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Church of England Children's Society v Customs and Excise [2004] UK V18633 (08 June 2004)

VALUE ADDED TAX – input tax – Appellant paid tax on supplies to it of fund-raising services and relating to the production and distribution of a newsletter – newsletter provided by the Appellant to committed givers who agreed to make regular payments (called donations) to the Appellant –whether the provision by the Appellant of the newsletter to the committed givers was a supply, that is, whether it was done for a consideration –no – agreed that the provision by the Appellant of the newsletter to the committed givers was to be treated as a supply because it was a transfer or disposal of the assets of the business even though there was no consideration – whether that means that the Appellant can recover all the input tax on the supply to it of the fund-raising services –no - and in relation to the production and distribution of the newsletter- yes - appeal allowed in part – VATA 1994 Ss 24-26 and Sch 4 para 5(1), 5(2) and (5)

LONDON TRIBUNAL CENTRE

THE CHURCH OF ENGLAND CHILDREN'S SOCIETY

Appellant

- and -

THE COMMISSIONERS OF CUSTOMS AND EXCISE

Respondents

Tribunal: DR NUALA BRICE (Chairman)

MR L G WILKINSON FCIB

Sitting in public in London on 27 and 28 April 2004

Michael Sherry of Counsel, with Louise Rippon of Counsel, instructed by Messrs Saffery Champness, Chartered Accountants, for the Appellant

Kenneth Parker QC with Paul Harris of Counsel, instructed by the Solicitor for the Customs and Excise, for the Respondents

© CROWN COPYRIGHT 2004

DECISION

The appeal

The Church of England Children's Society (the Appellant) appeals against a decision of Customs and Excise dated 14 October 2002. The decision was to refuse to allow input tax credit in the sum of £253,500.56 claimed by the Appellant in its June 2002 return. The sum was tax on the supply to the Appellant of fund-raising services and goods and services relating to the production and distribution of a newsletter. The newsletter was provided by the Appellant to committed givers who agreed to make regular payments (called donations) to the Appellant.

The input tax was dis-allowed because Customs and Excise were of the view that the provision of the newsletters by the Appellant to the committed givers was not a supply because it was not made for a consideration. The Appellant appealed because it was of the view that the provision of the newsletters was made for a consideration and so was a supply. Alternatively, the Appellant argued that, even if there were no consideration, the provision of the newsletters was to be treated as a supply because it was the transfer or disposal of assets of the business.

We were informed that this was a test case and that other appeals had been stood over pending the decision in this appeal.

The legislation

Section 24(1) of the Value Added Tax Act 1994 (the 1994 Act) defines input tax as tax on the supply to a taxable person of any goods or services being goods or services used or to be used by him for the purpose of any business carried on or to be carried on by him. Thus input tax may only be claimed on supplies which are used by a taxable person for business purposes. Business purposes include the making of both taxable and exempt supplies but not activities which are outside the scope of the tax. Section 24(5) provides that where goods or services supplied to a taxable person are used partly for the purposes of his business and party for other purposes the tax on such supplies is to be apportioned so that only so much as is referable to his business purposes is counted as his input tax.

Section 25(2) provides that a taxable person is entitled to credit for so much of his input tax as is allowable under section 26. Section 26 provides that the amount of input tax to which a taxable person is entitled to credit is that attributable to his taxable (and not to his exempt) supplies. The normal method of attributing input tax between taxable and exempt supplies is set out in Regulation 101 of the Value Added Tax Regulations 1995 SI 1995 No. 2518. This provides that there shall be attributed to taxable supplies the whole of the input tax on goods or services used exclusively in making those supplies. It also provides that no part of the input tax on goods or services used exclusively in making exempt supplies shall be attributed to taxable supplies. Finally, it provides that where goods or services are used to make both taxable and exempt supplies a proportion is attributed to taxable supplies. This is referred to as residual input tax and the proportion is the ratio which the value of taxable supplies bears to the value of total supplies.

Thus the result of sections 24, 25 and 26 of the 1994 Act is that a taxable person is entitled to credit for so much of his input tax as is attributable to his taxable supplies. There was no dispute that if, in this appeal, there were a supply of the newsletters, that would be a taxable (zero-rated) supply under the provisions of section 30 and Group 3 of Schedule 8 of the 1994 Act. However, the issue was whether there was any supply (actual or deemed) at all.

Section 5 of the 1994 Act defines the meaning of supply. Section 5(2)(a) provides:

"5(2)(a) Subject to any provision made by that Schedule [4] … -

(a) "supply" in this Act includes all forms of supply, but not anything done otherwise than for a consideration … ."

Thus the normal rule is that anything done otherwise than for a consideration is not a supply at all.

