Appeal Number LON/2005/0950

[2010] UKFTT 183

TC00487

Appeal number LON/2005/0950

VAT – scheme to avoid irrecoverable input tax on supplies of advertising services to loan broking business – establishment of loan broking business in Jersey with processing services provided by UK business – whether advertising services supplied to UK business – whether UK business made supplies of loan broking services – whether scheme an abuse

FIRST-TIER TRIBUNAL

TAX

PAUL NEWEY T/A OCEAN FINANCEAppellant

- and -

THE COMMISSIONERS FOR HER MAJESTY’S

REVENUE AND CUSTOMS (VAT)Respondents

TRIBUNAL: JUDGE ROGER BERNER

MRS JOANNA NEILL (Member)

Sitting in public in London on 8 – 12 February 2010

Julian Ghosh QC and Elizabeth Wilson, instructed by Ashurst LLP, for the Appellant

Christopher Vajda QC and Owain Thomas, instructed by the General Counsel and Solicitor to HM Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2010

1

DECISION

1.Paul Newey, trading as Ocean Finance, (“the Appellant”) appeals against an assessment to value added tax (“VAT”) for the period 1 July 2002 to 31 December 2004 in the sum of £10,707,075. There is a dispute on the amount of the assessment, which we were not asked to determine. Our decision is therefore one of principle only at this stage.

2.The appeal concerns the VAT treatment of advertising services provided to a company, wholly-owned by the Appellant, Alabaster (CI) Limited (“Alabaster”), which is incorporated and tax resident in Jersey and with a place of belonging in Jersey, under a contract between Alabaster and a third party Jersey company, Wallace Barnaby & Associates Limited (“Wallace Barnaby”), and loan broking services made under a contract between Alabaster and various third party lenders in the UK.

3.There are two issues for us to determine. The first, put shortly, is that the Appellant says that the advertising services, targeted at UK customers seeking loans, were provided to Alabaster and that Alabaster provided the loan broking services. HMRC say that the position under VAT law is that it is the Appellant, and not Alabaster, that supplies the loan broking services and that it therefore follows that the advertising services were supplied to the Appellant not Alabaster. If HMRC are right, they say that a reverse charge arises on the Appellant under s 8(1) of the Value Added Tax Act 1994 (“VATA”), which would be attributable to an exempt supply of loan broking services in the UK, and thus not recoverable as input tax.

4.If, contrary to HMRC’s first submission, the supplies of advertising services were made to Alabaster and not to the Appellant,then the second issue is that they say that the scheme, viewed as a whole, constituted an abuse of EC Directive 77/388/EEC (“the Sixth Directive”), and that the abusive advantage can be eliminated by treating the Appellant as receiving supplies of advertising services and using those services to make exempt supplies of loan brokerage services in the UK.

5.The Appellant was represented by Julian GhoshQC and Elizabeth Wilson. Christopher Vajda and Owain Thomas appeared for HMRC.

The facts

6.We were provided with a very short agreed statement of facts, which we do not reproduce here, as we can include the agreed facts within our overall factual findings. We had witness statements of, and heard oral evidence from, the Appellant, Mr Newey, and from Dermot Boylan, a director of Alabaster since 8 December 2000, who is a partner in Moore Stephens, Jersey. We also received in evidence bundles of agreed documents. From this we summarise below our findings of fact.

7.Before doing so, however, we should refer to an objection raised by HMRC in respect of certain written comments submitted on behalf of the Appellant after the hearing. At the hearing itself we agreed that Mr Ghosh would provide the Appellant’s submissions on evidence early in the week following the hearing. Mr Vajda’s submissions on findings of fact were produced at the hearing itself, prior to Mr Ghosh’s final reply. After the hearing a revised version of HMRC’s submissions was received by the Tribunal, principally marked up to include references to the transcript of the hearing, but also containing some additional submissions. On the Thursday (18 February 2010) of the week following the hearing the Appellant’s note on evidence was received. On the following day an updated version was sent to the Tribunal, including comments on behalf of the Appellant on the HMRC submissions on findings of fact. HMRC object to those comments being considered by the Tribunal, and say that the Appellant had the opportunity to comment on HMRC’s factual case in reply on the final day of the hearing.

8.We do not consider there is anything in HMRC’s submissions in this respect. Having agreed that the Appellant would have the opportunity to submit a written note on the evidence after the hearing, it is inherent that such a note would include comments by the Appellant on the submissions made by HMRC. It is true that the Appellant could have addressed those issues in reply at the close of the hearing, but, once it had been agreed that a written submission could be made afterwards, we can see no reason why that should not include elements of reply to the HMRC submissions. Indeed, it would be surprising if it did not. The Appellant has the final say, and we cannot discern any prejudice to HMRC. The Tribunal has itself considered all the evidence and has made its findings of fact on the basis of that consideration.

