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Cite as: [2007] UKVAT V20468

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Aardvark Excavations Ltd v Revenue & Customs [2007] UKVAT V20468 (23 November 2007)

20468

VAT – default surcharge - reasonable excuse - effect of reasonable excuse for an earlier unappealed surcharge on the amount of a surcharge assessment under appeal - whether section 59(7) and (8) prevents a tribunal from considering defaults other than the one directly occasioning the surcharge assessment under appeal or one within Section 59(8)(b) as regards the appealed surcharge- held: earlier defaults could be considered - appeal allowed in part.

LONDON TRIBUNAL CENTRE

AARDVARK EXCAVATIONS LTD Appellant

and –

THE COMMISSIONERS FOR HER MAJESTY'S REVENUE & CUSTOMS Respondents

Tribunal: CHARLES HELLIER (Chairman)

RICHARD CORKE FCA

Sitting in public in Plymouth on 6 September 2007

Stephen Taylor of Pearce Taylor Taxation, for the Appellant

Gloria Orimoloye, solicitor, instructed by the Solicitor for HM Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2007

DECISION

Aardvark Excavations Ltd seeks leave to appeal out of time against a default surcharge assessment in respect of the period ended 31 October 2004 (the 10/04 period) and, subject thereto, to appeal against that assessment. It also appeals against a further default surcharge for the period ended 31 July 2006 (the 07/06 period).

We noted that the notice of appeal against the 07/06 surcharge was also made outside the period allowed by regulation 4 of the VAT Tribunal Rules 1986. Mrs Orimoloye pressed no objection to that appeal being heard. We consider below the out of time issue in relation to both appeals.

The Statutory Provisions and Cases

Section 59(1) VATA 1994 provides that a person is in default in respect of a period if he has not furnished a VAT return for that period or paid the VAT shown as payable on that return by the due date. Where a person defaults in respect of a period the Commissioners may serve a "surcharge liability notice" specifying a period (a surcharge period) which ends 12 months after the last day of the period for which he was in default. Subsection (3) provides that:

"If a surcharge liability notice is served by reason of a default in respect of a prescribed accounting period and that period ends at or before the expiry of an existing surcharge period already notified to the [taxpayer], the surcharge period specified in that notice shall be expressed as a continuation of the existing surcharge period and, accordingly, for the purpose of this section, that existing period and its extension shall be regarded as a single surcharge period."

Subsection (4) provides that if a person defaults in respect of a period ending within a surcharge liability period and has outstanding VAT for the period, he becomes liable to a surcharge. This is an amount which is the greater of £30 and a percentage of the outstanding VAT. (The £30 surcharge thus might for example apply where the return showed VAT due to the taxpayer.)

Subsection (5) provides that that percentage depends on how many defaults have occurred within the surcharge period: if the default is the first in the surcharge period the surcharge is at 2%, the it rises to 5% for the second, 10% for the third and 15% for the fourth and subsequent defaults.

We note that the nature of this regime is not to penalise isolated failures but to penalise, at escalating rates, continuing opprobrious conduct.

Subsection (7) provides a relief for excusable defaults. We set it out in full with italics to emphasis the parts of it with which we shall be particularly concerned later in this decision:-

"(7) If a person who, apart from this subsection, would be liable to a surcharge under subsection (4) above satisfies the Commissioners or, on appeal, a tribunal that, in the case of a default which is material to the surcharge –

(a) the return, or as the case may be, the VAT … was dispatched … such … that it was reasonable to expect that it would be received by the Commissioners within the appropriate time limit, or

(b) there is a reasonable excuse for the return or VAT not having been so dispatched,

he shall not be liable to the surcharge and for the purposes of the preceding provisions of this section he shall be treated as not having been in default in respect of the prescribed accounting period in question (and, accordingly, any surcharge liability notice the service of which depended upon that default shall be deemed not to have been served)."

We use the term "excusable default" or excuse to embrace the circumstances of both paragraphs (a) and (b).

The Appellant claims that in relation to 10/04 and 07/06 that it has an excuse within subparagraph (b). In the Appellant's circumstances the importance of the earlier italicised words relates to the question of whether, if the Appellant falls within subparagraph (b) in respect of the 10/04 default but leave to appeal that default out of time is not granted, that will affect (and reduce) the rate of the percentage surcharge which might otherwise apply in relation to the 07/06 default.

In SSR Group Services Ltd (VTD 16033) the tribunal noted with approval the statement made by the tribunal in Dow Chemical Co Ltd v CCE (VTD 13954) that "where a taxable person establishes a defence of reasonable excuse under VATA 1994 s.59(7) the subsection itself appears to contemplate that the specified percentages for subsequent defaults shall be reduced accordingly."

Subsection (8) deals with the meaning of a "default which is material to the surcharge". We set that subsection out later in this decision.

