[2011] UKFTT 68 (TC)

TC00946

LONDON TRIBUNAL CENTRE 					Reference No: LON/2004/0046

(1) J P MORGAN FLEMING CLAVERHOUSE INVESTMENT TRUST PLC
(2) THE ASSOCIATION OF INVESTMENT TRUST COMPANIES Appellants

- and -

COMMISSIONERS OF HM REVENUE AND CUSTOMS Respondents

Tribunal:  THEODORE WALLACE (Chairman)
MRS CATHERINE FAQLTHARSON, ACA
     MRS LYNNETH SALISBURY, LLB, JP

Sitting in public in London on 9 May 2005

DIRECTION

UPON THE APPEAL dated 15 January 2004 against a decision dated 15 December 2003

UPON THE APPLICATION of both parties at the outset of the appeal hearing that the
Tribunal should refer to the Court of Justice of the European Communities questions as to the
interpretation of Article 13B(d)(6) of the Sixth Council Directive on VAT in relation to the
supply of management services to investment trust companies
UPON HEARING on 9 May 2005 Paul Lasok QC and Mario Angiolini, instructed by
Anbreen Khan, Deloitte and Touche LLP, for the Appellants and Kenneth Parker QC and
Raymond Hill, instructed by the Acting Solicitor for HM Revenue and Customs, for the
Respondents
AND UPON READING the draft questions agreed by the parties together with a draft
Schedule submitted on 17 June 2005

AND HAVING CONSIDERED further written representations by the parties

UPON the Tribunal being satisfied that a decision on the questions set out at paragraph 73 of
the Schedule to this Direction is necessary to enable it to give judgment on the appeal
g.Die0046-Fle.Wallace

IT IS DIRECTED THAT
1. That the questions contained in paragraph 73 of the Schedule (below) hereto be referred
to the Court of Justice for a preliminary ruling pursuant to Article 234 of the
EC Treaty
2. That further proceedings relating to this appeal be stayed until the Court of
Justice has given its preliminary ruling on the questions referred or until further
order
3. That the Registrar forthwith, and without waiting for the time to appeal against
this Direction to expire, transmits to the Registrar of the Court of Justice copies
of this Direction and the Schedule hereto

THEODORE WALLACE
Chairman

Release Date: 12 May 2005

JP MORGAN CLAVERHOUSE INVESTMENT TRUST

SCHEDULE
INTRODUCTION

1. 	This reference for a preliminary ruling is concerned with the meaning and effect of Article 13(B)(d)(6) of the Sixth VAT Directive.

2. 	The main proceedings concern the application of Article 13(B)(d)(6) to the supply of management services to Investment Trust Companies ("ITCs").

3. 	The supplies of management services to Authorised Unit Trusts ("AUTs") and Open-ended Investment Companies ("OEICs") are exempt under the United Kingdom statutory provisions designed to implement Article I3(B)(d)(6). The Appellants contend that the supply of management services to ITCs are also exempt from VAT pursuant to Article 13(B)(d)(6). The Respondents contend that the supply of management services to ITCs is subject to VAT at the standard rate in the United Kingdom.

4. 	The First Appellant ("Claverhouse") is an ITC which has been chosen as a representative of  ITCs in general. It receives supplies of management services in relation to its investments from a third party, JP Morgan Fleming Asset Management (UK) Limited ("Asset Management"), in respect of which it currently pays VAT. It appealed to the Tribunal against the charge of VAT under the domestic legislation on the supplies of fund management which it receives. The Second Appellant ("the AITC") is an association representing a number of ITCs operating within the United Kingdom market.

5. 	The Respondents are the national authority charged with the care and management of the VAT system.

RELEVANT LEGISLATIVE PROVISIONS

6. 	The relevant provision of the Sixth VAT Directive is Article 13(B)(d)(6), the English version  of which exempts: 

"management of special investment funds as defined by Member States".

7. 	The provisions of national law, which are intended to implement Article 13B(d)(6), are Items  9 and 10 of Group 5 of Schedule 9 to the Value Added Tax Act 1994. Those provisions exempt: 

"9. The management of an authorised unit trust scheme or of a trust based scheme.

10. The management of the scheme property of an open-ended investment company".

8. 	Notes (6)-(10) deal with Items 9 and 10 and provide (so far as is relevant) as follows: 

"(6) In Item 9 —

'authorised unit trust scheme' has the meaning given in section 237(3) of the Financial Services and Markets Act 2000; 

'trust based scheme' means a scheme the purpose or effect of which is to enable persons taking part in the scheme, by becoming beneficiaries under a trust, to participate in or receive profits or income arising from the acquisition, holding, management or disposal of property of a kind described in section 239(3)(a) of the Financial Services and Markets Act 2000 or sums paid out of such profits or income. 
…
(8) For the purposes of Item 10, an open-ended investment company's scheme property is the property subject to the collective investment scheme constituted by that company.

…

(10) For the purposes of this Group

'collective investment scheme' has the meaning given in section 235 of the Financial Services and Markets Act 2000;  and

'open-ended investment company' has the meaning given in section236 of that Act."

9. 	The sections of Part XVII of the Financial Services and Markets Act 2000 ("FSMA 2000") referred to in the Notes are as follows: 

"235 Collective investment schemes 

(1) 	In this Part 'collective investment scheme' means any arrangements with respect to property of any description, including money, the purpose or effect of which is to enable persons taking part in the arrangements (whether by becoming owners of the property or any part of it or otherwise) to participate in or receive profits or income arising from the acquisition, holding, management or disposal of the property or sums paid out of such profits or income. 

(2) 	The arrangements must be such that the persons who are to participate ('participants') do not have day-to-day control over the management of the property, whether or not they have the right to be consulted or to give directions.

(3) 	The arrangements must also have either or both of the following characteristics —
(a) 	the contributions of the participants and the profits or income out of which payments are to be made to them are pooled;
(b) 	the property is managed as a whole by or on behalf of the operator of the scheme.

