20107
VAT — ADMINISTRATION  —  bad debt relief  —  whether credit notes validly issued  —  yes  —  whether bad debt relief should have been claimed instead  —  no  —  debtor entering into administrative receivership  —  effect of return to supplier of motor vehicles where retention of title clause in supply agreement  —  claim by debtor to benefit of  input tax attributable to cancelled supplies  —  appeal against refusal of benefit dismissed     

MANCHESTER TRIBUNAL CENTRE

 
 	BRUNEL MOTOR COMPANY LIMITED
					(In Administrative Receivership)	Appellant

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THE COMMISSIONERS FOR
				HER MAJESTY’S REVENUE AND CUSTOMS	Respondents

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				FORD MOTOR COMPANY LIMITED	Interested Party

Tribunal: Michael Johnson (Chairman)
        John Lapthorne FCMA

Sitting in Birmingham on 29 and 30 January 2007

Andrew Hitchmough, counsel instructed by Ernst & Young LLP for the Appellant

Tariq Sadiq, counsel instructed by the Acting Solicitor for H M Revenue and Customs for the Respondents

Jonathan Peacock QC, counsel instructed by Ford Motor Company Ltd for the Interested Party

© CROWN COPYRIGHT 2007

DECISION

Background to the appeal
1.	The Appellant (“Brunel”), which was registered for value added tax under VAT Registration No 682 2611 39, was representative partner for VAT purposes of the Quartic Motor Group, trading as a main car dealer selling Ford vehicles.  On 3 October 2002 Brunel went into administrative receivership along with the other members of the group.  

2.	On 31 October 2005 Ernst & Young LLP, representing the group, wrote to H M Revenue and Customs (“Customs”) on behalf of their clients to make voluntary disclosures of two amounts of £1,179,621 and £1,183,232 stated to be VAT reclaimed by Brunel.  The disclosures resulted from these amounts having earlier been paid to Customs by the administrative receivers on the understanding that pre-receivership supplies in respect of which Brunel had claimed input tax had been cancelled.  The receivers had therefore believed that the input tax originally claimed in respect of those supplies should be refunded to Customs.  However it was now maintained that Brunel had after all been entitled to the input tax, so that the tax should never have been repaid.      

3.	By a letter dated 19 December 2005 written in reply to the letter of 31 October 2005, Customs notified their decision to reject the basis on which the disclosures were made and to refuse payment of the sums claimed.  It is against that decision that Brunel has appealed.

The issue for decision        
4.	The contractual relationship between Ford Motor Company Ltd (“Ford”) as manufacturer and the group as retailer of new Ford vehicles was governed by a written Main Dealer Supply Agreement (“the Supply Agreement”) dated 1 February 2001 made between Ford (1), FCE Bank Ltd (2) and Brunel’s holding company Quartic Motor Group Ltd (3) (“Quartic”).  

5.	Under the terms of the Supply Agreement, the appointment of administrative receivers of Quartic operated to terminate the Supply Agreement.  At that moment, a number of new Ford vehicles had left the factory for which Ford was due to be paid under the Supply Agreement.  Other vehicles would fall to be paid for on dates following the onset of the receivership.  These were vehicles which had not been sold to customers.  By clause 12 of Part C of the Supply Agreement, Ford might elect to have these vehicles returned, without prejudice to its remedies for payment of the price of the vehicles or for damages.   As clause 8 of Part C of the Supply Agreement provided for Ford to retain title to the vehicles until payment, the return of the vehicles would enable Ford to resell them.

6.	The tribunal is concerned with vehicles returned to Ford in respect of which Ford issued credit notes to Brunel, in effect negating its liability to pay for the vehicles.  The case for Brunel is that these credit notes had no effect for VAT purposes, seeing that the supplies of the vehicles to which they related had taken place.  Brunel’s case is that Ford could not validly undo what had been done, so that Brunel had been entitled to claim input tax in respect of the supplies, leaving Ford to make a claim for bad debt relief should it so choose.

7.	The case for Customs, supported by Ford which has intervened as interested party, is that the credit notes had the effect for VAT purposes of cancelling the supplies to which the credit notes related.  It is said that the initial perception of the administrative receivers, that Brunel could not claim input tax in respect of the cancelled supplies, was the right one and that the claim to have the tax repaid by Customs is without foundation.

Evidence received and facts found
8.	The Supply Agreement is expressed to be supplemental to a Dealer Agreement entered into by Ford with Quartic, but we have not been concerned with the contents of that agreement.  Rather we have considered in detail the contents of the Supply Agreement, as to the interpretation and effect of which the representatives of each of the parties have made extensive submissions.

