Claiming Input VAT on Professional Fees Incurred in a Takeover
30 August 2013
Posted by: Author: Carmen Holdstock
Author: Carmen Holdstock (Cliffe Dekker Hofmeyr)
Judgment was handed down in the Court of Appeal (Civil Division) in the United Kingdom (UK) in the case of BAA Ltd v Revenue and Customs Commissioners  EWCA Civ 112 on 21 February 2013. The case dealt with the claiming of Value-added Tax (VAT) paid on professional fees in respect of a takeover transaction.
The facts were as follows:
A consortium was to use a company, being Airport Development and Investments Ltd (ADIL), as a special purpose vehicle to acquire all the shares in an airport operator called BAA plc (BAA). In the course of bidding for the acquisition of the shares, ADIL engaged the services of bankers and legal advisers who made taxable supplies to it. Accordingly, ADIL paid VAT in respect of these services. At the time when ADIL incurred the liability to pay the VAT it was not registered for VAT and was not a taxable person for purposes of VAT.
Subsequent to the successful acquisition of BAA, ADIL joined the 'VAT group' of BAA (in terms of the UK VAT regime), at which point it became registered for VAT. ADIL, under the BAA VAT group, then sought to reclaim the VAT paid in respect of the said services.
The basis of ADIL's input VAT claim was that the services supplied to ADIL were in the course of an 'economic activity' carried on by it at that time, being the acquisition of BAA, and that the BAA VAT group's tax outputs should be attributed to ADIL's prior tax inputs. ADIL argued that the VAT incurred by it was part of the 'general overheads' of the BAA VAT group and that there was a 'direct and immediate' link to ADIL in connection with the takeover of BAA and the taxable supplies made by the BAA VAT group.
The two main issues were:
- Whether ADIL was carrying on an 'economic activity' when it incurred the liability to pay the input tax in respect of the services relating to the takeover bid.
- Whether there was a 'direct and immediate' link between (a) the supply of services to ADIL and (b) the taxable supplies made by the BAA VAT group, of which ADIL had subsequently become a member, and whose taxable supplies might be attributed to ADIL.
The court held that at the time ADIL incurred the liability to pay VAT in respect of the professional services rendered to it, ADIL's only intention was to acquire the shares of BAA. Even though the acquisition of the BAA shares was an act that would have economic consequences, it could not be equated to carrying on an economic activity for VAT purposes. At the time, ADIL did not make taxable supplies and did not intend to make taxable supplies. That finding dispensed with the contention that ADIL was, for VAT purposes, carrying on an economic activity. The attempt to reclaim input tax on the supplies of professional services to ADIL in connection with the takeover failed on that ground alone.
Also, there was no direct and immediate link between the input tax on the supply of professional services to ADIL and the output tax on the supply of taxable services made by BAA. At the relevant date, the supplies to ADIL were only in connection with the act of taking over BAA. They were unconnected to any supply that ADIL made or intended to make at the time. BAA's outward supplies in the course of its economic activity were not connected at the relevant date with the supplies to ADIL on which input tax was incurred. BAA's outward supplies and the VAT charged on them could not be attributed to ADIL to produce the requisite direct and immediate link between them.
In the matter of De Beers Consolidated Mines v Commissioner for the South African Revenue Service 74 SATC 330, De Beers Consolidated Mines (BCSM) was approached by a consortium that proposed a complex structure in terms of which the consortium would become the holding company and the new owners of DBCM. DBCM appointed various advisors for purposes of finalising the transaction. The issue was whether DBCM could claim input tax for VAT purposes on the expenditure incurred.
What was clear from both the majority and minority judgment relating to direct costs was that the expenditure would only be allowed as a deduction to the extent that those costs could be said to have been directly linked to the enterprise but that subsidiary costs would not be allowed as a deduction. The issuing of shares would also not be allowed as a deduction.
In other words the VAT incurred in respect of services or goods acquired by the vendor must have been:
"…acquired by the vendor wholly for the purpose of consumption, use or supply in the course of making taxable supplies, or where the goods or services are acquired by the vendor partly for such purpose, to the extent (as determined in accordance with the provisions of section 17) that the goods or services are acquired by the vendor such purpose…"
General overhead costs such as audit fees and legal fees will generally not raise too much of an issue to the extent that the costs are close enough to the core of the business of the enterprise.
It is interesting to note that the UK court as well as the court in the case of DBCM considered the application of the economic activity test and direct and immediate link test in determining whether the VAT paid would be claimable as an input deduction. The courts clearly share similar reasoning. These two cases emphasise the potential VAT leakage that could occur in respect of transaction costs and set out the important factors that should be considered.