However, there are occasions when things done otherwise than for a consideration are supplies. (Such supplies were referred to at the hearing as "deemed" supplies.) Section 5(1) provides that Schedule 4 shall apply for determining what is, or is not, to be treated as a supply of goods or a supply of services. At the relevant time the relevant parts of paragraph 5 of Schedule 4 provided:

"5(1) Subject to sub-paragraph (2) below, where goods forming part of the assets of the business are transferred or disposed of by or under the direction of the person carrying on the business so as no longer to form part of those assets, whether or not for a consideration, that is a supply by him of goods.

(2) Sub-paragraph (1) above does not apply where the transfer or disposal is-

(a) a gift of goods made in the course or furtherance of the business (otherwise than as one forming part of a series or succession of gifts made to the same person from time to time) where the cost to the donor of acquiring or, as the case may be, producing the goods was not more than £50; …

(5) Neither sub-paragraph (1) … shall require anything which a person carrying on a business does otherwise than for a consideration in relation to any goods to be treated as a supply except in a case where that person … is a person who (disregarding this paragraph) has or will become entitled-

(a) under sections 25 and 26 to credit for the whole or any part of the VAT on the supply ….".

Thus, where goods forming part of the assets of the business are transferred otherwise than for a consideration, that is a supply unless it is a small gift as defined by paragraph 5(2) or unless the transferor was not entitled to some input tax credit in respect of the supply as provided by paragraph 5(5).

The issues

The Appellant's main argument was that it made supplies of the newsletters for consideration to the committed givers. The Appellant's alternative argument was that, if the provision of the newsletters to the committed givers was done otherwise than for a consideration, then it came within paragraph 5(1) of Schedule 4 because goods forming part of the assets of the Appellant's business had been disposed of so as no longer to form part of those assets. Even though there was no consideration that was deemed to be a supply. As it was agreed that, if there were a supply, then it was a taxable supply then, whether there was an actual or a deemed supply, the Appellant argued that it was entitled under sections 25 and 26 to input tax credit in respect of all the supplies to it of the fund-raising services and of the goods and services relating to the production and distribution of the newsletter.

Customs and Excise's main argument was that the Appellant did not make supplies of the newsletters to the committed givers because the newsletters were not provided for any consideration within the meaning of section 5(2)(a). As far as the deemed supplies were concerned, Customs and Excise developed their arguments at the hearing. They then accepted that paragraph 5(1) applied in this appeal. They also accepted that, under the law as it existed at the date of the assessment, paragraph 5(1) was not dis-applied by paragraph 5(2)(a) because of the words in parenthesis in that sub-paragraph. They also accepted that paragraph 5(5)(a) was engaged. However they argued that that did not mean that the Appellant could recover as input tax all the tax on the supplies to it of the fund-raising services and the goods and services relating to the production and distribution of the newsletters. Their argument was that the Appellant could not recover any of the tax on the supplies to it of the fund-raising services and could only treat the tax on the supplies to it relating to the production and distribution of the newsletters as residual input tax.

Thus the issues for determination in the appeal were:

(1) whether the provision by the Appellant of the newsletters to the committed givers was done for consideration and so was a supply within the meaning of section 5(2)(a); if not

(2) whether, (because it was agreed that the provision by the Appellant of the newsletters to the committed givers was a deemed supply under paragraph 5 of Schedule 4) the Appellant could recover all the tax on the supply to the Appellant of the fund-raising services and goods and services relating to the production and distribution of the newsletter (as argued by the Appellant) or whether the Appellant could not recover any of the tax on the supplies to it of the fund-raising services and could only treat the tax on the supplies to it relating to the production and distribution of the newsletters as residual input tax (as argued by Customs and Excise).

The evidence

Oral evidence was given on behalf of the Appellant by Mr Charles William Joseph Nall, the Finance and Administration Director of the Appellant. A witness statement by Mr Stephen Lawrence Blunden, the previous Fundraising and Communications Director of the Appellant, containing evidence on behalf of the Appellant, was served under Rule 21 of the Value Added Tax Tribunals Rules 1986 SI 1986 No. 590 and was not objected to by the Respondents. It was therefore admissible in evidence at the hearing under Rule 21(5). A bundle of original documents was also produced together with a bundle of copies of those documents.

The facts

From the evidence before us we find the following facts.

The Appellant

The Appellant is a company limited by guarantee and not having a share capital. Its memorandum of association describes its main object as being "to care for and support children and young persons in need, whether material, physical, mental, emotional or spiritual, and to promote their physical, mental, emotional and spiritual development (whether through their families, community or otherwise howsoever) in accordance with the principles of the Church of England". Children and young persons are defined as persons up to the age of twenty-five years. In furtherance of these objects the Appellant has powers to provide residential and day care establishments and social work support for children and young persons; to place children and young persons with adopters or in suitable homes with foster parents; and to establish and maintain schools and institutions for the education and training of children and young persons.