Later in this decision we consider the effect of these provisions in relation to a taxpayer who defaults in respect of a number of periods. We use "Q1" for the first default period (being a period in the 12 months prior to which the taxpayer had not defaulted), Q2 for the following period (for which there might or might not be a default), Q3 for the third period and so on. Thus, for example, if a taxpayer defaults (without any excuse) in Q1, Q3 and Q5, the rate of surcharge for Q5 will be 5%.

Section 71 limits the types of conduct which may afford a reasonable excuse within section 59(7)(b) by providing that:

"(a) an insufficiency of funds to pay any VAT due is not a reasonable excuse; and

(b) where reliance is placed on any other person to perform any task, neither the fact of that reliance nor any dilatoriness or inaccuracy on the part of the person relied upon is a reasonable excuse."

In Customs and Excuse Commissioners v Steptoe (1992) STC 757 the Court of Appeal held that this provision meant that an insufficiency of funds or reliance can never of itself constitute a reasonable excuse, but that the tribunal was obliged to consider whether the reasons for an insufficiency of funds or the underlying cause of a default might do so. In the case of a default occasioned by an insufficiency of funds Lord Donaldson MR indicated that "if the exercise of reasonable foresight and of due diligence and a proper regard for the fact that the tax would become due on a particular date would not have avoided the insufficiency of funds which led to the default, then the taxpayer may well have a reasonable excuse for non payment."

Mr Taylor referred us to the approach taken to the meaning of reasonable excuse by the tribunal in The Clean Car Company v Commissioners for Customs and Excise (1991) VATTR 234; "One must ask oneself: was what the taxpayer did a reasonable thing for a responsible trader conscious of and intending to comply with his obligations regarding tax [having regard to the situation of the taxpayer]?" That decision was in the context of an error in a return but the legislative provision relating to a reasonable excuse was in the same form as in section 59(7). Mr Taylor also referred us to Appropriate Technology Ltd v Commissioners for Customs and Excise (1991) VATTR 226 where the same tribunal made comments in a similar vein.

Section 76 provides that the Commissioners may assess an amount by way of surcharge liability and notify it to the taxpayer. Section 83(q) provides for an appeal against the assessment, and section 83(n) provides for an appeal against any "liability to a …surcharge by virtue of …section 59". These provisions thus provide a right of appeal both in relation to whether there is a liability to a surcharge and in relation to the calculation of the assessed surcharge.

Background

It is not disputed that, within the terms of section 59(1), the taxpayer defaulted in respect of the 07/04, 10/04, 01/05, 07/05 and 07/06 periods( in our terminology the Q1,Q2,Q3,Q5 and Q9 periods) by paying its VAT late for each of those periods, that a surcharge liability notice was served in respect of the 07/04 period and that the surcharge period was extended by notices served in respect of each of the succeeding defaults. The Commissioners assessed surcharges at 2% in relation to 10/04 (Q2), 5% in relation to 01/05(Q3), 10% in relation to 07/05 (Q5) and 15% in relation to 07/06 (Q9). No appeal is brought other than in relation to 10/04 (Q2) and 07/06 (Q9).

The Evidence and findings of fact

We heard oral evidence from Mr Lawrence Poole a director of the Appellant, and from Mrs Laura Machin, the Appellant's office manager. Mr Taylor also explained to us his involvement with the Appellant. There was a bundle of copy documents before us. We find the following facts:

(i) the Appellant company at the relevant times employed about 30 people and had an annual turnover of about £2m;

(ii) Mr Poole's main role was to run the business: he dealt with the employees, the machinery, the contracts and the customers. He was a shareholder in the Appellant and also in an associated company LPS (Exeter) Ltd which let premises to the Appellant;

(iii) Mrs Machin ran the office. She was in charge of administration and finance. She was responsible for the VAT returns and the PAYE returns. She monitored the Appellant's cashflow and prepared cashflow forecasts. She monitored payments and receipts;

(iv) Mrs Machin was normally in good health. However in October 2004 she had a sudden severe back problem: a herniated disk. She was away from the office entirely for about 6 weeks. She sought speedy private medical help but in that period was too ill to think about work. After 6 weeks she was able to go back to work but only part time, and it was not until January 2005 that she was back at work full time;

(v) Mr Poole was at a loss without Mrs Machin. He did the wages calculations and payments himself and muddled through as well as he could. He did not engage a temporary substitute for Mrs Machin. He did not expect her to be away for quite as long as she was and he was concerned that it would take a while for a substitute to get up and running;

(vi) the 10/04 VAT return and the VAT due in respect of that period were received by the Commissioners on 5 January 2005 some 5 weeks after the due date;

(vii) the majority of the Appellant's expenses (other than wages and salaries) were paid monthly by direct debit. Its expenses were some £150k per month. Only about £30k of each month's bills payments could be delayed if extra cash were needed in the business;

