The First-tier Tribunal decision in Lloyds Banking Group v HMRC [2017] UKFTT 0835 (TC) asks whether funding, by a customer, of redundancy payments owed by the supplier to its employees, constitutes consideration for supplies. Some £5m of reverse charge VAT liability rides on the outcome, so I doubt the case will stop at the first appeal.
It is worth covering some obvious points first. When an employer pays redundancy money to employees, no VAT arises. When employees are transferred under TUPE, they retain their employment rights to redundancy payments, and the recipient employer takes these obligations on. Normally, that discharges the initial employer’s obligations, but the union might demand that the initial employer stands behind the obligations of the recipient employer. That featured in this arrangement. Usually, however, redundancy costs are a cost of business which, if built into charges for services, are deemed to be consideration for those services. If these are taxable, VAT is applied.
But what if there is a basis under a service contract for treating the costs of redundancy as a separate line of account to be met by the customer?
That was the situation in this case.
The bank decided to cease operations in Ireland. It entered run-off on its loan book, and outsourced that activity to a new venture run by senior former employees. This undertaking was transferred to that company, with the staff. The union negotiated an arrangement whereby the bank remained ultimately responsible for staff redundancy payments, which then formed an obligation under the services contract. And, as the redundancy was effectively a certainty, the contract provided for these payments to go to the supplier as a matter of course; it was not an uncertain indemnity. It appears that the bank saw this obligation as, essentially, made to the employees, and that, if the service provider collapsed for any reason, the sums would be paid to them by the bank.
The issue was whether these sums were ‘for’ the run off administration services, and thus caught by the reverse charge. The tribunal said the sums were not consideration for the services, and that the reverse charge did not apply. This was based on detailed analysis of relevant case precedent (not including the Upper Tribunal decision in Adecco [2017] UKUT 113, which is about the status of payments relating to staff remuneration, though in different circumstances). The bank won.
That simple analysis was probably sufficient to decide the case, but it might have helped if the analysis covered what the payment actually was, rather than merely what it was not. For instance, was the service provider merely an agent for handling a legal obligation of the bank? Or was the payment by the bank to the service provider ‘compensation’ for a loss rather than consideration for the services? Or was it even a payment to discharge an obligation that otherwise would have fallen on the bank, and if so, what would be the VAT treatment of that action (as distinct from HMRC’s contention that it was consideration for the administration services)? We do not appear to be told.
Considering ‘economic reality’, it seems extraordinary if the mere mechanism of paying redundancy payments, which the initial employer was obliged to meet, should generate a VAT charge, whereas a payment direct to employees would have been outside the scope. But, regarding these alternatives, it is not all that easy to see a way out of it. The service provider was not providing an agent’s service in discharging the bank’s redundancy obligations, since under TUPE, the obligations fell on the service provider as a principal. Nor is there ‘compensation’, in the sense of an indemnity, since the situation was not contingent on some possible, but uncertain, eventuality. The redundancies were all but certain, and were planned from the outset. So, if these payments were not ‘for’ the run off administration services, were they ‘for’ some other service performed by the service company, and if so, was that service outside the scope of VAT? And if it was not outside the scope, could it be regarded as not being a service at the point of self-supply, under the reverse charge, by virtue of the former employer status of the bank?
This was not discussed.
Nor am I certain that the analysis, based on common sense and commercial realism as it was, is correct. Had the service provider never provided run off services, and immediately dismissed the staff, the bank would have paid the staff; and the contract required the bank to pay for staff redundancy where any contracts were assigned. Such factors suggest a direct obligation upon the bank. But the fact is that the redundancy cost was proper to the supplier, and was built into charges as a contractual obligation to it. Why would this not be payment for the services which the entire arrangement was intended to effect?
The First-tier Tribunal decision in Lloyds Banking Group v HMRC [2017] UKFTT 0835 (TC) asks whether funding, by a customer, of redundancy payments owed by the supplier to its employees, constitutes consideration for supplies. Some £5m of reverse charge VAT liability rides on the outcome, so I doubt the case will stop at the first appeal.
It is worth covering some obvious points first. When an employer pays redundancy money to employees, no VAT arises. When employees are transferred under TUPE, they retain their employment rights to redundancy payments, and the recipient employer takes these obligations on. Normally, that discharges the initial employer’s obligations, but the union might demand that the initial employer stands behind the obligations of the recipient employer. That featured in this arrangement. Usually, however, redundancy costs are a cost of business which, if built into charges for services, are deemed to be consideration for those services. If these are taxable, VAT is applied.
But what if there is a basis under a service contract for treating the costs of redundancy as a separate line of account to be met by the customer?
That was the situation in this case.
The bank decided to cease operations in Ireland. It entered run-off on its loan book, and outsourced that activity to a new venture run by senior former employees. This undertaking was transferred to that company, with the staff. The union negotiated an arrangement whereby the bank remained ultimately responsible for staff redundancy payments, which then formed an obligation under the services contract. And, as the redundancy was effectively a certainty, the contract provided for these payments to go to the supplier as a matter of course; it was not an uncertain indemnity. It appears that the bank saw this obligation as, essentially, made to the employees, and that, if the service provider collapsed for any reason, the sums would be paid to them by the bank.
The issue was whether these sums were ‘for’ the run off administration services, and thus caught by the reverse charge. The tribunal said the sums were not consideration for the services, and that the reverse charge did not apply. This was based on detailed analysis of relevant case precedent (not including the Upper Tribunal decision in Adecco [2017] UKUT 113, which is about the status of payments relating to staff remuneration, though in different circumstances). The bank won.
That simple analysis was probably sufficient to decide the case, but it might have helped if the analysis covered what the payment actually was, rather than merely what it was not. For instance, was the service provider merely an agent for handling a legal obligation of the bank? Or was the payment by the bank to the service provider ‘compensation’ for a loss rather than consideration for the services? Or was it even a payment to discharge an obligation that otherwise would have fallen on the bank, and if so, what would be the VAT treatment of that action (as distinct from HMRC’s contention that it was consideration for the administration services)? We do not appear to be told.
Considering ‘economic reality’, it seems extraordinary if the mere mechanism of paying redundancy payments, which the initial employer was obliged to meet, should generate a VAT charge, whereas a payment direct to employees would have been outside the scope. But, regarding these alternatives, it is not all that easy to see a way out of it. The service provider was not providing an agent’s service in discharging the bank’s redundancy obligations, since under TUPE, the obligations fell on the service provider as a principal. Nor is there ‘compensation’, in the sense of an indemnity, since the situation was not contingent on some possible, but uncertain, eventuality. The redundancies were all but certain, and were planned from the outset. So, if these payments were not ‘for’ the run off administration services, were they ‘for’ some other service performed by the service company, and if so, was that service outside the scope of VAT? And if it was not outside the scope, could it be regarded as not being a service at the point of self-supply, under the reverse charge, by virtue of the former employer status of the bank?
This was not discussed.
Nor am I certain that the analysis, based on common sense and commercial realism as it was, is correct. Had the service provider never provided run off services, and immediately dismissed the staff, the bank would have paid the staff; and the contract required the bank to pay for staff redundancy where any contracts were assigned. Such factors suggest a direct obligation upon the bank. But the fact is that the redundancy cost was proper to the supplier, and was built into charges as a contractual obligation to it. Why would this not be payment for the services which the entire arrangement was intended to effect?
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