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VAT Voice by Andrew Needham

Andrew Needham, Director of VAT Solutions (UK) Ltd, looks at VAT and corporate finance transactions following the ECJ decision in the Kretztechnik AG v Finanzamt Linz Case (C-465/03)VAT and corporate finance transactions is an area that continues to cause problems for businesses and advisers alike. In this article, we take a look at some of the basic issues and highlight the changes following the recent ECJ decision in the Kretztechnik AG v Finanzamt Linz Case (C-465/03).

Types of Transactions

In corporate finance transactions, a number of different types of transaction can take place. A business can be bought or sold through a supply of securities, and additional capital can be raised through a share issue. The finance to carryout the transaction can also come from a number of different sources, including loans and the sales of securities. These all have different VAT liabilities and can have an impact on the recovery of VAT by the business.

VAT liability of an advisers’ supplies

Corporate finance services may take a variety of forms:

• raising capital;

• share placement;

• acquisition/merger.

In determining the liability, the essential question to address is whether the deal concerned involves the supply of an intermediary service falling within Item 7 of Group 5 of the VAT Act 1994. An intermediary service is one which results in the supply of any transaction in Group 5 item 6 of the VAT Act 1994.

In the course of a corporate finance transaction involving a supply of securities, a number of different parties participate in the supply of services to the principals to the securities deal. The legislation provides VAT exemption for ‘intermediary services’ in the supply of securities. However, this exemption will not apply to all the parties providing advice to the vendor.

Corporate financing is often a two-stage process. First, the sponsor seeks information from a variety of professional sources, and, having obtained it, prepares a prospectus. Services performed in this first stage, such as reporting accountants, are generally taxable. Services performed during the second stage, the actual transaction in securities, may qualify for exemption.

Exemption applies only to the services provided by the party, or possibly parties, if more than one person is engaged to act as co-ordinator, who actually negotiates or co-ordinates all of the components of the transaction to its conclusion. Typically this might include:

(a) bringing together sellers/issuers and purchasers/investors;

(b) carrying out/coordinating the necessary negotiations essential to the conclusion of the whole deal;

(c) instructing/organising and co-ordinating the work of other parties involved, such as lawyers and accountants;

(d) carrying out the necessary consultations with appropriate regulatory authorities; and

(e) acting as the central point of contact and execution between the party intending to effect a transaction in securities and their other advisers.

If you are providing specialist services, for example, as legal advisers or document printers, your specialist services are taxable, even if supplied in connection with the second stage.

If you provide services to a company to enable it to defend against a hostile takeover bid, your services are wholly taxable if the defence does not involve intermediary services for the issue of shares or for raising capital as part of the defence.

The exemption for intermediary services does not cover:

• the professional services provided by accountants and lawyers which are sometimes supplied in connection with the issue of securities or sale of securities which do not make the bridge between the principals; or

• services of preparing and issuing advice to investors to reject or accept a take-over bid or offer to purchase.

Such services are taxable, because they do not possess the characteristics of an intermediary.

Input tax recovery

The acquiring company will have to consider the recovery of VAT on the costs of the acquisition. This will normally fall into three distinct areas:

• the costs relating to advice on how to raise the capital required for making the acquisition;

• the costs incurred on actually raising the capital; and

• the costs incurred on the acquisition of the target companies shares.

Advice on raising capital

When a company seeks general advice on how to raise capital prior to a final decision on how to raise the capital has been reached, the costs can be treated as a general business expense provided it is separately identified as such on the suppliers invoice. As a general business expense, the costs can be treated as non-attributable, and recovered in line with the company’s agreed partial exemption method.

Following the Kretztechnik AG v Finanzamt Linz Case (C-465/03), a new share issue no longer constitutes an exempt supply for VAT purposes. The ECJ has ruled that the issue of new shares does not constitute a transaction falling within the scope of Article 2(1) of Sixth Council Directive (77/388/EEC).

As a result of this, Article 17(1) and (2) of Sixth Directive 77/388 confers the right to deduct, in its entirety, the VAT charged on the expenses incurred by a taxable person for the various supplies acquired by him in connection with a share issue, provided that all the transactions undertaken by the taxable person in the context of his economic activity constitute taxable transactions. If the taxable person is partly exempt, VAT recovery will be in line with the agreed partial exemption method.

This view is in direct conflict with the Court of Appeal decision in the Trinity Mirror case, and will have to result in a change of policy by HM Revenue & Customs (‘Customs’) This area of VAT has caused great annoyance to businesses that have suffered an input tax restriction, so it will be generally welcomed by everybody but Customs.

Costs relating to raising funds by a loan are considered to be a general overhead of the business, and can be treated as non-attributable. Any VAT incurred can be recovered in line with the company’s agreed partial exemption method. This is because the company is not making a supply of any kind in order to raise the funds.

Where a business acquires the share capital of a target company, it is not making a supply, and therefore, in principle, the input VAT on the related costs is not deductible. However, Customs’ policy is to allow such costs to be treated as a general overhead of the business, and so the input VAT is treated as non–attributable. There is a requirement, however, that the costs are separately identified before this treatment is allowed.

In most cases, the professional costs involved in defending a hostile takeover can be treated as a general overhead of the business, and recovered in line with the company’s agreed partial exemption method.

In some cases, a company wishing to make an acquisition may involve a venture capitalist (‘VC’) in order to help raise the necessary finance. Before committing themselves to becoming involved, VCs may commission various professional services to confirm the viability of the project. In these circumstances, it is common for the VC to insist that the acquiring company bear these costs. Even though the acquiring company pays for these services, they are actually supplied to the VC, and therefore, the acquiring company may not recover the VAT on these costs.

VAT reclaim

For those business that put in a protective claim for unclaimed input tax following the Advocate General’s opinion in the Kretztechnik AG v Finanzamt Linz case, it is now time to press Customs’ for repayment of the claim. If you have not yet made a claim, you should do so now, as you will still be subject to the three-year capping provisions. You should also be eligible for statutory interest on the claim. Customs will, no doubt, publish a Business Brief advising on how claims should be made (although considering the size of any potential reclaims, we doubt that they will be rushing to volunteer repayments), but it may be prudent to make your claim now so as not to be caught by the three-year cap.

June 2005

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


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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