(viii) Morgan Est plc was a major customer of the Appellant in 2005, 2006 and 2007. The Appellant had two particular relevant contracts with Morgan Est in that period: one ended in December 2005, the other in about April 2006. Morgan Est was generally a very good payer: it made timely fortnightly payments under its contracts with the Appellant. In this period business with Morgan Est represented about 30% of the Appellant's turnover;

(ix) The final payment due from Morgan Est under the first of those contracts was due in December 2005. That payment was delayed but was eventually paid. The final payment on the second of those contracts was also not paid on Morgan Est being invoiced for it in April 2006. The invoice was for some £47k. The previous 25 fortnightly payments on this contract had been made on time.

In May 2006 CPA (PAID) Ltd were instructed to chase this debt. They wrote to Morgan Est on 11, 22 and 31 May. On 13 June 2006 they wrote to the Appellant indicating that "your debt apparently remained unresolved". The Appellant pressed Morgan Est in June 2006 for a meeting to discuss the outstanding final invoice. That meeting was held in July. Those attending for Morgan Est indicated that higher authority was needed within their organisation for payment because they had overspent with the Appellant on this contract. They said payment should be made in July or early August 2006. It was not received then. Some of it has since been received. Mr Poole had expected an easier result – when the first contract had ended there had been a similar meeting and tallying up, and payment had been made fairly promptly thereafter;

(x) In June 2006 Mrs Machine became concerned about the future cashflow of the business inter alia in the light of the delay in the £47k Morgan Est invoice payment. She made Mr Poole aware of her concerns. In July 2006 Mr Poole decided to make arrangements for a loan to be made by the Royal Bank of Scotland to LPS (Exeter) Ltd secured on its ownership of the premises, and for LPS (Exeter) Ltd to make a corresponding loan to the Appellant. Mr Poole expected that this would take only a couple of weeks to arrange but it was not until September 2006 that a formal offer was made by the bank. The loan was eventually made in November 2006;

(xi) at the end of August 2006 when the 07/06 payment would normally have been made the Appellant was some £95k overdrawn. It did not then have the latitude to make the £51k VAT payment due. That payment was eventually made in October 2006;

(xii) had the Appellant received the £47k Morgan Est payment in July or August it could have made the £51k VAT payment on time.

The Appellant had defaulted in relation to other periods which were not under appeal. A Surcharge Liability Notice was served in respect of the 07/04 period which meant that if there was a default in the 10/04 period a 2% surcharge would become due. The Respondents assessed such a surcharge (of £719.30) in respect of the 10/04 period on 12 January 2005.

As the result of defaults in respect of the 01/05 and 07/05 periods default surcharge extension notices were served on the Appellant which meant that, if the 10/04 default was a default within section 59 (and not excepted by section 59(7)), a surcharge of 15% would become due in respect of the 07/06 period. The Respondents assessed a surcharge for that period of £7,791.17 on 15 September 2006.

In October 2006 Mr Poole contacted Mr Taylor's firm about the surcharges. Mr Taylor conducted a review of the Appellant's VAT compliance and discovered the reasons for the Q2 and Q9 defaults. He concluded that the 10/04 and 07/06 defaults could be excusable. On 3 November 2006, within 4 weeks of his being engaged, Mr Taylor wrote to the Respondents setting out his grounds for saying that the Appellant had a reasonable excuse for the defaults in 10/04 and 07/06. Correspondence between the Respondents and Mr Taylor's firm then ensued. On 15 January 2007 the Commissioners wrote declining to accept that the Appellant had a reasonable excuse for either period, and for the first time in the correspondence referring to the Appellant's right of appeal noting however that "in view of the time which has elapsed since the defaults were incurred, this would need to be on an out of time basis." There was further correspondence and a further refusal by the Commissioners on 21 February which again referred in similar terms to an appeal. Appeals were lodged with the tribunal against the two default surcharges in March 2007.

The Out of Time Issues

Mr Taylor acknowledged that the appeal for 10/04 was some 18 months late. He said that there were three reasons why we should allow it to proceed:-

(i) it had an effect on the rate of surcharge applicable to later defaults;

(ii) at the time of the making of the surcharge assessment the Appellant's understanding of his ability to appeal was very slight and therefore he took no action;

(iii) the Commissioners had considered his representations in relation to the 10/04 surcharge and decided against him. That would effectively be an unappealable decision if there were no right to appeal. That was perverse.

Mr Taylor indicated that in relation to the 07/06 appeal he had acted reasonably speedily in raising the issues with the Respondents.