(4) 	If arrangements provide for such pooling as is mentioned in subsection (3)(a) in relation to separate parts of the property, the arrangements are not to be regarded as constituting a single collective investment scheme unless the participants are entitled to exchange rights in one part for rights in another.

(5) 	The Treasury may by order provide that arrangements do not amount to a collective investment scheme —

(a) 	in specified circumstances; or

(b) 	if the arrangements fall within a specified category or arrangement.

236 	Open-ended investment companies

(1) 	In this Part 'an open-ended investment company' means a collective investment scheme which satisfies both the property condition and the investment condition.

(2) 	The property condition is that the property belongs beneficially to, and is managed by or on behalf of, a body corporate ('BC') having as its purpose the investment of its funds with the aim of – 

(a) 	spreading investment risk; and

(b) 	giving its members the benefit of the results of the management of those funds by or on behalf of that body.

(3) 	The investment condition is that, in relation to BC, a reasonable  investor would, if he were to participate in the scheme —

(a) 	expect that he would be able to realise, within a period appearing to him to be reasonable, his investment in the scheme (represented, at any given time, by the value of shares in, or securities of, BC held by him as a participant in the scheme); and

(b) 	be satisfied that his investment would be  realised on a basis calculated wholly or mainly by reference to the value of property in respect of which the scheme makes arrangements.

(4) 	In determining whether the investment condition is satisfied, no account is to be taken of any actual or potential redemption or repurchase of shares or securities under —

(a) 	Chapter VII of Part V of the Companies Act 1985;

(b) 	Chapter VII of Part VI of the Companies (Northern Ireland) Order 1986;

(c) 	corresponding provisions in force in another EEA State; or

(d) 	provisions in force in a country or territory other than an LEA state which the Treasury have, by order, designated as corresponding provisions.

(5) 	The Treasury may by order amend the definition of 'an openended investment company' for the purposes of this Part.

237 	Other definitions

       	…

(3) 	In this Part —

'an authorised unit trust scheme' means a unit trust scheme which is authorised 
for the purposes of this Act by an authorisation order in force under section 243;

'an authorised open-ended investment company' means a body incorporated by virtue of regulations under section 262 in respect of which an authorisation order is in force under any provision made in such regulations by virtue of subsection (2)(1) 
of that section; 

'a recognised scheme' means a scheme recognised under section 264,270 or 272

	…

239	Single property schemes

• • •

(3)	The characteristics are -

(a) 	that the property subject to the scheme (apart from cash or other assets held for management purposes) consists of —

(i) 	a single building (or a single building with ancillary buildings) managed by or on behalf of the operator of the scheme, or

(ii) 	a group of adjacent or contiguous buildings managed by him or on his behalf as a single enterprise,

with or without ancillary land and with or without furniture, fittings or other contents of the building or buildings in question; ..."

FACTUAL BACKGROUND

General remarks

10. 	AUTs, OEICs and ITCs are three forms of collective (or pooled) risk spreading
investment vehicles which exist within the United Kingdom. They use professional fund managers to manage their investment portfolios. AUTs and OEICs are "open-ended" funds, which means that they have variable capital. The number of units (in the case of AUTs) or shares (in the case of OEICs) is not fixed, but expands or contracts depending on investor demand.  If an investor wishes to realise his investment in an AUT or OEIC, he may do so, as of right, by selling his units or shares (as the case may be) to the manager of the fund. ITCs are referred to as "closed-ended" funds in that they are not obliged to repurchase shares from shareholders. If authorised under their Articles or by a resolution of the members, they can increase the number of their shares if they wish to do so, using the same procedures as any other limited company, and may also buy back their own shares using capital profits and hold such shares "in treasury" temporarily before selling them back on the market at a time of their own choosing. If an investor wishes to realise his investment in an ITC, he may do so, as of right, by selling his shares on the stock market (or back to the ITC, at the discretion of the ITC's Board of Directors).

11. 	AUTs, OEICs and ITCs enable private investors, who can usually afford to invest only relatively small amounts of money, to reduce stock market risk because they offer the possibility of investing in a large portfolio of investments. They also allow private investors to benefit from professional fund management as a shared expense and to reduce overall dealing and administrative costs. AUTs, OEICs and ITCs thus offer a cost-efficient way of investing.

12. 	They are also used by institutional investors, such as pension funds and insurance companies, perhaps to gain access to specialist investment areas in which they have no in-house investment experience or to help them to move large amounts around geographical areas or specialist sectors with speed and at relatively low cost. As many institutional investors have developed their own in-house investment management expertise in recent years, there is less need for them to make use of collective investment vehicles.  

13. 	Apart from AUTs, OEICs and ITCs, there exist other forms of pooled funds in the United Kingdom which have different regulatory and tax treatment, such as pension funds and unit-linked life insurance policies. Pension funds and insurance companies themselves sometimes invest their funds in AUTs, OEICs and ITCs, as well as other securities and investments. There are also other specific forms of pooled fund in the United Kingdom, such as investment clubs and venture capital trusts. The latter provide capital finance for small, expanding companies. They have a fixed capital and shares in them are traded on the stock market.

14. 	Council Directive 85/611, as amended, coordinated the laws of the Member States in relation to collective investment undertakings other than the closed ended type (sixth recital). The undertakings to which it applies ("undertakings for collective investment in transferable securities" - "UCITS") are defined in Article 1 and "may be constituted according to law, either under the law of contract (as common funds managed by management companies) or trust law (as unit trusts) or under statute (as investment companies)": see Article 1(3). 

15. 	AUTs and OEICs are capable of being UCITS, as defined in Directive 85/611, because they meet the conditions in Article 1 and are not excluded by Article 2(1). ITCs, as currently formed and operated in the United Kingdom, are not capable of being UCITS, as defined in the Directive, because they are excluded by Article 2(1), first indent. In the United Kingdom, some AUTs and OEICs are not UCITS. The supplies to them of management services are nonetheless exempt from VAT.