Background

9.Although this appeal relates to the period from July 2002 to December 2004, we should set out the background which goes back somewhat further. The Appellant, who had experience as an employee of loan broking, commenced trading in May 1991 as a master broker in partnership with one Martin Horton under the name Sapphire Broker Systems (“Sapphire”). As a master broker the partnership processed and handled loans for other smaller brokers. Sapphire were passed leads generated by those smaller brokers from their own advertising, but did not generate leads themselves by advertising in their own name. Sapphire would process loans (we describe below what processing involves) on behalf of the referring brokers and broker deals with lenders on its own panel, that is to say lenders with which they had a commission agreement. Once the application was approved a commission was paid to Sapphire by the lender, and a percentage of that commission was passed by Sapphire to the referring broker.

10.In November 1991, the partnership decided to expand from master broking into broking loans for its own applicants. From an initial newspaper advertising campaign the business expanded and the partnership traded as a loan broker under the name Ocean Finance. The partnership therefore at this stage had a processing business for other brokers (Sapphire) and its own loan broking business (Ocean Finance). In about the autumn of 1992 the partnership ceased the Sapphire business, apart from a brief period in 1995 when it resumed before again being wound down.

11.Ocean Finance attained a significant market share within a relatively short period. The partnership at that stage became aware that a number of their competitors were not suffering any VAT cost on their advertising spend. On advice from the partnership’s accountants, Moore Stephens, it was therefore decided that the loan broking operation should be established in Jersey rather than in the UK, as this had a significant VAT advantage over an equivalent UK based business. Moore Stephens advised on the structure and on the way the decision-making processes should be operated in order to achieve the VAT advantage. The arrangements which we describe below were put in place to achieve this objective. We find that the Appellant’s sole reason for implementing these arrangements was to avoid VAT.

Alabaster

12.At first the partnership established a brokerage operation in Jersey through a company, Lichfield (CI) Limited (“Lichfield”) incorporated and tax resident there. The partnership retained the processing of applications, providing that service to Lichfield as broker under a contract dated 1 March 1996. Lichfield was granted the right to use the names “Ocean Finance” and Diamond Finance” in advertisements. In January 1997 the Appellant bought out Mr Horton’s interest in the loan processing operation and from then he carried on that business as a sole trader. This business operated from Lichfield, Staffordshire before relocating to Tamworth in April 2002.

13.Later in 1997 Lichfield ceased trading as a loan broker. The Appellant, with the assistance of Moore Stephens, both in the UK and in Jersey, established a new company, incorporated on 15 May 1997 and tax resident in Jersey, under the name of Alabaster (CI) Limited. The entire issued share capital of Alabaster is, and has at all material times been, £2 comprising 2 ordinary shares of £1 each beneficially owned by the Appellant. The Appellant also made loans to Alabaster totalling £880,375 during the initial accounting period to 30 September 1998. These loans were in order to provide Alabaster with working capital, and were interest free and unsecured. Of the total loans, an amount of £696,500 was repaid in that first financial period; the balance of £183,875 was repaid in the period to 30 September 1999. In each case these repayments were financed out of Alabaster’s own cash flow from its business.

14.Alabaster obtained in 1997, and held at all material times, a licence from the Office of Fair Tradinglicensing it under the Consumer Credit Act 1974 to carry on in its own name and in the names of Ocean Finance and (by virtue of a variation of the licence issued on 10 November 1997) Diamond Loans, the businesses of consumer credit, consumer brokerage, debt adjusting/counselling and debt collecting.

15.On 2 October 1997 Alabaster and the Appellant entered into an agreement (“the Services Agreement”) under which the Appellant agreed to provide loan processing services to Alabaster. The Services Agreement is important, and we review it in more detail below.

16.On the same date Alabaster entered into an agreement with First Island Properties Limited under which Alabaster was to be provided with, amongst other things, a private office with a floor area of not less than 50 square feet, a desk, chair, filing facilities, telephone/fax lines (through First Island’s switchboard) and a networked workstation with printer, the use of an unspecified room as required in which to hold directors’ meetings, access to common areas and toilet facilities. The leased space was in a building also occupied by Moore Stephens.

17.Alabaster’s directors, of whom there have at all material times been not less than four, were provided or recruited locally by Moore Stephens, Jersey. The articles of association of Alabaster provide that, subject to statute and the memorandum and articles and to any direction given by special resolution, the business of the company shall be managed by the directors who may exercise all the powers of Alabaster. There was no restriction on the powers of the directors in the memorandum or articles or in a special resolution. Accordingly, the directors were responsible for managing and exercising the powers of Alabaster subject to any requirements imposed by the Companies (Jersey) Law, 1991. The Appellant played no part in the management of Alabaster. From incorporation of the company to his resignation on 20 February 2003, the principal director, in terms of the executive functions that he carried out, was Jeremy Hewlett. (Mr Hewlett has since died, so we did not receive evidence from him.) Mr Hewlett had been chief executive of Equity & Law Insurance Company in Isle of Man and Jersey, and was recently retired from employment when he took up his position with Alabaster. Apart from Mr Hewlett and Mr Boylan, the other directors during the period relevant to this appeal were: Clive Barton (15 May 1997 to date), Jamie Le Sueur (15 May 1997 – 24 February 2003), Ray Bradshaw (1 July 2001 – 31 December 2004), James Bowman (15 May 1997 to date) and Ian Philpott (21 February 2003 – 31 December 2004). Of these, as well as Mr Boylan, Mr Barton and Mr Bowman were also partners in Moore Stephens, Jersey. All the directors were Jersey residents. None of them had any direct experience of loan broking. Those directors who were partners in Moore Stephens, Jersey charged for their services on a time basis. For the other directors, the highest annual fee for each during the relevant time was: Mr Hewlett £6,800, Mr Bradshaw £10,400 and Mr Philpott £4,200.

