Royal Bank of Scotland has lost an appeal on the VAT treatment
of costs incurred in the Lombard group’s hire purchase (HP)
business. This includes both vehicle and business asset
portfolios.
Under VAT, input tax paid out by any business on its costs is
recoverable when connected with its taxable sales to customers, but
not when the corresponding sales are VAT-exempt. HP has always
presented problems here, since it is a split transaction for VAT.
The receivables include the taxable price of the vehicle (or other
asset) but also VAT-exempt finance charges. Finance companies
therefore need to agree special methods with HM Revenue &
Customs (HMRC) on input tax recovery ratios for HP overhead
costs.
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Currently Lombard is recovering 15 per cent of its input VAT on
HP overheads. This was once a default rate agreed between Customs
and the Finance & Leasing Association for an industry-wide
method. However, with the development of PCP products and growing
resort to voluntary terminations (VTs) by consumers, motor finance
companies found that relatively more of their costs were taken up
with trading in cars (i.e. the taxable part of the transaction).
Some of them found that they could justify much higher recovery
rates cent in negotiations with their VAT officers, and the FLA
withdrew its endorsement of the 15 per cent rate.
Since 2005 Lombard has been in dispute with HMRC and seeking to
justify a 50 per cent recovery rate for HP overheads. It bases this
claim on a simple “transaction count”, arguing that for VAT
purposes each HP transaction comprises two deals, implicitly of
equal value, for the sale of goods and for the finance. At the
first litigation stage, a VAT tribunal last year ruled in Lombard’s
favour. However, at the Scottish Court of Session on August 21 this
year, a panel of three judges reversed the Tribunal’s ruling.
This judgment, delivered by Lord Penrose, found that the
tribunal had not adequately explained why the 50 per cent rate was
fair and reasonable. The appeal judges implied that any sustainable
special method would have to be based on a more systematic
attribution of costs than the transaction count basis argued by
Lombard.
Lombard has the opportunity to appeal further to the House of
Lords. In the meantime most advisers are recommending finance
companies to review their own recovery arrangements if necessary in
the light of the judges’ comments.
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