16. 	As explained below, AUTs and OEICs must be authorised by the Financial Services Authority ("the FSA") under FSMA 2000. ITCs and unit trusts other than AUTs do not need to be authorised. ITCs are however regulated by the FSA as Listing Authority, see paragraph 39 below. 

17. 	It is not possible to give accurate or meaningful approximate figures for the number of individuals who invest in ITCs, AUTs and OEICs. Each type of fund has a number of investors that runs into hundreds of thousands. In terms  of relative size (as at April 2005):

17.1 	ITCs had £62 billion of assets under management.

17.2 	AUTs had £119 billion of assets under management.

17.3 	OEICs had £169 billion of assets under management.

18. 	Within the collective investment industry as a whole, in terms of size, ITCs have been overtaken by AUTs and OEICs. The Appellants consider that the reasons for this relate not so much to the intrinsic merits of the products, which are fundamentally similar, but to the different business dynamics of the two products which arise, in the main, from the different availability of incentives to fund managers and financial advisers.

19. 	Fund managers of both open-ended and closed funds are paid a fee, based on a
percentage of funds under management. They therefore have a direct commercial incentive to promote open-ended funds to increase the size of the fund, which leads directly to an increase in fund management fees. By contrast, promotion of closed-ended funds helps to support the share price but does not add to the funds under management. Furthermore, fund managers pay financial advisers commission for selling their open-ended funds, whilst charging investors, who buy directly from the fund manager without taking advice, the same price. This is not the case for ITCs, where investors who make their own decision can buy shares directly on the stock market net of any commission costs that might be paid to an adviser. Unsurprisingly, advisers tend to favour the product which does not allow their service to be undercut.

Legal form and constitution

20. 	ITCs are pooled, risk-spreading investment vehicles constituted as limited liability, public companies listed on the Stock Exchange. Investors hold the shares in the company; and the company invests in a portfolio of investments.  An ITC has a Board of Directors. The Board is not required by law to entrust the management of the ITC's investments to external fund managers, however the Boards of 90 per cent of all ITCs choose to do so. Claverhouse has subcontracted its management to Asset Management which, in 2003, charged a fee at the rate of 0.6 per cent of the fund's net assets, equivalent to a total fee of £1,705,000 for that year plus VAT of £298,000. In total, in the 10 years up to 31 December 2003, Claverhouse suffered approximately £2.7 million of irrecoverable VAT.

21. 	AUTs take the legal form of a trust. The assets of an AUT are held on trust for the unit holders by the trustee of the AUT. An AUT must also have a manager who must be independent of the trustee. The manager is appointed under the trust deed setting up the AUT and is responsible for carrying on the day-to-day running of the AUT as well as for ensuring compliance with the FSA's investor protection rules. The trustee is responsible for overseeing the manager's activities.

22. 	OEICs are companies established under a special company law different from that for ordinary limited companies. They issue shares. OEICs do not have to have a Board of Directors to operate the company. The requirements for authorisation as an OEIC include the appointment of an "authorised corporate director" which must be a company that is an FSA authorised person in its own right and has permission to act as the sole director of the OEIC. Much like the manager of a unit trust, the authorised corporate director is responsible for the day-to-day running of the company and has specific functions with regard to the management of the OEIC. It is responsible for ensuring that the OEIC complies with the FSA's investor protection rules, including its principles, and so carries most of the burden of compliance that would otherwise have to be borne by the OEIC itself. A depositary, which must be independent of the authorised corporate director, must also be appointed to hold the OEIC's assets.

Nature of investment

23. 	Each ITC is free to pursue any investment strategy approved by its Board of Directors (subject to direct tax legislation, the Listing Rules and any limitations set out in the Memorandum and Articles of Association of the ITC). That includes taking on debt financing (known as "gearing"). The Listing Rules are made and enforced by the FSA in its capacity as the UK Listing Authority ("the Listing Authority").

24. 	There are a number of different ways in which ITCs, and now some AUTs and OEICs, can add to its gross asset base, or 'gear' (for which see paragraph 34 below). Perhaps the simplest form of gearing is to borrow money from a bank, often at a fixed rate and for a fixed period of time. Gearing (also described as leverage) provides a collective investment fund with additional means of acquiring investment assets and can improve a collective fund's performance if the additional returns generated as a result of the expansion of the portfolio through borrowing are greater than the cost of borrowing; but it impairs performance if the returns achieved are below the cost of the borrowing. Gearing is expressed as either a ratio or as a percentage by comparing the total amount of the company's assets (including those financed by the borrowings) to the company's net assets (after the deduction of the borrowings). For example, if a company which has £80 million in assets (but no borrowings) takes out a fixed term loan of £20 million, it would now have total assets of £100 million. Its gearing percentage would be 25% being the excess of its gross assets including the loan over its net asset value ("NAY"). The current average level of gearing by conventional ITCs is 11%, although 29 per cent of conventional ITCs do not in fact gear at all. On 6 May 2005, Claverhouse's gearing was 11%, which indicates that it had approximately £30 million of borrowings on net assets of some £265 million. The Appellants' evidence is that gearing does not alter the nature of what is supplied to the customer or what the manager's role is in managing the investment portfolio, although it will affect the performance of the funds.

25. 	An investor participates in the collective investments offered by an ITC by purchasing shares in the ITC and realises his or her investment by selling those shares, the price of the shares being determined by supply and demand in the market. Since shares in an ITC are traded on the Stock Exchange, their price is influenced by a range of factors, not simply the value of the underlying investments held by the ITC.

