19148

VAT MISDECLARATION PENALTY AND DEFAULT INTEREST – Input tax claimed on invoice – no taxable supply – no entitlement to claim input tax – no reasonable excuse for misdeclaration penalty – allowed 20% mitigation for co-operation with Commissioners’ investigation – no jurisdiction to entertain the Appeal on default interest – if there is  jurisdiction satisfied that the Commissioners assessed the correct amount of default interest – Appeal dismissed except allowing 20% mitigation of the penalty – Appellant liable to pay 80% of the penalty. 

LONDON TRIBUNAL CENTRE

	KEY FINANCE LIMITED	Appellant

	- and -

	HM REVENUE and CUSTOMS	Respondents

			Tribunal:	MICHAEL TILDESLEY (Chairman)
					SHEILA EDMONDSON FCA

Sitting in public in London on 24 & 25 May 2005

Malcolm Nichols of Menzies Chartered Accountants for the Appellant

Caroline Neenan Counsel instructed by the Solicitor for HM Revenue and Customs, for the Respondents

© CROWN COPYRIGHT 2005

DECISION
The Appeal
1.	The Appellant was appealing against the following decisions of the Commissioners:
(1)	A misdeclaration penalty for the period 8/01 in the sum of £155,517 issued on 21 October 2003.
(2)	Interest in the sum of £103,032.47 against an assessment for VAT in the sum of £1,025,968 dated 7 October 2003.
The Issues in Dispute
2.	The Appellant claimed input tax of £1,025,968.43 in respect of an invoice in the sum of £5,862,676.65 issued by Lease Products Limited on 31 August 2001. The invoice involved the sale of receivables and equipment to the Appellant. The transaction did not proceed. The Appellant did not adjust its VAT account to reflect that the transaction had not gone ahead because it had not received a credit note from Lease Products Limited cancelling the sale. On the 30 September 2003 the Commissioners issued a notice of assessment for the input tax claimed plus interest of £103,032.47. A misdeclaration penalty in the sum of £155,517 was issued on 31 October 2003 in relation to the claim for input tax. The Commissioners did not mitigate the penalty. The Appellant did not challenge the assessment, which has been paid.  
3.	The disputed issues were:
(1)	Whether the Appellant had a reasonable excuse for avoiding liability to pay the misdeclaration penalty on the basis that it could make no adjustment to its VAT records in relation to the input tax claimed until it received the credit note from Lease Products Limited cancelling the sale.
(2)	Whether the Appellant was entitled to mitigation of the misdeclaration penalty?
(3)	Whether the assessment for default interest should have accrued from 08/01 when the claim for input tax was made or from 08/03 when the Appellant received the credit note?
The Evidence
4.	We heard evidence from the following persons:
(1)	John Mounsey, Chairman of the Appellant Company.
(2)	Jeremy Standing, Sales Director of the Appellant Company who handled the transaction with Lease Products Limited.
(3)	Helen Denby, Officer of HM Revenue and Customs who carried out the inspection of the Appellant’s VAT accounts.
(4)	Brian Pritchard, Officer of HM Revenue and Customs who carried out an issues visit of Lease Products Ltd.
5.	Two bundles of documents and authorities were presented to the Tribunal.
The Authorities
6.	We were referred to the following authorities:
Commissioners for Customs and Excise v Woolford Motor Co Ltd [1983] STC 715
Neal v Commissioners for Customs and Excise [1988] STC 131
National Westminster Bank plc and another & Barclays Bank and another v Inland Revenue Commissioners [1994] STC 580
Commissioners for Customs and Excise v McMaster Stores (Scotland) Ltd  [1995] STC 846.
Commissioners for Customs and Excise v Pennystar [1996] STC 163
Belgium v Ghent  Coal Terminal NV (Case C –37/95) [1998] STC 260 
7.	We were referred to the following decisions of the VAT & Duties Tribunal:
British United Shoe Machinery Co. Limited v Commissioners for Customs and Excise [1976] VATTR 187
Silvermere Golf and Equestrian Centre Ltd v Commissioners for Customs and Excise (1981) VAT Decision No. 1122.
Sheepcote Commercial (Vehicles) Ltd v Commissioners for Customs and Excise [1987] 2378
Highsize Ltd v Commissioners for Customs and Excise (1991) VAT Decision No 7098.
London Borough of Camden v Commissioners for Customs and Excise [1993] 5 VATTR 73
Icon Construction Services Ltd v Commissioners for Customs and Excise [1999] VAT Decision No. 16416.
Yousif Ali v Commissioners for Customs and Excise [2002] VAT Decision No. 17814
Facts Found

