Recoverability of VAT on Costs

06/12/2022

1. In a detailed assessment before Regional Costs Judge Phillips sitting in Cardiff, in Jones and Davies v Davies and Vaughan, I was instructed on behalf of the paying parties (PP) where an important issue was whether the receiving parties (RP) were entitled to recover VAT from the PP on their costs.
   
2. The issue of the recoverability of VAT in the assessment of costs is unusual, but a 20% difference in the sum to be paid as a paying party can be very significant. The issue became very contentious in this case, with the RP contending in their skeleton argument that the point raised was “bizarre and bound to fail”.
   
3. There are no reported assessment of costs decisions on the point and the leading costs textbooks do not address how the issue should be determined. Prior to my instruction, the parties had been advised by a costs specialist barrister acting as a costs mediator to write to HMRC to seek to resolve the dispute, however that approach was incorrect as HMRC are unwilling to determine a dispute in these circumstances.
   
4. The litigation concerned whether there was a valid trust in relation to property/land, where the RP lived and worked, which was referred to in a will. Under the terms of the will the RP were entitled to use the property/land (which was a farm) and receive the single farm payment (or such payments as had replaced it) for their lifetimes. It was established in the substantive litigation that there was a valid trust and the RP obtained an order for costs in their favour.
   
5. VAT was claimed in the Bill of Costs. RP are VAT registered and it was contended in the Points of Dispute that VAT should not be claimed from and recovered against the PP; it should be recovered from HMRC as input tax. The RP did not accept that VAT could be recovered as input tax on costs incurred arising from the litigation; they maintained it should be paid by the PP.
   
6. 44PD.2.3 provides that “VAT should not be included in a claim for costs if the receiving party is able to recover the VAT as input tax”. 44PD.2.4 confirms that: “The receiving party has responsibility for ensuring that VAT is claimed only when the receiving party is unable to recover the VAT or a proportion thereof as input tax.”
   
7. Pursuant to 44PD.2.5: “Where there is a dispute as to whether VAT is properly claimed the receiving party must provide a certificate signed by the legal representatives or the auditors of the receiving party substantially in the form illustrated in Precedent F in the Schedule of Costs Precedents annexed to Practice Direction 47.”.
   
8. The Certificate as to Recovery of VAT is certificate 6. As stated in Precedent F: “Appropriate certificates under headings (1) and (2) are required in all cases. The appropriate certificate under (3) is required in all case in which the receiving party is a legally aided person. Certificates (4), (5) and (6) are optional. Certificate (6) may be included in the bill, or, if the dispute as to VAT recoverability arises after service of the bill may be filed and served as a supplementary document amending the bill under paragraph 13.10 of Practice Direction 47”.
   
9. 44PD.2.6 does refer to a reference being made to HMRC and its view obtained and made known but that is in the circumstances “where there is a dispute as to whether any service in respect for which a charge is proposed to be made in the bill is zero rated or exempt”. It did not apply to these circumstances.
   
10. The RP provided the Certificate as to Recovery of VAT. However, it was submitted on behalf of the PP that the completion of the Certificate as to Recovery of VAT did not resolve the dispute. 44PD.2.5 does not state completing the certificate will determine the issue of recoverability and the CPR (r.44.4 in this instance) does take precedence over a Practice Direction in any event.
    
11. It was contended that the recoverability of VAT is not in abstract, but in relation to the particular supply of goods and services. It was submitted that it was an issue that the Court could determine and that it was necessary to refer to the relevant legislation and the subject matter of the litigation.
    
12. The legislation to consider is s.24 of the VAT Act 1994. The relevant definition of input tax is “VAT on the supply to him of any goods or services used or to be used for the purpose of any business carried on or to carried on by him”. The guidance from HMRC (VIT13600) is that the substance of the legal action and the activities of the business must be connected.
    
13. The Court was referred to Preasto v Consulting UK Ltd v Revenue and Customs Commissioners [2019] EWCA Civ 353; [2019] STC 724 in which the Court of Appeal was concerned with the recoverability of VAT as input tax on solicitors’ charges in different circumstances, but cited binding authorities confirming that consideration of economic realities is a fundamental criterion of the VAT system (see paragraphs 26 and 27) and, in particular, stated at paragraph 28: “As to the use of the supply for the purposes of the taxable person’s business, both parties accepted that the UT at [55] stated the correct test, as established by CJEU case law, namely that a supply will be treated as being used for the purpose of the business of a taxable person if there is ‘a direct and immediate link’ between the supply and one or more output transactions or between the supply and the taxable person’s economic activity as a whole.”
    
14. The reported judgment included the following note referring to De Voil Indirect Tax Service (Volume 3 at p.410), where it is stated: “On legal costs more broadly, HMRC suggests that the extent to which substance of an action relates to the activities of a business is a matter of judgment and every case is unique. HMRC will need to think about all the details before reaching a conclusion.”
    
15. Regional Costs Judge Phillips accepted that the above was the applicable legislation and guidance and went on to determine the issue of recoverability of VAT.
    
16. He held: “Standing back, taking everything into account, looking at the pleadings, the witness statements and all the documents that are relied upon, accepting the defendants live at [the property], it seems to me that the receiving parties in this case also ran a farming business from [the property], in respect of which they received the Welsh Government farm subsidy and in respect of which they derived an income. Both defendants were VAT registered and have clearly expended a considerable amount of money on the farm. Whilst in addition, the property may have provided them with a home in which to live, that does not detract from the fact this property was their livelihood in which they had invested considerable time, effort and money. Whilst they may have been sued as individuals and whilst the retainer … and the invoices were addressed [to them as individuals], I am satisfied and find that there was a direct and immediate link between the provision of legal services and to the defendants’ farming business. I also remind myself that if the court had any doubt in its mind, which I make clear it does not, this being a standard basis assessment any such doubt would have to be resolved in favour of the paying party.”
    
17. The conclusion was that VAT was not recoverable on an inter partes basis. Permission to appeal was sought by the RP but refused and ultimately an appeal was not pursued. The RP ended up receiving less than had been offered.

Oliver Moore
Guildhall Chambers