAT since October 1983. In those days a Swedish bank was not allowed by Swedish law to set up branches abroad. But the Swedish law changed on 1 January 1987. Accordingly on 29 December 1987 the Swedish bank set up a branch in London ("London Branch") to carry on business alongside its subsidiary, Svenska.

Svenska had already established relationships with suppliers in the United Kingdom for the supply of services such as telephone, electricity and accountancy. London Branch had no staff of its own, and no premises. So it was agreed that Svenska would provide all management services to London Branch, for which it would make a charge in due course. London Branch did not purchase any goods or services from third parties. The arrangement was eventually reduced to writing in a letter dated 1 February 1991, in which it was agreed that all expenses incurred by Svenska on behalf of London Branch would be shared in proportion to the value of the banking business undertaken by each party during the period of the arrangement. London Branch was not registered for VAT It follows that London Branch and Svenska were separate entities for VAT purposes.

During 1988 and 1989 London Branch made a number of applications to join the same VAT group as Svenska. These applications were unsuccessful, for the reason that a United Kingdom branch of a foreign company was not then permitted to join a VAT group unless the foreign company was itself registered in the United Kingdom. But a change was announced in the 1991 budget; and from 8 July of that year London Branch became eligible to join the same VAT group as Svenska. By a letter dated 2 October 1991 the Commissioners confirmed that London Branch would be included in the VAT group with Svenska with effect from 1 August 1991, and Svenska was to be the representative member of the group. It followed that any supply of goods or services by Svenska to London Branch thereafter fell to be disregarded by virtue of section 29(1)(a) of the Value Added Tax Act 1983. The issue in the present case relates to the period from 1 June 1987 to 31 July 1991.

Under section 4(3) of the Act a supply of services is treated as taking place at the time when the services are performed. But by section 5(9) of the Act it was open to the Commissioners to make special provision by regulation for services supplied on a continuous basis. By regulation 23 of the Value Added Tax (General) Regulations 1985 (S.I. 1985 No. 886) it is provided that the supply of services in such a case is to be treated as taking place, not when the services are performed, but when they are paid for, or when a tax invoice is issued in respect of the services, which- ever be the earlier. It was common ground that regulation 23 applied in the present case, so that services supplied by Svenska to London Branch between 1987 and 1991 would in the ordinary way have been treated as being supplied on 26 June 1992, when Svenska issued an invoice in respect of those services, and not before. But since by 26 June 1992 Svenska and London Branch were both members of the same VAT group, that supply fell to be disregarded for tax purposes under section 29(1)(a) of the Act. Accordingly the invoice did not include any charge for tax. It is not suggested that this was incorrect.

Under sections 14 and 15 of the Act Svenska was entitled to credit for input tax paid on inward supplies of services against any output tax due on taxable supplies made by Svenska in the course or furtherance of its business. Detailed provisions are contained in regulation 30, which specifies the method for determining the amount of input tax to be attributed to taxable supplies in any accounting period. Under regulation 30(5) it was open to the Commissioners to agree a special method other than the method specified in regulation 30. That is what happened in the present case. The details do not matter. They are set out clearly in the decision of the tribunal. It is sufficient to say that the input tax provisionally attributed to taxable supplies made by Svenska during the period 1 June 1987 to 31 May 1990 came to £621,252. The equivalent figure for the period 1 April 1990 to 31 July 1991 came to £523,724. The Commissioners now say that they are entitled to reclaim part of the input tax credited to Svenska during the period in question on the ground that it was not all attributable to taxable supplies, but was in part attributable to exempt supplies. They can only succeed if they can bring the case within regulation 34 which provides:

a

b

There can be no doubt that the conditions set out in regulation 34(1)(a) were satisfied. The input tax was attributed to an intended taxable supply, namely, the intended supply of services by Svenska to London Branch. If Svenska had invoiced London Branch before London Branch became a member of the same VAT group, the taxable supply would have been treated as having taken place at that date. As it was, Svenska did not invoice London Branch until after they had become members of the same group. But this does not mean that the input tax was not properly attributed to an intended taxable supply.

Then what about regulation 34(1)(b)? This requires that Svenska should have "used" the inward supply in making an exempt supply before the intended taxable supply. The example which is often given of the operation of regulation 34(1)(b) is that of a builder who constructs a building with the view to selling the freehold. The sale of a newly constructed commercial building is taxed at the standard rate. So the builder would be credited with input tax under regulation 30 during the period of construction. But then suppose that the builder changes his mind, and grants a lease of the building instead of selling the freehold. The grant of a lease is normally exempt. The Commissioners would be entitled to claw back the input tax since the builder would have used the inward supply in making an exempt supply before making the intended taxable supply (the sale of the freehold). The claw back procedure would have been triggered by the changed use (or appropriation for use) from intended taxable supply to actual exempt supply: see Customs & Excise Commissioners v. Briararch Ltd. [1992] S.T.C. 732 and Cooper and Chapman (Builders) Ltd. v. Customs and Excise Commissioners [1993] S.T.C. 1.