8.	The Appellant Company was established in 1979 by Mr Mounsey, primarily as a supplier and trader in information technology equipment. The Appellant became progressively involved with the funding of IT equipment and became an independent leasing company in 1987. The Appellant now provided a comprehensive range of asset finance facilities to the UK local authority and corporate market places. Its business focussed on three main sectors: operating leases, vendor programmes and lease portfolio acquisitions. The Appellant’s turnover for the year ending 31 May 2002 was £30 million, which produced a gross profit of £2 million.
9.	In August 2001 Mr Standing, the sales director of the Appellant Company, entered into negotiations with Lease Products Ltd, (a member of the Lease Plan Plc VAT group owned by the Dutch bank, ABN Amro), for the purchase of a lease portfolio consisting mainly of commercial vehicle leases. The value of the portfolio was determined by the value of the rental streams plus the residual value of the commercial vehicles on the expiry of the lease. 
10.	Mr Mounsey informed the Tribunal that the purchase of lease portfolios involved significant investments of time and resources in conducting due diligence on the large number of transactions included within a portfolio. Mr Mounsey said that it was the custom and practice of the leasing business that the purchaser of a lease portfolio would seek from the seller some form of commitment to the sale signifying to the purchaser that he was not wasting time and resources in carrying out the due diligence. The usual forms of commitment were either a fee to cover the costs of due diligence or an invoice. Mr Mounsey said that a purchase of a lease portfolio could take between three months and two years to complete.
11.	The proposed purchase of the lease portfolio from Lease Products Ltd involved about 250 transactions. The total value of the portfolio was £6.4 million comprising £3.4 million in rental streams and £3 million of residual value. The price agreed to purchase the portfolio from Lease Products Ltd was £5,862, 677 which incorporated a discount of nine and half per cent which included one per cent profit margin. The Appellant also expected additional benefits from the purchase in the shape of new business and peppercorn rents. According to Mr Standing a key part of the agreement was that Lease Products Ltd would guarantee the residual value of the vehicles, which the Appellant considered to be too high.
12.	On 31 August 2001 Mr Standing secured in person from Lease Products Ltd an invoice for the sale of the lease portfolio at the agreed purchase price with VAT in the sum of £1,025, 968.43. Mr Standing faxed the invoice to the Appellant’s office on 1 September 2001. The details of the invoice were entered on the Appellant’s accounting systems resulting in a claim for input tax. The issue of the invoice did not complete the purchase because the due diligence tests had not been carried out and no contracts had been signed. The invoice would not have been authorised for payment until the two steps of due diligence and signed contract had been negotiated. Mr Standing, however, was of the view that the invoice represented a firm commitment on behalf of Lease Products Ltd to the sale because the invoice fixed the price of the purchase and indicated that Lease Products would be selling only to the Appellant.
13.	Yorkshire Bank PLC agreed to finance Appellant’s purchase of the portfolio subject to a due diligence exercise by its audit manager and the provision of a satisfactory guarantee to cover any shortfall in monies from the sale of the assets at the end of the lease as against the residual value. Although the Bank was satisfied with the due diligence, it had concerns about the guarantee from Lease Products Ltd because the net worth of the company had been diminishing in recent years. The Bank preferred a guarantee from the ABN Amro Group of which Lease Products Ltd was a member.
14.	The Appellant’s negotiations with Lease Products began to falter because of the problems of obtaining a satisfactory guarantee and speculation about the sale of Lease Products by the ABN Amro Group. In early November 2001 the Appellant explored the possibility of the deal being funded by Singers rather than the Yorkshire Bank. The contracts for the purchase of the portfolio were still in draft form.  Mr Standing accepted that the deal collapsed in December 2001, although there were attempts made to revive it in 2003.