26. 	Therefore, the price obtained for a share in an ITC at any one time may be above or below the value of the underlying investments held by the ITC calculated on a per-share basis (conventionally described as being at a "premium" or "discount" to "net asset value"). For example, as at 6 May 2005, Claverhouse had 65,887,000 shares in issue. On that date, the market value of its shares was £248.89 million arid its share price was 377.75 pence. However, the fund had gross assets of £295.4 million and net assets after deducting liabilities of £265.49 million and a net asset value of 402.95 pence, which meant that its shares were trading on that date at a discount of 6.4 per cent to net asset value. If the net asset value does not change but the discount narrows the price of Claverhouse's shares will have risen; if the discount widens, it will have fallen. Over the past five years, as at the last trading day of its financial year, Claverhouse's shares were trading at a premium over net asset value of 3.9% in 2000 but were trading at a discount of 4.8% in 2002, 3.9% in 2003 and 4.7% in 2004.

27. 	The Appellants' evidence is that the relative importance of a discount or premium is often overstated and sometimes misunderstood. A widening of the discount (if it takes place) does not necessarily mean that investors have lost money. The Appellants relied on a chart showing the performance of the assets held by ITCs as a whole (expressed in terms of their net asset value — "NAY") and their share price performance over a period of 15 years. The chart shows that the impact of the discount or premium on overall performance is very small by comparison with the growth of the underlying assets. In their evidence, the Appellants gave a hypothetical example of the relative importance of the discount for an ITC whose shares trade at a 10% discount.  The example assumes that the investor purchases shares at a time when the discount to NAY is 10% and holds the share for 10 years during which time the capital growth in the portfolio is 8% per year. On this example, the annualised share price return on the cost would reduce to 7.4% if the discount had widened to 15% by Year 10, but would increase to 8.6% if the discount had narrowed to 5% by Year 10. Therefore, on this example, a 5% narrowing or widening of the discount would only improve or worsen the performance of the ITC share by 0.6% per annum. 

28. 	More than 20 AUTs and OEICs invest primarily in ITCs. It follows that investors in those AUTs and OEICs are subject to the same discounts (or premiums) and the same gearing (if any) of the ITCs in question as if they had invested directly in those ITCs.

29. 	ITCs are permitted to have different share classes, such that (for example) all of the income is applied to some shares while capital appreciation is applied to others and a fixed return to others again.

30. 	AUTs are divided into units. The number of the units may vary and is determined by the level of demand for new units purchased relative to the number of units that are redeemed (that is, sold back to the AUT) Unlike ITCs, which may repurchase their own shares in limited circumstances, the capital structure of an AUT is variable, not fixed. If investors in an AUT wish to redeem their units, they may do so as of right by selling them back to the manager of the AUT. The price of the units in an AUT is calculated by reference to the value of the underlying assets of the fund. There are detailed arrangements for the determination of prices, which are subject to rules promulgated by the FSA. The units in unit trusts (including AUTs) are usually "dual priced", which means that they have a buying price and a lower selling price, although they may also be "single priced". Where funds are "dual priced", the difference between the two prices is typically 5 or 6 per cent in most unit trusts. Some unit trusts charge much less than 5% - many 'tracker' funds for example.

31. 	AUTs and OEICs (whether UCITS funds or not) may defer redemption of units by up to one day if the requested redemptions exceed 10% of the fund's value (or some other reasonable proportion disclosed in the prospectus to investors). If the AUT or OEIC is not a UCITS fund, it may limit redemption by up to 185 days, if it invests in property or if its investment objective is to provide a specified level of return, so that the opportunity to redeem may arise only once every 185 days (or whatever else is the period, within that maximum, selected by the fund). 
32. 	OEICs issue shares, not units; but, as in the case of AUTs, an investor in an OEIC may realise his or her investment as of right by selling the shares back to the manager of the OEIC. The price of the shares in an OEIC is calculated by reference to the value of the underlying assets and is intended to be equal to the net asset value of the fund divided by the number of shares in issue. Again, there are detailed arrangements for the determination of prices, which are subject to rules promulgated by the FSA. Shares in OEICs are always "single priced": there is only one price for the shares, whether one is buying or selling.

33. 	Both AUTs and OEICs are able to list their units or shares on the Stock Exchange; however few, if any, do so. AUTs and OEICs must have share or unit classes that are designed to provide an exposure to the same return from the same underlying investment portfolio, with full exposure to both income and capital return.

34. 	Those AUTs and OEICs which are also UCITS may not hold more than 10% of their assets in unlisted securities, may not hold more than 5% of their assets in securities issued by the same body, and may borrow up to 10% of NAV on a temporary basis for limited purposes. Those AUTs and OEICs that are not UCITS may not hold more than 20% of their assets in unlisted securities, may not hold more than 10% of their assets in securities issued by the same body, and may borrow up to 10% of net asset value although not necessarily on a temporary basis. Non-retail funds which cannot be sold to the general public but are authorised by the FSA as Qualified Investor Schemes may borrow up to 100% of NAY.

Regulation

35. 	The FSMA 2000 sets out a regulatory regime that primarily targets people and firms that provide financial services and the activities that they undertake, rather than products. Unit trusts and OEICs are an exception to that overriding regulatory approach because unit trusts have been regulated in some form for more than sixty years and both have been the subject of certain obligations arising under European Union law relating to the promotion of UCITS since 1989.

36. 	AUTs and OEICs are brought within the authorisation requirements under the FSMA 2000, and ITCs are left out of them, by the following statutory provisions. AUTs and OEICs fall within the definition of "collective investment schemes" in FSMA 2000, section 235 and accordingly, by reason of certain other legislative provisions that are not here relevant, are subject to those requirements. ITCs would otherwise fall within that definition, however, under section 235(5), the Treasury may by order provide that arrangements do not amount to a "collective investment scheme". By the Financial Services and Markets Act 2000 (Collective Investment Schemes) Order 2001 (SI 2001/1062), the Treasury has provided that (so far as is here relevant) bodies corporate other than "open-ended investment companies" do not amount to a "collective investment scheme". "Open-ended investment company" is defined, for the purposes of the FSMA 2000, in section 236.