Mrs Orimoloye did not object to the 07/06 appeal being made out of time. She said it was the Commissioners' informal policy not to object if appeals were made within 12 months. In relation to 10/04, however, the Commissioners did object to the appeal being heard out of time. She says that the Surcharge Liability Notice served on 12 January 2005 indicated that a taxpayer could appeal to the VAT Tribunal : Mr Poole may not have read that, but the Appellant was notified. She says that even after the Commissioners' letter of 15 January 2007 no speedy appeal was made.

We declined to direct that the time limit for an appeal in respect of the 10/04 period should be relaxed. It seemed to us that it was most likely that the Appellant had taken no action in relation to that surcharge because comparatively it was of a small amount, and there were other more valuable things for its staff to do than to pursue an appeal. We therefore did not see any substantial injustice or unfairness which would accrue to the Appellant in relation to that surcharge if the time limits provided by the tribunal's regulations were not relaxed. For the reasons in paragraphs 42 ff below, we did not consider that a refusal to extend the time limits to consider an appeal against that surcharge would prevent us from considering whether the 10/04 default was excusable in the course of and for the purposes of considering an appeal against the assessment to the 07/06 surcharge. Even if that conclusion is wrong it does not seem to us that a later default by a taxpayer is a justifiable ground for exercising a discretion to appeal against an earlier surcharge.

In relation to the 07/06 period we directed that the appeal be heard. The Appellant engaged Mr Taylor reasonably quickly and Mr Taylor brought the issues to the attention of the Commissioners fairly quickly after discussing them. It would be harsh to deny an extension of time in these circumstances.

The 07/06 Default

The 07/06 return and payment were due to be made on 31 August 2006. Mrs Machin became concerned about the Appellant's cashflow in June 2006. Mr Poole started to make arrangements for a bank loan via LPS (Exeter) Ltd in July. That was a reasonable and sensible step to take in view of the impending cash shortage but we think it would have been reasonable to take these steps a little sooner if, having in mind the duty to pay the VAT on 31 August, they were directed at least in part to securing that payment.

The Appellant says that had Morgan Est paid before the end of August as expected then it could have met its VAT liability on 31 August. We accept that this is the case but we do not accept that it was reasonable for the Appellant to expect that payment before 31 August or at any rate not to make arrangements against the contingency that it would not be so made.

The £47k payment from Morgan Est was a balancing payment due at the end of a contract. In relation to the earlier contract with Morgan Est there had been some negotiation over the final payment although it had eventually been paid. It would be reasonable to suppose that there would be negotiation over, and delay in the payment of, the £47k on the later contract. Whilst in June the Appellant sought a meeting with Morgan Est it did not have that meeting until July. That very delay should have caused some worry that the payment would not be made by the end of August. At the July meeting it appeared that higher authority within Morgan Est was needed to approve the bill because of an element of additional expenditure. That in our view should in the mind of a reasonable businessman have rung alarm bells. At that stage the combination of the serious possibility of delay in payment and the cashflow forecast should have precipitated some more urgent search for funds if payment was to be made on time.

It seems to us that in the context of a business with an annual turnover of £2m – with average monthly income of some £170k and expenses of a similar amount, the failure to receive £47k in a particular month is something which can reasonably be expected to have been anticipated as a possibility. To the extent that the delay in the receipt precipitated the 07/06 default it seems to us that whilst it may be a reason for the default (the other reason being simply insufficiency of funds) it was not a reasonable excuse for the default.

It is true that the Appellant took steps to avoid the default: it chased Morgan Est, it approached the bank for a loan via LPS, but it does not seem to us that a reasonable businessman would say that the company had acted with reasonable speed having regard to its responsibility to comply with the VAT legislation.

The Relevance of the 10/04 default to the 07/06 surcharge

Section 59(7) provides two circumstances where a default is excusable. The first, in paragraph (a), allows for eventualities such as lightning striking the post box into which the return and cheque have been placed, the second in (b) for a reasonable excuse. The sentiment behind these paragraphs is that such default is not culpable and as a result the taxpayer should not suffer the penalty associated with late submission.

The part of subsection (7) before the indented paragraphs ends with the words: "satisfies the … tribunal that, in the case of a default which is material to the surcharge", then there follow the conditions (a) and (b) followed by the effects of so satisfying the tribunal.

In relation only to the question of the extension of time for the 10/04 Mr Taylor, supported more generally by Mrs Orimoloye, had argued: (a) that the words "in the case of a default which is material to the surcharge" limited the application of both of the exculpatory effects in the tailpiece of section 59(7) - so that it was only if the default was material to the surcharge under appeal that (i) the taxpayer was not liable to the surcharge (the no liability limb) and (ii) the taxpayer was to be treated for the purposes of the preceding provisions of section 59 as not having been in default (the no default limb); thus unless there was a surcharge under appeal to which the default was "material" neither limb operated; and (b) section 59(8) defined when a default was material to a surcharge and limited the class of excusable defaults relevant to an appeal against a surcharge to those which whose absence would break the chain of defaults, ie those without whose presence the surcharge period would have finished without encompassing the default giving rise to the assessment under appeal. We refer to this as the strict construction of section 59(7) and (8).

