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Cite as: [2008] UKVAT V20777

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Rank Group Ltd v Revenue & Customs [2008] UKVAT V20777 (19 August 2008)
    20777
    COMMUNITY LAW – Fiscal neutrality – Exemption – Gaming – Provision of gaming machines excluded from exemption – Similar supplies under Part III of Gaming Act 1968 exempt – Whether principle of fiscal neutrality infringed in law or in practice – Whether defence of due diligence by UK possible – Linneweber [2008] STC 1069 ECJ applied – EC 6th Directive (77/388/EEC) Art 13B(f) – VATA 1944 Sch 9, Grp 4, Item 1, Note (1)(d) and (3) – Interim decision
    LONDON TRIBUNAL CENTRE
    RANK GROUP LTD Appellant
    THE COMMISSIONERS FOR HER MAJESTY'S REVENUE & CUSTOMS Respondents
    (Slot Machines)
    Tribunal: THEODORE WALLACE (Chairman)
    A J RING CTA (Fellow)
    Sitting in public in London on 14 to 18 and 21 to 25 April 2008
    Paul Lasok QC and Valentina Sloane, instructed by Deloitte & Touche LLP, for the Appellant
    Christopher Vajda QC and George Peretz, instructed by the Solicitor for HM Revenue and Customs, for the Respondents
    © CROWN COPYRIGHT 2008

     
    DECISION
  1. This appeal concerns VAT on slot machines in the United Kingdom prior to 6 December 2005, more specifically whether the taxation of machines not covered by section 21 of the Gaming Act 1968 or section 16 of the Lotteries and Amusements Act 1976 when machines covered by those sections were exempt infringed the principle of fiscal neutrality under Community Law.

  2. Article 13B(f) of the Sixth Directive required member States to exempt "betting, lotteries and other forms of gambling, subject to conditions and limitations laid down by each member State."

  3. In Finanzamt Gladbeck v Linneweber (Case C-450/2) [2005] ECR I-1131; [2008] STC 1069 the Court of Justice held that limitations on the exemption under Article 13B(f) must comply with the principle of fiscal neutrality in that similar supplies must not be subject to different VAT treatment. The Court also held that Article 13B(f) had direct effect.

  4. Under section 4(2) of the VAT Act 1994, supplies other than exempt supplies are taxable. Schedule 9, Group 4, item 1 exempts "the provision of any facilities for … the playing of any game of chance." Note (1)(d) to Group 4 excludes "the provision of a gaming machine". Before 6 December 2005, Note (3) defined "gaming machine" as follows:

    5. "(3) 'Gaming machine' means a machine in respect of which the following conditions are satisfied, namely –
    (a) it is constructed or adapted for playing a game of chance by means of it; and
    (b) a player pays to play the machine … either by inserting a coin or token into the machine or in some other way; and
    (c) the element of chance in the game is provided by means of the machine."

    Those conditions reflect those in section 26 in Part III of the Gaming Act which applies to machines with a slot. Neither party submitted that there was any difference in substance. The effect of Note (3) was that the provision of a gaming machine as there defined was taxable.

  5. On 21 December 2005 the Appellant ("Rank") claimed repayment of £35,348,739 output tax less £9,389,635 input tax giving a net figure of £25,959,104 for the period from 1 October 2002 to 5 December 2005 on the basis that income from gaming machines covered by section 31 of the Gaming Act, known as Jackpots, and by section 34, known as Amusement with Prizes, operated by it over that period had been subject to VAT whereas machines falling within section 21 of the Gaming Act 1968 or section 16 of the Lotteries and Amusements Act 1976 (hereinafter referred to as "section 21" and "section 16" respectively) although essentially similar, had been exempt, contending that the different treatment infringed the principle of fiscal neutrality. We refer to the latter machines as "section 21 machines" and "section 16 machines." Section 16 of the Lotteries and Amusements Act 1976 does not apply to machines within section 26 of the Gaming Act 1968.

  6. The appeal is against the refusal by Customs of the repayment claim. It is believed that around 1,100 appeals by other traders have been stood over pending the outcome of Rank's appeal. Rank has also appealed against an assessment for £993,042 in respect of periods 12/04 to 12/05 made on 19 December 2007 raised on the basis that supplies which Rank had treated as exempt were taxable. That is separate from the present appeal.

  7. Some of the machines, which Rank contends were similar ("comparators"), were operated by Rank and treated as exempt. The assessment made on 19 December 2007 was directed to such machines. Others were operated by different traders. A substantial part of the dispute in the present appeal is as to whether there were comparators which were exempt as a matter of law and whether the putative comparators, if taxable as a matter of law, were in practice treated by Customs as exempt.

  8. In their Statement of Case Customs set out their contentions as follows at paragraph 5 –

    9. "(i) [Customs] contend that the Appellant has failed to show any disparity in tax treatment between section 16, 21 and FOBTs and section 31 and 34 machines prior to 5 December 2005 and sufficient to substantiate any basis for operation of a principle of fiscal neutrality, and/or
    (ii) [Customs], as a matter of fact or law, do not accept that there has been any breach of a principle of fiscal neutrality …
    (iii) [Customs] contend that the Appellant has failed to show any :
    (a) distortion in competition, and/or
    (b) imbalance in the market,
    as a result of the alleged tax treatment and sufficient to constitute an alleged breach of a principle of fiscal neutrality. [Customs'] case is that none of the so-called 'section 21' or 'section 16' comparator machines relied on by the Appellant were, as a matter of law, exempt from VAT, but that if they were, such machines came into commercial use only for, at the most, a short period of time at the end of the relevant period (which ended on 5 December 2005) and hence there was no breach of the principle of fiscal neutrality …
    (iiia) Further or alternatively, the United Kingdom acted with the necessary diligence in responding to the development of the putatively exempt machines in question by amending the relevant law so as to end any disparity of treatment, and hence there was no breach of the principle of fiscal neutrality."

    The passages in italics were amended by leave of the Tribunal on the fourth day of the hearing at the outset of the case for Customs so as to reflect contentions advanced in their skeleton argument dated 9 April 2008, which were not reflected in the Statement of Case as it stood. The amendment was allowed subject to the possibility of further evidence if this should prove necessary.

  9. This decision is not concerned with the quantum of the repayment claim. Customs skeleton stated that it was hoped that quantum could be agreed if the Tribunal decided liability in favour of Rank. Quantum would not of course arise if Customs succeed in full on liability.