Has there then in this case been a use or an appropriation for use of the inward supplies for the making of supplies (including exempt supplies) other than the intended taxable supply? The tribunal found this a difficult question. They said:

"Mr. Lasok's submission [for the Commissioners] does not involve regarding the entry of London Branch into the VAT group as itself being the use or appropriation for use. That plainly would not be correct. It is rather that once that event has occurred it must be taken, since use for making wholly taxable supplies was no longer possible and henceforth there could only be the making of mixed supplies, that there has been an appropriation to the latter use."

Carnwath J. [1996] STC 1000 did not accept the tribunal's reasoning. He drew attention to what he regarded as a non-sequitur in the third sentence quoted above. He was also of the view that the sentence begged the question. The core of his decision is to be found in the following paragraphs, at pp. 1005-1006:

"The regulation applies where the taxable person 'uses or appropriates for use' a supply. It is necessary, therefore, to identify something done by the taxable person in relation to the supplies--some action or decision--which can be characterised, in the ordinary sense of the words, as a 'use or appropriation for use.'

"The tribunal, in my view, rightly took the view that the entry of London Branch into the VAT group in itself did not satisfy the paragraph. That event did not involve London Branch or Svenska doing anything in relation to the supplies. However the next sentence in its decision . . . seems to me, with respect, a non sequitur. It is true that once that event had occurred, the making of wholly taxable supplies between Svenska and London Branch was no longer possible, and that the only supplies would be supplies outside the group. But that was simply by operation of law, following the incorporation of London Branch in the group. It did not in itself involve Svenska doing anything in relation to the supplies.

"Mr. Pleming's formulation faces similar difficulties. He has to start from the proposition that it is permissible, in the artificial world created by the Act, to treat the supplies as notionally 'accumulated,' so that there is still something left to use or appropriate in 1991. That in itself creates difficulties. The inward supplies to Svenska were (as the tribunal accepted) . . . consumed or used at once in making the onward supplies to London Branch. Regulation 23 required the outward supplies to be treated as intended, rather than actual, supplies, until an invoice was issued. But there appears to be nothing in regulation 23, or anywhere else in the statutory scheme, which required the inward supplies to be notionally 'accumulated' until the outward supplies had become taxable. They were simply 'provisionally attributed.'

"However, even accepting that first step, Mr. Pleming fails to point to anything done by Svenska which could be regarded as a use or appropriation. To assert that they 'could only' be used for banking services begs the question whether they needed to be used at all. In the real world they had been fully used already, and Svenska had no need to re-use them. Even if Svenska was to be regarded as notionally 'accumulating' them for tax purposes, it does not follow that it was to be notionally treated as using them at any particular time or at all. That argument would have to be supported by the effect of some additional 'deeming' provision--expressed or implied--to be found in the legislation. No such provision has been identified."

(Mr. Milne pointed out that it is not strictly correct that a wholly taxable supply between Svenska and London Branch was no longer possible once London Branch had joined the VAT group; for London Branch might have left the group again before the invoice was submitted. But in his printed case he rightly describes this argument as a "quibble", and I say no more about it.)

In the Court of Appeal [1997] S.T.C. 958 Aldous L.J., who gave the only judgment, held at p. 964 that Carnwath J. had been wrong to concentrate on regulation 34. He should have construed regulation 34 "as part of the accounting provisions needed for orderly payment of VAT" His reasoning is contained in the following paragraphs, at p. 965:

"In essence the change to group status altered the way that VAT had to be accounted for with the result that the supplies were considered as used or appropriated for use in making supplies that were in part exempt.

For my part I believe that Carnwath J. was wrong to look solely for an act done by Svenska which could be regarded as a use or an appropriation for use. Regulation 34 has to be construed in the light of the whole scheme, starting with regulation 23 dealing with when continuous supplies are to be treated as being made, to section 29 which treats what were separate entities as one taxable group. Once that is done it becomes apparent that a change in use can be caused by the change of accounting provisions brought in by the change to group status."

I feel bound to say that I find this reasoning unconvincing on much the same grounds that Carnwath J. found the reasoning of the tribunal unconvincing. Aldous L.J. does not suggest that the change to group status should itself be regarded as the changed use for the purposes of regulation 34--a suggestion which was rejected by the tribunal as being plainly incorrect. But he says that the changed group status brought about a change in accounting procedure which in turn resulted in a change of use. In other words, the change to group status created a change of use at one remove. I find this confusing. In the real world the services supplied by Svenska were used at once, when a member of the staff supplied by Svenska for the purpose of carrying on London Branch's business picked up the telephone or turned on the light. It is only if one assumes a need to use (or re-use) the services after London Branch joined the VAT that any question of change of use arises. But I see no reason to make that assumption, and there is certainly nothing in regulation 34(1)(b) which requires one to make that assumption.