The Appellant is also a charity and is registered for value added tax. The Appellants' Annual Review for the year ending in March 2002 indicated that its total income for that year was £35,892,000 of which £26,701,000 was income derived from fund-raising. Most of the fund-raising income came from legacies and donations with some coming from fund-raising events (including fun runs, treks and pilgrimages); some from other activities; and some from shops. Of the total income which was not fund-raising income most came from fees and grants from local authorities and central government. Of this about £9M is paid by local authorities and central government to the Appellant under contracts to provide welfare services.

The Appellant's financial statements for 2001/2002 listed its income under the two heads of "voluntary income sources" and "incoming resources from operating activities". The "voluntary income sources" included legacies, donations, collecting boxes and parish giving. The income from the committed givers was included with donations. The "incoming resources from operating activities" included income from welfare services supplied to local authorities and central government, fund-raising events and shops.

For the purposes of value added tax the Appellant carries on business activities and makes both standard-rated supplies (for example, the sale of donated goods in charity shops) and exempt supplies (for example, the provision of welfare services under contract to local authorities and central government and fund-raising events). Under section 26 of the 1994 Act the Appellant is only entitled to credit for input tax attributable to its taxable (and not to its exempt) supplies. Before the establishment of the committed givers club the Appellant treated the value added tax it paid on supplies connected with its newsletters as residual input tax.

The committed givers club

In June 2001 the Appellant reviewed the progress of its direct giving campaign and was advised that there would benefits in offering a membership scheme with a minimum monthly subscription. The provision of zero-rated benefits to committed givers in return for their commitment was suggested as it was an opportunity to recover value added tax on the fund-raising costs. The intention was that scheme members would receive a regular publication produced specifically for them as a direct benefit of their subscription. This would enable the Appellant to recover the input tax on the costs of acquiring the new members. It was proposed that a membership scheme should be introduced with the membership fee set at £5 per month, to be paid by direct debit.

The Appellant employed professional fund raisers to canvass members of the public in the street and to encourage them to make donations. When canvassing donations for the Appellant the fund raisers were told:

"All new supporters contributing £5 per month or more via direct debit will receive exclusive regular newsletters and communications about our work and will automatically join our Committed Givers Club.

Please remember to make reference wherever possible to these benefits, to which committed supporters who pledge the £5 threshold or above become entitled and to point out this information on the supporter's pledge form at sign up."

We did not see a document called a supporter's pledge form but we did see the direct debit form which the committed giver was asked to sign. This began with the words in large type and bold letters: "Thank you for supporting The Children's Society with a gift by Direct Debit". After spaces for the name and address of the committed giver the form continued with a section in large type and bold letters headed "Your Gift"; in this section committed givers could choose to pay monthly "gifts" of £5, £7 or £10 or the equivalent amounts as quarterly or annual "gifts" and were asked to tick the appropriate boxes. This section concluded with the text: "Supporters who contribute £5 or more will receive exclusive regular newsletters and communications about our work and will automatically join our Committed Givers Club". Then appeared spaces for details about the committed giver's bank account followed by space for "Donor signature". At the end of the form appeared a section entitled "How the Children's Society will communicate with you". In this section the following text appeared:

"The Children's Society values your support and promises to respect your privacy. The data we gather and hold is managed in strict accordance with the Data Protection Act (1998). We would like to keep you informed about the vital work we do. If you do NOT want to receive this information please let us know by ticking the box."

Less than 5% of donors ticked this box but if the box were ticked then the newsletters were not sent to that donor. A substantial majority of givers donated exactly £5 per month (and not more or less).

Before a committed giver signed the direct debit form he was told who would benefit from his donation and how the fund raisers were remunerated. This statement indicated that the donation was received directly by the Appellant who paid the fund-raising organisation a single, one-time fee which was refunded to the Appellant in whole or in part if the donation ceased within the first three months. For a donation which lasted three years 83% provided income for the Appellant after costs whereas for a donation which lasted ten years 95% provided income for the Appellant after costs.

Shortly after a committed giver had signed the direct debit form he or she received a letter from the Appellant with a welcome to the Committed Givers Club and a reminder that the giver would receive the exclusive magazine [the newsletter] which updated the work of the Appellant on a regular basis. The letter continued:

"By supporting The Children's Society you can rest assured that you are now helping some of the most vulnerable, deprived and needy children in the UK today. … Your gifts … are going to do so much for these children, to help them find the safety, love and hope that they desperately need."

The new committed giver also received a "welcome pack" where the covering letter began:

"Since you have kindly agreed to contribute [amount] per month, we would like to welcome you into The Children's Society's Committed Givers Club. As a member you will receive our exclusive newsletter, updating you three times a year on our work."

