Recovering UK VAT on M&A costs: Opportunities in the light of the BAA case

BAA has recently won a significant victory in the Tax Tribunal, allowing it to recover millions of pounds of VAT incurred as part of its 2006 takeover by Ferrovial.


Businesses should carefully consider their VAT position in relation to M&A costs: this case highlights some opportunities to increase the amount of input tax recovered.


NB I understand  HMRC have  appealed against this decision to the Upper Tribunal, so there might be a change in the outcome. 


Background


Ferrovial formed a new company, ADIL, to bid for BAA in 2006.  That company incurred significant VAT-bearing fees in relation to the bid, primarily for investment banking advice from Macquarie and for legal and other services.  After the successful takeover, ADIL actually joined BAA's VAT group, and the representative member of the group sought to recover the bid company's pre-acquisition input tax.  HMRC – taking a restrictive view of deal fee VAT recovery – refused the claim, saying that ADIL had never made onward supplies, nor had it traded nor conducted economic activity.


Decision of the Tribunal


The Tribunal allowed BAA's appeal.  Even though ADIL never made actual taxable output supplies for VAT purposes, it did carry on an economic activity, and once it joined the BAA VAT group it was part of a group that made taxable supplies.  The fact that it subsequently joined the BAA VAT group meant that ADIL was a "taxable person" for VAT purposes even at the time it incurred the pre-acquisition costs.


Improving VAT recovery


In effect, the Tribunal looked forward to ADIL's subsequent position as part of a VAT group, rather than considering its pre-acquisition circumstances in isolation.  As there was no "chain breaking" exempt transaction intervening, the cost components incurred by ADIL to achieve the acquisition were sufficiently linked to the output transactions of BAA.  Moreover, the principle of fiscal neutrality allowed the taxable activities of the BAA VAT group to be imputed to ADIL. That principle allows deduction of VAT in full by businesses performing taxable transactions whatever the purpose or results, so that the VAT system does not distort competition between different business structures carrying out similar economic activities.


The Tribunal's analysis serves as a reminder to businesses that where HMRC's criteria for recovery cannot precisely be met, there may be scope for arguing that the principle of neutrality of taxation nonetheless allows for recovery.  As this case shows, it can be particularly important in relation to M&A activity, where HMRC have historically taken a restrictive view on recovery of input tax.


Due to the difficulty in attributing ADIL's input tax to specific output supplies, the Tribunal found a link to the general overheads of the representative member of the VAT group.  For businesses that are only partially taxable (for example in the financial sector) this may have a knock on effect on the rate of recovery.  Within a VAT group, savings may be possible through an efficient allocation of costs.


A further key point to consider in relation to M&A costs is whether the other parties involved, such as an investment bank, are making VAT-bearing taxable supplies.  Where these supplies are exempt, for example where they relate to negotiating an issue, sale or purchase of shares, any such exempt supplies would break the chain for recovery of input tax (and the principle of fiscal neutrality would not repair the link).  All services provided in relation to corporate finance merit a careful analysis to ensure they are structured to achieve maximum VAT efficiency.


The full case can be found at BAA Ltd v HMRC [2010] UKFTT 43 (TC)