  10. This decision addresses the question whether Rank has shown that there were in fact section 16 and 21 machines which were exempt in law before the amendment in December 2005 or which were treated by Customs as exempt. For this purpose it is necessary to consider how Note (3) should be interpreted and how condition (c) should be applied to the machines in question. It is necessary to decide how the random number generators ("RNGs") related to the machines and whether the RNGs which were not in the terminal cabinets were part of the machines. We have concluded that there were comparator machines which before 6 December 2005 were exempt as a matter of law and that in any event there were comparators which Customs treated as exempt in practice. We have not however considered whether there were such comparators as far back as period 04/02. Further evidence will be required as to this in the light of our conclusions as to which machines were exempt and which were treated as exempt, there being a variety of machines with different manufacturers and different operators.

  11. This decision also addresses questions of law arising in relation to the application of the principle of fiscal neutrality, whether any disparity of treatment is immaterial if de minimis by reason of the short period of time or otherwise and whether a disparity of treatment is immaterial if the Member State acts with the necessary diligence in ending any disparity. Any questions of fact arising in the light of our conclusions on the questions of law arising in respect of fiscal neutrality will be addressed at a further hearing. Mr Vajda accepted that the burden of proof in respect of factual issues arising to negate the application of the principle of fiscal neutrality is on Customs.

    12. Witnesses
  12. The following witnesses gave evidence and were cross-examined: Neil Chinn, managing director of Astra Games Ltd since August 2004 and managing director of Maygay Group from March 2001 to February 2004; Simon Beacham, Head of Electronic Gaming for Rank since June 2007, for 3½ years from October 2000 responsible for the small slot machine estate of Grosvenor Casinos Ltd (a subsidiary of Rank) and from April 2004 working under the Director of Electronic Gaming; Phil Sears, since May 2003 Head of the Policy Team within Customs responsible for VAT exemptions including betting and gaming, and Brian O'Kane, senior officer, since December 2001 a member of a team in Manchester with responsibility for policy development, maintenance and implementation in relation to excise duties on betting, gaming and lotteries.

  13. Statements by the following witnesses were read without objection : Mark Todd Henderson, from January 2003 to December 2005 general manager of two Mecca bingo clubs in Glasgow, Mecca being a subsidiary of Rank; David Anthony Barker, at the relevant times successively general manager of Mecca Southport and Mecca Rochdale; Alistair William Steel, at the relevant times successively general manager of Mecca Drumchapel and Mecca Greenock; Martin Ramskill, since August 2002 general manager of Grosvenor Victoria Casino and before that of Crockfords Casino; Lucy Norgate, Group Tax Manager of Rank since August 2006; Martin Watson, Director of Product Development for Stanley Casinos since August 2003; Tom Kavanagh, from 11 November 1991 Secretary to the Gaming Board for Great Britain and since 1 October 2005, deputy Chief Executive of the Gambling Commission; Nigel Owen, since 2003 Technical Compliance Manager of the Gaming Board and then the Gambling Commission and Arlene Torbot, from April 2003 to March 2004 an officer in Customs' Operational Team at Greenock responsible for assessments and penalties for failure to render betting and bingo returns and for processing amusement machine licence applications.

    14. Multi-terminal RNGs
  14. We find it convenient to start by considering the evidence as to terminals linked by a cable to an RNG which served a number of terminals. The terminal was the apparatus into which the player inserted the coin. It would be wholly unnecessary and most unlikely that the player would be aware of where the RNG was situated.

  15. On 8 December 2003 Bally Gaming Systems ("Bally") issued an invoice to Stanley Casinos Ltd (which is not connected with Rank) for £150,000 for 30 Cadillac Jack section 21 machines and £10,000 for one server. The software and the RNG were housed in the single server which was situated in the server room which was off the gaming floor. The verification hub and software were located in the cash desk. Counsel's opinion had been obtained by Crown Gaming, a subsidiary of Bally, in the summer of 2003 as to a similar machine. The opinion described the RNG as being connected by a live network to a series of electronic player terminals, stating that typically 10 terminals would be connected to a single server. Mr Watson stated that Stanley Casinos opened the Star City Casino in Birmingham in November 2003 and that Counsel's opinion reflected the operation of the Cadillac Jack system exactly. The Guide to UK Betting and Gaming 2005 (William Reed Publishing) stated that Stanley's Star City Casino in Birmingham "opened in November 2003 with a total of 200 mainly section 21 machines, similar to bingo machines with £500 jackpots." A letter from the Gaming Board to Crown Gaming dated 17 November 2003 confirmed that the Triple Threat system with modifications was suitable for installation in casinos under section 21 and referred to the projected installation in Stanley's Star City Casino for its opening.

  16. IGT-UK demonstrated "section 21 products" to Mr Beacham and Mr Mario Vilela of Rank on 15 March 2005 and referred in a letter with that date to "a simple network solution that does not require the use of an expensive back-office computer." IGT-UK gave a power point demonstration when their section 21 machines were launched which included a slide headed "Overview" stating "External Random Number Generator". Other slides showed a CVT linked to five gaming machines and that "The CVT generates separate random numbers for each machine".

  17. A gaming machine participation agreement between IGT-UK Gaming Ltd and Grosvenor Casinos Ltd dated 28 June 2005 provided for the supply to Grosvenor of gaming machines listed in the attached appendices. There were six appendices listing between two and six machines delivered to casinos, one appendix for each casino; each appendix showed under "Accessories" one Clerk Validation Terminal ("CVT") with its own serial number. The evidence was that the RNG was in the CVT. The references to machines were clearly to terminals. Thus six machines were provided to Blackpool with one RNG, this included Mystical Mermaid. The one RNG served six games on different terminals.

  18. A photograph showing four player terminals and a separate display plinth with a board showing "Megaslot" and underneath the display plinth "Display Plinth with its own PC/RNG + Power Supply" was sent by Astra Games to Mr Nigel Owen of the Gaming Board on 23 February 2005. Mr Owen stated that some section 16 or 21 equipment used a central RNG unit to feed all random numbers to the terminals on the venue. A schedule of sales by Astra shows a Megaslot sale for £4,600 on 25 April 2005 and sales on 11 May and 13 June for £21,995, the sales being to Gamestec. The £4,600 included an RNG; the £21,995 was for four terminals and one display with RNG.

