VAT on Legal Services
A recent UK VAT decision (HMRC v BAA Limited) has provided valuable guidance on the recovery (or partial recovery) of VAT incurred on professional fees by an acquisition company in purchasing shares.
The Current Position in Ireland
Historically, there has been a limited right in Ireland to recover input VAT incurred on professional fees in connection with a share acquisition as a share acquisition is a VAT exempt transaction. However, companies may be able to take certain steps to enhance their VAT recovery position, including grouping the acquisition vehicle with the target VAT group and/or ensuring the acquisition vehicle supplies taxable management services to its subsidiaries. The decision in HMRC v BAA Limited ( UKUT 258) examined this matter in detail and provides some welcome clarification for companies in Ireland affected by this issue.
The case concerned the 2006 acquisition of BAA, the UK airport operator, by a Ferrovial entity(Airport Development and Investments Limited (“BidCo”)). It examined BidCo’s entitlement to recover VAT incurred on the very significant professional fees in relation to the acquisition of the shares in BAA. The two key issues were:
- whether BidCo was carrying on an economic activity; and
- whether the taxable services supplied to BidCo had a direct and immediate link to any taxable supplies made by BidCo or the BAA VAT group.
HMRC had argued that BidCo was a passive holding company. However the Upper Tribunal accepted that BidCo was carrying on an economic activity of providing management services to the BAA Group following the acquisition, including negotiation of financing for the group, corporate governance and advices as to strategic direction in relation to the conduct of the business. The explicit recognition that such management activities can constitute an economic activity for VAT purposes is a positive development.
Direct and Immediate Link
In order for the VAT costs to be recoverable, there needed to be a direct and immediate link between the professional service fees paid by BidCo and a taxable supply. The Tribunal held it could not attribute any of the fees (or the VAT incurred by BidCo) to BidCo’s post-completion management activity. On evidence, it was found that, at the time it incurred the VAT, BidCo had no intention of providing taxable services to BAA. This intention only arose after the acquisition was complete.
BidCo joined the BAA VAT group after the acquisition and sought to recover the VAT on the basis of the fees having a direct and immediate link to the taxable supplies made by that group. This would have been typical of the approach taken by other acquisition vehicles in the market. The Upper Tribunal held that this did not result in a right to recover the VAT on the basis that BidCo was not a member of, and had no intention to join, the BAA VAT group at the time it incurred the VAT.
Although both of these findings were sufficient to defeat BidCo’s claim, perhaps more significantly, the Tribunal observed that certain fees incurred by BidCo were concerned with the takeover and were not related to BidCo’s management services, nor could they be described as fees incurred to allow the BAA group to undertake taxable supplies. BAA would have been operating as an airport authority regardless of whether BidCo received those services. This finding, if followed in other decisions, suggests that the intention to make taxable supplies or join a VAT group may not be decisive in terms of allowing for VAT recovery and that further analysis of the nature of the fees and their connection to a taxable supply is required.
Further UK decisions are likely and may shed further light on the recovery of VAT in this area. Although BidCo lost on the facts, elements of the decision suggest that BidCo could have improved its position if appropriate steps had been taken early in the transaction process. These include:
- indicating that, at the time it incurred the VAT, BidCo intended to make taxable management services to the BAA group members;
demonstrating an intention to join the BAA VAT group at the time the VAT was incurred, and actually joining that group from completion, rather than a number of months following the acquisition; and
insofar as possible, ensuring the engagement letters relating to the professional fees clearly identify those services which are attributable to, and intended to support, the business activities of the group, or BidCo, and those which are solely related to the acquisition.
In light of these points, companies involved in share acquisitions should ensure that advice is taken as early as possible in the acquisition process so that they can adopt the strongest possible position. Although there can be no guarantee of VAT recovery, given increased rates of VAT in a number of jurisdictions, early planning could prove very valuable.
Please see attached for further information.