18.Also on 2 October 1997, there was an agreement between Alabaster and Moore Stephens, Jersey whereby a secondee was provided to the company to work for 25 hours per week. The first such secondee, Olive Gardner, retired in 2001, and was replaced by Lucy Woodworth, who was contracted for 36¼hours per week. Lucy Woodworth generally worked from 10am to 5pm or so Monday to Friday.

19.By a further agreement with Moore Stephens, Jersey dated 2 October 1997, Alabaster was provided with accountancy and related services, including the maintenance of corporate records, the preparation of accounts and the filing of certain statutory returns.

The Services Agreement

20.We referred briefly above to this agreement, entered into on 2 October 1997 between Alabaster and the Appellant. It recited that Alabaster had entered into agreements with various lenders to act as intermediary in arranging the granting of personal loans by the lenders, and that, having regard to the fact that Alabaster had no place of business in the UK and that the Appellant had the necessary expertise, credit licences, staff and facilities for the processing of applications for such loans, Alabaster wished to engage the Appellant for the provision of certain services in accordance with Alabaster’s instructions. The operative part of the Services Agreement contains a list of services the Appellant was to provide which essentially covers all the processing tasks for the loan broking business, from the dealing with enquiries from prospective borrowers in response to advertisements placed by Alabaster to referring loan applications in accordance with Alabaster’s instructions. Alabaster itself undertook certain obligations including ensuring compliance of advertisements with consumer credit legislation and the giving of written authority for the forwarding of documents to customers. It also agreed to specify the name of a lender for each application, but it was accepted that in practice this had been done by the Appellant and not by Alabaster.

21.Under the Services Agreement the Appellant agreed to allow Alabaster to use the name “Ocean Finance” in its advertisements for the sole purpose of soliciting applications from the public. It was also provided that the form of those advertisements was subject to the approval of the Appellant from time to time. There was no power under the Services Agreement for the Appellant to commission advertising for Alabaster.

22.For his processing services the Appellant was paid a fee by Alabaster. At the outset of the Services Agreement this fee was fixed at 50% of the commissions immediately receivable in respect of each loan by Alabaster, together with the payment of certain expenses or disbursements. The Services Agreement provided that this fee was subject to review, and it was reviewed subsequently, in February 1998, so that the fee payable was increased from 50% of the commissions immediately receivable by Alabaster to 60% of those commissions. This was confirmed by letter dated 2 February 1998 from Alabaster to the Appellant, signed by Mr Hewlett on behalf of Alabaster. The background to this, we heard from Mr Newey, was that certain lenders were paying override commissions to Alabaster. These were additional commissions for achieving a certain level of business, and were not immediately receivable in respect of individual loans and so were not included in the calculation of the Appellant’s fee under the Services Agreement. The increase in the percentage share of the Appellant in the immediately receivable commissions was to compensate the Appellant for the fact that it would not receive a share of any override commissions.

23.Separately from the Services Agreement itself, but related to fees so it is appropriate to refer to it here, in April and May 2001 it was agreed between the Appellant and Alabaster that the Appellant would introduce business from third party introducers to Alabaster. These introductions would then be processed according to the Services Agreement. In such a case, 50% of the commission would be ceded to the third party introducer, and 45% would be paid to the Appellant for the processing, leaving 5% for Alabaster. We also heard evidence of broker commissions during the early period when the Appellant (in partnership with Mr Horton) operated as a master broker and typically ceded 50% to 60% of commission to a sub-broker. This demonstrates to us that in an arm’s length transaction between a broker and processor, a processor might expect to receive a share of between 40% to 50% of the broker commission. We do not consider, as was suggested by Mr Vajda in cross-examination of Mr Newey, that the 50% or 60% commission share of the Appellant under the Services Agreement shows that the activities of the Appellant were those of a broker, and not a processor; that is determined by the nature of the activities themselves. But nor do we consider that these third party examples are, as submitted by Mr Ghosh, comparables that would lead us to find that the Services Agreement was an arm’s length arrangement. In our judgement it was not. In an arm’s length situation, the commission paid to an introducing broker reflects the initial business generated by that broker. This is achieved, in the main, directly through advertising, but advertising alone does not generate the business. That depends, in our view, based on the evidence, to a significant extent on goodwill and name recognition. The Services Agreement provided for Alabaster to have the use of a valuable established trade name, “Ocean Finance” at no cost. Viewing the agreement as a whole therefore, it cannot in our view be regarded as at arm’s length.