The welcome pack included a questionnaire about the giver and information about the Appellant. It also described how the donations would be used. For example, it said:

"Your contribution is worth more than you think. £5 a month, over the course of a year, will be enough to fund a talk to a whole school full of children on what running away is really like and help them find better, safer ways to deal with their problems. … By giving to The Children's Society you're providing reliable, long-lasting support – the sort of support every vulnerable child needs."

We accept the evidence of Mr Nall that the committed givers club was directed towards a new and younger generation of givers who welcomed the receipt of information about the Appellant and that the newsletters were intended to retain or "tie-in" these givers.

The newsletters

Each newsletter looks very like a magazine with text and illustrations (including photographs) in about equal proportions. We saw three issues of "Bright Futures" for Summer 2003, January 2003 and Summer 2002 and three issues of "Children in Focus" for Summer 2001, Spring 2000 and Winter 1999. The issues of Children in Focus pre-dated the committed givers club. On the front of each issue of Bright Futures appeared the words "Exclusively for regular supporters of The Children's Society". On the front of each issue of Children in Focus appeared the words "The magazine for supporters of The Children's Society".

The issue of Bright Futures for Summer 2002 was the issue closest to the date of the assessment. This issue had sixteen pages. It contained a full page advertisement for a sponsored trek in Chile; a contents and editorial page; a news review about the work of the Appellant; an article on Youth Justice; another article on Young Carers, some fund raising news about sponsored events including the London Marathon; and a letters page. In the newsletter for Summer 2003 mention was made of one of the Appellant's charity shops and a telephone number was given in case anyone wished to volunteer to work in one of the shops. That issue also contained a mention of the Appellant's mobile phone re-cycling campaign under which the Appellant received £5 for every complete mobile telephone sent to its re-cycling centre and £4 for mobile telephones without a battery or charger. (We were informed that these were standard-rated supplies made by the Appellant). That issue also contained an advertisement by the Co-operative Bank for an affinity card where a small fraction of the amount spent on the card was paid to the Appellant.

The newsletters are published by the Appellant who pays for the provision of supplies to it, some of which are taxable. For example, we saw invoices addressed to the Appellant from a photographer who took photographs and supplied copies for the newsletter; from an illustrator who provided illustrations for an article in the newsletter; from a printer for the provision of proofs and for polywrapping the newsletter; from an envelope supplier for 395,000 envelopes; and from another supplier for design, typesetting and artwork.

The cost of three newsletters delivered to the door of each giver, together with other mailings, is about £3 per annum. Newsletters are not sent to committed givers who have cancelled or missed their payments.

In addition to the committed givers there are also other supporters of the Appellant who give by direct debit. For example, the Appellant's website contains a page about giving donations. It explains that regular payments by direct debit assist the Appellant and explains what a donation of £5 a month will provide for children. A direct debit form is attached and contains boxes for amounts of £3, £5 or £10 each month. There is no mention of the newsletter. Although the original intention was that the newsletters would be sent exclusively to members of the committed givers club giving £5 or more each month there was a period of nine months in 2003 when the newsletters were sent to all those who gave by direct debit, including people who gave less than £5 per month. The reason for this was that the Appellant's computer was upgraded in 2003 but now that the database is completed the Appellant will re-introduce specific targeting for the next newsletter.

The value added tax treatment of the donations

On 3 October 2001 the Appellant wrote to Customs and Excise to advise them of a change in its business activities. The letter stated:

"The Society has recently formed "The Children's Society Committed Givers Club". Supporters are required to pay £60 per annum to be members of the Club and the sole benefit of membership will be the receipt of three exclusive newsletters throughout the year. We propose to treat this income as zero-rated.

All monies paid over the required minimum of £60 will not entitle the supporter to any additional benefit and will accordingly be treated as donations and as outside the scope of VAT.

I trust our proposed treatment of this income is correct."

On 7 October 2001 Mrs Bailey of Customs and Excise replied and sent an extract (section 3) from Notice 701/5 Clubs and Associations. This read:

"3 Subscriptions to charitable associations

Certain subscriptions to charitable bodies are wholly or partly outside the scope of VAT. These are subscriptions which are used to provide benefits to the general public. They are taxable only to the extent that they are used to provide benefits for members.

Some charitable subscriptions are described as donations. However, for VAT purposes, for a subscription to be a donation it must be an entirely voluntary payment, which secures nothing for the subscriber in return. If a subscription meets this test, it is outside the scope of VAT. In cases of doubt or difficulty, the discretion of the subscriber in determining the amount, timing and regularity of the payment will normally be an important indication of whether a payment is a genuine donation. The payment of a charitable "subscription" which secures nothing for a member other than a right to copies of the reports and accounts and the right to vote at general meetings is also outside the scope of VAT.