37. 	The main differences in the regulation of ITCs, on the one hand, and AUTs and OEICs, on the other, that ensue are as follows:

37.1 	ITCs are not authorised by the FSA under the FSMA 2000 and they are not regulated by the FSA as products so that, under the FSMA 2000, the FSA has no direct power to make rules for them or to intervene in their activities. The FSA regulates ITCs in its capacity as the Listing Authority (see paragraph 39 below).

37.2 	As ITCs are not authorised persons, there is no requirement for the identification of what are known as "controlled functions" or for those performing them to be approved by the FSA and to meet the minimum standards that approval requires ("controlled functions" are functions that enable a person to exercise significant influence over the conduct of an authorised person's affairs or which involve dealing with customers or their property — the FSA determines which functions are "controlled" and who requires approval).  

The Financial Ombudsman Service is not available to investors in an ITC for complaints against the ITC itself or against the ITC's fund manager.

The Financial Services Compensation Scheme is not available in the event of an investor having a claim against an ITC which the ITC cannot meet.

38. 	ITCs which fall within the definition of investment company in section 265 of the Companies Act 1985, AUTs and OEICs are prevented from allocating/distributing their capital profits as income to their investors. Subject to certain conditions, ITCs are permitted by section 266 to distribute accumulated realised revenue profits less accumulated revenue losses (ignoring any capital losses). ITCs, AUTs and OBICs are required to allocate their income on an annual basis. Under section 100 of the Taxation of Chargeable Gains Act 1992, ITCs, AUTs and 0EICs are exempt from tax on the capital gains made on investments held by them. In order to qualify for the exemption ITCs must satisfy the conditions in section 842 of the Income and Corporation Taxes Act 1988 ("ICTA 1988"), see paragraphs 45-49 below.

39. 	As companies listed on the Stock Exchange, ITCs are subject to the Listing Rules and are regulated by the FSA in its capacity as the Listing Authority. In its capacity as the Listing Authority, the FSA has used the Listing Rules to limit the amount of cross-holdings permitted for listed investment companies (including ITCs) and has the power to limit gearing by ITCs (which it has specifically considered but not exercised so far). Most (but not all) dealings in shares in ITCs are made through persons authorised by the FSA (such as fund managers, stockbrokers or financial advisers), involve regulated activities and are subject to the FSA's conduct of business rules contained in its Conduct of Business sourcebook. External ITC fund managers must be authorised persons under the FSMA 2000 and are subject to regulation by the FSA.

40. 	The FSA may give directions relating to AUTs in certain circumstances. Even where none of the specified listed circumstances exist, the FSA may give directions where it is desirable to give a direction in order to protect the interests of participants or potential participants in a scheme. Directions may require the manager of a scheme to cease the issue and/or the redemption of units, or may require the manager and trustee of the scheme to wind it up. The FSA's product regulations for AUTs set appropriate standards of protection for investors by specifying a number of features that the product must have and how it must be operated. Both the manager and the trustee of an AUT must be authorised persons under the FSA's authorisation regime.

41. 	Under section 262 of the FSMA 2000, the Treasury has power to prescribe detailed provisions to regulate OEICs and to confer functions on the FSA in relation to them. The Open-Ended Investment Companies Regulations 2001 (SI 2001/1228) empower the FSA to make rules with respect to OEICs in the same way as it may with respect to AUTs under the FSMA. Those Regulations also confer upon the FSA the same powers of intervention with respect to OEICs as the FSA has with respect to AUTs under the FSMA. The FSA's product regulations for OEICs set appropriate standards of protection for investors by specifying a number of features that the product must have and how it must be operated. In order for a body to be incorporated as an OEIC, it must be authorised as a product and as a person by the FSA. The authorised corporate director must be authorised in its own right, as must be the depositary.

Management

42. 	Many fund managers manage ITCs, AUTs and OEICs. In some cases, the same individual or individuals manage ITCs and AUTs or OEICs which invest in the same industry or geographical areas so that both types of fund invest in identical or almost identical investments. The Appellant's evidence is that the fund management process is identical and the investment skills required are interchangeable. There is, for example, evidence of one AUT which had almost identical investments to an ITC managed by the same manager. The difference in value of the two funds at the end of a 14-year period between March 1991 and February 2005 was less than 2%, which was immaterial in the context of the overall performance of the funds (both of which grew by more than 600% during that period).

QUESTIONS FOR REFERENCE AND THE ARGUMENTS OF THE
PARTIES

43. 	In order to resolve the issues before it, the Tribunal has decided to refer to the Court of Justice the following questions. After each question, there follows a summary of the arguments which each party has submitted. 

1. 	Are the words "special investment funds" in Article 13B(d)(6) of the Sixth Directive capable of including closed-ended investment funds, such as ITCs?

44. 	The Appellants submit that the phrase "special investment funds" is apt to cover ITCs. As a matter of ordinary language, ITCs are just as much "special investment funds" as AUTs and OEICs, which are classified as "special investment funds" under the domestic provisions that implement Article 13(B)(d)(6) (namely, Items 9 and 10 of Group 5 of Schedule 9 to the Value Added Tax Act 1994).

45. 	ITCs are defined by section 842 of ICTA 1988. In order to be an ITC, a company must meet certain criteria set out in section 842 and it must beapproved by the Respondents, or be seeking approval from the Respondents in respect of its most recent accounting period, or must have announced that it will direct its affairs so as to enable it to seek such approval in respect of its current accounting period.

46. 	The Appellants submit that section 842 of ICTA 1988 sets out a definition of investment trusts for the purposes of "the Taxes Acts", a phrase that encompasses the United Kingdom's direct tax legislation. However, the definition set out in section 842 has been adopted in all subsequent legislation dealing with ITCs for purposes other than fiscal purposes; and, accordingly, that definition has become a general definition of ITCs: unless a company fulfils the requirements of section 842 and is approved by HMRC (or is seeking such approval), it simply cannot be identified as an ITC. For example, the definition in section 842 has been adopted as part of the Listing Rules. The Listing Rules are a set of rules which a company must comply with if it wishes to list its shares on the London Stock Exchange. Pursuant to Chapter 21, paragraph 21.1(h) and 21.10 of the Listing Rules, unless a company fulfils all the criteria in section 842, including the requirement of approval by HMRC, it is not an ITC and cannot describe itself as such.