  19. Mr Beacham gave evidence that some Bally machines with a single RNG serving several machines were installed in Grosvenor Casinos, as well as in competitors such as Stanley Casinos and Gala. He said that the Grosvenor machines were installed in November 2004 with the RNG in the cash desk. Although this conflicted with particulars provided by Rank on 12 November 2007, it is clear from paragraph 15 above that Bally had supplied multiple terminals with single servers a year earlier to Stanley Casinos, furthermore the particulars did refer to carousels. We accept Mr Beacham's evidence as to this.

  20. Mr Chinn stated that multi-machine products were first developed by CMS in mid-2003. Mr Kavanagh confirmed this in his statement of 1 April 2008. Mr Thomas was recorded as saying at a meeting on 14 July 2004 with Customs that section 16/21 machines had been around in some form since 2001; Mr O'Kane who was at the meeting told the Tribunal that from recollection Mr Thomas was referring to four player terminals with a separate RNG serving the multi-terminals. Mr Watson stated that section 21 machines became more attractive to operators due to the enhanced stake and prize limits introduced by the Gaming Act (Variation of Monetary Limits) (No 2) October 2001.

    21. Single-terminal RNGs
  21. There were a number of different configurations with single terminals served by their own RNG. An Astra product shown at a trade show in October 2004 had an RNG contained in a separate plinth on which the machine itself stood. It appears that a wire linked the RNG to the terminal passing through a hole in the bottom of the terminal cabinet. The RNG had its own separate power supply. Mr Beacham said that Rank had a Project Coin machine similar to the Astra product from around May 2004; it is not clear that he meant an RNG with an independent power supply. The cables were detachable with a plug for the cable.

  22. It appears that other configurations had an RNG using the power fed into the terminal.

  23. A further variant was that some machines had the RNG hanging by a wire from the terminal but outside the terminal so that it was not touching the terminal. Other variants were that the RNG was velcroed to the wall directly behind the machine or screwed to the wall. It appeared that some users had unscrewed the machines and extracted the RNGs which had been supplied inside the machines; there was no suggestion that Rank had done this.

    24. Treatment of machines in practice by Customs
  24. Part of the case for Rank was that even if there were no comparator machines which were exempt as a matter of law there were comparator machines which Customs treated as exempt in practice. Customs called no evidence from any officer who had seen any of the machines. There was however some evidence in correspondence and published material.

  25. The Annual Report of the Gaming Board for the year to March 2004 stated that the year had seen the development by the industry of types of machines for operation under the Lotteries and Amusements Act 1976 section 16 and the Gaming Act 1968 section 21, the design of which was such that they were not caught by Part III of the Gaming Act 1968. The Report stated that the development and proliferation of those machines had raised concerns.

  26. On 14 July 2004 there was a meeting between Customs officers and BACTA to discuss section 16/21 machines. Simon Thomas, a BACTA member, said that no licence was required since they were not gaming machines. He said that there were not many of them because of their expense and that they had been around in some form since 2001. Following that meeting Mr O'Kane wrote to BACTA on 3 September stating that Customs agreed that the gaming terminals being provided by BACTA members did not constitute gaming machines. His letter, which had been approved by Mrs Temple, the head of his office, said,

    27. "While these terminals undoubtedly provide gaming opportunities they cannot be classed as gaming machines so long as they rely on a random number generator that is not an integral part of the terminal, i.e. a random number generator that is remote from the terminals … As such, they would appear to enjoy VAT exemption under Group 4 of Schedule 9 to the VAT Act."

    On 18 August John Alderman, of Customs' Large Business Group, had written a letter to the Appellant to the same effect.

  27. In January 2005 BACTA issued a Code of Practice which included the following,

    28. "2.1 Section 16 and 20 games cannot be gaming by means of Part III machine (1968 Gaming Act).
    2.2 The Random Number Generator (RNG) must be independent and physically separate from the played terminals, other than connecting wires etc."
  28. A guidance manual produced by Customs in January 2005 contained the following at 12.4.2 of Chapter 19 on Betting and Gaming:

    29. "12.4.2 Fixed Odds Betting Terminals (FOBTs) and Section 16 and Section 21 Gaming Terminals
    FOBTs look like traditional gaming machines and can be played for cash. They allow a variety of simulated games to be played on them including roulette, virtual horse and dog racing, golf, and number games. A central feature of their operation is that the terminal is connected to a remote server, which contains a random number generator (RNG). It is this RNG that creates the chance element of the games. The FOBT itself contains the visualisation software. They are located at bookmaker's premises.
    Section 16 and Section 21 terminals are similar to bookmakers FOBTs. They offer games of chance, usually roulette-based games, and again are driven by a remotely sited, random number generator. They have a maximum stake of 50p, a maximum cash prize of £25 and can also offer non-cash prizes. In bingo clubs, the non-cash prizes are restricted to a maximum value of £500. These gaming terminals are being provided under the terms of The Lotteries and Amusements Act 1976 and the Gaming Act 1968. Under this social law, it is only premises that hold the appropriate permits that are allowed to provide these gaming facilities.
    Because the element of chance is not provided by the terminals themselves, but by a RNG which is outside the machine, both bookmaker's FOBTs and Section 16 and Section 21 terminals cannot be treated as gaming machines. Consequently, if the terminals offer the facilities for the placing of bets or for playing any games of chance, they will be exempt from VAT under Schedule 9, Group 4, Item 1 of the VAT Act 1994."
  29. In particulars provided on 30 May 2007 Customs stated,

    30. "We are not aware that any assessments to tax have been issued upon machines which the Commissioners consider taxable but operators treat as exempt. [This is because if one has been issued by an assurance officer we wouldn't know.] However there are several ongoing investigations that will potentially result in assessments being issued in the future."

    Mr Sears was only aware of assessments having been issued in the six months before the hearing.

    Submissions for Customs as to taxability of comparators
  30. Mr Vajda said that no breach of fiscal neutrality arises unless it is found that there were one or more comparator machines which were exempt as a matter of VAT law. The taxability issue falls to be determined by reference to specific machines. Rank had relied on specific machines in particulars dated 12 November 2007; other machines had been referred to in evidence. He accepted that the comparators did not have to be confined to machines operated by Rank. The Tribunal should apply the statute to each particular machine. The views of the Gaming Board were irrelevant to the correct legal classification. The fact that a machine had been advertised as a section 16 or 21 machine did not answer the question whether the element of chance was provided by the machine.

