Airtours Holidays Transport Ltd v Revenue and Customs [2016] UKSC 21

Airtours, facing financial difficulty, paid PwC to produce a report for its lending institutions on the viability of its restructuring proposals. The Supreme Court held, by majority, that PwC’s services were supplied to the Institutions, not Airtours, so Airtours could not recover VAT as input tax.

Facts

In October 2002, Airtours Holidays Transport Ltd (formerly MyTravel Group plc) was in serious financial difficulties, having borrowed from around 80 financial institutions. To facilitate refinancing, it was suggested that an accountants’ report be commissioned to satisfy the Institutions that Airtours’ restructuring proposals were viable. PricewaterhouseCoopers LLP (PwC) was appointed pursuant to a letter of engagement dated 5 November 2002, addressed ‘To the Engaging Institutions’, supplemented by standard Terms and Conditions. Airtours countersigned the letter and was obliged under it to pay PwC’s fees (including a £200,000 retainer), to indemnify PwC, and to acknowledge a cap on PwC’s liability.

PwC carried out wide-ranging and technical work, producing a Report which satisfied the Institutions. Airtours paid PwC’s fees plus VAT and sought to deduct that VAT as input tax. HMRC disallowed the deduction, contending the services were not supplied to Airtours. The First-tier Tribunal found for Airtours; the Upper Tribunal reversed; the Court of Appeal (by majority, Gloster LJ dissenting) upheld HMRC. Airtours appealed to the Supreme Court.

Issues

The central question was whether the VAT charged by PwC and paid by Airtours was recoverable by Airtours as input tax under section 24 of the Value Added Tax Act 1994 and article 168 of the Principal VAT Directive (2006/112/EC). This raised two sub-issues:

• Whether, on a true construction of the Contract, PwC was under any contractual obligation to Airtours to supply the Services (whether to Airtours or to the Institutions).
• If not, whether the economic reality of the arrangements nevertheless meant that there was a supply of services from PwC to Airtours.

Arguments

Airtours

Airtours argued that, properly construed and viewed against the economic realities, the Contract conferred upon it a contractual right to require PwC to provide the Services to the Institutions. It relied on five factors: its commercial interest in the work being done; its obligation to pay PwC; its role in initiating and selecting PwC; its status as a countersignatory; and its assumption of liabilities under the Letter. It relied on Lord Millett’s dictum in Customs and Excise Comrs v Redrow Group Plc [1999] 1 WLR 408, suggesting any benefit obtained for business purposes in return for payment amounted to a supply. It also argued that denying the deduction breached the principle of fiscal neutrality.

HMRC

HMRC accepted that the Contract was commercially beneficial to Airtours, but contended that PwC’s contractual obligation to supply the Services was owed solely to the Institutions. Airtours’ role was confined to paying the fees, providing an indemnity and accepting a liability cap. As Airtours was not the recipient of the supply, no input tax was recoverable.

Judgment

The first question: contractual obligation

Lord Neuberger (with whom Lord Mance and Lord Hodge agreed) held that, on the proper construction of the Letter and Terms, PwC’s commitment to provide the Services was owed exclusively to the Engaging Institutions. Multiple textual features supported this conclusion: the Letter was addressed to the Institutions; para 1 stated PwC had been retained by them; para 4 stated the Report was for their sole use; paras 9 and 10 acknowledged a duty of care only to the Institutions; and para 12 referred to the work as ‘required by the Institutions’. Airtours’ countersignature was needed to bind it to the payment, indemnity and limitation provisions, but did not enlarge PwC’s obligations to it.

The five commercial factors relied upon by Airtours, including its payment obligation and its interest in the work, raised at most a prima facie expectation of a contractual duty owed to it, but did not compel one. No term could be implied under the tests reaffirmed in Marks and Spencer plc v BNP Paribas Securities Services Trust Co (Jersey) Ltd [2015] 3 WLR 1843, as neither business necessity nor obviousness was made out.

The second question: economic reality

Even absent a contractual right, Airtours argued there was a supply by reference to economic reality. Lord Neuberger rejected this. Drawing on Revenue and Customs Comrs v Loyalty Management UK Ltd [2013] STC 784 (per Lord Reed at paras 66-67 and Lord Hope at para 110), WHA Ltd v Revenue and Customs Comrs [2013] STC 943, Secret Hotels2 Ltd v Revenue and Customs Comrs [2014] STC 937, and CJEU authority including Tolsma (Case C-16/93) and Newey (Case C-653/11), he held that where the payer is not entitled under the contract to receive services from the supplier, then (absent artificiality) no right to deduct input tax arises. The Contract reflected economic reality: Airtours’ benefit lay not in the Services themselves but in the enhanced prospect of refinancing.

The fiscal neutrality argument was rejected: fiscal neutrality is a principle of interpretation, not a basis for inventing a supply where none exists. The argument that there could be no supply at all because the Institutions provided no reciprocal performance was also rejected; third party consideration under article 73 is not limited to consideration provided alongside a recipient’s own legal obligation.

Dissents

Lord Clarke and Lord Carnwath would have allowed the appeal, substantially for the reasons given by Gloster LJ in the Court of Appeal. They considered the majority’s approach too narrow and insufficiently attentive to economic realities. They identified two distinct supplies: one to Airtours (the right to have the Services provided to the Institutions) and one to the Institutions (the Services themselves). Lord Carnwath placed particular emphasis on the timetable in clause 19 and the £200,000 retainer payable on commencement, contending that Airtours must have had enforceable rights against PwC.

Implications

The decision confirms that, in determining whether VAT is recoverable as input tax, the recipient of a supply must ordinarily be identified by reference to the contractual arrangements, subject to the overriding requirement of economic reality. Where a taxpayer pays for services supplied contractually to a third party, and has no contractual right under those arrangements to require the supplier to perform, the taxpayer’s payment is likely to constitute third party consideration only, with no recoverable input tax.

The judgment reinforces the approach taken in Loyalty Management, WHA and Secret Hotels2: contractual analysis is the starting point but must be tested against economic reality, and economic reality does not enable a taxpayer to create a supply that the contract does not provide. The principle in Redrow is confined by the gloss in Loyalty Management: a mere benefit derived from a payment is not enough; a ‘careful and sensitive analysis’ of the economic realities is required.

The decision is of practical significance to lenders, borrowers and professional advisers in restructuring contexts and other tripartite arrangements where one party pays for a report or service principally for the benefit of another. Parties wishing to secure input tax recovery should ensure that the relevant contractual documentation clearly identifies them as recipients of the supply and confers enforceable rights to performance. The closely divided court (3:2) and the strong dissent indicate that the boundary between contractual recipient and third party payer remains fact-sensitive, and that small modifications of facts may produce different VAT outcomes.

Verdict: Appeal dismissed. By a majority (Lord Neuberger, Lord Mance and Lord Hodge; Lord Clarke and Lord Carnwath dissenting), the Supreme Court held that PwC’s services were supplied contractually to the Engaging Institutions and not to Airtours, and that the economic reality did not displace that contractual analysis. Airtours was therefore not entitled to recover the VAT charged by PwC as input tax.

Source: Airtours Holidays Transport Ltd v Revenue and Customs [2016] UKSC 21