47. 	So far as is known, no entities exist within the United Kingdom jurisdiction which describe themselves as ITCs but which do not comply with section 842. Indeed, the statutory definition, as imported into the Listing Rules and other legislation, would prevent such entities from describing themselves as ITCs. HMRC accepts that, save in exceptional circumstances, in relation to companies listed on the Stock Exchange, only those companies which comply with section 842 are ITCs and can describe themselves as such.

48. 	The Appellants argue that companies which are not listed on the Stock Exchange are expressly excluded by reason of section 842(1)(c) and therefore, can never fall within the definition of an ITC or describe themselves as such. HMRC's contention at paragraph 56 that there might be entities, whether listed on the Stock Exchange or not, which did not fall within the definition in section 842 but which were ITCs is therefore incorrect.

49. 	The criteria contained in section 842 ensure that the company has a diversified portfolio of investments, generates most of its income in the form of investment income from those investments and distributes 85 per cent of that income to investors on an annual basis. AUTs and OEICs are subject to similar requirements, deriving from other regulatory provisions.

50. 	Further, the Appellants submit that other language versions of Article 13(B)(d)(6) do not use the term "special" and, more aptly, refer to "common" (i.e. collective) investment funds (see, for example, the French, Italian, Spanish and Portuguese versions). All the evidence shows that ITCs are funds that fall within that description.
51. 	The Respondents submit that the phrase "special investment fluids" in Article 13B(d)(6) is capable of two interpretations, but that both of them authorise the exclusion by the United Kingdom of ITCs from the scope of the exemption. On a narrow view, the phrase refers solely to one type of open-ended fund, the contractual fund, which is one of the three types of fund which may benefit from harmonisation under the UCITS Directive. This interpretation is supported by the French versions of Article 13B(d)(6) of the Sixth VAT Directive and Article 1(3) of the UCITS Directive, both of which refer to "fonds communs de placement". It is also supported by the purpose of the exemption in Article 13B(d)(6) as explained by Advocate General Poiares Maduro in paragraph 26 of his Opinion of 18 May 2004 in Case C-8/03 Banque Bruxelles Lambert, to 

"avoid subjecting contract-based funds to a tax burden which self-managed investment undertakings which are legal entities do not have to bear, by reason of the exemption under Article 13B(d), point 5"

— i.e. because contract based funds do not have legal personality, if it were not for the exemption in Article 13B(d)(6) investors in contractual funds would have to pay VAT on the investment management services provided by their find managers, even though the stockbroking services made to the find managers whilst managing the fund's investments were themselves exempt under Article 13B(d)(5). As the Advocate General went on to observe in paragraph 27, it is legitimate to extend this regime to other open-ended special investment funds, such as OEICs/SICAVs where they are in a similar position.  Under this approach, Member States would not be permitted to choose to exempt any other type of fund, including closed-ended funds, such as ITCs.

52. 	On a wider view, which the Respondents prefer, the phrase "special investment funds" in Article 13B(d)(6) would in principle cover all pooled funds. Insofar as the phrase is capable of a wider meaning including closedended non-UCITS funds, such as ITCs, as well as open-ended hinds, such as AUTs and OEICs, there is no reason why the phrase should not also include other pooled funds such as pension funds, unit-linked life insurance policies, Venture Capital Trusts and investment clubs. Because the phrase "special investment hinds" would then have a very wide meaning, the words "as defined by Member States" then give Member States a relatively wide margin of appreciation to decide which of the pooled funds they recognise should benefit from exemption. Under this approach, Member States would be permitted to exempt ITCs, but not required to do so.

53. 	The Respondents argue that, by contrast, the Appellants appear to contend that the words "special investment funds" in Article 13B(d)(6) have a common EC wide meaning, based on a common set of conditions. However, the problem with their argument is that they do not identify the relevant conditions, but simply assert that ITCs satisfy those conditions, whatever they might be, to the same extent as AUTs and OEICs.

54. 	Furthermore, the Appellants attempt to argue for a common EC wide meaning of the words "special investment funds" which includes ITCs but seek to restrict the extension of the exemption to ITCs whilst not extending it to other pooled funds. This contains a flaw in that the definition of an ITC in U.K. law under ICTA 1988, section 842 being relied upon by the Appellants is specifically for the purposes of tax treatment and for the purposes of obtaining a number of other benefits, such as listing on the Stock Exchange. 

55. 	The Respondents contend that as mentioned in paragraph 22 above, OEICs only exist because they are established under a special company law different from that for ordinary limited companies. Therefore, in relation to OEICs, it can accurately be said that there is a general statutory definition in U.K. law and that a company simply cannot exist as an OEIC or describe itself as an OEIC unless it has been incorporated as an OEIC pursuant to that special company law.

56. 	However, ITCs do not rely on any specific legislation for their constitution, but are constituted on the basis of general U.K. company law. All that ICTA 1988, section 842 does is retrospectively decide for a specific tax period what tax treatment should apply to a legal person which already exists. It does not prevent a company which does not satisfy section 842 from acting as a vehicle for the pooling of investments or prevent such a company from calling itself an ITC. Indeed, the Appellants themselves recognise in their own guidance on the taxation of ITCs that investment trusts occasionally fail to obtain approval under section 842 for particular accounting periods. In such cases, the FSA, as U.K. Listing Authority, would seek clarification from the ITC as to the circumstances in which section 842 had not been complied with and would require the ITC to make a public announcement to shareholders. Depending on the circumstances, trading in the ITC's shares might be suspended pending clarification, but the company in question would only be delisted from the Stock Exchange as an ITC if there was found to be a significant risk to investors. However, the company could still continue to be listed on the Stock Exchange as a closed-ended investment company (rather than as an ITC).

