Appeal Number LON/2008/1874

[2009] UKFTT 201 (TC)

TC00154

Appeal number LON/2008/1874

VAT – partial exemption – special method – reg 102, Value added Tax regulations 1995 – whether proposed method fair and reasonable and more fair and reasonable than existing method

FIRST-TIER TRIBUNAL

TAX

LONDON CLUBS MANAGEMENT LIMITEDAppellant

- and -

THE COMMISSIONERS FOR HER MAJESTY’S

REVENUE AND CUSTOMS (VAT)Respondents

TRIBUNAL: ROGER BERNER (Judge)

SHEILA WONG CHONG FRICS (Member)

Sitting in public in London on 7 and 8 July 2009

Andrew Hitchmough, instructed by BDO Stoy Hayward LLP, for the Appellant

Richard Smith, instructed by the General Counsel and Solicitor to HM Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2009

1

DECISION

1. This is the appeal of London Clubs Management Ltd (“the Appellant”) against the rejection by HM Revenue and Customs (“HMRC”) of the Appellant’s application to use a floor-area based partial exemption special method. The proposed method was rejected by HMRC by way of a letter dated 2 October 2007 to the Appellant’s advisers, BDO Stoy Hayward, and this rejection was confirmed, following a reconsideration, by a letter dated 7 August 2008.
2. The Appellant is the representative member of the VAT group concerned in this appeal. For ease of reference we refer throughout this decision to the Appellant, although the business activities are carried on by a number of different members of the VAT group.
3. Oral evidence was given by Mr Michael Rothwell, who is a chartered accountant and the Group Finance Director of the London Clubs International Limited (“LCI”) group of companies. The Appellant is a wholly-owned subsidiary of LCI. The Tribunal was referred to an agreed bundle of documents and to a supplementary bundle, and in addition had the benefit of a site visit to the Appellant’s premises at The Sportsman Casino in Old Quebec Street, London.

The Facts

1. The Appellant group is engaged in the casino, restaurant, bar and entertainment business. It has operations in the UK, Egypt and South Africa.
2. The group is owned by Harrah’s Entertainment, Inc, a US casino and entertainment group that incorporates brands such as Caesar’s Palace, Paris, Bally’s, Harrah’s and the World Series of Poker.
3. In the UK the group operates 11 casinos. Five of these operations are in London, and there is one in each of Manchester, Leeds, Glasgow, Nottingham, Brighton and Southend.
4. Part of the background to this appeal relates to the enactment and implementation of the Gambling Act 2005, which followed a lengthy period of consultation on the modernisation of casino gambling regulation foreshadowed in the publication of the Budd Report (Gambling Review Report) in 2001. This report included recommendations of relaxation of marketing restrictions, increases in the number of slot machines which could be operated on casino premises and proposals for different categories of casino - Small, Large and Regional.
5. The Appellant planned its business strategy throughout this period to enable its business to benefit fully from the anticipated changes. The strategy had to adapt to frequent changes in Government policy. One of these changes was that proposals for increased slot machine numbers were reduced down to a level (which applies today) of 20 such machines per casino. This was a major disappointment for the Appellant, which had taken leases of substantial premises in anticipation of greater floor area being available for slot machines. Its new casinos, for example, have a floor area typically in excess of 50,000 to 60,000 square feet. With the reduction in the number of such machines the Appellant had to develop a new strategy to enable it to make the best use of this space to generate profits. This translated into the addition of restaurants and bars, and entertainment business, including corporate events, and dedicated space for poker.
6. The legislative changes also included permitting immediate entry into casinos (formerly there had been a “cooling off” period) and allowing customers to consume alcohol on the gaming floor. Furthermore, casinos are no longer required to operate as private members’ clubs. All the Appellant’s casinos allow customers immediate access, without the requirement to produce identification on entry. (Identification requirements remain in place for money laundering reporting purposes, but the requirement to produce identification is no longer a barrier to entry.) As a consequence the Appellant regards itself as able to compete on a level playing field with other operators in the food and beverage and hospitality sectors.
7. The Appellant is targeting what it regards as a significant customer base who attend casinos solely to access the food and beverage and entertainment facilities on offer, rather than to participate in gaming. However, apart from the casino at St James, the Appellant has no figures for those who attend solely for the restaurants and bars, and the Tribunal was not provided with any such figures.
8. As well as those customers who enter the casino solely to use the bars and restaurants, gaming customers also expect food and beverage services to be available on-site. The quality of the restaurant and bar offering is dictated by the strategy to attract customers with greater spending power.
9. The following supplies are made by the Appellant at its casinos[1]:

(1)Gaming (for example roulette, blackjack). This is exempt from VAT, but subject to gaming duty.