I accept, of course, that the time of supply rule in relation to the supply of continuous services requires one to depart from the real world and enter the make-believe world of VAT But I am only willing to depart from the real world to the extent that I am compelled by the terms of regulation 23(1)(b) and regulation 34(1)(b). This brings me back to the language of regulation 34. It requires the Commissioners to show that Svenska used the services in making an exempt or partially exempt supply. If all that they can show is that Svenska should be treated as having used the services in making an exempt or partially exempt supply because of the changed group status, then the Commissioners fail, since it is not what regulation 34 provides. The orderly payment of VAT, to which Aldous L.J. refers, is a desirable objective. But it cannot require us to put a construction on regulation 34 in favour of the Commissioners which the language cannot bear.

Mr. Pleming argued that if, by reason of regulation 23, the inward supplies were not used for the purpose of making taxable supplies between 1987 and 1991, then they must have been used thereafter. They could not simply "disappear into limbo." They must therefore have "accumulated" over the years, and then been used by Svenska as the representative member of the group, by making outward supplies, some of which would no doubt have been exempt. I find some difficulty with this argument, since it depends for its efficacy on Svenska being the representative member of the group. I am not sure how it would have applied if London Branch had been the representative member.

But there is a more formidable objection. I can find nothing in the Act of 1982, or in the Sixth Council Directive of 17 May 1977 (77/388/E.E.C.), which is abhorrent to the idea of intended taxable supplies falling into limbo. Indeed recent European case law seems to support the opposite view. In Belgium v. Ghent Coal Terminal N.V. (Case C-37/95) [1998] S.T.C. 260 the taxpayer purchased land in the harbour area of Ghent. It carried out works on the site between 1981 and 1983 in respect of which it deducted input tax pursuant to article 17(1) of the Sixth Directive, corresponding to regulation 30. In March 1983 the taxpayer was required by the city council to exchange the land for other land. The question was whether the input tax could be recovered under article 20(1) corresponding to regulation 34. The court held not. At p. 273, paragraph 24 we find:

"The answer to the question submitted must therefore be that article 17 of the Sixth Directive must be construed as allowing a taxable person acting as such to deduct the VAT payable by him on goods or services supplied to him for the purpose of investment work intended to be used in connection with taxable transactions. The right to deduct remains acquired where, by reason of circumstances beyond his control, the taxable person has never made use of those goods or services for the purpose of carrying out taxable transactions. A supply of investment goods during the adjustment period, where such occurs, may give rise to an adjustment of the deduction under the conditions set out in article 20(3) of the Sixth Directive."

It is significant that the adjustment mentioned in the last sentence is an adjustment under article 20(3) (which is irrelevant in the present case), and not an adjustment under article 20(1).

The facts are, of course, a long way from the facts of the present case. But the decision serves to undermine Mr. Pleming's argument that the inward supplies could not simply disappear into limbo. This is exactly what happened in the Ghent case. The right to deduct remained. There was no compelling need to find some other taxable outward supply. It also supports Carnwath J.'s view that the change of use must be brought about by some conduct on the part of the taxpayer, and that a change in the law whereby Svenska and London Branch became members of the same group is not enough.

Another recent case which might be thought to support the appellant is the recent decision of the House in Customs and Excise Commissioners v. Thorn Materials Supply Ltd. [1998] STC 725. In that case there was a supply of goods between two parties at a time when they had ceased to be members of the same VAT group. Prima facie the time of supply under section 4(2) was the time of delivery. But the seller had issued a tax invoice prior to delivery. So under section 5(1) the supply was to be treated as having taken place not at the date of delivery but at the date of the invoice. However at the date when the invoice was issued the parties were members of the same VAT group. So the deemed supply had to be disregarded under section 29(1) of the Act, and tax became chargeable on the actual supply. The facts of the present case are the other way round. The deemed supply took place after, not before, the actual supply. It could, I should have thought, have been argued that just as the deemed supply in Thorn fell to be disregarded, leaving the actual supply in place, so here the deemed supply by Svenska to London Branch on 26 June 1992 fell to be disregarded, leaving the actual supplies between 1987 and 1991 in place. Mr. Milne was not attracted by this argument (I do not know where it would have led him), and Mr. Pleming regarded it as heretical. So I say no more about it.

I would decide the case on the same grounds as Carnwath J. I would therefore allow the appeal and restore his judgment.

LORD HOPE OF CRAIGHEAD

My Lords,

I have had the advantage of reading in draft the speech which has been prepared by my noble and learned friend Lord Hutton. For the reasons which he has given I too would dismiss this appeal.