  31. He said that the VAT law should be construed consistently with the social law under the Gaming Act. Part II of the Gaming Act 1968, which included section 21, did not regulate gaming machines within section 26 which came under Part III. He referred to Smith & Monkcom's The Law of Betting, Gaming and Lotteries, 2nd edition (2001) where the objectives of the gaming legislation were considered. Profit sharing agreements were specifically prohibited under Part III. Part III was considered to be of great importance by Parliament in order to regulate relationships between suppliers and operators. If the comparators were not gaming machines they fell outside the control of Part III. With a game of bingo the element of chance was the drawing of numbers usually by a caller or a separate RNG so that Part III did not apply. Smith & Monkcom said at page 427,

    32. "… with modern technology and the links between machines which were not envisaged when section 26 was passed, it becomes increasingly hard to see where one machine begins and another ends."

    He said "machine" should be given a broad construction so as to achieve the purposes of the Gaming Act. The Gaming Act definition expressly included "apparatus" under section 52. Apparatus covers something necessary for the functioning of the machine; the Shorter Oxford English Dictionary gives under apparatus "necessary for the performance of some activity or function."

  32. Mr Vajda said that where the RNG was inside the cabinet containing the gaming machine it was plainly a component of the machine. If the RNG was removed from the machine it was still performing the same function and was still a component. It made no difference if the RNG was designed to be outside the cabinet: it was still a component. There was no commercial reason for taking the RNG out of the machine. The RNG had to be the correct product for the machine. He said that where the RNG was velcroed to the wall or attached to a carousel it was still part of the machine. It was also part of the machine when it was in a plinth under the terminals, whether or not it was hanging there by its wire. Single terminal machines were sold with an RNG as a component included in the price.

  33. He said that the four Megaslot terminals sold by Astra with an RNG for £21,995 were sold as a single product and were one machine (see paragraph 18 above). The RNG was just as much a component as if it was a single terminal machine; the method of connection between the RNG and terminals was irrelevant. The social policy considerations did not differ between single and multi-terminal machines. He said that the RNG in the CVT referred to at paragraph 16 was designed to be used with the terminals as a whole and was apparatus; "machine" included apparatus. The RNG was manufacturer-specific to the IGT terminal. The IGT agreement showed the CVTs as gaming machine accessories. The terminals were useless without the RNG which was a key element of the machine.

  34. Although at paragraph 29 of Customs skeleton argument it was contended that the reference in Note (3) to the element of chance being provided by means of the machine was to distinguish the situation where that element was provided by human intervention, as with a bingo caller, Mr Vajda did not develop that submission in the hearing and did not submit that Note (3)(c) was confined to excluding a situation when there was a human caller.

    35. Submissions by Rank as to the taxability of comparators and as to application of the legislation in practice
  35. Dr Lasok said that the definition of "gaming machine" in both Note (3) to Group 4 of Schedule 9 and section 26 of the Gaming Act drew a distinction between systems or combinations of machines, which did not fall within the definition, and individual machines. The test was based on the particular machine which had to satisfy all the conditions. He said that the RNG was distinct from the terminal. To treat a network of terminals using a single RNG as one machine would create havoc with the regulatory regime under Part III of the Gaming Act. Under section 31 only ten gaming machines falling under Part III were allowed in one premises. If a terminal was distinct from a machine, it would not matter how many terminals were linked to an RNG. If 30 terminals were linked to each of 10 RNGs, there would be 300 terminals on a premises.

  36. He said that Rank had been assessed to Amusement Machine Licence Duty on the basis that each terminal was a category E machine under section 23 of the Betting and Gaming Duties Act 1981.

  37. Dr Lasok accepted that there was a problem where the RNG was integral because it could not be separated from the terminal. Examples were terminals manufactured with an integral RNG without its own power supply, even where the cable was long enough to locate the RNG outside the terminal, or terminals where the back had been unscrewed to extract the RNG so that apart from being located outside it was integral to the terminal. He said that it was immaterial that those configurations might be taxable gaming machines, since multi-terminal configurations and terminals linked by detachable cables to RNGs with or without their own power source were exempt.

  38. He said that at the material time the machines here in question were not regarded by the Gaming Board as regulated under Part III. Customs' arguments asked the Tribunal to reverse retrospectively the general understanding of the regulatory position; this would have the effect of rendering the profit sharing agreements with suppliers unlawful.

  39. He said that there was no basis for the suggestion that the intention of the changes in 1975 was merely to exclude from gaming machines which were taxable those situations where the outcome of the game was determined by human intervention. He asked why, if this had been the intention, it was not expressly stated in the legislation.

  40. He said that even if the Tribunal accepted the submission by Customs that the section 16 and section 21 machines were in law taxable, they had in fact been treated by Customs as exempt so that the application of the law in practice had breached fiscal neutrality. Customs had followed the same line as the Gaming Board. He instanced letters written by Mr O'Kane to BACTA in August and September 2004, a letter to the Appellant by Mr Alderman in August 2004 and the guidance issued in January 2005. The contemporaneous understanding by Customs could also be inferred from the eventual decision to amend the definition of gaming machine in December 2005 and from the absence before 2007 of any assessments for unpaid VAT on machines which had been treated by traders as exempt being section 16 or section 21 machines; no assessments had been raised by May 2007. An internal Customs meeting in October 2006 had recognised that assessments might be challenged on the basis of tacit misdirection.

    41. Further submissions on AML Duty and treatment in practice
  41. In response to Dr Lasok's submission at paragraph 36 above, Mr Vajda said that under section 25(4) of the Betting and Gaming Duties Act 1981 when determining "whether a machine is a machine of any description … it is immaterial whether it is capable of being played by only one person at a time, or is capable of being played by more than one person." Under subsections (5) and (5A)(a) the number of machines was treated as equal to the number of playing positions.

  42. Mr Vajda said that if the Tribunal accepted his submission that the comparator machines were taxable in law but concluded that in practice they had been treated as exempt such treatment was an error by Customs to which the principle in Customs and Excise Commissioners v National Westminster Bank plc [2003] STC 1072 applied. He accepted that a practice not to collect tax on certain services could in principle amount to a breach of EU law and fiscal neutrality, an example of this was European Commission v France (Case C-409/99) [2001] ECR I-2667, (the French tipping case), where there was an administrative discretion. The present situation is very different, he said, because the UK is seeking to collect the VAT and has raised assessments against Rank; it is irrelevant when the assessments were made or that some operators might have a defence of misdirection or that the assessments were out of time. Such defences did not create a lack of fiscal neutrality. In the French tipping case some 90 per cent of the consideration had been collected; on Rank's argument any restaurant which had not taken advantage of the concession could have claimed repayment of tax.