9.	The evidence received by the tribunal consisted firstly of the contents of a lever- arch file prepared for the use of the tribunal by Ernst & Young, containing copies of the documents relied upon by each of the three parties respectively in support of their cases; secondly the witness statement of Mr Richard Smith of Customs; thirdly the witness statement of Mr Mark Duncan of Ford; and finally the witness statement of Mr Bruce Mackay of the firm Baker Tilly, who is a licensed insolvency practitioner.  Mr Duncan and Mr Mackay gave oral evidence in addition.

10.	We find the following facts.

11.	Ford took care to acquaint Customs in advance with its proposals for the VAT treatment of the supplies dealt with in the Supply Agreement.  Prior to January 2001, Ford sold vehicles to its dealers on sale or return, dealt with in Part A of the Supply Agreement.  None of the supplies with which we are concerned were made on sale or return.  

12.	From January 2001 onwards, Ford began selling vehicles to its dealers at the factory gate, issuing VAT invoices at that point, but with provision for delayed payment for vehicles by incorporating an interest-free period applicable in respect of unregistered vehicles not yet sold to customers.  Unpaid-for vehicles would typically be kept in a vehicle holding compound pending payment, before being “called down” by the dealer as required for onwards sale.  

13.	Prior to call-down, unpaid-for vehicles might be transferred between dealers so that a different dealer could supply a customer with a car to a particular specification.  In such a case, Ford would issue the transferor dealer with a credit note in respect of the price of the vehicle and issue the transferee dealer with a fresh invoice.  These provisions were contained in Part B of the Supply Agreement (clause 6.1).  The tribunal is concerned to consider the contents of Part B and also Part C of the Supply Agreement in relation thereto.  Part C contained general provisions applicable to supplies under Part A or Part B.

14.	Occasionally a dealer would become insolvent.  In that case, the issue of credit notes in respect of unpaid-for vehicles was standard practice by Ford.  Part C of the Supply Agreement contained a retention of title clause (clause 8), and that part further provided for Ford to elect for unpaid-for vehicles to be returned to it (clause 12).  

15.	In October 2002 Mr Mackay and three of his partners in Baker Tilly were appointed as joint administrative receivers of the companies in the Quartic group by secured creditors of the group.  We find that they are and were skilled and experienced insolvency practitioners.  As receivers, Mr Mackay and his colleagues had the commercial objective of eliminating the group’s “old debt” and putting the business into such shape that, following a clean break with the past, trading could proceed with a re-opened credit line and fresh supplies from Ford.  On that basis, the receivers eventually achieved a sale of the business.

16.	Initially it appeared to the receivers that the input tax attributable to the supplies covered by the credit notes would fall to be repaid to Customs.  However the effect of so doing would be to change the VAT debtor/creditor position to a debtor (refund) position of £2,217,000 from a creditor position of £146,000.  The receivers therefore took advice from Berwin Leighton Paisner, solicitors, as well as from Customs and Baker Tilly’s own legal department.  Mr Mackay told the tribunal, and we accept, that the receivers were advised that the retention of title clause was legally valid, and that they established that the return of vehicles to Ford and the issue of credit notes was a procedure approved by Customs as well as Ford.  This was in December 2002/ January 2003.

17.	In January 2004, the receivers were conscious of opposition to the VAT treatment on the part of one of the secured creditors.  They took further advice from a Baker Tilly VAT specialist, Mrs Carolyn van Hecke, as to whether it could be demonstrated that there existed a legally correct alternative method of accounting for VAT beneficial to that secured creditor.  She advised in the negative.

18.	On 21 October 2005, two practitioners of Ernst & Young were appointed to be administrative receivers of the group jointly with Mr Mackay.  They reviewed the VAT position, which led to the letter mentioned in paragraph 2 of this decision.  At a meeting in Leeds on 29 November 2005, Mr Richard Smith of Customs rejected the proposed adjustment of the VAT accounting position.  Consequently Mr Smith wrote the letter dated 19 December 2005 communicating Customs’ decision to refuse repayment of the disputed amounts.

Submissions of the representatives of the parties
19.	Andrew Hitchmough of counsel appeared for Brunel.  He referred to Re Liverpool Commercial Vehicles Ltd [1984] BCLC 587 at 591i – 592a, in which Vinelott J observed that he could see no ground on which goods supplied and subsequently repossessed by the supplier using a retention of title clause would thereby cease to constitute a supply.  Nor, Mr Hitchmough submitted, does such a repossession give rise to a further supply.  These propositions are not disputed by Jonathan Peacock, QC or by Tariq Sadiq, counsel appearing for Ford and Customs respectively.