On this basis it would be only if the 10/04 default were 'material' to the 07/06 default surcharge and if there were a reasonable excuse for the 10/04 default that, in computing the rate of surcharge applicable to the 07/06 default, the 10/04 default could be ignored and the 10/04 surcharge liability notice treated as not given. If and only if those conditions were fulfilled the 07/06 default would be the third default in the surcharge liability period initiated by the 07/04 default and the rate of surcharge would be 10% rather than 15%. The amount of that surcharge would therefore be £5,194.12 rather than £7,791.17.

On this basis, in relation to the appeal against the 07/06 default, having rejected the Appellant's argument that there was a reasonable excuse for it, we would need to consider (a) whether the 10/04 default was "material" in relation to the 07/06 default, and if so (b) whether or not there was a reasonable excuse for the 10/04 default. However, for the reasons discussed below, we do not believe that this approach is correct or consistent with the scheme of the legislation.

We now turn to consider the words of section 59(8), and the approach to section 59(7).

A material default

Section 59(8) provides that a default is material to a surcharge if:

(a) "it is the default which by reason of subsection (4) gives rise to the surcharge."

The 10/04 default does not give rise to the surcharge by reason of subsection (4) : the 10/07 default is the relevant default; or

(b) "it is a default which was taken into account in the service of the surcharge liability notice on which the surcharge depends and the person concerned has not previously been liable to a surcharge in respect of a prescribed accounting period ending within the surcharge period specified in or extended by that notice."

We note two conditions in paragraph (b): first, the taking into account of a default for the notice on which "the surcharge "depends" (which must be the surcharge referred to in subsection (7)), and second, the absence of another default.

The interpretation of paragraph (b) is not without its difficulties. We start by noting that a surcharge is an amount (rather than an event) and that that amount depends on the existence of at least two inexcusable defaults; and that this is reflected in the use of the indefinite article before "default" which acknowledges that more than one default may, or indeed must have been taken into account in the service of a surcharge liability notice . Next we note that the use of "the" before "surcharge liability notice" seems to suggest that the draftsman believed that there would be only one such notice on which the surcharge could depend (although the Interpretation Act may require the singular to encompass the plural, it is difficult to read the first 17 words of paragraph (b) in that fashion). Next we consider the period of time to which the word "previously" applies: is it the period previous to the default potentially to be tested for excusability, the period previous to the notice which took account of that default, or the period previous to the period relevant to the surcharge under consideration? It seems that it must be the latter: if "previously" were to refer to the period prior to the default under consideration or the notice, it would render otiose the words "extended by that notice" at the end of the paragraph. Reading "previously" as referring to the period prior to the period relevant to the surcharge under consideration gives it the effect of indicating that surcharges after that surcharge are not to be considered. With that in mind we turn to the question as to what "depends" means. It seems clear that the notice on which a surcharge depends cannot be intended to mean only the last notice served before the default. If that were so it would deprive the words in the second half of (b) of application: those words assume that it is possible that there could be a further default after the notice on which the surcharge depends and before the surcharge in question; but such a default would almost certainly have given rise to a further later notice so the notice on which the surcharge depends cannot always be the last notice. Neither is it easy to regard the notice on which a surcharge depends as the notice which is the sine qua non for the surcharge: consider for example a taxpayer who defaults in Q1,Q3 and Q4. The question is asked: Is the Q3 default material to the Q4 surcharge? If "depends" means "is a sine qua non for" then the Q3 default is not material, because the Q1 notice would have been adequate to trigger the Q4 surcharge; but neither is the Q1 notice material because even though the Q4 surcharge would on this basis have depended upon it, there would have been a surcharge liability in the period between it and the Q4 default which, by virtue of the second part of (b), would have prevented the Q1 default from being material. Thus neither Q1 nor Q3 would be material to the Q4 default, and, on the strict construction of section 59(7), a reasonable excuse in relation to either period would be irrelevant to the determination of the appeal in relation to the Q4 default. By contrast had the defaults been in Q1,Q3 and Q5, the Q5 surcharge would on any view have depended on the Q3 default which would thus have been material and eligible for excuse treatment even on the strict construction. That is an uncomfortable conclusion.

Nor is the situation made clearer by considering a case where the default lies in an extension of the surcharge period. Whilst the sine qua non approach works fairly clearly in the case where the defaults are in Q1, Q4 and Q6 – where it can be said that the Q4 notice is a sine qua non for the Q6 surcharge and therefore the Q4 default material in relation to it, in a case where the defaults are in Q1, Q4, Q5 and Q6, the Q5 default notice is not a sine qua non for the Q6 surcharge because of the existence of the Q4 default notice, and the Q4 default is prohibited from being "material" by the second half of paragraph (b) and the existence of the Q5 liability. Thus neither Q4 nor Q5 would be material. That conclusion sits ill besides the Q1, Q4 and Q6 example.