  43. Dr Lasok rejoined that there was clear evidence that before December 2005 Customs did not collect the tax because they believed that the machines were exempt: that was the guidance. The assessments were issued when Customs were casting around for a defence to Linneweber claims. The assessments were after the appeal was started and were capped to 3 years. In the French tipping case there an administrative concession creating an illegal exemption, whereas the default position was tax on the correct amount. Here the default position was the exemption under the Sixth Directive. The UK could not justify taxation of the machines unless it complied with fiscal neutrality. The principle of fiscal neutrality applies both to the national provisions and to their application, see Marks and Spencer plc v Revenue and Customs Commissioners (Case C-309/06) [2008] STC 1408 at [34].

  44. As to Mr Vajda's submissions at paragraph 41, Dr Lasok said that section 25 (4) (5) (5a) and (7) were introduced to cover multi-terminal networks; express provision was needed because they were not covered by the definition of gaming machine. There was no equivalent in social law or the VAT law.

    45. Conclusions as to whether comparators were exempt in law or in practice
  45. We have no doubt on the evidence that RNGs were connected to a number of gaming machine terminals from November 2003 at the latest and were accepted by the Gaming Board as coming within section 21 of the Gaming Act 1968.

  46. We consider first whether such multi-terminal products, which are referred to for convenience as multi-terminal RNGs, were gaming machines within Note (3) to Schedule 9, Group 4. We accept Mr Vajda's submission that in determining whether on a correct interpretation these were gaming machines within Note (3), the views of the Gaming Board as to whether they came within section 21 are not relevant.

  47. Note (3) read as follows:

    48. "(3) 'Gaming machine' means a machine in respect of which the following conditions are satisfied, namely –
    (a) it is constructed or adapted for playing a game of chance by means of it; and
    (b) a player pays to play the machine … either by inserting a coin or token into the machine or in some other way; and
    (c) the element of chance in the game is provided by means of the machine."
  48. It is not in dispute that in respect of all the potential comparators, whether multi-terminal or single terminal, the element of chance was provided by the RNG. In the case of slot machines it is clear that "the machine" to which Note (3)(b) refers was the terminal into which the coins or tokens were inserted. If the conditions in (b) and (c) were both to be satisfied both the terminal and the RNG had to refer to the same machine. The use of the definite article before the word "machine" in (b) and (c) makes this clear. Indeed condition (a) had to be satisfied also. Where the RNG was situated inside the terminal so as to be an integral part of it, we have no doubt that the RNG and the terminal formed part of a single machine.

  49. Mr Vajda's case was that where a number of terminals were connected to a single RNG together they comprised a single machine in respect of which all the conditions in Note (3) were satisfied. That was not quite how he put it, however we did not understand him to submit that the Megaslot terminals to which he referred at paragraph 33 would not have been a single machine if one or more of the terminals had been added later.

  50. It does not seem to us that the point is capable of much more elaboration. In our judgment Dr Lasok was correct in submitting that the definition of gaming machine was directed to individual machines rather than to systems. The machines were clearly the terminals containing the slots. If the machine in question contained the RNG as an integral part, condition (c) was satisfied. If the RNG was not an integral part of the machine, condition (c) was not satisfied.

  51. We accept Dr Lasok's submission that the controls under Part III of the Gaming Act as to the number of gaming machines in a premises would have been defeated in relation to multi-terminal products if a number of terminals linked to one RNG only comprised a single gaming machine. However those controls were also ineffective if terminals with remote RNGs were not gaming machines at all within Part III.

  52. We accept Mr Vajda's submission that section 25 of the Betting and Gaming Duties Act 1981 entitled Customs to levy AML Duty on each terminal, since each terminal provided a playing position. That does not affect the definition of gaming machine in the 1968 Act. It does not seem to us that this paragraph and the preceding paragraph advances the case for either side.

  53. As already pointed out "the machine" in Note (3) was clearly the terminal into which a coin or token was inserted. The RNG provided the element of chance. Note (3) was satisfied where the RNG was part of "the machine." Where the RNG was situated outside the terminal and served a number of terminals we conclude that the terminals were not "gaming machines" because the RNG was not part of any terminal and the element of chance was not provided by means of the machine containing the slot. We do not consider that the language of Note (3) was apt to cover a series of terminals linked to one RNG. The result is that by reason of Note (1)(d) to Group 4 the provision of gaming facilities by multi-terminal products was exempt as a matter of law.

  54. However, we consider that machines incorporating dedicated RNGs were single machines. Where a terminal was constructed for use with an RNG built into the machine, we do not consider that unscrewing the back and fitting a cable instead of the original wire had the effect that the RNG ceased to be part of the machine.

  55. We also consider that a terminal constructed to be used with an RNG which did not possess an independent power source was a single machine, particularly if the cable could not simply be unplugged. The position may have been different if the cable could be unplugged, the RNG did have an independent power source and was ordered and supplied separately; the assumption is that what was bought as a single machine was used as a single machine.

  56. Another scenario was that the RNG was situated in the plinth rather than the terminal itself, with the cable running through a hole in the bottom of the terminal. We consider that this configuration was a single machine.

  57. The difficulty with the variations considered in the last three paragraphs was the lack of clear evidence as to the details of the variations. On the one hand the legal burden of proof is on the Appellant. On the other hand there was no evidence at all from Customs as to the different configurations, although assurance officers must have seen some at least of those on visits. In the light of our conclusions as to multi-terminal products, nothing turns on the single terminals unless they were on the market before multi-terminal products. If that was the case further detailed evidence would be needed as to their nature and configuration and the dates when single terminals came onto the scene.

  58. We are satisfied on the evidence that, even if we are incorrect in concluding that the multi-terminal products at least were not gaming machines within Note (3), Customs in practice treated terminals linked to RNGs which were outside the terminals as exempt. Although there may be scope for debate as what "remote" meant in the letters by Mr O'Kane and Mr Alderman in August and September 2004 following the meeting on 14 July, the guidance set out at paragraph 28 above clearly refers to the RNG being outside the machine and equates the terminal with the machine.

