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VAT Voice by Andrew Needham

Andrew Needham, Director of VAT Solutions (UK) Ltd, outlines a recent case supporting the Lennartz principle for the recovery of VAT on mixed use assets

Background

The 1991 ‘Lennartz’ ECJ decision established a principle for the recovery of VAT on assets with both business and private use. The principle established in Lennartz (and later in ‘Bakcsi’), was that a taxable person may take initial input tax deduction on the full cost of goods purchased as a business asset and then recognise a corresponding obligation to account for output tax on the private use of the goods.

In 2003, the ECJ reconfirmed this principle in a case concerned with the construction costs of a building used partly as a private residence. The decision conflicted with legislation that HMRC had just proposed preventing the use of the Lennartz principle for buildings and civil engineering works. HMRC considered the case concerned, but stated that there was a derogation in Article 6(2) of the EU 6th Directive that allows Member States to withdraw the Lennartz mechanism altogether for certain assets, so there is no output tax on deemed supplies relating to private use, and no right to full deduction of VAT incurred on those assets. However, they did make some minor amendments to their legislation, stating “the Lennartz mechanism is not available for land, buildings or civil engineering works (or services related to them such as construction services) where no entitlement for any qualifying input tax arose prior to 9 April 2003”.

ECJ Decision

In a recent ECJ decision (P Charles, TS Charles-Tijmens (C-434/04)) the court again found in favour of the taxpayer. This case involved the purchase of a holiday bungalow for both business and private use. The ECJ reaffirmed the validity of the Lennartz mechanism, and stated that it can be used for the deduction of VAT on land, buildings, construction, and civil engineering works, where it is shown as a business asset.

Grudgingly, HMRC has had to agree that its previous legislation was not in line with the EC 6th Directive, and that the Lennartz mechanism can be used for the deduction of input VAT in the above circumstances (see Business Brief 15/05). Businesses do not have to use this method for VAT deduction on business assets, but can deduct a percentage of the VAT at the time of purchase in line with its proposed business/private use. Businesses that had wished to use the Lennartz mechanism for the purchase of eligible assets, but were prevented from doing so by HMRC, will now be able to make a backdated claim on purchases made after 9 April 2003, provided the claim is made within six months. HMRC point out that where Lennartz is used for the deduction of VAT on goods, including land and property, the goods are treated as wholly business assets. Therefore, when the asset is sold or the business deregisters for VAT, VAT is due on the full selling price (or deemed value on deregistration). However, where only a percentage of the purchase VAT was deducted at the time of purchase, only that same percentage of output tax need be accounted for when the asset is sold (or on deregistration).

September 2005

Andrew Needham
Director, VAT Solutions (UK) Ltd
Email: andrewneedham@vatsolutions-uk.com

VAT Solutions (UK) Ltd
11 Winmarleigh Street,
Warrington,
WA1 1NB

(T) 01925 242497
(F) 01925 242498
(M) 07810 433927
(W) www.vatsolutions-uk.com

VAT Solutions (UK) Limited is an established independent firm of Chartered Tax Advisers, formed by Andrew Needham and Steve Allen. The company has a cross-section of clients from multi-national companies through to medium-sized and numerous smaller regional firms of accountants and solicitors. They produce a regular publication 'VAT Voice', which can be downloaded directly from the Internet via the following address: www.vatsolutions-uk.com/newsletter.doc