I was at first impressed by the argument which Mr. Milne Q.C. advanced for Svenska that regulation 34(1)(b) of the Value Added Tax (General) Regulations 1985 directs attention to the actual physical use of the intended taxable supply to which regulation 34(1)(a) refers and to its appropriation for use in the real world and that, as the supplies in respect of which Svenska had been credited with input tax were used immediately upon their receipt by London Branch, there could be no question of their being treated as having been used again later when London Branch joined the VAT group. This was the approach which was adopted by Carnwath J. when he allowed Svenska<.'>s appeal against the decision of the Value Added Tax Tribunal. He said that there was nothing in regulation 23 which required the inward supplies which Svenska made to London Branch to be notionally accumulated until the outward supplies became taxable and that, as in the real world they had been fully used already before London Branch was included in the VAT group, the Commissioners<.'> claim could not be brought within the language of the statute. But I was in the end persuaded by Mr. Pleming Q.C. for the Commissioners that this approach is unsound, that the statutory scheme as a whole requires one to depart from the real world when applying it to the facts of this case and that the Court of Appeal were right to restore the order which the tribunal made upholding the assessments.

In order to apply the statutory scheme to the facts of this case it is necessary to read regulation 34(1)(a) together with regulation 23 which lays down the rules which must be applied in the tax treatment of continuous supplies of services, and it is necessary to read both regulation 34(1)(a) and regulation 34(1)(b) together with section 29 of the Value Added Tax Act 1983 which deals with the approach which must be taken where bodies corporate are treated as members of a group. If this is done the following are the results which are to be drawn from the exercise.

The first point is that the words "intended taxable supply" in regulation 34(1)(a) must be taken to refer to the time when, according to regulation 23(1), the continuous supplies of services which enabled Svenska to obtain credit against them for input tax are to be treated as having been supplied. Regulation 23(1) provides that supplies of this kind are to be treated as separately and successively supplied at the earlier of the time when a payment in respect of the services is received and the time when the supplier issues a tax invoice relating to the supplies. Neither of these events had yet occurred by the time when London Branch were brought into the VAT group with Svenska. So these supplies must on that date be treated as having not yet been supplied by Svenska for any of the purposes of value added tax.

It was submitted by Mr. Milne that the services which Svenska supplied to London Branch were taxable supplies when they were made within the meaning of section 2(1) of the Act, and that what regulation 23 was concerned with was the time of the supply not whether the supplies were taxable. He said that the fact that they were taxable supplies was not to be confused with the point of time at which the value added tax became chargeable. But we are concerned in this case with the question whether an adjustment falls to be made under regulation 34 to the credits which Svenska received by way of input tax. Section 14 of the Act allows a taxable person to take credit for his allowable input tax and to deduct that amount from any output tax which is due from him on the taxable supplies which he makes. Regulation 34(1)(a) assumes that the amount of input tax which has been credited has been attributed to supplies which will attract value added tax because they are taxable. What it is designed to do is to apply the regulation to what it describes as "an intended taxable supply". In order to apply this phrase to the facts it is necessary to identify the time at which the supply was intended to become taxable. It seems to me that regulation 34(1)(a) requires one to depart from the real world, or from "real time" as Mr. Pleming put it, because it is to the statutory rules that one must look in order to discover when the supply would be expected, as at the date when the input tax was credited, to attract value added tax.

The second point is that the effect of the group registration was that, as from 1 August 1991, the words "taxable person" in regulation 34(1)(a) and "he" in regulation 34(1)(b) must be read as meaning Svenska as the representative member of the group and not Svenska carrying on business on its own as a separate company. This is because section 29(1) of the Act states that, where any bodies are treated as members of a group, any business carried on by a member of the group shall be treated as carried on by the representative member. Svenska brought with it into the group registration the amounts which had been credited to it as input tax which had been attributed to supplies which were not yet treated as taxable, and London Branch brought into the group the value of the continuous supply of services for which it had not yet paid and not yet been issued with a tax invoice.

The question raised by regulation 34(1)(b) as to whether, after the group registration, these supplies were used or appropriated for use in making an exempt supply must be answered by applying the rule which section 29(1) lays down, that any business carried on by any member of the group must be treated as carried on by the representative member. For the purposes of this exercise the business carried on by London Branch must be treated as carried on by Svenska as the representative member. As that business involved the making of exempt supplies outside the group to customers of London Branch, Svenska as the representative member must be treated as having used at least part of the supplies which were attributed to an intended taxable supply for the purpose of obtaining credits of input tax in making exempt supplies. So the requirements of regulation 34(1) are satisfied, with the result that regulation 34(2) under which the assessments were made becomes applicable.

I think that the tribunal put the point correctly when they said that this reconstruction of the transactions for VAT purposes, so that inward supplies from outside actually made to Svenska may be looked at with regard to the outward supplies actually made by London Branch, follows from the effect of section 29. As Aldous L.J. said at [1997] S.T.C. 958, 965A, the change to group status altered the way that VAT had to be accounted for with the result that the supplies were considered as used or appropriated for use in making supplies that were in part exempt. This conclusion is not easy to grasp if regard is had to what was happening in the real world. But the statutory scheme does not always follow the real world. The guiding principle as to relief for input tax as against output tax is that of fiscal neutrality: Rompelman v. Minister van Financien (Case 268/83) [1985] ECR 655, 664 paragraph 19 of the judgment. It is satisfactory to find that the various statutory rules which must be applied in this case have produced a result which is consistent with that principle.