  59. It is clear that Mr O'Kane knew by March 2004 that slot machines were being advertised as section 16/21 machines. That gave rise to the meeting with BACTA on 14 July 2004. A ruling was issued on 8 June 2007 that slot machine income treated by Rank as exempt was taxable; assessments going back to period 12/04 were issued on 19 December 2007, any earlier assessments being capped. From Mr Sears' evidence it appears that no assessments in respect of slot machines were made until six months before the hearing. We conclude that from the middle of 2004 if not earlier until well after December 2005 Customs did in practice treat income from slot machines used with RNGs outside the terminal as exempt.

  60. On the basis of the above conclusions, from November 2003 at the latest, when Stanley's Star City Casino in Birmingham opened, the United Kingdom law and practice were prima facie in breach of the principle of fiscal neutrality in that similar products were taxed differently. We say prima facie because Mr Vajda put forward a number of submissions as to why the disparity in treatment of slot machines did not involve a breach of fiscal neutrality.

    61. Relevance of disparity in VAT treatment and whether competition
  61. Mr Vajda said that although section 31 and 34 machines which were taxed were intrinsically similar to the comparator section 16 and 21 machines, the comparator machines were not at the relevant time in competition with the taxed machines. He said that on the evidence the introduction of the comparator machines was not driven by VAT at all: the fact that they were not subject to VAT was an incidental advantage and not determinative, see Mr Beacham's statement at paragraph 39; the number of section 31 machines was regulated but there was an unsatisfied demand; operators could get round the section 31 restrictions by using section 21 machines.

  62. He said that there was a decisive non-VAT reason for operators purchasing or operating section 21 machines so that the approach of the Court of Justice in European Commission v France (Case C-481/98) [2001] ECR I-3369 at [27] to [29] applied; we refer to that case as the French drugs case. The comparators in the present case were not "in a situation of competition in which the difference in … VAT could be relevant." In order to show a breach of fiscal neutrality the Appellant needed to show that a not insignificant number of comparator machines were acquired and operated because of the VAT treatment.

  63. He said that in the French drugs case the reason why the consumer favoured reimbursable drugs was the fact that they were reimbursable; as a result there was no causal link between the reduced rate of VAT and the favouring of sales of reimbursable products over non-reimbursable products, see at [26]; for that reason the two categories of drugs were not in a relevant situation of competition.

  64. He said that the French drugs case shows that it is not a universal rule that different treatment of similar products generates a distortion of competition. Where one group of products has a decisive non-VAT advantage with a competing group, a difference in treatment does not breach the principle of fiscal neutrality, unless there is evidence that a not insignificant quantity of the products are purchased for reasons other than the decisive non-VAT advantage; in such situation it is necessary to look at the cause of the distortion of competition. He said that the burden of proof is on the person alleging breach of fiscal neutrality. The reference to "not insignificant" in the French drugs case at [28] was effectively a de minimis point.

  65. He said that European Commission v Denmark (Case C-19/05) where it was held that the fact that a failure to comply with an obligation imposed by Community Law had no adverse effects was no defence in infraction proceedings was not inconsistent with the French drugs case where the question of significance was relevant to fiscal neutrality. He said that there was nothing in J P Morgan Fleming Claverhouse Investment Trust plc and AITC v Revenue and Customs Commissioners (Case C-363/05) [2008] STC 1180 (the "AITC" case) to suggest that the Court was overruling or qualifying what was said in the French drugs case which was expressly referred to.

  66. Dr Lasok said that there was no authority for the proposition that non-VAT reasons are relevant when considering a breach of fiscal neutrality unless the French drugs case supports it. In the AITC case investors did not make decisions because of the different VAT treatment of management services. In the French tips case there was no evidence that patrons were influenced by the treatment of tips. He said that there were two explanations for the French drugs case. The theory that it set out a de minimis rule or a test requiring competition between classes of products was the unsuccessful UK argument in the AITC case. The simpler explanation was that, despite the similarity in physical characteristics, the drugs on the two lists did not satisfy the same needs of consumers and were therefore not similar. He said that the French drugs case was thus only about similarity. If there had been a significant overlap, the classes of drugs would have been similar. He said that once it was accepted in the present case that from the perspective of the consumer the machines were similar, there was no room for an argument based on the French drugs case. He said that in none of the cases where a breach of fiscal neutrality had been found had there been a VAT reason for the consumer's choice of product. It was only necessary for the Appellant to show that the machines in question were similar and that they were subject to different tax treatment.

    67. Conclusions as to relevance of disparity and competition
  67. The submissions as to this aspect were substantially the same as those in the appeal by Rank in relation to mechanised cash bingo machines which was heard immediately following this appeal and is already the subject of Decision No 20688. The submissions of law in this case were adopted by the parties in that case. In the bingo appeal Mr Vajda relied on the fact that players could not tell whether a game was a section 14 or a section 21 game until after it had started and were therefore not influenced by the tax treatment and made his submissions as to competition from the perspective of operators competing with other operators, contending that there was no competition in any sensible use of the expression.

  68. In the present case Mr Vajda relied on the reasons as to why Rank and other operators used section 21 machines; this argument which was based on Mr Beacham's evidence was raised for the first time on Day 8.

  69. We note that this approach is in any event substantially different from that in the French drugs case where the Court of Justice focussed on the consumer rather than the supplier.

  70. We accept the submission of Dr Lasok that the decision in the French drugs case was directed to the question whether the products which were taxed differently were similar products from the perspective of the consumer given that one category of drugs was reimbursable and the other was not. We accept his submission that the decision in that case did not introduce a requirement that, where there is a disparity in treatment of similar products, breach of fiscal neutrality involves a further requirement that the supplies must be shown to be in competition which is not insignificant. If that had been such an additional requirement, it would have been referred to by the Court of Justice in the AITC case.

  71. We do not consider that the question whether the domestic legislation infringes the principle of fiscal neutrality can depend on the reasons why the operators introduced and subsequently used the exempt machines. On any view the question must be decided objectively and cannot depend on the motive or perception of the individual operator or consumer. Either the United Kingdom legislation did comply with Article 13B (4) as interpreted in Linneweber or it did not. The position must be the same for all operators; that is inherent in Linneweber. The compatibility of the domestic legislation cannot depend on the evidence of Mr Beacham as to Rank's reasons for installing the machines. Many of the outstanding appeals to the Tribunal are from small operators; it is far from clear that many of those operators were motivated by a desire to avoid the numerical restrictions on section 31 machines.