If a subscription obtains any other benefit for the member it is wholly or partly within the scope of VAT whether or not it is described as a donation. Normally, the full amount of such a subscription is taxable. Exceptionally, however, where a subscription to a charitable organisation contains an element which can be clearly identified as not being payment for any of the benefits of membership (usually because the same benefits are available to non-members at a lower price) it may be apportioned between that part which is taxable and that part which is outside the scope of VAT. If you think this applies to your association. you should first contact your local VAT office to seek agreement. You should bear in mind, however, that if apportionment is allowed, the amount your association can recover as input tax might be reduced. … "

The letter of 7 October 2001 then concluded that, from the details provided by the Appellant, "the VAT liability will be outside the scope for VAT".

On 31 October 2001 Mrs Reid of Customs and Excise also wrote to the Appellant in reply to the Appellant's letter of 3 October. Her letter said:

"I can confirm that the treatment of your income is correct. However, please bear in mind that no part of a consideration (that is the £60) can be a donation. A donation is a freely given payment in return for which nothing is supplied at all. A consideration is a payment for a supply."

Relying upon these letters the Appellant included in its return for the accounting period ending on 30 June 2002 a claim for input tax credit in respect of the tax paid to the suppliers of the fund-raising services relating to the committed givers and of goods and services relating to the production and distribution of the newsletters. The Appellant treated amounts received from the committed givers who paid less than £5 per month as being made by way of donation and so outside the scope of value added tax. It treated the amounts received from committed givers who paid £5 per month as being made by way of consideration for the taxable supply of the newsletter. And it treated the amounts received from committed givers who paid more than £5 per month as being made partly by way of consideration for the taxable supply of the newsletters to the value of £5 and partly by way of donation of the remainder.

On 14 October 2002 Customs and Excise wrote to the Appellant and expressed the view that the whole substance of the relationship between the Appellant and a committed giver was that of the giver giving a donation to the Appellant and was not the sale by the Appellant to the giver of a subscription to the newsletter. Accordingly, the claim for input tax credit was refused. It is against that decision that the Appellant appeals.

In subsequent correspondence Customs and Excise first accepted that the costs of producing the newsletter could be treated as residual input tax because the provision of the newsletter advanced the purposes of the Society generally. Such input tax was allowable not because the provision of the newsletter was a taxable supply, but because the costs of producing it were overhead costs of the "truly taxable supplies" that the newsletter supported. However, this view was withdrawn by letter dated 5 April 2004 when Customs and Excise stated that "VAT on the costs of producing the newsletter is not properly "residual" and is therefore not recoverable to any extent".

The income tax treatment of the donations

The Appellant claimed relief under Gift Aid in respect of the donations received from the committed givers relying upon the following statement by the Inland Revenue:

"Where a charity sends literature to its donors, the Inland Revenue will accept that the value is nil provided the material is produced for the purpose of describing the work of the charity. The material must be relevant to and distributed in furtherance of the objects of the charity. The fact that the literature has a cover price and is also on sale to members of the public is irrelevant. This means that literature like newsletters, bulletins, annual reports, journals, members' handbooks and programmes of events will generally carry no value for the purposes of the donor benefit rules."

Reasons for decision

We consider separately each of the issues for determination in the appeal.

Issue (1) – Was there a supply?

The first issue is whether the provision by the Appellant of the newsletters to the committed givers was done for a consideration and so was a supply within the meaning of section 5(2)(a). We begin by considering the authorities cited to us to see what principles they establish.

In 1981 the Court of Justice, in Staatsecretaris Van Financiën v Coöperative Aardappelenbewaarplaats GA (Case 154/80) [1981] ECR 445 established the principles that there must be a direct link between a supply and the consideration received and that the consideration was of a subjective value, namely the consideration actually received and not a value assessed according to objective criteria. The need for a direct link between a supply and the consideration received was confirmed by the Court of Justice in Apple & Pear Development Council v Customs and Excise Commissioners [1988] STC 221. 34. In 1994, in Tolsma v Inspecteur Omzetbelasting Leeuwarden ...Case C-16/93) [1994] STC 509, the Court of Justice at paragraph 14 held that a supply of services was only effected for consideration if there were a legal relationship between the provider of the service and the recipient pursuant to which there was reciprocal performance and the remuneration received by the provider of the service constituted the value actually given in return for the service supplied to the recipient.