57.	The Respondents contend that, although it is accepted that, save in exceptional circumstances, if an ITC wishes to market itself as a retail listed investment trust it must, under the Listing Rules, comply with the section 842 requirements, this does not prevent art unlisted investment vehicle from operating in a way similar or even identical to a section 842 company or from calling itself an ITC.

58.	Given that the section 842 definition of an ITC is not a general definition for all purposes, it is impossible to formulate a common EC wide definition of "special investment finds" which includes closed-ended funds such as ITCs which satisfy section 842, but does not include investment trust companies which do not satisfy section 842 and other pooled funds.

2. 	If the answer to the first question is in the affirmative, does the phrase "as defined by Member States" in Article 1311(d)(6):

(a) 	allow Member States to select certain of the "special investment funds" within their jurisdiction to benefit from the exemption of the supply of management services and exclude others from the exemption, or

(b) 	does it mean that the Member States are to identify those funds within their jurisdiction which fall within the definition of "special investment funds" and that the benefit of exemption should extend to all such funds?

59.	The Appellants submit that, having regard to the wording (including the different language versions) of Article 13(B)(d)(6), its scheme and purpose, and the principles that govern the interpretation of provisions such as Article 13 (including fiscal neutrality and equal treatment), Article 13(B)(d)(6) is to be construed as limiting the task of each Member State to identifying which vehicles, within its jurisdiction, have the objective characteristics of a "special" or "collective" investment fund. That discretion cannot extend to choosing to accord one form of tax treatment to the supplies of management services to some such collective investment vehicles but denying the same treatment to management services supplied to other collective investment funds.

60. 	In that connexion, the Appellants rely upon evidence about the position in Germany, France, Ireland, Italy and Luxembourg, in which the exemption extends to management services supplied to closed as well as open-ended investment funds (where both types actually exist within the jurisdiction concerned) and the exemption extends to all retail collective funds which operate within the jurisdiction'.

61. 	The Appellants also rely upon evidence from the Director General of the AITC, the current President of the Institute of Financial Planning (the United Kingdom professional body of financial planners), who is also a certified financial planner of great experience, and the former managing director of Merrill Lynch Investment Managers (one of the world's largest investment management firms with over 500 billion euros of assets under management as at 31 March 2004) to the effect that: (i) the management services supplied to an ITC involve exactly the same activities and decisions as do the management services supplied to AUTs and OEICs (and the same personnel are often involved in managing simultaneously particular ITCs and AUTs or OEICs); and (ii) 1TCs, AUTs and OEICs are in competition with each other, satisfy the same needs of consumers and are regarded as being interchangeable.

62. 	The Appellants also rely on the facts that: (i) the Respondents' own expert witness states that the role of the investment manager of an ITC in general terms and in practice equates to that of the investment manager of an AUT; and (ii) various reports made by or on behalf of different Government
_________________
Most investment funds in France are open-ended and it is unclear whether or not
closed-ended funds do, in fact, exist within the French jurisdiction. The extent to
which the French legislation extends the exemption to closed-ended funds is therefore
unclear.

departments in the United Kingdom, including the Treasury and the United Kingdom's competition authority, have concluded that ITCs, AUTs and OEICs are in competition with each other, fall within the same markets and are regarded as substitutable by consumers.

63. 	The Respondents submit that on the Appellants' approach the Member States would be required to exempt all pooled funds, since the only objective  characteristic shared by AUTs, OEICs and ITCs is that they are all forms of pooled ftmd and the only objective characteristic shared by the services required to manage each of them is that they are based on an exercise of investment skills. In this regard, the Respondents maintain that investment skills are not unique to managers of AUTs, OEICs and ITCs. The managers of other forms of pooled investments, such as unit-linked life insurance policies and pension funds, have similar skills and the fund management process is similar in such cases. This is supported by the fact that pensions and life insurance companies not only have their own fund management expertise, but also may use ITCs to manage specialist asset classes. It is also supported by paragraph 5 of the summary of the Sandler Report, commissioned by the U.K.  Treasury in 2001 to investigate the retail savings industry, which indicated that "unit trusts and unit-linked life policies are effectively the same product". Again, the leading U.K. textbook on Managing Collective Investment Funds  by St Giles, Alexeeva and Buxton states at page xvii of the introduction that "defined contribution pensions or unit-linked funds ... are simply collective investment funds ...".

64. 	Accordingly, the Appellants' approach would lead to an impossibly wide scope for the exemption and would therefore be contrary to the principle established by Case 348/87 SUFA [1989] ECR 1737 by which exemptions are to be construed strictly since they constitute exceptions to the general rule that VAT is to be levied on all services supplied for a consideration by a taxable person. It would also be contrary to the purpose of the words "as defined by Member States" which must have been to grant Member States a margin of appreciation to decide which of the wide variety of pooled funds should benefit from exemption. This approach is supported by the Court of Justice's previous judgment in Case C-468/93 Gemeente Emmett [1996] ECR 1-1721, in which the Court held that the exemptions in Article 13 of the Sixth Directive did not have their own independent meaning in Community law where the Council has specifically conferred the task of defining certain terms of an exemption on the Member States. For the reasons given below in answer to the third question, this approach does not infringe the principles of fiscal neutrality, equal treatment and the prevention of distortion of competition.

3. 	If the answer to the second question is that Member States can select which "special investment funds" benefit from the exemption, how do the principles of fiscal neutrality, equal treatment and the prevention of distortion of competition affect the exercise of that discretion?

65. 	The Appellants contend that, when a Member State implements a provision of Community law, it is obliged to act in accordance not only with the provision that it is implementing (and, more specifically, its objective) but also with the general principles of EC law which, in the context of VAT, include the principles of fiscal neutrality, equal treatment and non-distortion of competition. Accordingly, if (quod non) the Member States have the discretion under Article 13(B)(d)(6) claimed by the Respondents, it must be exercised in accordance with those principles.

