The CJEU rules that certain contract purchase agreements are supplies of services, rather than goods.
The recent VAT case of Mercedes-Benz Financial Services UK Ltd (CaseC-164/16) is of great importance, not least because it is likely to be one of the last CJEU judgments in response to a referral from a UK court.
The facts behind the case are well-trodden and will not be repeated at length. In short, it concerns the VAT treatment of certain motor vehicle contracts (‘Agility’ contracts); specifically whether they are supplies of goods (whereby VAT is payable upfront on the whole of the contract value), or supplies of services (where VAT is due only on a cash received basis). There is a significant cash flow advantage to the taxpayer if contracts are classified as supplies of services.
The Agility contract provides the lessee with an option to purchase the vehicle after the conclusion of the lease, subject to payment of a further amount (‘approximately 40% of the sale price’) which corresponds to its anticipated market value.
The key consideration as to whether the Agility contract was a supply of goods was based on whether it was a contract for hire which provides that in the normal course of events ownership is to pass at the latest upon payment of the final instalment’ (as stated in article 14(2)(b) of the Principal VAT Directive).
Two conditions would therefore need to be satisfied:
- the agreement must contain a ‘clause relating to the transfer of ownership of those goods’ (which the CJEU clarified could be met where an agreement contains an option to purchase the leased asset); and
- it must be clear that ‘ownership of the goods is intended to be acquired automatically by the lessee if performance of the contract proceeds normally’.
Does this mean that motor insurance companies and businesses supplying hire purchase (HP) products, in the hope of having them treated as supplies of services, can simply restructure their contracts so that rather than making every instalment contractually due, they include an optional instalment of a nominal sum at the end? The short answer is ‘no’.
The CJEU distinguished between the Agility contract and traditional HP contracts where, although both require a number of monthly instalments, a HP contract contains a ‘modest additional fee … to acquire ownership’. There was specific reference to an agreement with a ‘contractually determined outcome – of ownership being transferred’ as being ‘incompatible with a genuine economic alternative’. The Agility contract would therefore be considered as a supply of services for the purposes of VAT. With Agility contracts, the customer may:
- opt to acquire the vehicle outright;
- purchase it and use it as a deposit for a new vehicle; or
- return it to Mercedes.
This is a completely independent choice for the customer to make. This is different to HP contracts, where the ‘only economically rational choice the lessee could make’ is to pay the nominal fee and acquire the vehicle. One could not say that the only economically rational choice would be for an Agility customer to pay a further 40% of the sale price in one lump sum to acquire a vehicle (that would be at least three years old).
In handing down its judgment, the CJEU focused on the potential impact on legal certainty and the application of VAT if HMRC would have to constantly make follow-up inquiries to determine the intentions of the customer and the motor vehicle company at the time when the option is exercised and then make adjustments if necessary. The prospect of such an additional administrative burden has therefore been avoided altogether. Following the judgment, it will be of wider importance to see how HMRC (and potentially the courts) opt to deal with Mercedes’ interest reclaim (which would not be time-barred), and with related claims from companies making supplies of similar finance and other HP products.
This article was originally published by Tax Journal.