In 1999 these principles were developed by the Court of Justice in Kuwait Petroleum (GB) Limited v Customs and Excise Commissioners [1999] STC 488 where purchasers of petrol were given coupons which they could exchange for a gift. The issue was whether the payment for the petrol was in return for the coupons and so the gift. It was accepted that there was a legal relationship, that there was reciprocity and that the purchaser could insist on getting the coupons (and the gift) and so there was a contractual relationship. In paragraphs 26 and 27 of its judgment the Court of Justice said:

"26 Goods are supplied "for consideration" within the meaning of Article 2(1) of the Sixth Directive only if there is a legal relationship between the supplier and the purchaser entailing reciprocal performance, the price received by the supplier constituting the value actually given in return for the goods supplied (see, to that effect, concerning the supply of services, Tolsma v Inspecteur Omzetbelasting Leeuwarden ...Case C-16/93) [1994] STC 509 at 516, [1994] ECR I-743 at 759, para 14).

27 It is for the national court to inquire whether, at the time of purchasing the fuel, the customer and Kuwait Petroleum had agreed … that part of the price paid for the fuel, whether identifiable or not, would constitute the value given in return for the … vouchers or the redemption goods. There is nothing, however, in the documents before the court to suggest that there was in fact any such reciprocal performance by the parties concerned."

This principle was followed in Customs and Excise Commissioners v Church Schools Foundation Limited [2001] STC 1661 at 1675h where Sir Andrew Morritt VC said that a supply had to be "for" a consideration and that it was not enough for there to be a direct link, a legal relationship and reciprocal performance.

From these authorities we derive the principles that: there must be a direct link between the supply and the consideration received; that the consideration is what is actually received and not an objective value; that there must be a legal relationship between the supplier and the recipient pursuant to which there is reciprocal performance; that the remuneration received by the supplier must constitute the value actually given in return for the supply to the recipient; and that it is for the national court to enquire whether the parties agreed, at the time of the supply, that the price or part of it constituted the value given in return for the supply.

In applying those principles to the facts of the present appeal we record that there was little argument about the direct link and the legal relationship. The arguments of the parties centred round the nature of the transaction in this appeal and the question as to whether the £5 each month constituted the value given in return for the supply of the newsletters. Mr Sherry (for the Appellant) argued that it did not matter that the Appellant was a charity, nor that the transactions with the givers were called donations or gifts, the objective analysis of the transaction was that the newsletters were given in return for the regular payments of £5 and the payments of £5 were given in return for the newsletters. Mr Parker (for Customs and Excise) argued that the payment made by the committed giver was not in return for the newsletters but was a gift with a stipulation that the giver would receive the newsletters. The newsletters were not provided "for" the donation. Adapting the words of Sir Andrew Morritt VC in Church Schools Foundation at 1675j, the newsletter was not a quid pro quo but a quid cum quo.

As directed by the Court of Justice in Kuwait we have to inquire whether, at the time that the committed giver signed the direct debit form, he and the Appellant agreed that the amount of the donation constituted value given in return for the newsletters. We therefore examine the nature of the transaction and the documentary evidence. We accept that regard has to be had to the objective nature of the transaction and that the main activity of the person making the supply does not determine the categorisation of all its supplies.

In considering the nature of the transaction it is relevant that the direct debit form mentions the word "gift" on a number of occasions. There is also a statement that givers would receive the newsletters and other communications about the Appellant's work. In our view, this indicates objectively that the transaction was a gift by the donor and a promise by the Appellant to send him the free newsletters. This view is confirmed by the evidence that a donor was at liberty to decline the newsletters in which case the gift could not be in return for the newsletters. The statement given before the direct debit form was signed emphasised that the donation would be received directly by the Appellant who would use it for its charitable activities and the letter sent to the new donor emphasised that what the donor had given was a gift which would be used to help children. These statements are not objectively consistent with a conclusion that the donor had paid a subscription to a newsletter. The welcome pack also emphasised that the payments were made by way of gift although there was also a statement that givers would receive the newsletter. All the documentary evidence is consistent with the conclusion that the donor was making a gift. The amounts received from the committed givers were included in the Appellant's financial statements as voluntary donations and not as income from operating activities. The fact that in nine months in 2003 every giver by direct debit (and not only the committed givers) was sent the newsletter indicated that the payment made by the committed givers was not "for" the newsletter. The direct debit forms on the Appellant's website were very similar to those completed by the committed givers although persons who completed the website forms did not receive the newsletter. We have accepted the evidence of Mr Nall that the committed givers club was directed towards the younger generation of givers and that the newsletters were intended to retain or "tie-in" these givers. However, the subjective motives of the parties cannot be taken into account; we have to analyse the transaction objectively.

Having examined the evidence objectively we find that, at the time of the signature of the direct debit form, neither the Appellant nor the donor agreed that a donation of £5 each month constituted value given in return for the newsletters; the transaction was that the donation was a gift to the Appellant to be used in its chartable work and that the Appellant would send the giver the free newsletters.

