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PHILIP MARTIN, senior tax manager at Marks and Spencer plc, provides an update on the company's long battle to recover VAT which was never due.
WHAT LINKS CHOCOLATE teacakes, bottled water, biscuit containers and gift vouchers? As well as being able to buy them at the local Marks and Spencer store, all of these products have been misclassified by Customs and Excise for VAT purposes.
PHILIP MARTIN, senior tax manager at Marks and Spencer plc, provides an update on the company's long battle to recover VAT which was never due.
WHAT LINKS CHOCOLATE teacakes, bottled water, biscuit containers and gift vouchers? As well as being able to buy them at the local Marks and Spencer store, all of these products have been misclassified by Customs and Excise for VAT purposes.
Background
In the case of chocolate-covered marshmallow teacakes, Customs had classified these as confectionery and therefore standard rated for VAT purposes, rather than as cakes which are zero rated; accordingly they had forced retailers to charge VAT incorrectly since the introduction of the tax in 1973. As regards gift vouchers, retailers had been required by Customs to account for VAT at their face value rather than the (lower) amounts received when they were sold.
Eventually, Customs conceded that VAT had been incorrectly charged on such items. To the layperson, it would seem that a repayment would be in order. However this was resisted in whole or in part for two reasons.
- Customs argued that the overcharged VAT would have been passed on to customers by raising prices. Therefore repayment to the retailer would constitute 'unjust enrichment'.
- The Finance Act 1997 amended the Value Added Tax Act 1994 to introduce what is known as the three-year cap, so that any repayment of overpaid VAT is to be limited to sums paid over in the three years preceding the repayment claim, a reduction from the previous six-year limit
Marks and Spencer appealed in 1997. The VAT tribunal upheld the capping provision and upheld the unjust enrichment argument to the extent of 90 per cent of the VAT in respect of foodstuffs. In other words, Marks and Spencer could recover 10 per cent of the overpaid VAT on the teacakes, biscuit containers and bottled water, but only for the three-year period. (In respect of gift vouchers, the 'unjust enrichment' argument was not pursued and so there was entitlement to a 100 per cent refund of the overpaid VAT subject to the three-year cap.) As well as the domestic law issues, Marks and Spencer also argued that the change in the 'cap' infringed its rights under European Community law. This position was rejected by the tribunal and the High Court on appeal. The Court of Appeal also found for Customs on the United Kingdom matters, but referred the European Union issues regarding the cap (in the context of the gift vouchers, where 'unjust enrichment' was not a factor) to the European Court of Justice. The case was heard last October, and the judgment promulgated on 11 July 2002. This was a comprehensive victory for Marks and Spencer. The European Court of Justice held that 'national legislation retroactively curtailing the (VAT repayment) period … is incompatible with the principles of effectiveness and the protection of legitimate expectations'.
The legal arguments
Article 11 of Sixth Council Directive set out the definition of VATable amount. It was agreed by all parties that this article had not been properly implemented in the United Kingdom until domestic VAT legislation was corrected on 1 August 1992, following victory by the taxpayer in Argos Distributors Ltd v Commissioners of Customs and Excise [1996] STC 1359, a case relating to gift vouchers. However Customs' interpretation of the issue led to Marks and Spencer being required to continue to overaccount for VAT on gift vouchers until 1996. It claimed repayment of this VAT for the period May 1991 to August 1996.
Before the change in law, any VAT repayment could be made for any period up to six years from when the claimant discovered the error. In 1997, this period was reduced to three years with retrospective effect. The question put by the Court of Appeal to the European Court of Justice, which related to the 'pre-Argos' VAT (that is, overpaid from May 1991 to July 1992) was essentially this: where a directive has been incorrectly implemented into domestic legislation, is the three-year cap compatible with taxpayer rights under community law, particularly the principle of legitimate expectations? The Advocate General's opinion, which was handed down on 24 January 2002, was very supportive of Marks and Spencer. Although the opinion was not binding on the court, the court essentially followed the Advocate General's line and reformulated the question referred to include not just the 'pre-Argos VAT' but the VAT for the whole 1991 to 1996 period. The court held that: '… the adoption of national measures correctly implementing a directive does not exhaust the effects of the directive. Member States remain bound actually to ensure full application of the directive even after the adoption of these measures.' In other words, the fact that the legislation had been corrected did not absolve Customs from being liable to repay the VAT overcharged in error after the correction. The fact that a directive has been correctly implemented does not deprive taxpayers of the right to recover amounts collected by Customs in breach of the provisions of that directive. Community law gives European Union residents certain rights. It is not acceptable for domestic law to curtail or render difficult or impossible the exercise of those rights (the principle of effectiveness). While the court held that it was reasonable for the Government to lay down reasonable time limits for repayment claims, such legislation must be compatible with the effectiveness principle. In Marks and Spencer's case, the new time limit applied not only to all claims made after the legislation became effective, but also to all claims made on or after the date of the announcement that such legislation was intended. The court stated that not only should the new limitation period be reasonable, but that there should be transitional arrangements allowing an adequate period for lodging claims under the old legislation. The United Kingdom legislation, which retroactively deprived Marks and Spencer of a right to repayment that it previously enjoyed, was consequently held to be incompatible with the principle of effectiveness. The Government's argument that the change in law had the legitimate purpose of protecting the Exchequer against unforeseen liabilities was considered an inadequate reason to deprive taxpayers of their rights under Community law. The European Court of Justice also found that Marks and Spencer's 'legitimate expectations' that it would obtain a VAT refund had been thwarted by what had happened.
What now?
We are now in an unprecedented situation and it is not completely clear who should do what next. This is highlighted by the fact that the European Court of Justice not only commented on the question put to it by the Court of Appeal, but effectively widened the scope of the referral.
On 5 August, Customs issued Business Brief 22/2002 containing their reaction to the decision. They announced that they would give effect to a transitional regime, retrospective to 1996, to allow taxpayers to make the claims they ought to have been able to make at the time. The main text of the press release is reproduced in the Update section of this issue of Taxation. And for Marks and Spencer? We believe that Customs is now prepared to concede our entire vouchers claim and 10 per cent in respect of teacakes. So far, so good; but the saga may not be over.