66. 	For fiscal purposes, it is sufficient that: (i) the management services provided to ITCs, AUTs and OEICs are effectively the same or substantially identical; and/or (ii) ITCs, AUTs and OEICs are in competition with each other and regarded by consumers as substitutable. Referring to the evidence before the Tribunal (see above), the Appellants contend that the principles of fiscal neutrality, equal treatment and non-distortion of competition are infringed by the exemption from VAT of the management services supplied to AUTs and OEICs when that exemption is not applied to the supply of management services to ITCs. The non-application of the exemption in the case of the latter supplies is also incompatible with the discernible purpose of Article 13(B)(d)(6), which is to promote access by savers to collective investments.

67. 	The Appellants contend that the evidence shows that, in terms of competition between ITCs, AUTs and OEICs, the past performance of a fund is relied on by most investors when they decide in which fund to invest: the better the performance, the more likely they are to select a fund. In addition, charges are now a relatively more significant cost component affecting overall investment returns (a 1% management fee is more significant in the context of expected future equity returns of 7-9% than it was when equity returns were in the region of 10-15%). In consequence, investors have shown increasing interest in charges and costs generally when deciding which product to purchase. The differential VAT treatment of management services supplied to ITCs, AUTs and OEICs has an impact on both past performance and costs, to the disadvantage of ITCs. For example, the VAT incurred by Claverhouse on supplies of management services to it would otherwise have been available to it to invest, thus improving its past performance record. For the year ended 31 December 2003, Claverhouse's Total Expense Ratio ("TER" - a ratio showing the total operating expenses of a collective fund expressed as a percentage of assets which allows investors to compare funds in terms of cost in a user-friendly way) was 0.96%. If the VAT on management services were excluded, the TER would have been reduced to approximately 0.85%. The imposition of VAT on Claverhouse's management services therefore puts Claverhouse at a competitive disadvantage by comparison with an AUT or OEIC with a TER of 0.85% even if both funds are equally efficient.

68. 	The Respondents contend that the principles referred to by the Appellants are principles of interpretation of Community law, which must co-exist with other general principles of interpretation, such as legal certainty. Accordingly, although those principles do require Member States to treat substantially identical transactions alike, they do not require Member States to provide identical VAT treatment to transactions which are not substantially identical, even if they are transactions which relate to goods or services which are found to form part of the same relevant economic market as this term is understood in EC competition law. The Respondents rely in particular here on paragraphs 60 and 61 of Advocate General Geelhoed's Opinion in Case C-144/00 Hoffmann [2003] ECR 1-2921. The activities of AUTs and OEICs (and thus the services required to manage them) are not substantially identical to the activities of ITCs, not least because AUTs and OEICs are open-ended funds and ITCs are closed-ended funds, but also because of differences in their regulatory regimes and in the structure of their management, their pricing,  permitted investments, share classes, borrowing and risk profile.

69. 	Even if the Appellants are right and (a) the Member States are required to exempt all funds which fell within the same economic market and (b) ITCs are found by the national court to fall within the same market as AUTs and OEICs, the Appellants would still have to establish that the different VAT treatment of the management of AUTs and OEICs would be likely to cause a significant distortion of competition. The Respondents rely here on the Court's judgments in both Case C-481/98 Commission v. France [2001] ECR 1-3369 and Case C-8/01 Taksatorringen, judgment of 20 November 2003. There is simply no evidence of any such distortion.

4. 	Does Article 13B(d)(6) have direct effect?

70. 	The Appellants contend that they are entitled to rely on the provisions of Article 13B(d)(6) if the national rules implementing that provision are contrary to the principles of fiscal neutrality, equal treatment and non-distortion of competition and/or are contrary to the intended purpose of the exemption. The fact (if it be so) that Article 13B(d)(6) appears to leave Member States with a margin of discretion cannot prevent direct reliance on the provision of the Sixth Directive where the purported implementation goes further than that margin of discretion allows.

71. 	The Respondents contend that if they are right in their interpretation of Article 13B(d)(6) and the Member States retain the power to decide which pooled funds within their jurisdiction should benefit from exemption, then Article 13B(d)(6) is conditional and does not have direct effect in that it requires further implementation by Member States (see Case 41/74 Van Duyn [1974] ECR 1337 at paragraph 13, Case 8/81 Becker [1982] ECR 53 at paragraph 25 and Case C-62/93 BP Supergas [1995] ECR 1-1883 at paragraphs 34-35).

CONCLUSION OF THE TRIBUNAL

72. 	The Tribunal does not find the scope of the exemption contained in Article 13B(d)(6) of the Sixth VAT Directive to be clear. It concludes that the proper interpretation of the exemption is a matter of importance which ought to be resolved by the Court of Justice rather than by a national court since the case raises difficult and important questions of EC law with implications for the supply of financial services throughout the Community. Furthermore, those questions turn on matters of EC law on which there is either no guidance at all from the Court of Justice or else there is a dispute between the parties and it is not clear how the existing case law of the Court of Justice applies in the context of Article 13B(d)(6).

73. 	Accordingly, the referring Tribunal requests the Court of Justice to give a preliminary ruling on the following questions:

1. 	Are the words "special investment funds" in Article 13B(d)(6) of the Sixth Directive capable of including closed-ended investment funds, such as ITCs?

2. 	If the answer to the first question is in the affirmative, does the phrase "as defined by Member States" in Article 13B(d)(6):

a. 	allow Member States to select certain of the "special investment finds" within their jurisdiction to benefit from the exemption of the supply of management services and exclude others from the exemption, or

b. 	does it mean that the Member States are to identify those funds within their jurisdiction which fall within the definition of "special investment funds" and that the benefit of exemption should extend to all such funds?

3. 	If the answer to the second question is that Member States can select which "special investment finds" benefit from the exemption, how do the principles of fiscal neutrality, equal treatment and the prevention of distortion of competition affect the exercise of that discretion?

4. 	Does Article 13B(d)(6) have direct effect?