(2)Slot machines. Standard rated.

(3)Dedicated poker facilities. Standard rated up to 27 April 2009, thereafter exempt from VAT but subject to gaming duty.

(4)Bar sales. Standard rated.

(5)Catering. Standard rated.

(6)Entertainment. Standard rated.

(7)Venue hire. Standard rated.

1. In the course of his evidence Mr Rothwell referred us to floor plans and photographs for each of the casinos at Empire Casino, Leicester Square, London and Manchester 235, GreatNorthernBuilding, Manchester. We also reviewed the floor plan for The Sportsman Casino, which we visited on the second day of the hearing. We find the following facts in relation to those premises:

(1)The premises in each case have a mixed use of gaming, restaurants and bars and entertainment, all within a casino context.

(2)Some areas were physically separated, for example the restaurant area in The Sportsman was separated from the main gaming floor by being on a separate floor of the premises, and was separated from the poker room by a curtain. In the case of other areas such as the bars, there was less physical separation. In some cases the delineation is clearer than in others, for example in the use of railings to fence off a bar area or part of it. This is the case for the bar at The Sportsman, for example. In others, such as the Icon bar at Manchester 235, where a small area of the bar contained gaming tables, there was no physical separation. However, we find that in all areas separate and identifiable floor space was occupied by the different parts of the business.

(3)Full restaurant dining facilities are provided, in defined restaurant areas, with extensive menus and table service. The type of restaurant offering differs from venue to venue, but includes fine dining in the Linen restaurant at Manchester 235 and in Glasgow and cuisine by a Michelin-starred chef at the Leeds casino.

(4)It is possible, indeed it is encouraged that customers are able to move easily between the different areas, for example from the restaurant to the gaming areas and from the gaming areas to the bar.

(5)Customers may consume drink in the gaming area, and may be served light snacks, such as sandwiches, at the gaming tables.

(6)Use of a particular area of floor space for a particular activity is liable to change. This had happened for example at the Icon bar and the Chill Out room at the Empire casino, where, to increase profitability, the space formerly occupied by those activities was now used for gaming. Although in theory the delineation of use could be altered by simply moving bar tables, for example, a few feet into the gaming area, Mr Rothwell’s evidence, which we accept, was that this would not make commercial sense and that it would not be done in practice.

(7)Substantial areas of floor space are designated for none of gaming, food and beverages and entertainment. These areas include reception, toilets, staff rooms, management offices and corridors and lifts. Also included in a non-designated area is the space occupied by the cashiers. Evidence was given that cash for all elements of the business is dealt with by the cashier function, and that this function consequently cannot be allocated to any particular element or elements for the purpose of giving it a floor space designation. There was no evidence that the cashier function should be regarded as substantially related to gaming such that it ought to have been included in the area designated for gaming, and we find as a fact that the cashier space is properly designated as a communal or mixed area.

1. Not all of the food and drink provided is charged for. A significant percentage is supplied free of charge to certain gaming customers. Food and beverage non-charge percentages of total food and beverage sales for the period April 2008 to March 2009, broken down by venue, were as follows:

The Sportsman63%
Golden Nugget49.9%
Rendezvous94%
Empire22%
St James24.5%
Southend21%
Brighton30%
Manchester25.1%
Glasgow23.7%
Nottingham31.8%
Leeds14.6%
Aggregate35%

1. The food and beverage element of the business, comprising the restaurants and bars, is not currently profitable in its own right. It was described by Mr Rothwell as a “profit centre”, but this expression is of significance only for management accounting purposes. In May 2009 for example, according to the management accounts, the food and beverage operation generated a positive contribution to overheads of £386,000. Each of the casino venues generated a positive return for the period in question and a contribution to overheads in management accounting terms, except for The Sportsman, which achieved a break even result. However, the picture provided by the management accounts, whilst we have no doubt that it is perfectly valid and of value for accounting purposes, includes as revenue the value of non-charge food and drink items, which is a corresponding expense in the management accounts as a cost of the gaming part of the business.
2. There was produced to us a table showing that the property-related costs incurred by the business amounted, in aggregate, to 71% of total residual costs over the most recent quarterly VAT period (January to March 2009) for which such figures were available. Mr Smith criticised this table in a number of respects, pointing to the fact that it was arguable whether certain of the costs (an example being refuse disposal) ought properly to be classified as property-related, and arguing that no adjustment should be made for notional VAT on properties not opted to tax. The table sought to arrive at a percentage comparison of actual costs by reference to figures that related to the VAT on those costs. It follows that an adjustment for notional VAT on costs that have not borne VAT is appropriate in order that a costs comparison can be derived from a comparison of input tax. We therefore reject Mr Smith’s objection in this respect. As to whether refuse disposal should be classified as property-related or not, we heard no evidence on this and make no determination. It does not materially affect the calculation. We therefore accept that the figure of 71% is a fair estimate of the proportion of the residual costs of the business that are property-related.