20.	Mr Hitchmough referred us to the tribunal decisions in Peter Cripwell & Associates v The Commissioners of Customs and Excise (VAT Decision No 660); British United Shoe Machinery Co Ltd v The Commissioners of Customs and Excise [1997] VATTR 187; Temple Gothard & Co v The Commissioners of Customs and Excise (VAT Decision No 702) and George Hamshaw (Golf Services) Ltd v The Commissioners of Customs and Excise [1979] VATTR 51.  Those decisions suggest that the criteria for determining the validity of a credit note are whether it has been issued to correct a genuine mistake or overcharge, or to give a proper credit, otherwise the credit note will be void as being contrary to public policy.  Mr Hitchmough submitted that there was no basis on which it could be suggested that the credit notes disputed in this appeal were issued to correct a genuine mistake or overcharge or to give a proper credit.  He submitted that there was no impediment to Ford making a claim for bad debt relief in this case in accordance with s 36 of the Value Added Tax Act 1994 and that that is what one would have expected to happen.

21.	Mr Hitchmough also referred us to article 11(C)(1) of the Sixth EC Council Directive.  He said that the apparent UK derogation from the term of the article whereby the taxable amount is required to be reduced, being a derogation permitted by the wording of the article itself, was observed by the tribunal in the decision in Mannesmann Demag Hamilton Ltd v The Commissioners of Customs and Excise [1983] VATTR 156.  He submitted that the existence of bad debt relief was acknowledged by the tribunal as explaining the UK not having legislated according to the requirements of the article.    

22.	Mr Hitchmough said that the former extra-statutory concession ESC 8, which used to appear in Notice 48 and was applicable prior to 1997 when changes were made to the scope of bad debt relief, permitted the use of credit notes at a time when bad debt relief was not available in cases such as the present.  However he stressed that Customs’ guidance contained in Notice 700 (“The VAT Guide”) corresponded to the view taken by the tribunals of the circumstances in which credit notes might be valid, exemplified in the authorities cited above.

23.	Mr Hitchmough took us in detail through the provisions of the Supply Agreement.  He derived support for his case by distinguishing clause 6.1 of Part B of the Supply Agreement, on the basis that the express provision made by that clause for the cancellation of the first contract of sale between Ford and the transferor dealer so as to enable a fresh contract of sale between Ford and the transferee dealer indicated the correctness of issuing credit notes in such a case, but not (in his submission) in the situation with which the tribunal was dealing.  He said that what Ford had done was to apply the clause 6.1 treatment to the return of the vehicles under clause 12 of Part C, but that was wrong.

24.	Mr Sadiq elected to follow Mr Peacock.  

25.	Mr Peacock submitted that a credit note was valid to correct a genuine mistake or overcharge or to give a proper credit, and that the credit given in this case was a proper one.  He said that it would be proper, for example, to give a credit for damaged or returned goods.  He said that the tribunal authorities cited by Mr Hitchmough were explained, at least in part, by the impossibility of “returning” a supply of services, as distinct from goods.  Goods could be returned by the debtor, and if they were returned and accepted, a true credit should properly be forthcoming.  That was enjoined by article 11(C)(1).

26.	Mr Peacock pointed out that, in the Mannesmann case, there was no evidence before the tribunal to support the rescission of the original contract for supplying the goods.  The basis of the decision appeared to be that the parties were seeking to alter the supply without justification.  Accordingly the credit note in that case had no legal effect.  There was nothing in the Mannesmann case, he said, to suggest that the existence of bad debt relief indicated a derogation by the UK from article 11(C)(1).

27.	Mr Peacock submitted that Customs were entitled to take a view on the validity of the credit notes in the present circumstances, and that was what they had done.  Their view was not decisive, but it supported the case of Ford.

28.	Turning to the construction of the Supply Agreement, Mr Peacock submitted that, in operating clause 12 of Part C, the parties had, in effect, adopted the procedure provided in clause 6.1 of Part B applying to the transfer of vehicles.  The result was the extinguishment of the debt so that the administrative receivers were enabled to salvage the business.

29.	Finally, Mr Peacock emphasized the impossibility of Ford claiming bad debt relief in this case, where credit notes had not only been issued but were appropriate having regard to the entitlement of the dealer to a credit.  Ford could not claim such relief, and was in any event now out of time for claiming such relief.

30.	Following for Customs, Mr Sadiq submitted that the credit notes were properly issued and were valid for VAT purposes.  He pointed out that all parties believed this to be the case; that the credit notes had a valid status in law, in that the goods to which they related had been returned; and that the issue of the notes resulted from a state of affairs that was not unilaterally adopted by Ford but was a matter of agreement with the administrative receivers.        

Decision of the tribunal with reasons
31.	We have not found this to be a straightforward case.  

32.	We see the force of Mr Hitchmough’s submission that the issue of a credit note is inappropriate if it serves only to remove a liability to tax in respect of which bad debt relief should have been claimed.  The authorities cited by him show that it is not open to the parties retrospectively to pretend that a taxable supply never took place if in truth it did.  But we agree with Mr Peacock that the circumstances in which a credit might properly be due are not circumscribed to the extent urged by Mr Hitchmough.  