It seems to us that these considerations suggest either a less formal approach to paragraph (b) or a less strict construction of section 59(7).

The approach to section 59(7)

We find the strict approach leads to a disturbing result. It means that if a taxpayer, having defaulted in Q1, chooses not to spend the time and money in appealing a small early surcharge say in Q2 (perhaps made smaller by the pattern of his VAT inputs and outputs, perhaps only £30 because Q2 was a repayment quarter) but has a perfectly good excuse for his default – something plainly within 7(a) or (b) – and then defaults without good excuse in two subsequent periods, Q3 and Q4, then his surcharge for Q4 must be calculated on the basis that he did not have any excuse in respect of Q2 (unless some way we have missed can be found to say that the Q2 default was material to the Q4 default). He may then be more than doubly penalised in respect of a default which was `not his fault'. This danger of not appealing small surcharges is not immediately apparent from the legislation and we were not referred to it in any of the Commissioners' publications.

Neither is the result in accord with the scheme of the legislation. It seems to us that the whole point of the escalating charge is to penalise cumulative opprobrious behaviour on a sliding scale, not to penalise by reference to excusable failure.

But there is an alternative, wider, approach to section 59(7). The strict approach is to regard it as applicable only to a particular surcharge under appeal: so that the tribunal is to have regard to whether or not there is an excuse for a default only if that default is material to the surcharge under appeal. The alternative wider approach is to regard section 59(7) as unfettered so that it applies in relation to any surcharge (whether or not the one under appeal) and any default which is material to that surcharge. Thus the tribunal can consider the effect of that section on a default occasioning a surcharge which is not under appeal if the effect of so doing is to impinge on the surcharge under appeal. The section, it will be remembered, applies where "a person who … would be a liable to a surcharge … satisfies the Commissioners, or on appeal, a tribunal ...that". This approach is thus permitted where the words "on appeal" are not read restrictively as if they were: "on appeal against that surcharge", but as meaning "in the course of an appeal".

On this approach the tribunal is free, on an appeal against one surcharge, to apply the section in relation to any other default so long as that default is material to some surcharge. On this approach this tribunal can consider the 10/04 default, apply section 59(7) in relation to it (by applying that section in by virtue of any surcharge to which it is material), and if it concludes that there is an appropriate excuse for that default apply the second exculpatory effect of that subsection to treat that default as not having occurred in relation to the assessment of the amount of the surcharge under appeal.

But on this approach what is the effect of the first limb of the exculpatory provision – "he shall not be liable to the surcharge"? By applying the section in this way is the effect to negate an assessment to a surcharge against which no appeal was made? Are the time limits for making an appeal to be breached by a back door? It seems to us that this is not the case. That is for two reasons.

First, the scheme of the Act is that a surcharge is assessed by the Commissioners, and having been assessed becomes collectable (unless successfully appealed) - see section 76(1) and (9). If an assessment has not been appealed it remains collectable. It is of course quite possible that the assessment is erroneous; it may even be shown to be erroneous in an appeal against a subsequent assessment. But if the assessment is not appealed, the taxpayer remains liable. And that is so whether the assessment is wrong in law or on the facts underlying it. If, in the course of considering an assessment to a surcharge in relation to say Q6, the tribunal in applying section 59(7) concludes that the circumstances were such that section 59(7) applies to the surcharge in ,say, Q3, the effect in law might be that the taxpayer is "not liable" for the Q3 surcharge, but that does not affect the validity of the assessment for that surcharge and the debt which is due upon it. There is no back door attack on the time limits.

Second, and less influential in our thinking: although time limits are permitted to be included in the tribunal rules by paragraph 9(a) Sch 13 VATA, the form of those limits is determined by secondary legislation. And, the contents of secondary legislation is a poor guide to the construction of primary legislation.

But there are in our view four reasons why the wider approach to section 59(7) should be preferred. First, section 59(7) refers to the taxpayer satisfying "the Commissioners, or on appeal a tribunal". There is no time limit set for the satisfaction of the Commissioners. Suppose that when a taxpayer gets his Q7 default assessment he approaches the Commissioners about a Q4 surcharge on which he had formerly been assessed. He satisfies them that he has an excuse. The effect is that section 59(7) must be engaged. That engages the exculpatory words. The Q4 default must now be ignored. He then appeals the Q7 assessment to the tribunal. The tribunal must take into account that he has satisfied the Commissioners in relation to Q4 and determine the Q7 surcharge accordingly. That element of the EU principle of Proportionality which requires the availability of effective judicial control over the actions of the Commissioners at the instance of the taxpayer, justice and common sense require that if the taxpayer cannot satisfy the Commissioners in relation to the nature of the Q4 default (in relation to its effect on the Q7 surcharge) he should have the right to attempt to satisfy the tribunal of the same matter in his appeal against the amount of the Q7 surcharge. The wider approach secures that effect.