Partial exemption methods

1. The Appellant’s existing partial exemption method is itself a special method that took effect from 1 April 1993. According to this, following initial direct attribution to taxable and exempt supplies, input tax on goods or services which are not used or to be used wholly in making taxable supplies or exempt supplies (residual input tax) is recovered in the proportion that the value of taxable supplies bears to the value of all supplies. This can be described as a “turnover based method”. The method differs from the standard method (to which we refer below) in that it recognises that a certain proportion of catering supplies are, as we have seen, supplied free of charge, and accordingly requires input tax on costs relating to catering to be apportioned in the ratio that charged catering bears to total catering (including catering supplied free of charge).
2. The new proposed method, which is the subject of this appeal, proposes the following:

(1)Directly attributable input tax is first identified. That which is directly attributable to taxable supplies is fully recoverable and, subject to de minimis limits, that which is directly attributable to exempt supplies is irrecoverable.

(2)In determining what element of input tax is recoverable in respect of catering supplies, the input tax directly relating to those supplies is apportioned in the ratio that total chargeable catering supplies bears to total chargeable and non-chargeable catering supplies. Chargeable catering supplies include staff meals provided free of charge. This again recognises the fact that a proportion of the food and drink supplies is made free of charge to customers, and restricts input tax recovery in this respect accordingly.

(3)The remaining input tax is apportioned according to a formula which uses the floor space occupied by the business as the means of making that apportionment. To ascertain the recoverable element of the total residual input tax a fraction is applied to it. We set out the fraction and the key to its components in the Appendix to this decision. The following is a narrative description.

(4)The fraction has as its numerator the sum of four component parts (although it is accepted that, due to a change in the law from April 2009, those components would now be reduced to three). The component parts are:

(a)The proportion of the floor space (“the F&B floor space”) used for making taxable supplies of food and beverages, in other words restaurant and bar areas, that can be allocated to chargeable catering supplies. This proportion is calculated by applying to the F&B floor space the ratio that chargeable catering supplies bears to total catering supplies (the same formula as in (2) above).

(b)The proportion of the floor space which is used for making supplies of gaming (“the Gaming floor space”) that can be allocated to taxable gaming (there being – as we have noted above – gaming supplies that are taxable supplies and those that are exempt). This proportion is calculated by applying to the Gaming floor space the ratio that the number of seats for taxable gaming bears to the total number of seats for gaming.

(c)Floor space for poker rooms, to which an entrance fee is charged (“the Poker Room floor space”). (This would no longer be applicable to the extent that such supplies are exempt supplies.)

(d)Floor space comprised in designated areas specifically for entertainments (“the Entertainment Area floor space”).

(5)The denominator of the fraction is the sum of the F&B floor space (before apportionment), the Gaming floor space (before apportionment), the Poker Room floor space and the Entertainment Area floor space. It does not include any of the communal or mixed areas that have not been specifically designated as one of the component parts of the numerator of the fraction.

1. Floor plans for each of the casino premises illustrate how these areas are defined. The floor spaces designated for gaming, for food and beverages and for entertainments are clearly marked, as are the areas of communal and mixed use. We find as a fact that it is possible for the floor space occupied by each of these areas to be ascertained in such a way to enable the fraction to be reasonably calculated, including the cases where there are limited or no physical barriers between the different areas of use.

The Law

1. Entitlement to credit for input tax is provided for by sections 25(2) and 26 of the Value Added Tax Act 1994, and by regulations, as follows:

25 Payment by reference to accounting periods and credit for input tax against output tax

(2) Subject to the provisions of this section, [the taxable person] is entitled at the end of each prescribed accounting period to credit for so much of his input tax as is allowable under section 26, and then to deduct that amount from any output tax that is due from him.

26Input tax allowable under section 25

(1) The amount of input tax for which a taxable person is entitled to credit at the end of any period shall be so much of the input tax for the period (that is input tax on supplies, acquisitions and importations in the period) as is allowable by or under regulations as being attributable to supplies within subsection (2) below.

(2) The supplies within this subsection are the following supplies made or to be made by the taxable person in the course or furtherance of his business—

(a) taxable supplies;

…

(3) The Commissioners shall make regulations for securing a fair and reasonable attribution of input tax to supplies within subsection (2) above, and any such regulations may provide for—

(a) determining a proportion by reference to which input tax for any prescribed accounting period is to be provisionally attributed to those supplies;