LORD CLYDE

My Lords,

I have the advantage of reading in draft the speech prepared by my noble and learned friend Lord Hutton, and for the reasons which he gives I too would dismiss this appeal.

LORD HUTTON

My Lords,

Svenska International Plc. (Svenska) is a United Kingdom subsidiary of a Swedish Bank, Svenska Handelsbanken. In December 1987 Svenska Handelsbanken established a branch in London ("the London Branch"). It was agreed that Svenska would provide all management services to the London Branch for a charge. Svenska in turn contracted with outside suppliers for all goods and services. The services provided included staff, use of shared premises, office services, telecommunications, electricity, legal and accounting services. The agreement made between Svenska and the London Branch in or about December 1987 was later recorded in a letter between the parties dated 1 February 1991, under the terms of which the amount to be paid by the London Branch for the services provided by Svenska was to be calculated on the basis that the total costs incurred by Svenska would be shared between the parties in proportion to the value of the banking and related business undertaken by each party.

Svenska was registered for VAT at all material times. The London Branch was not registered for VAT when it was established. In 1988 and 1989 the London Branch, with the support of Svenska, applied to become part of the same VAT group as Svenska, so that it and Svenska would become a single entity for VAT purposes. However until 1991 it was not possible as a matter of law for a branch of a foreign company to join a VAT group unless it was resident in the United Kingdom. Therefore between 1987 and 1991 Svenska and the London Branch remained separate entities for VAT purposes. On 8 July 1991, following a change in the law announced in the 1991 Budget and introduced by the Finance Act 1991, the London Branch became eligible to form a group with Svenska. By a letter dated 2 October 1991 the Commissioners of Customs and Excise ("the Commissioners") confirmed that the London Branch would be included in a VAT group with Svenska with effect from 1 August 1991 and that Svenska would be the representative member of the group.

Throughout the period between 1987 and 1 August 1991 pursuant to the agreement between them Svenska provided management services to the London Branch. It is common ground between the parties that regulation 23 of the Value Added Tax (General) Regulations 1985 ("the 1985 Regulations") applied to these services. Regulation 23(1) provides:

"Subject to paragraph (2) below, where services are supplied for a period for a consideration the whole or part of which is determined or payable periodically or from time to time, they shall be treated as separately and successively supplied at the earlier of the following times--

a

b

Svenska did not issue an invoice for the services it provided to London Branch and London Branch did not make any payment for those services until 26 June 1992, when Svenska issued an invoice to the London Branch in respect of all costs and management services for the period up to 31 December 1991 totalling £45,330,000.

Svenska incurred input tax on inward supplies which were intended to form part of a taxable supply of services by it to London Branch. Regulation 30(1) of the 1985 Regulations provides:

"Subject to paragraphs (2), (3), (4) and (5) of this regulation [and regulation 30B], the amount of input tax to be provisionally attributed to taxable supplies by a taxable person shall be determined in any prescribed accounting period by the following method:

a

b

Therefore from 1 June 1987 to 30 March 1990 Svenska recovered in full the input tax attributable to the taxable supplies it intended to make to the London Branch. In October 1991 the Commissioners issued two notices of assessment to claim back all the input tax which Svenska had claimed up to 30 June 1991. Following certain revisions, two assessments remained, one dated 5 January 1993 in the sum of £20,392 and the other, dated 27 July 1993, in the sum of £791,202. Svenska appealed against the two assessments to the Value Added Tax Tribunal ("the Tribunal") which dismissed its appeal. Svenska appealed to the High Court and Carnwath J. allowed the appeal. The Commissioners then appealed to the Court of Appeal which allowed their appeal.

The issue debated in the successive appeals was whether Svenska was obliged to repay to the Commissioners a proportion of the input tax which had been credited to it and, in particular, whether after 1 August 1991, Svenska had "used or appropriated for use" the supplies received by it in making an exempt supplies. Regulation 34 of the 1985 Regulations provides:

a

b

(2) Save as the Commissioners otherwise allow, where this regulation applies the taxable person shall on the return next following the date on which the use or appropriation for use occurs account for such proportion of the input tax credited as is attributable to the exempt supply or other activity in accordance with the method which he was required to use when the input tax was credited, and he shall repay the said proportion of input tax to the Commissioners."

Section 29 of the Value Added Tax Act 1983 provides:

"(1) Where, under the following provisions of this section, any bodies corporate are treated as members of a group any business carried on by a member of the group shall be treated as carried on by the representative member, and--

a

b

c

and all members of the group shall be liable jointly and severally for any tax due from the representative member."

The principal argument advanced by the Commissioners was that services supplied by London Branch to third parties (which included exempt services) were, pursuant to section 29, to be regarded as supplied by Svenska so that Svenska had used the supplies to it to make exempt supplies and accordingly regulation 34(1)(b) applied.