Mr Sherry relied upon Customs and Excise Commissioners v Tron Theatre Limited [1994] STC 177 at 179 and 181. In Tron the appellant ran a charitable trust for the promotion of modern drama and it invited sponsorship of new theatre seats in order to raise money for refurbishment of the theatre. A brochure indicated that, in return for a minimum payment of £150, a sponsor would receive a number of stated benefits including a personalised brass plaque displayed on a theatre seat; acknowledgement of the donation in the theatre foyer; a commemorative limited edition print; and priority booking for two gala evenings. Many sponsors did not know or care about the benefits and thought that their value was about £5. The tribunal held that the £150 was partly for the supply of the benefits but that a very large element was donation. Customs and Excise appealed and argued that the supply of the benefits was for the £150 which was the consideration in money. The Court of Session held that the motives of the supplier or the recipient of a supply were not relevant and that it was of no consequence if there was an element of over-charging or of donation in the sum which was paid; the consideration for the supply of benefits was the amount of money which had to be paid in order to receive them. It was irrelevant that the motive of the sponsors was to increase the company's funds by including a large element of donation in the consideration which had to be paid.

Mr Parker distinguished the decision in Tron where the tribunal had found that the brochure was an offer accepted by the payment of the subscription and so there was a contract under which the appellant undertook to provide the benefits. He argued that to look only at the legal relationship was the wrong approach and he cited Kuwait. What the tribunal should have asked was whether the payment was made in return for the benefits. However, in Tron the answer would have been the same because, having regard to that particular transaction and the benefits in that case, on the facts the payment could have been consideration in return for the benefits especially as they included a limited edition print. He referred to the judgment of the Court of Session at 179f where it was agreed that there was a supply of goods or services. On those facts there was not a gift with a counter stipulation but consideration for the supply of the benefits.

Tron was decided in 1993 before the judgment of the Court of Justice in Kuwait (1999) and before the judgment in Church School Foundation (2001) both of which are binding on us. In our view we should follow the legal principles established by those more recent authorities. Tron can also be distinguished on its facts.

Our conclusion on the first issue is that the provision by the Appellant of the newsletters to the committed givers was not done for a consideration and so was not a supply within the meaning of section 5(2)(a).

We record that the following authorities were also referred to at the hearing: High Peak Theatre Trust Limited v The Commissioners of Customs and Excise Tribunal Decision No. 13768; Customs and Excise Commissioners v Emap MacLaren Limited [1997] STC 490 at 492g and 427 and Tesco v Customs and Excise Commissioners [2003] STC 1561 at 1573 and 1576 and paragraph [45].

Issue (2) – What is the result of a deemed supply?

At the hearing Mr Parker for Customs and Excise accepted that paragraph 5(1) of Schedule 4 applied in this appeal. He also accepted that, under the law as it existed at the date of the assessment, paragraph 5(1) was not dis-applied by paragraph 5(2)(a) (because of the words in parenthesis in that sub paragraph). He also accepted that paragraph 5(5)(a) was engaged as the costs directly incurred in producing the newsletters had been claimed as residual input tax.

Thus at the hearing the arguments of the parties centred round the question whether the fact that paragraph 5 of Schedule 4 applied meant that the Appellant could recover all the tax on the supply to the Appellant of the fund-raising services and goods and services relating to the production and distribution of the newsletter (as argued by the Appellant) or whether the Appellant could not recover any of the tax on the supplies to it of the fund-raising services and could only treat the tax on the supplies to it relating to the production and distribution of the newsletters as residual input tax (as argued by Customs and Excise).

Mr Sherry (for the Appellant) relied upon Customs and Excise Commissioners v West Herts College [2001] STC 1245. In that appeal the college produced and distributed free prospectuses containing details of its educational courses. It was agreed that the supply of the prospectuses was a zero-rated supply. The college made both taxable and exempt supplies and for some time treated the tax incurred on supplies to it relating to the prospectuses as residual input tax on the basis that it related to both taxable and exempt supplies. However, the appellant wished to claim all of the input tax and appealed arguing that the distribution of the prospectuses came within paragraph 5(1) of Schedule 4 which was not dis-applied by paragraph 5(2) nor by paragraph 5(5). The distribution of the prospectuses was therefore the making of taxable supplies and so all the input tax should be recoverable. Customs and Excise argued that paragraph 5(5) dis-applied paragraph 5(1) because the prospectuses were produced for the purpose of making exempt supplies of education and so there was no entitlement to input tax. Hart J held that as Customs and Excise had accepted the appellant's right to deduct part of the input tax it could not argue that there was no entitlement to input tax. The result was that paragraph 5(5) did not dis-apply paragraph 5(1).

Hart J discussed the effect of a finding that paragraph 5(1) applied, and was not dis-applied by paragraph 5(2) or (5), at 1249f in the following way:

"Given therefore what one was now looking at was a supply under paragraph 5(1), the only question is whether that is a taxable supply. If it is a taxable supply, the consequence follows that the whole of the input tax of the relevant goods and services has to be attributed under regulation 101(2)(b) of the 1995 Regulations to the making of that taxable supply. It plainly is a taxable supply, albeit zero-rated, since it is not an exempt supply. None of the exemptions in Schedule 9 cover the issue of the prospectuses in question."