Second, there seems to us to be no immediately obvious statutory policy which requires a more restrictive approach. Whereas a provision which would have the effect that defaults occurring too far in the past were excluded from investigation by the tribunal might be justified in terms of the lack of cogency of old evidence and the need for certainty, the strict approach does not consistently achieve that objective: If a taxpayer defaults in Q1,Q2 and Q5, with an excuse for Q2, the strict approach allows Q2 to be "reopened" a year later; but if the defaults are in Q1,Q2 and Q4, the strict approach will not allow Q2 to be reopened only nine months later because the surcharge in Q4 does not depend upon the Q2 default (taking the sine qua non approach to "depend").

Third, this approach avoids the patent anomalies and absurdities which flow from the strict approach and fits the statutory purpose. Because the wider approach allows each previous default to be considered (albeit only in the context of a surcharge to which it was material), and if an excuse is found to exist, the default to be ignored, the effect is that the taxpayer is penalised only in respect of things for which he is truly culpable by reference to the accumulation of such things over an extendable 12 month period. That seems to us to fit the aim of the provisions read as a whole.

Fourth and last, the wider approach avoids the difficulties alluded to at paragraphs 37 to 40 above in relation to the question of whether a surcharge "depends" upon a particular surcharge notice. Because each default in a series of defaults relating to a surcharge period which commences after the period of the first default will be material to the surcharge it occasions and thus within paragraph (a) of section 59(8), the tribunal may consider each of them. It can also consider the first default in the series in relation to the second default (which occasions the first surcharge) because, however narrowly section 59(8)(b) is construed, the first default will be material to the first default surcharge.

We recall the opening words of section 59(7): "If a person who, apart from this subsection, would be liable to a surcharge…satisfies the …tribunal…in the case of a default which is material to the surcharge". We are not dissuaded from the wider approach by the words "apart from this subsection"; they merely indicate the effect of the subsection is not to cancel itself out: they are not words of limitation but of clarification or extension: they do not require that the effect of the application of the section is to remove liability to the assessment in respect of that surcharge. Neither are we dissuaded by the condition that the person "would be liable to a surcharge". In relation to a surcharge other than the one under appeal it remains the case that any assessment on the taxpayer remain collectable for the reasons set out earlier in this decision.

We asked ourselves whether this approach to section 59(7) rendered paragraph (b) of section 59(8) otiose. We concluded that it did not for this reason. In a case where section 59(7) is being applied in relation to the surcharge under appeal the no liability limb of the exculpatory words is relevant because those words could absent the second part of paragraph (b) eliminate the surcharge. In such a case the excusing of a default in say Q2 ought not to eliminate a default in Q6 if there is an intermediate default in Q5. And that is the effect of these words: in relation to the appeal against that surcharge the Q2 default is not material because of paragraph (b) and the surcharge is not eliminated. (But by applying section 59(7) in relation to the Q2 surcharge, and, if appropriate, excusing the default occasioning it, the amount of the surcharge for Q5 may be affected.)

A third approach to section 59(7) starts with the strict construction, namely that it can be applied only in relation to the surcharge under appeal, but considers the position of the words "which is material to the surcharge" in subsection (7). The tailpiece of subsection (7) specifies two consequences: the first is the elimination of liability to the surcharge, the second is that for other purposes of section 59 the default is treated as not occurring. So far as the elimination of the liability to the surcharge is concerned the limitation of excusable defaults to the default occasioning the surcharge (subsection (8)(a)) and the immediately preceding default (subsection (8)(b)) is quite logical: the excusing of a prior default should not eliminate the liability to the surcharge if there is an intermediate (inexcusable) default after the notice on which the surcharge depends. Thus the words "which is material to the surcharge" make good sense in relation to the first limb of the tailpiece of subsection (7).

But if the strict construction of section 59 (7) is adopted then, for the reasons already set out, the limitation of defaults eligible for consideration appears to create anomalies.. Those anomalies are avoided if the restriction to material defaults is read as applying only to the first limb of the tailpiece. There is some indication in the tailpiece that this is what is intended: it is only the first limb which refers to "the surcharge"; the second limb makes no reference to any surcharge and deals only with the default. This approach to section 59(7) has the same effect as the wider approach described above: under that approach the second exculpatory limb of section 59(7) is effectively left free to apply in any situation where a default would have triggered any surcharge. It is attractive because of the wider words of the second limb. But it seems to us that the wider approach is to be preferred as a matter of construction.

