European Court reaches decision on holding companies and VAT recovery

For the second time in a matter of weeks, the European Court has dealt another blow to the UK’s administration of VAT, casting doubt on HMRC’s policy on VAT recovery by holding companies.

In news that will be welcomed by holding companies in the UK, the European Court has stated that VAT incurred on the acquisition of a shareholding in subsidiaries forms part of a holding company’s general costs, and does not need to be apportioned between business and non-business activities.

HMRC recently revised its policy on VAT recovery by holding companies, insisting that not only must the holding company make taxable supplies (such as management services) to its subsidiaries, but also the requirement for a full recharge of the acquisition costs by the holding company to the subsidiary. HMRC’s new policy also envisages a holding company suffering a restriction in its VAT recovery if it received dividends from its managed subsidiaries.

The European Court has confirmed that, although there is a requirement to apportion input VAT where a holding company is involved in the management of some of its subsidiaries but not others, it is clear that VAT incurred by holding companies making supplies of management and other services to underlying subsidiaries should be recoverable. 

Whilst HMRC may consider that transactions within a VAT group are outside the scope of VAT, this would be to neglect the Court’s confirmation that a VAT group is a ‘single taxable entity’ and transactions between a member of the group and a third party are consequently attributable to the VAT group as a whole.

The Court has also cast doubt on the UK's VAT grouping eligibility rules which, for instance, require a degree of ‘control’ over subsidiaries, and prevent limited partnerships from joining VAT groups.

Jim Burberry, Baker Tilly VAT Partner, said: 

‘This is the second blow to HMRC in a matter of weeks from the European Court as it recently found that the UK was in breach of its EU VAT obligations by applying VAT at the reduced rate of 5 per cent to the installation of energy-saving materials. 

We would now expect HMRC to urgently review its policy on the recovery of VAT by holding companies, but note that as no action has been taken to date to extend the scope of VAT at the standard rate to the installation of energy-saving materials, it may be sometime before we hear more about its intentions regarding holding companies.’