This argument was accepted by the Tribunal, rejected by Carnwath J., and accepted by the Court of Appeal. In the High Court Carnwath J. stated [1996] STC 1000, 1005E:

"The regulation applies where the taxable person 'uses or appropriates for use' a supply. It is necessary therefore, to identify something done by the taxable person in relation to the supplies--some action or decision--which can be characterised, in the ordinary sense of the words, as a 'use or appropriation for use'."

He then said at p. 1005J that counsel for the Commissioners:

". . . fails to point to anything done by Svenska which could be regarded as a use or appropriation. To assert that they 'could only' be used for banking services begs the question whether they needed to be used at all. In the real world they had been fully used already, and Svenska had no need to re-use them. Even if Svenska was to be regarded as notionally 'accumulating' them for tax purposes, it does not follow that it was to be notionally treated as using them at any particular time or at all. That argument would have to be supported by the effect of some additional 'deeming' provision--express or implied--to be found in the legislation. No such provision has been identified."

In the Court of Appeal [1997] S.T.C. 958 Aldous L.J., with whose judgment Auld L.J. and Butler-Sloss L.J. agreed, stated at p. 964G:

"In the present case it is accepted that credit was properly claimed because Svenska intended to make taxable supplies. It is also accepted that those taxable supplies were treated for VAT accounting purposes as not being supplied at the actual time of supply and that, in this case where Svenska was going to supply to the London branch, the actual date of supply for accounting purposes would be the date of invoice or payment. That was the actual intention and therefore the time for payment had not arrived as of 1 August 1991. On 1 August 1991 Svenska and the London branch became a group with the result that a new accounting procedure became necessary. Section 29 provided that a supply by Svenska to the London branch had to be disregarded and any supply by the London branch was treated for VAT purposes as a supply by Svenska. That resulted in this position. Svenska had claimed credit for an intended supply to the London branch which could never take place as supplies between Svenska had to be disregarded. London branch had used the relevant costs to make supplies to third parties and those supplies were for accounting purposes to be treated as made by Svenska. It followed that for VAT accounting purposes the credit had been claimed in respect of an input attributed to an intended supply to the London branch which had never taken place. However Svenska had used or at least appropriated for use the intended supplies to make exempt supplies to third parties. In essence the change to group status altered the way that VAT had to be accounted for with the result that the supplies were considered as used or appropriated for use in making supplies that were in part exempt.

For my part I believe that Carnwath J. was wrong to look solely for an act done by Svenska which could be regarded as a use or an appropriation for use. Regulation 34 has to be construed in the light of the whole scheme, starting with regulation 23 dealing with when continuous supplies are to be treated as being made, to section 29 which treats what were separate entities as one taxable group. Once that is done it becomes apparent that a change in use can be caused by the change of accounting provisions brought in by the change to group status."

Before this House Mr. Milne Q.C. advanced two main submissions on behalf of the appellant, Svenska. One submission was that during the period between 1987 and 1 August 1991 Svenska did in fact instantly use the goods and services supplied to it for the intended purpose of providing the onward services to the London Branch. Therefore when the London Branch joined the VAT group on 1 August 1991 there were no "accumulated services", to use the term employed by the Commissioners, and regulation 34 could not apply, because Svenska had already made "taxable supplies" to the London Branch so that there were no supplies which Svenska could "use or appropriate for use". Mr. Milne submitted that regulation 23(1) did not operate to prevent a court from holding that Svenska had made supplies to the London Branch prior to 1 August 1991 notwithstanding that prior to that date no payment had been received and no tax invoice had been issued, and he contended that the effect of regulation 23(1) was to prevent the time for the tax becoming chargeable occurring until receipt of payment or the issuing of a tax invoice, but the regulation did not alter the fact that a supply of services had taken place before such an event.

In support of this submission Mr. Milne pointed to the wording of Article 10 of the Sixth Council Directive of 17 May 1977 (77/388/E.E.C.):

a

b

However, where a payment is to be made on account before the goods are delivered or the services are performed, the tax shall become chargeable on receipt of the payment and on the amount received.

By way of derogation from the above provisions, Member States may provide that the tax shall become chargeable, for certain transactions or for certain categories of taxable person, either: -- no later than the issue of the invoice or of the document serving as invoice, or -- no later than receipt of the price, or -- where an invoice or document serving as invoice is not issued, or is issued late, within a specified period from the date of the chargeable event."

Mr. Milne submitted that Article 10 drew a distinction between the "chargeable event" and the tax becoming "chargeable", and that regulation 23(1) related to the time when the tax became "chargeable" and not to the "chargeable event," so that the regulation did not prevent the services in fact supplied by Svenska to London Branch prior to 1 August 1991 being taxable supplies.