A further possibility is to regard the words of subsection (8) as providing a sufficient condition but not a necessary condition for a default to be material to the surcharge. A surcharge is an amount not an event – see subsection (4). The natural meaning of something being "material" to a surcharge would encompass something which is material to the amount of that surcharge as well as its existence; and would encompass an earlier default whose existence increased the amount of that surcharge. Subsection (8) indicates that a default is material to a surcharge `if' one of two conditions are satisfied, not only if one of the two are satisfied. If subsection (8) provides only a sufficient condition then there may be other circumstances when it may properly be said that a default is material to a surcharge including those where the default is material to the amount of the surcharge rather than its existence. However, the specificity of the words in subsection (8)(b) are difficult to weave into a more general concept of whether or not a default is material to a surcharge, and this makes us doubtful of this construction.

In Jenks v Dickinson (1997) STC 853 at page 874 Neuberger J said that if one interpretation of a statute produces an undoubted anomaly which is contradictory to the evident purpose of the statutory provision viewed as a whole, principle common sense and authority show that court is entitled and indeed bound to adopt some other possible meaning if it exists.

It seems to us that treat the wider approach is a possible meaning of the words and is one which avoids the anomalies referred to above. We conclude that the tribunal is entitled to have regard in the application of section 59(7) to a prima facie default other than that directly giving rise to the surcharge under appeal for the purpose of determining whether such a default whose existence may affect the amount or existence of the default under appeal, may be ignored.

Was there a reasonable excuse for the 10/04 default?

The 10/04 VAT return and payment were due to be received by the Commissioners on 30 November 2007. Mrs Machin was away from October for about 6 weeks. She had not had other bouts of sickness and her absence left the administration of the company rudderless. There was no-one else available who was capable of doing the VAT return.

In our view a well run business would have contingency plans to meet regulatory and other requirements in the event of the illness or other absence of a key worker. But it is much more difficult for a smaller business to have arrangements in place to do this or to do it than a larger one. In our view in the Appellant's case it would not be reasonable to expect that it would have a contingency plan in place to deal with Mrs Machin's sudden absence.

It was finely balanced, but on balance it seemed to us that the Appellant's reaction to Mrs Machin's absence was that of a reasonable person. The wages had to be calculated and paid to keep the business going; it would not have been reasonable to expect the company to have found a substitute for Mrs Machin in time to get the VAT submitted in time.

We find that Mrs Machin's illness was a reasonable excuse for the Appellant's default in relation to 10/04. The company could have done more – it could have made a VAT payment on account, it could have engaged experienced professionals to take Mrs Machin's place temporarily, but in its circumstances, and on balance, it did not seem to us reasonable to expect it to do so.

Application to this appeal

Were we to have adopted the strict construction of section 59(7) we would have proceeded thus:

(1) we would have asked whether the 10/04 default was material to the 07/06 surcharge;

(2) the 10/04 surcharge may have been taken into account in one of the surcharge liability notices on which the 07/06 surcharges depended, but it was prevented from being material to the 07/06 default by the second half of section 59(8)(b) – there were liabilities in respect of defaults in Q3 and Q5;

(3) accordingly, even though there was a reasonable excuse for the 10/04 default that would not have prevented it from being considered as a default for the purposes of section 59(5) and the computation of the surcharge in 10/07.

However, for the reasons set out above it seems to us that, in the words of section 59(7), the taxpayer is a person who would be liable to a surcharge in respect of 10/04, and on its appeal against the 07/06 surcharge, it has satisfied the tribunal that in relation to the 10/04 default (which is material to the 10/04 surcharge) it has a reasonable excuse. Accordingly for the purposes of the preceding provisions of section 59, including section 59(5), it is to be treated as if it had not been in default in respect of 10/04, and the amount of the surcharge under appeal calculated accordingly.

Conclusion

We did not give leave to hear the appeal against the 10/04 surcharge out of time. That assessment therefore remains due and is unaffected by this decision.

In relation to the 07/06 surcharge we gave leave for the appeal to be heard out of time. Having done so we find:-

(i) the Appellant did not have a reasonable excuse for the 07/06 default;

(ii) the Appellant had a reasonable excuse for the 10/04 default;

(iii) the effect of section 59(7) and (8) is that because the Appellant had a reasonable excuse for the 10/04 default, the default surcharge for the 07/06 default is to be computed as if the 10/04 default had not happened;

(iv) as a result the rate of surcharge applicable to the 07/06 default is 10% and not 15%.

We therefore allow the appeal to the extent that the 07/06 surcharge be reduced from £7,791.17 to £5,194.12.

Mr Taylor asked for his costs if he was successful. In the circumstances we decided to make no award of costs.

Our decision was unanimous.

CHARLES HELLIER

CHAIRMAN

RELEASED: 23 November 2007

LON 2007/0545