We are bound by that decision and so conclude that the effect of a finding in this appeal that paragraph 5(1) applies, and is not dis-applied by paragraph 5(2) or (5) is that, as the newsletters are agreed to be taxable supplies the consequence is that the whole of the input tax of the goods and services supplied to the Appellant relating to the production and distribution of the newsletters has to be attributed to taxable supplies under Regulation 101(2)(b).

However, in our view the supplies of fund-raising services are not supplies relating to the production and distribution of the newsletter. If anything, the supplies of the fund-raising services were supplies relating to the soliciting of donations and that is not a taxable supply by the Appellant (nor indeed a supply at all). Accordingly, in our view the input tax on the fund-raising services is not recoverable.

Mr Parker accepted that we were bound by West Herts College but argued that it was wrongly decided and put forward alternative arguments. He argued that it was first necessary to consider the purpose of paragraph 5 of Schedule 4 (which implemented Article 5.6 of the Sixth Directive). Article 5.6 read:

"The application by a taxable person of goods forming part of his business assets for his private use or that of his staff, or the disposal thereof free of charge or more generally their application for purposes other than those of his business, where the value added tax on the goods in question or the component parts thereof was wholly or partly deductible, shall be treated as supplies made for consideration. However, applications for the giving of samples or the making of gifts of small value for the purposes of the taxable person's business shall not be so treated."

Mr Parker went on to argue that the purpose of Article 5.6 was identified in paragraphs 23 to 27 of the Opinion of Advocate General Fenelly in Kuwait. Article 5.6 was dealing with possible avoidance where a trader had deducted input tax on supplies used wholly or partly for making what would be taxable supplies but which were consumed by the trader or given away. Article 5.6 was designed to counteract this possibility and the whole purpose of the deeming provision in Schedule 4 paragraph 5 was intended to eliminate distortions of the value added tax system and not to create distortions. The deeming provisions were a fiction and should not be extended further than was necessary to achieve their purposes. An avoidance provision should not be used to obtain a greater benefit. The difficulties had been recognised in West Herts College at 1251h but that judgment had not referred to the Opinion of the Advocate General .in Kuwait. Some taxpayers could be disadvantaged by West Herts College, for example a trader who acquired a capital asset which was used partly in the business and partly for private use. Customs and Excise might accept that one half of the input tax was recoverable. If that trader went out of business and Article 5.6 was applied then it would be disproportionate if output tax were claimed on the whole of the deemed supply when only part of the input tax had been recovered. So the answer would be to treat the transfer as a deemed supply only to the extent that the trader had personally enjoyed the input tax deduction. Similarly, if a trader made both taxable and exempt supplies Article 5.6 should only be applied so far as necessary to adjust his value added tax position. In this appeal there was no need for an adjustment. The Appellant had already claimed residual input tax and that position should be maintained. There would be a distortion of the system if the Appellant was entitled to retain the residual input tax already claimed and also to have full recovery of all the costs related to the deemed supply. Mr Parker accepted that the case had not been put like this in West Herts College.

We have recorded the arguments of Mr Parker but express no opinion on them save to say that they would not have persuaded us not to follow the principles in West Herts College.

Before leaving this issue we record that paragraph 5(2) of Schedule 4 was altered by section 21(2) of the Finance Act 2003 with effect from 30 September 2003 and now reads:

"(2) Sub-paragraph (1) above does not apply where the transfer or disposal is-

(a) a business gift the cost of which, together with the cost of any other business gifts made to the same person in the same year, was not more than £50; … ."

Mr Sherry accepted that after 30 September 2003 paragraph 5(2)(a) would have the effect of precluding the application of paragraph 5(1) as the cost of all the gifts made to the same person in the same year was not more than £50.

Decision

Our decisions on the issues for determination in the appeal are:

(1) that the provision by the Appellant of the newsletters to the committed givers was not done for consideration and so was not a supply within the meaning of section 5(2)(a); but

(2) that (because it was agreed that the provision by the Appellant of the newsletters to the committed givers was a deemed supply under paragraph 5 of Schedule 4) the Appellant could recover all the tax on the supply to the Appellant of the goods and services used exclusively in the production and distribution of the newsletters (but not the tax on the supply of the fund-raising services).

The appeal is therefore allowed in part; the input tax relating to the newsletters is recoverable in full but the input tax relating to the fund-raisers is not recoverable.

The Appellant may make an application for costs.

DR NUALA BRICE

CHAIRMAN

RELEASE DATE:08/06/2004

LON/2003/0373

05.04