  72. The evidence that section 21 slot machines met the same needs of consumers, namely the players, as section 31 slot machines was not challenged. We hold that unlike the situation in the French drugs case, the two categories of supplies were similar. The result is that the disparity in treatment did result in a breach of the principle of fiscal neutrality without the need to identify a distortion of competition or imbalance in the market as an additional requirement. We adopt the reasons in Decision No 20688 in so far as not reproduced above.

    73. Submissions as to defence of reasonable diligence
  73. Mr Vajda said that if, contrary to the case for Customs, there was a difference in treatment of similar products, such difference in treatment was objectively justified because the United Kingdom acted with due diligence in responding to the development of the exempt machines by amending the law to end the disparity of treatment, see paragraph 5 (iii) and (iiia) of the amended Statement of Case at paragraph 8 above.

  74. He relied on the dicta of Jacob J in National Westminster Bank Plc [2003] STC 1072 where at [66] he cited Klensch v Secrιtaire d' Etat ΰ l'Agriculture et ΰ la Viticulture (Cases 201/85 and 202/85) [1986] ECR 3477 in which the Court said at paragraph 9 that the general principle of equality or non-discrimination in EU law requires that "similar situations shall not be treated differently unless differentiation is objectively justified." Mr Vajda said that although the taxpayer in that case did not rely expressly on fiscal neutrality the principle was the same and was not undermined by Marks and Spencer plc [2008] STC 1408. Jacob J said that legal certainty is relevant when considering objective justification. In Lex Services plc v Customs and Excise Commissioners [2004] STC 73 Lord Walker said at [27] that the objective of legal certainty must coexist with the principle of neutrality. Mr Vajda submitted that it would make no sense to say that there is no defence of objective justification under the principle of fiscal neutrality when there is such a defence on equal treatment. The reference by the Advocate General at paragraph 28 in Goldsmith's Jewellers v Customs and Excise Commissioners (Case C-330/95) [1997] STC 1073 to the need to avoid "unjustified distinctions" was another way of putting "objectively justified" as a defence to rigid application of fiscal neutrality. The principle of fiscal neutrality is simply part of the principle of equal treatment; not every difference in treatment is prohibited.

  75. He said that if there is no objective justification defence then as soon as new exempt products which are similar to taxed products come onto the market there is an automatic breach of fiscal neutrality and the taxed products become exempt.

  76. Mr Vajda said that Pincherle v European Commission (Case T-110/89) [1997] ECR II – 635 was an illustration of the principle of objective justification and of the importance of legal certainty. That case showed that where a difference in treatment arises out of new developments, the public authority is obliged to remedy the difference but is only in breach if it shows lack of diligence; what constitutes diligence is a question of fact. In that case although the remedy took over three years a lack of diligence was not established.

  77. He said that Linneweber did not involve a new product or legal certainty; that decision was no authority on the relevance or otherwise of objective justification as a matter of law. EC Commission v Italy (Case C-45/95) [1997] ECR I-3605 shows only that where a Member State fails to implement the Sixth Directive, in infraction proceedings it could not say that the amount of tax was small. Grundig Italiana SpA v Ministero delle Finanze (Case C-68/96) [1998] ECR I-3775 involved discrimination against products from another Member State and does not answer the question whether there is a defence of objective justification. Gregg v Customs and Excise Commissioners (Case C-216/97) [1999] STC 934 did not involve the emergence of new products. The French tipping case [2001] ECR I-2667 involved a plain breach of Article 11 and did not involve any of the objective justification arguments in the present case; it contained no indication that objective justification is outlawed as a matter of Community Law.

  78. Mr Vajda said that the French drugs case showed that the question of significance of the number of comparators could be relevant to fiscal neutrality; that was another way of expressing the de minimis concept. He said that EC Commission v Denmark (Case C-19/05) [2007] not yet reported was another infraction case where it was held that it was no defence that no one had suffered. Although the Advocate General at paragraph 76 equated that to a de minimis defence, that did not by a sidewind overrule what the Court said on significance at [28] in the French drugs case. Denmark was not a fiscal neutrality case. Although in the AITC case the Court said at [47] that once supplies in competition are treated unequally it is irrelevant whether the distortion is substantial, unlike the French drugs case there was no decisive non-VAT advantage; there was no suggestion that the French drugs case was overruled. Further, AITC was not considering new products. The statement at [51] that the exclusion of investment trusts from the exemption "does not appear justified" supports the proposition that there is a defence of objective justification. The decision of the Court of Justice in Marks & Spencer plc (2008) recognised the possibility of objective justification for different treatment of similar situations, see at [51].

  79. Mr Vajda said that no European case decided so far considered new products coming onto the market or such products being driven by non-VAT reasons. He submitted that there would be no breach of fiscal neutrality until the "not insignificant" threshold in the French drugs case was reached. That did not happen until the existence of comparator machines was sufficiently well-known both to Customs and other traders. On the evidence of Mr Sears this did not occur until early in 2005. It was reasonable to wait until the pre-budget input in December 2005 to amend the law. He accepted that the test as to reasonable diligence involved the "knew or ought to have known" test.

  80. Dr Lasok said that in National Westminster Bank case the Appellant wished to benefit from the fact that other traders had been dealt with by mistake in not applying the unjust enrichment test; here the policy considerations were quite different since it was a condition of taxing gaming machines that fiscal neutrality should be observed.

  81. He said that the fact that the emergence of new products could undermine the taxation of similar products was simply the result of the United Kingdom using the loophole in the Sixth Directive to impose VAT. He said that Lex Services worked against Customs because legal certainty required compliance with fiscal neutrality if taxation of a form of gambling was to be lawful.

  82. Dr Lasok said that the differential tax regime may in fact have been in breach of fiscal neutrality from its inception in 1975; the Tribunal should not assume that there was no breach before 2002: there was a risk of such breach from the start. A proper analysis did not appear to have been carried out in 1975 before the differential regime was introduced.

  83. Dr Lasok said that no basis in law had been identified for the submission that because exempt machines were only in use for a short period, the principle of neutrality was not engaged: the "short period defence". He said that the short period defence was not consistent with the way in which principle of the direct effect of Community Law works. It had never been suggested that a person is barred from replying on a directly effective right merely because the period during which the Member State did not comply with the Directive was short. When excluding a class from exemption a Member State must take care to avoid different tax treatment of similar supplies.

