Tax advisers claimed that the European Court of Justice “brushed aside” years of UK practice in declaring on Thursday that businesses can no longer reclaim VAT on business fuel using a mileage rate.

The ECJ has ruled that allowing employers to deduct VAT input tax on sums reimbursed to employees for the motor fuel they buy is incompatible with EC law.

Reports said that GlobalExpense, which handles expenses claims on behalf of clients including J Sainsbury and WH Smith, claimed the decision could leave companies with an additional annual VAT bill of £250m.

UK employers have been able to recover VAT on the fuel element of mileage expenses in this way for many years.

The Court said in a statement that the UK order permitting the deduction does not ensure that the VAT deducted relates exclusively to fuel “used for the purposes of the employer’s taxable transactions”.

Ernst & Young explained that the current UK system “does not ensure that the fuel is supplied to the company and not the driver, and the company typically does not hold a VAT invoice made out in its name”.

“This is another example of bad rules overtaking good practices,” said Peter Jenkins, the firm’s global head of indirect tax.

“The current system of reclaiming VAT on fuel used for business travel on the basis of a mileage rate works well and is easy to operate. Companies in this position will be forced to revise the way that business mileage claims are handled in the company, or to stop claiming VAT on mileage rate payments altogether.”

The ECJ statement is reproduced below.

‘Furious’
The Scotsman reported that the UK government is “furious, accusing the [European Commission] of pursuing a case which interferes with the business flexibility and competitiveness Brussels claims to support”.

Paymaster general Dawn Primarolo said in a statement: “Since 1995, when this issue first emerged, successive governments have worked with British firms to oppose the European Commission’s efforts to stop employers reclaiming VAT on the fuel purchased by their employees for business use.

“We have always maintained that our policy makes economic sense, it reflects the principles of the VAT system, and it produces the best result for business.

“We are therefore deeply disappointed by the judgement of the European Court of Justice, and we greatly regret the Commission’s original decision to pursue this case.”

The paymaster general warned: “The European Commission will never convince the peoples of Europe that they are genuinely committed to an agenda to promote competitiveness, deregulation, enterprise and economic growth if they continue to undermine the interests of business by seeking to enforce the EC-wide VAT rules in this inflexible and impractical way.”

The paper added that despite the outspoken attack, ministers know they will have to comply with the ruling.

Primarolo said: “We will reflect on the details of the judgement, we will work closely with business to see how it can be implemented in a way to minimise the impact on employers, and we will consider what steps can now be taken through legislation and practice to maintain the right of business to reclaim all the VAT relating to their business use of fuel.”

Evidence
Ernst & Young’s Peter Jenkins commented: “There should not be much change for companies which use fuel cards, as these already meet the requirements of the judgment. For companies where there are mostly perk cars, and business mileage forms a smaller proportion of the fuel purchases made by employees, it may be difficult to force employees to buy their fuel on a fuel card.

“Here, the question will be how to meet the evidential requirements set by the ECJ: to show that the VAT on fuel being reclaimed is only for business use and that a VAT invoice in the name of the company is held to back up that claim.

“It is to be hoped that Customs will be as flexible as possible – for example, allowing a less detailed VAT invoice to be used which would not be in the name of the company. There is some doubt still as to whether this would be possible, though less detailed VAT invoices are used to evidence other retail claims for deduction (for example, taxis and hotels).

“Any changes are likely to have an impact on employee terms and conditions. Also, revised arrangements must comply with PAYE and NIC requirements as well as VAT.”

Friday’s Telegraph quoted Paddy Behan, a VAT specialist at Grant Thornton, as saying: “The existing rules were pragmatic and fair but even though the UK has lost, the reasoning of the court gives some guideline how the UK legislation might be remedied in the future.”

Judgment of the Court of Justice in Case C-33/03

Commission of the European Communities v United Kingdom

“According to the Sixth VAT Directive, a taxable person may deduct VAT in respect of goods and services used for the purposes of his taxable transactions. In order to exercise this right, a taxable person must hold an invoice.

“A United Kingdom order of 1991 provides that road fuel bought by employees is treated as supplied to the employer when the employer reimburses the employee.

“Reimbursement may be made either by means of a mileage allowance or on the basis of the actual amount paid. Where the fuel is treated as having been supplied to the employer for his requirements, he may deduct the VAT paid.

“Considering that the grant of the right to deduct was not compatible with the obligation to hold an invoice, the Commission brought infringement proceedings against the United Kingdom. When examining the matter, the Commission furthermore concluded that the right to deduct was also contrary to the principle that only VAT on goods and services supplied to a taxable person for the purposes of his own transactions may be deducted.

“The Court observes that the provisions of the Sixth VAT Directive clearly specify the conditions giving rise to the right to deduct and the extent of that right. They do not leave the Member States any discretion as regards their implementation.

“The Sixth VAT Directive makes it clear that a taxable person is authorised to deduct VAT in respect of goods and services supplied by another taxable person for the purposes of his taxable transactions. The order at issue enables a taxable person, the employer, to deduct VAT on the fuel supplied to non-taxable persons, employees.

“It is true that in carrying out their work employees act on behalf of their employer. Nevertheless, the Court finds that the U.K. Order does not make the right to deduct subject to the condition that the fuel bought by the employee should be used for the purposes of the employer’s taxable transactions.

“On the contrary, that order permits the deduction of VAT on the amount of fuel reimbursed computed by reference to the total distance travelled, ‘whether or not including distances travelled otherwise than for the purposes of the business of the taxable person’. It is therefore possible for the employer to deduct VAT in respect of fuel used by the employee for his private purposes.

“It follows that the U.K. Order is not compatible with the Sixth VAT Directive since it does not guarantee that the VAT deducted relates solely to fuel used for the purposes of the taxable person’s taxed transactions.

“The United Kingdom Government has challenged the claim concerning the obligation to hold an invoice only if the first claim should be held to be unfounded. In those circumstances, the Court finds that the U.K. order is also infringes that obligation.”

Andrew Goodall
Editor, TaxZone