33.	What if the parties contractually anticipate the possibility of administrative receivership and in that case expressly provide a procedure for rescission in the agreement governing the supplies?  That, in our view, must be relevant to determining the scope of the supplies.  

34.	In the commercial world, it is nowadays very common for a supplier of goods to seek to mitigate the financial downside of the insolvency of its debtor by agreeing for the retention of title in the goods supplied until they have been paid for. In such a case, the goods can be resold by the supplier if the debtor defaults.  Logically, in an agreement containing detailed provisions as to interim possession of the goods pending payment, one would also expect detailed provisions governing the return of the goods to the supplier in order that they can be resold. 

35.	Accordingly, in this case, the Supply Agreement provides, in clause 12 of Part C, sub-clauses (c)(i) and (d), for the return to Ford, if it so chooses, of unpaid-for vehicles both where payment has become due prior to the onset of the administrative receivership and where payment becomes due following the termination of the Supply Agreement by reason of the administrative receivership.  Even where the return of a vehicle takes place, sub-clauses (c)(i) and (e) provide that Ford’s rights and remedies against the dealer will not thereby be affected, including the right to sue for damages and the right to sue to recover the purchase price of the vehicle, “ … if and to the extent that the [purchase price] is due and payable but unpaid”.

36.	In accordance with ordinary principles of contract, the contracting parties would appreciate, on entering into the Supply Agreement, that where Ford suffered no loss on resale of the vehicles returned, it would not be in a position to sue in respect of the vehicles, save to recover nominal damages.  Although not expressly stated in the Supply Agreement, it falls in our view to be implied that, in the circumstances just mentioned, the dealer would be unlikely to face a claim from Ford.

37.	However, what if there were to be a loss on resale, or what if a particular vehicle, returned to Ford under the provisions, could not be resold?  The administrative receivers would have to reckon with the possibility of claims by Ford against the group.  An indication from Ford that it was content not to pursue the group would accordingly be most helpful.  As we see it, it is this that lay behind the provision of the credit notes that we are considering.  

38.	We think that the parties to the Supply Agreement would all along appreciate that the dealer would probably not have to pay Ford anything in respect of vehicles returned under clause 12 of Part C.  All that the credit notes achieved was to confirm that.  The credit notes did not provide credit where it was not due; on the contrary, they served to confirm a cap upon the contractual liability of the group, a cap which, we think, must have been anticipated by the contracting parties as likely to result if the Supply Agreement were to be operated according to its terms.  

39.	By the same token, it would not have been open to Ford to have claimed bad debt relief, given that the effect of having operated the Supply Agreement according to its terms was that Ford had received consideration for the debt.  The position immediately before the issue of the credit notes was that Ford was constrained to recognize that, having had returned to it the vehicles affected by clause 12 of Part C of the Supply Agreement, nothing further was due.  

40.	Thus it seems to us that the position was analogous to that in AEG (UK) Ltd v The Commissioners of Customs and Excise (VAT Decision No 11428), a tribunal decision of Mr Paul Heim, CMG.   In that case he decided that preference shares received under a voluntary arrangement entered into by the debtor company amounted to consideration for the prior debt.  The Chairman stated:
“The issue of the shares under the voluntary agreement operated to replace the debt due to the Appellant Company by the shares, as it did those of other creditors so that there was not, upon receipt of the share certificate, any ‘amount outstanding’ which could be the subject of bad debt relief.”
41.	Clearly it would be wrong if Ford were enabled to make a claim for bad debt relief without giving full credit for having realized its security under clause 12.  As well as providing Brunel with the evidence required for treating the group as discharged, the issue of the credit notes constituted an acceptance by Ford that it would not be correct to assert an entitlement to bad debt relief in this case.

42.	We are satisfied that the facts of the case that we are considering are distinct from those of the authorities cited by Mr Hitchmough.  We are of the view that the position that we are considering is one where, in accordance with article 11(C)(1) of the Sixth EC Directive, Ford has properly treated itself as unable, to the extent of the credit notes, to pursue payment for the clause 12 vehicles.  The credit notes have been volunteered by Ford; but that is no more than one might objectively have expected, from a perusal of the Supply Agreement.

43.	For the above reasons we dismiss the appeal.

Costs
44.	We understand that Ford is content to bear its own costs.  We imagine that Customs will not be applying for costs, but we may be wrong.  Brunel has not succeeded, so we take it that Brunel will not be applying for costs.  Be this as it may, we grant liberty to any of the parties to apply to have the appeal relisted before us for the limited purpose of argument as to costs, if desired.

MICHAEL JOHNSON
CHAIRMAN
Release Date: 3  April  2007
MAN/2006/0038