  84. Dr Lasok said that no fiscal neutrality case had been cited in which a defence of reasonable diligence has been accepted. Pincherle concerned equal treatment rather than fiscal neutrality. In the French drugs case the Court considered objective criteria in the context of deciding whether or not the supplies were similar; there was no suggestion that once similarity was established there could be objective justification for different tax treatment.

  85. He said that rather than providing objective justification for the different treatment, Mr Vajda was contending that the United Kingdom should be given time to remedy the breach. He said that this contention was wholly inconsistent with the concept of direct effect. The Court of Justice had never limited the temporal effect of a judgement so as to exclude pending claims; in Linneweber the Court did not limit the temporal effect of the judgement.

    86. Conclusion as to defence of due diligence
  86. Although Mr Vajda's submissions as to this defence, which was covered by paragraph 5 (iiia) of the Amended Statement of Case, were based on objective justification he did not put forward any justification which was independent of the contention that the United Kingdom acted with due diligence in amending the law to end the disparity in treatment. Nor did he develop any short period defence which was independent of the due diligence contention.

  87. Mr Vajda accepted that the burden of proof of establishing reasonable diligence is on Customs. Clearly this would require more evidence and we did not invite him to address us on the factual aspect to a greater extent than was necessary to appreciate the legal context of the submission that such a defence is possible in law. Dr Lasok invited us to hold that such a defence is not possible in law so that no more evidence on this aspect is needed.

  88. Such a defence if possible in law would make it necessary to determine when exempt comparator machines were developed, when the United Kingdom knew or ought to have known of the development of such machines and when steps were taken to end the disparity in treatment. In view of our earlier conclusions it will in any event be necessary to have further evidence as to the introduction of exempt comparators in order to determine when the disparity in treatment did in fact start. The knowledge of the United Kingdom is not to be confined to the knowledge of Mr Sears who was responsible within Customs for policy on this aspect but in principle covers the knowledge of any Customs officer in particular those engaged on VAT assurance of gaming machines and Amusement Machine Licence Duty; furthermore it encompasses the knowledge of the Gaming Board for Great Britain which was a statutory body appointed by the Secretary of State.

  89. We agreed to consider the availability of a defence of reasonable diligence as a matter of law at this stage, deferring its application to the facts for further evidence.

  90. Mr Vajda did not dispute the assertion of Dr Lasok that a due diligence defence has not been considered in any decision of the Court of Justice involving the direct effect of Community Law as to VAT. He did not cite any other VAT case where such a defence has been addressed; if the Court of Justice was considering a defence of objective justification in the French drugs case it did not make this clear and the question of due diligence did not arise. It is of course not easy to envisage such a defence arising in infraction proceedings, since once a disparity of treatment is remedied infraction proceedings become unnecessary.

  91. The fact that a reasonable diligence defence has never been considered by the Court of Justice in relation to VAT does not mean that the Court might not conclude that such a defence is possible. There is force in Mr Vajda's observations at paragraph 75 above although the problem will arise primarily when a Member State has sought to tax a supply otherwise exempt in circumstances where the dividing line is not clear. As Lord Walker said in Lex Services the objective of legal certainty must coexist with the principle of neutrality. Pincherle shows that in another context due diligence can be a defence.

  92. While we would incline to the view that no due diligence defence is possible we do not find it possible to conclude at this stage as a matter of law that such a defence is not possible without making a reference to the Court of Justice. This is a developing field involving a tension between fiscal neutrality and legal certainty. We have concluded that the correct course of action is to consider the evidence on the facts and in the light of the facts to decide whether a reference is necessary and if so what question should be referred. This will depend on whether it can be shown that the United Kingdom did act with reasonable diligence to remedy the disparity in treatment.

  93. As stated at paragraph 9 this hearing did not address the quantum of the repayment claim. Apart from arithmetic the quantum depends upon the period for which there was a disparity in treatment of similar products as well as the possible defence of due diligence. The period of prima facie breach extended at least from November 2003 when Stanley's Star City Casino in Birmingham opened. If the assertion of Mr Thomas recorded at the meeting on 14 July 2004 that section 16/21 machines had been around in some form since 2001 was correct the disparity may have covered the whole period of the claim, depending on what form the machines took. Further evidence is necessary on this issue.

  94. Evidence is also necessary on the issue of whether the United Kingdom acted with due diligence to remove the disparity in treatment. There was no suggestion by Dr Lasok that the mere possibility of comparator machines which were exempt gave rise to a breach of fiscal neutrality. Any defence of due diligence depends on establishing the date from which the United Kingdom knew or ought to have known of the disparity in treatment. This defence is therefore wrapped up with the question of when the disparity in treatment started. It seems to us that the sources of information open to Customs on this issue are greater than those available to the Appellant, since there must be information from visits by VAT and excise duty assurance officers. We found the passage in brackets in the particulars recorded at paragraph 29 disingenuous.

    95. Summary of conclusions
  95. Where the RNG was not dedicated to one terminal so that more than one terminal shared the same RNG, the RNG which provided the element of chance was not part of the terminals and the terminals were not gaming machines within Note (3) to VAT Act 1994, Schedule 9, Group 4 (paragraph 53);

  96. Terminals constructed with dedicated RNGs were gaming machines within Note (3) where the RNG was used with the machine whether or not the RNG had been detached (paragraphs 54 and 56);

  97. In practice Customs knowingly treated terminals linked to RNGs which were outside the terminal as exempt from the middle of 2004 if not earlier (paragraph 59);

  98. From November 2003 at the latest United Kingdom law and practice were prima facie in breach of the principle of fiscal neutrality in that similar products were taxed differently (paragraph 60);

  99. The question whether the domestic legislation infringes the principle of fiscal neutrality does not depend on the reasons why operators introduced and subsequently used the exempt machines (paragraph 71);

  100. Since the exempt machines met the same needs of consumers, the disparity in treatment did result in a breach of the principle of fiscal neutrality without the need to identify distortion of competition or imbalance in the market (paragraph 72);

  101. We do not find it possible to conclude at this stage that no due diligence defence is possible; it may be appropriate to make a reference after hearing further evidence in the light of the facts which we then find (paragraph 92).

    102. THEODORE WALLACE
    CHAIRMAN
    RELEASED: 19 August 2008
    LON 2006/0875

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