15.	The Appellant was under the impression that it could not remove the entry of the invoice dated 31 August 2001 from its VAT accounting records until it received a credit note from Lease Products Ltd cancelling the proposed sale of the portfolio. According to Mr Standing, he made attempts to obtain the credit note from Lease Products Ltd but without success. On 26 June 2003 Mr Mounsey wrote a letter to Ian Belton of Lease Products Limited requesting the credit note, which was returned the same day but dated 31 August 2001. Mr Boon, Finance Director for Lease Products Limited, stated in a letter dated 23 July 2003 that the invoice and the credit note had been accounted for in their books for the accounting period ending October 2001. Mr Boon could not understand why the Appellant did not receive the credit note. He denied that the note had only been issued by Lease Products following the Commissioners’ investigation and stated he had no records of the Appellant’s requests for the issue of the credit note. We are satisfied on the evidence that the Appellant first received the credit note on 26 June 2003 in response to Mr Mounsey’s letter. We are also satisfied that the Appellant made limited attempts to obtain the credit note from Lease Products Limited starting around December 2001. However, the evidence of the telephone calls between Mr Standing and Lease Products Limited taken at its highest suggest that the attempts to get the credit note ceased in March 2002.
16.	 The Appellant’s VAT Transaction List dated December 2001 revealed that the purchase entry with Lease Products Ltd was taken out of the account and then re-instated. Mr Mounsey was unable to explain the adjustment which would have rectified the position regarding the input tax claim had the purchase entry not been re-instated. The Appellant’s Accountants, Calder & Co, advised in a letter to the Commissioners dated 21 October 2003 that the purchase invoice from Lease Products Ltd was recorded in the purchase ledger at the full amount with the net amount debited to trade debtors in the Appellant’s audited accounts for the year ended 31 May 2002.  We query whether the Accountants have made a typographical mistake in that trade debtors should read trade creditors.
17.	  Mrs Denby formed the view that no supply had taken place between the Appellant and Lease Products Ltd. She considered that the Appellant was not entitled to claim input tax on the invoice dated 31 August 2001 and, therefore, there was no mitigating circumstances to inhibit the misdeclaration penalty.
18.	   Mr Pritchard carried out an investigation of the VAT accounts for Lease Products Ltd. He found that the invoice and the credit note had been wrongly recorded in the VAT accounts resulting in an under declaration in the 9/01 VAT return and an over declaration in the 12/01 return. Mr Pritchard issued a revised assessment, which had a nil effect in respect of the tax due. The default interest on the assessment was not inhibited. Mr Pritchard considered that there were mitigating circumstances for not issuing a misdeclaration penalty against Lease Products Ltd because of the considerable assistance given to him in unravelling the circumstances surrounding the issue of the invoice on 31 August 2001. 
Our Reasons
Whether the Appellant had a Reasonable Excuse in respect of the Misdeclaration Penalty?
19.	 The Appellant contended that it was entitled under Article 17(1) of the EC Sixth Council Directive to deduct the input tax on receipt of the invoice dated 31 August 2001 because there was an intention on the part of the Appellant to receive the supply as invoiced. The Appellant also contended that it could not repay the input tax claimed until it received the credit note cancelling the supply, which occurred in July 2003.
20.	Under Article 17(1) the right to deduct input tax arises when the deductible tax becomes chargeable. Article 10 of the EC Council Directive defines the chargeable event as when the goods are delivered or the services are performed. Article 17(1) is enacted in sections 24, 25 and 26 of the Value Added Tax Act 1994 (hereinafter the 1994 Act) These sections allow a taxable person to deduct input tax attributable to taxable supplies made in the course or furtherance of his business. The key feature of the legislative framework is that a taxable supply must have been made to the taxable person before he can claim input tax. This conclusion was confirmed by the High Court in Pennystar Ltd and the VAT & Duties Tribunal in Icon Construction Services Ltd and Yousuf T/A H A R Fashions.  The mere holding of an invoice where a taxable supply has not taken place cannot give rise to an entitlement to input tax (Icon Construction Services Ltd). 
21.	The facts found in this case demonstrate that no supply took place between the Appellant and Lease Products Ltd in respect of the lease portfolio. At the time when the invoice was exchanged on 31 August 2001, the proposed purchase and sale were at a very early stage of negotiations. The due diligence had not been carried out by the Yorkshire Bank and the draft contract had not been drawn up. The Appellant had not authorised the invoice for payment. The invoice was, therefore, no more than a statement of intent by Lease Products Ltd that it was willing to sell to the Appellant the package of leases at the price stated. The invoice did not give the Appellant the authority to claim input tax because no supply had taken place and no payment in satisfaction of the invoice had been made.