Mr. Milne also referred to the decision of this House in Customs and Excise Commissioners v. Thorn Materials Supplies Ltd. [1998] STC 725, and submitted that it established that when "the time of supply" provisions fixed a supply to take place at a time when the two parties were in a group that "supply" should be ignored, but that it did not follow that the delivery of goods or the supply of services which took place between the parties was not a "taxable supply" chargeable to tax.

My Lords, I am unable to accept those submissions. In my opinion section 5(9) of the Act of 1983 and regulation 23(1) make it clear that where there is a continuous supply of services, no supply shall be treated as having been made until there has been a payment or a tax invoice has been issued.

In Thorn's case two companies, at a time when they were members of the same VAT group, entered into an agreement whereby company A agreed to sell motor cars to company B. Ninety per cent of the price was payable immediately as a prepayment and the balance was payable on delivery. Company B duly made the prepayment and a week later company A ceased to be a member of the VAT group and became separately registered for VAT On a subsequent date company A delivered the motor cars to company B and company B then paid company A the remaining ten per cent of the price. The Commissioners claimed that VAT was payable upon the whole of the value of the goods, that was upon the whole of the purchase price, whereas the companies contended that VAT was payable only in respect of ten per cent. of the purchase price. Section 4 of the 1983 Act provides:

"(1) The provisions of this section and section 5 below shall apply for determining the time when a supply of goods or services is to be treated as taking place for the purposes of the charge to tax.

(2) Subject to the provisions of section 5 below, a supply of goods shall be treated as taking place--

a

b

Section 5(1) provides:

a

b

The companies argued that the prepayments fell within the terms of section 5(1) and therefore to the extent of the prepayments of ninety per cent the supplies were to be treated as taking place at the time when the payments were received. At that time the two companies were members of the same VAT group and therefore pursuant to section 29(1) the supply of goods had to be disregarded to the extent of ninety per cent., and only the balance of ten per cent. was subject to tax. The contrary argument of the Commissioners was that as the two companies were members of the same group on the date of prepayment the supply between them arising by reason of the prepayment pursuant to section 5(1) had to be disregarded pursuant to section 29(1)(a). Therefore there was no supply under section 5(1) and the only relevant supply which took place for VAT purposes was pursuant to section 4(2)(b) when the cars were delivered to the purchaser at a time when the group relationship no longer existed and therefore tax was payable on the basis that the value of the supply was the full value of the consideration.

In rejecting the argument of the companies Lord Nolan (with whose judgment Lord Browne-Wilkinson and Lord Lloyd of Berwick agreed) stated at p. 733D:

"When Materials and Resources left the Thorn EMI Plc. group they emerged into the VAT world as separate taxable persons, each carrying on its own business for VAT purposes. The delivery of the goods by them to Home undoubtedly constituted a transfer of the whole property in the goods in the course of business. It constituted a supply of the goods within the meaning of para 1(1) of Sch. 2, taxable under section 10(2) upon the amount of the consideration whether already paid or still payable. The appellants' objection that this approach disregards the fact that, to the extent of 90 per cent., the supply was to be treated as having taken place when the advance payment was made must fail because this disregard is precisely what s 29(1) requires. It follows that, in my judgement, the whole value of the supplies in question falls fairly and squarely within the charging provisions of the 1983 Act according to the normal principles of construction which should be applied to a taxing statute."

In my opinion Svenska cannot derive assistance from that decision. In Thorn section 29(1) required the supply which was to be treated as taking place at the time of the payment of ninety per cent. of the price to be disregarded. Therefore there was a supply which took place in the normal way at the time of delivery of the motor cars pursuant to section (4)(2)(b). But in the present case Svenska cannot argue that as after 1 August 1991 the supplies provided by it to the London Branch are to be disregarded pursuant to section 29(1) because they were members of the same group, the consequence must be that the "actual supplies" provided by Svenska to the London Branch prior to 1 August 1991 can be regarded as supplies for VAT purposes. The reason why Svenska cannot advance this as a valid argument is because the effect of regulation 23(1) is that those "actual supplies" cannot be treated as supplies for VAT purposes. In short, the distinction between the present case and Thorn is that in the latter the Act and the 1985 Regulations permitted the delivery of the motor cars to be treated as a supply, whereas in the present case regulation 23(1) prohibits the "actual supplies" provided by Svenska to London Branch between 1987 and 1 August 1991 being treated as supplies because prior to the latter date no payment had been received and no tax invoice had been issued. Accordingly the present case has to be approached on the basis that, no matter that in fact Svenska supplied services to London Branch prior to 1 August 1991, as a matter of the law governing VAT no supplies were made during the period 1987 to 1 August 1991.

I am also of opinion that Svenska cannot derive assistance from the judgment of the European Court of Justice in Belgium v. Ghent Coal Terminal N.V. [1998] S.T.C. 260. Svenska submits that that case confirms that the right to deduct input tax, once acquired, cannot be retrospectively withdrawn because it becomes impossible to make the taxable supply as originally intended, provided that the inward supplies are not actually used to make exempt supplies. But I consider that the Ghent case is distinguishable from the present case because it related to circumstances where the taxable person could not make the intended supply because of circumstances outside its control. Ghent Coal deducted VAT paid on the goods and services supplied for investment work carried out for the development of land which was not, in the final event, used for the purpose initially envisaged because the municipal authorities of Ghent required Ghent Coal to exchange the land for other land belonging to the town.

The opinion of the Advocate General, at p. 262, para. 5 stated that it was common ground between the parties that:

". . .'the invested goods had been in the normal course of events intended for use in taxable transactions, that the exchange had not been foreseen or planned in advance by the respondent, and that it could not have been avoided by the respondent in the normal course of its business and even constituted economic force majeure for it'."

And in the conclusion of his opinion the Advocate General stated at p. 270, para. 67:

"I therefore propose that the Court of Justice should answer the question referred by the Hof van Cassatie as follows:

"Article 17(2) of the Sixth Directive allows an undertaking to deduct the VAT paid in connection with the acquisition of goods and the receipt of services corresponding to investment works originally intended to be used in its business activity but which, for reasons beyond its control, were never in fact put to use by the undertaking. The adjustment of those deductions must be effected as provided for in article 20 of that Directive."

The court stated at p. 273:

22. However, when circumstances beyond the control of the taxable person have prevented him from using the goods or services giving rise to deduction for the needs of his taxable transactions, there is no risk of fraud or abuse capable of justifying subsequent repayment.

23. Finally, it must be pointed out that a supply of investment goods during the adjustment period, such as occurred in the main proceedings in this case, may give rise to an adjustment of the deduction under the conditions set out in art 20(3) of the Sixth Directive.

24. The answer to the question submitted must therefore be that art 17 of the Sixth Directive must be construed as allowing a taxable person acting as such to deduct the VAT payable by him on goods or services supplied to him for the purpose of investment work intended to be used in connection with taxable transactions. The right to deduct remains acquired where, by reason of circumstances beyond his control, the taxable person has never made use of those goods or services for the purpose of carrying out taxable transactions. A supply of investment goods during the adjustment period, where such occurs, may give rise to an adjustment of the deduction under the conditions set out in art 20(3) of the Sixth Directive."

But in the present case the bringing of London Branch into the group was not by reason of circumstances beyond the control of Svenska but was made with the concurrence of Svenska.

Mr. Milne's second main submission was that, as Carnwath J. had held, the Commissioners had failed to point to anything done by Svenska which could be regarded as a use or appropriation by it. In my opinion Mr. Pleming Q.C., for the Commissioners, succeeded by reliance on the provisions of the Act of 1983 and the 1985 Regulations in demonstrating that under VAT law there had been a use by Svenska, within the meaning of regulation of 34(1)(b), of supplies received by it in making exempt supplies. The Commissioners' argument consists of the following propositions. Svenska received supplies which were attributable to an intended taxable supply by it to the London Branch. These supplies received by Svenska could not be treated as supplied by it to the London Branch prior to 1 August 1991 because prior to that date neither a payment was received nor a tax invoice was issued. After 1 August these services were to be treated as used in supplying services (some of which were exempt) to the customers of the London Branch. But the London Branch was then a member of the VAT group of which Svenska was the representative member and accordingly, pursuant to section 29(1), those services to third parties were to be treated as a supply by Svenska. Therefore the services received by Svenska between 1987 and 1 August 1991 were to be treated as used by Svenska after 1 August 1991 in making supplies which were, in part, exempt.

In my opinion the Commissioners' argument is valid. It is based upon artificial concepts, but the Act of 1983 and the 1985 Regulations require tribunals and courts to apply artificial concepts. The requirement under regulation 23(1) in relation to continuous supplies of services that services which, in the real world of commerce, have actually been supplied to, and already used by, another person are not to be treated as supplied until a payment has been received or a tax invoice has been issued gives support to the view that such supplies can be deemed to be used at a time subsequent to their "actual" use and gives weight to Mr Pleming's submission that such supplies do not simply "disappear into limbo." In the circumstances of the present case I consider, artificial though the concept is, that the effect of section 29 and of Regulations 23(1) and 34(1) when read together is that the supplies received by Svenska, for which it received credit, were used or appropriated for use by it in making partly exempt supplies to the customers of the London Branch after 1 August 1991.

Carnwath J.'s decision was largely based on his opinion that there must be some action or decision by the taxable person which can be characterised as a "use or appropriation for use" and that the Commissioners had failed to point to anything done by Svenska which could be regarded as a use or appropriation. But I consider that the judgment of Aldous L.J. was correct and that after 1 August 1991, by virtue of section 29 and Regulation 23(1), the partly exempt services supplied by the London Branch to its customers were to be treated as supplied by Svenska so that there was a use or appropriation for use by it of the inward supplies which it had received.

Accordingly for the reasons which I have given I would dismiss this appeal.