22.	The Appellant paid the assessment for the input tax claimed but disputed the imposition of a misdeclaration penalty under section 63 of the 1994 Act. This penalty arose because the Appellant overstated its entitlement to VAT credit when it erroneously made the claim for input tax on the proposed purchase of the lease portfolio from Lease Products Ltd. The amount of input tax claimed exceeded £ one million, which triggered a penalty equivalent to 15 per cent of input tax claimed. 
23.	The Appellant submitted that it had a reasonable excuse for not paying the misdeclaration penalty because it was entitled to claim the input tax by virtue of the invoice and that repayment of the tax only arose when it received the credit note from Lease Products Ltd in July 2003. Our analysis of the statutory provisions and caselaw showed that there was no legal justification for the Appellant’s submission. The Appellant should not have claimed input tax in the first place because there was no supply and no payment made. The question about when the credit note was issued and received by the Appellant was irrelevant. The input tax was wrongly claimed and should have been repaid immediately without awaiting the receipt of a credit note. The Appellant’s grounds for a reasonable excuse was based upon the notion that it had done nothing wrong. In our judgment the Appellant had plainly done something wrong.
24.	The alternative basis for finding a reasonable excuse was that the Appellant had made an honest mistake about its entitlement to input tax. The Appellant suggested that it was custom and practice in the leasing business to require either an invoice or payment for preliminary work before entering into detailed negotiations about proposed purchases. There was, however, no evidence for the proposition that it was custom and practice in the leasing business to claim input tax on non-existent supplies.  Miss Neenan, Counsel for the Respondents, pointed out that ignorance of VAT law did not amount to a reasonable excuse. Miss Neenan relied upon the High Court decision in Neal v Customs and Excise Commissioners [1988] STC 131 where Judge Simon Brown at 136 drew the distinction between basic ignorance of the primary law governing value added tax and ignorance of aspects of law which less directly impinge upon such liability. The former could not amount to a reasonable excuse, whereas the latter might. The facts of this case demonstrate that the Appellant displayed a basic ignorance of VAT law in that it believed it was entitled to recover input tax on a non-existent supply upon which no payment of tax had been made. We are, therefore, satisfied that the Appellant did not have a reasonable excuse for avoiding liability for the misdeclaration penalty imposed on 23 October 2003. 
Was the Appellant entitled to Mitigation of the Misdeclaration Penalty?
25.	Section 70 of 1994 Act gives the Tribunal discretion to reduce the misdeclaration penalty. However, section 70(4) of the 1994 Act circumscribes the discretion of the Tribunal in holding that none of the following matters can be taken into account in deciding whether to reduce the penalty:
(1)	Insufficiency of the funds available to the Appellant to pay the penalty.
(2)	No significant loss of VAT to the Commissioners.
(3)	The Appellant acted in good faith.
26.	The Appellant’s assertion that it did nothing wrong and   made attempts to obtain the credit note from Lease Products Ltd would in our view be tantamount in saying that the Appellant acted in good faith which is one of the factors that we are directed by the legislation to ignore when deciding whether to reduce the penalty.
27.	The Appellant was strongly aggrieved with the actions of Lease Products Ltd  which exacerbated the Appellant’s situation vis a vis the Commissioners with its initial denial that it had not given the Appellant the invoice of 31 August 2001 and its confusing stance about the credit note. The Appellant’s sense of grievance was heightened at the Tribunal hearing when it discovered that the Commissioners had suppressed the misdeclaration penalty against Lease Products Ltd on the grounds of its co-operation with the Commissioners’ investigation about the invoice of 31 August 2001. Whilst we have a modicum of sympathy with the Appellant’s grievance, we consider that the position of Lease Products Ltd was qualitatively different from the Appellant’s situation. We have found that the Appellant was not entitled to claim input tax on the invoice because there was no taxable supply. It, therefore, follows from that finding that Lease Products Ltd was not required to account for output tax on the invoice.  This questioned the validity of Mr Pritchard’s revised assessment against Lease Products Ltd, which in fairness was probably issued out of caution to protect the position of the revenue. There was, therefore, no under-declaration of VAT on the part of Lease Products Ltd and no legal grounds for issuing a misdeclaration penalty against it. Thus Mr Pritchard made the right decision to suppress the misdeclaration penalty against Lease Products Ltd but for the wrong reason. We, therefore, consider that the comparison of the Appellant’s position with that of Lease Products Ltd does not provide grounds for mitigating the penalty because their respective positions are qualitatively different.
28.	The Appellant gave no evidence about how it arrived at its belief that it was entitled to claim input tax on the non-existent supply. The Appellant did not suggest that it had relied upon the advice of a professional person.
29.	The remaining issue to be considered under the heading of mitigation is whether we should give some recognition for the Appellant’s co-operation with the Commissioners’ investigation. Mrs Denby visited the Appellant’s premises on 16 June 2003 as part of a routine audit. During the audit she took photocopies of various purchase invoices for VAT period 8/01 that the Appellant had claimed as input tax. Mr Mounsey then contacted Mrs Denby on 24 June 2003 telling her that he was concerned about the transaction with Lease Products Ltd and would get back to her. After the telephone conversation Mr Mounsey wrote to Ian Belton of Lease Products Ltd requesting a copy of the credit note cancelling the sale, which was then followed by another letter seeking clarification about various issues in connection with the credit note. Mrs Denby visited the Appellant again on the 22 September 2003 where Mr Mounsey told her that he could not state exactly what happened in relation to the transaction with Lease Products Ltd. Mr Mounsey was not directly involved in the business at the time of these dealings with Lease Products Ltd. Ian Blower, the managing director, was managing the business and responsible for the VAT returns. Mr Blower has subsequently left the Company. In Mr Mounsey’s view neither the Appellant nor Lease Products Ltd pulled out of the deal it just eventually never happened. He considered that Lease Products Ltd held onto the credit note because of the ongoing negotiations.  We consider that the Appellant should receive some mitigation for its co-operation with the investigation but limited to 20% of the penalty, thus leaving 80% of the penalty to pay which on our calculations amount to £124,413.60.
Whether the Appellant was liable to pay the amount of Default Interest?
30.	The Tribunal has no Appellate jurisdiction over the Commissioners’ decision to assess for default interest (London Borough of Camden v Commissioners of Customs and Excise [1993] 5 VATTR 73). Thus we cannot decide on the Appellant’s liability to pay default interest. Our jurisdiction is restricted to considering the amount of the interest specified in the assessment (section 83(q) of the 1994 Act) but with the added rider that we have no power to vary the amount of interest except in so far as it is necessary to reduce it to the amount which is appropriate under sections 59 to 70 (section 84(6) of the 1994 Act).
31.	The Appellant’s ground for Appeal against the default interest was that it should be calculated from the VAT period ending 8/03 rather than from the period ending 8/01 when the claim for input tax was made. We doubt whether we have jurisdiction to entertain this ground of Appeal as it does not appear to us to fall within sections 59 to 70 of the 1994 Act. Having said that we have already found that the Appellant was not entitled to claim input tax on the invoice and that the issue of the credit note was irrelevant to the disputed matters in this Appeal. Therefore we are satisfied on both the facts and the law that the Commissioners are correct in calculating the amount of default interest from period 8/01.
Our Decision
32.	We find that the Appellant had no reasonable excuse for avoiding liability for the misdeclaration penalty. Further we are satisfied that the amount of default interest  in the sum of £103, 032.47 assessed against the Appellant was correct. We, therefore, dismiss the Appellant’s Appeal in respect of these two matters. We have, however, decided that the misdeclaration penalty should be mitigated by 20% because of the Appellant’s co-operation with the Commissioners’ investigation. Thus the Appellant is liable to pay a penalty of £124,413.60 rather than £155,517. We do not consider that the Appellant should receive its costs in relation to the Appeal because we have dismissed the substantive Appeal. The Respondents made no application for costs. We, therefore, make no order for costs.

MICHAEL TILDESLEY

CHAIRMAN
RELEASE DATE:

LON/03/1104