19238
VALUE ADDED TAX — input tax — partially exempt trader — agreed special method for attribution of residual input tax — credit card bank — securitisation of credit card receivables — assignment of receivables to Jersey trustee — trustee holding assigned receivables on trust for Jersey company which issued loan notes on security of receivables — whether assignment capable of amounting to supply by bank or merely security for loan — when receivables paid by customers, moneys returned to credit card bank and collected receivables replaced by new receivables — whether replacements amount to supply — if supply, whether made for consideration — measure of consideration — whether any supply made by bank "incidental" — whether trustee truly belonging outside Member States — whether special method denominator correctly compiled — Sixth VAT Directive, arts 9, 11, 13, 17, 19 — VAT Act 1994, ss 4, 9 26, Sch 5, Sch 9 Group 5, Item 1 — VAT Regulations 1995, regs 101, 102, 103 — VAT (Input Tax) (Specified Supplies) Order 1999, arts 2, 3 — VAT (Place of Supply of Services) Order 1992, art 16
MANCHESTER TRIBUNAL CENTRE
CAPITAL ONE BANK (EUROPE) plc
Appellant
- and -
THE COMMISSIONERS FOR HER MAJESTY'S REVENUE AND CUSTOMS
Respondents
Tribunal: Colin Bishopp (Chairman)
Kenneth Goddard MBE
Sitting in public in London on 12, 13, 16, 17, 18, 19 and 20 May 2005
Roderick Cordara QC and Mark Smith, instructed by PricewaterhouseCoopers, for the Appellant
Nicholas Paines QC and Peter Mantle, instructed by the Acting Solicitor for HM Revenue and Customs, for the Respondents
© CROWN COPYRIGHT 2005
DECISION
Introduction
- The parties to this appeal identified six discrete issues for our determination but for the purposes of an introductory summary we can reduce them to three. First, does the assignment by a credit card bank to a company incorporated in Jersey, in the course of a process known as securitisation, of present and future debts owed and to become owed to that bank by its customers ("receivables") have the objective characteristics of a supply, as that term is understood for the purposes of VAT? Put another way, is it, as the Appellant contends, a true sale made in the course of its ordinary business activities, or is the proper view, as the Respondents assert, that the Appellant borrowed against the security of the debts? Second, if the assignment does amount to a supply, is it incidental to the Appellant's business activities with the consequence that it is to be excluded from its partial exemption calculations, for which it has an agreed special method? Third, if such an assignment does amount to a supply, and is not incidental, how is the value of the consideration received for it to be determined and brought into the calculation?
- In form, this is an appeal by Capital One Bank (Europe) plc ("COBE") against the Respondents' rejection of its claim for a refund of input tax amounting to £11,147,728.72, made in its return for the period ended 30 June 2002. COBE is a partially exempt trader (and the representative member of a VAT group whose members make both taxable and exempt supplies) and the return included the annual adjustment its agreed special method required it to make for its "longer period" from 1 April 2001 to 31 March 2002. In making the adjustment, COBE brought into the calculation what it maintains was the consideration for the assignment. It says, for reasons to which we will come, that this amount is to be attributed to taxable supplies for the purposes of the adjustment. The claim was refused, with reasons, in a letter dated 1 April 2003, and it is that letter which contains the decision on which we are required to adjudicate. The reasons given in the letter were substantially the same as those advanced before us and there is therefore no need to set them out here. We are not asked to deal with the arithmetic of the claim, or even its detail, but only to determine some matters of principle.
- The Appellant was represented by Roderick Cordara QC, leading Mark Smith, and the Respondents by Nicholas Paines QC, leading Peter Mantle. We heard the oral evidence of Kevin Ingram, a partner in Clifford Chance, who was responsible for the contracts by which the assignment with which we are concerned was effected; of Richard Gerwat, a Jersey advocate whose firm, and a trust company of which he is a director, were involved in the securitisation transactions; and of David Bonsall who has had considerable experience of securitisation, initially as a practising solicitor and latterly as a merchant banker. Mr Ingram gave evidence primarily of fact, but we accept him in part as an expert; it was acknowledged by the Respondents that he is a leading practitioner in the field. Mr Bonsall was offered as an expert witness, and we accept him as such, though it was agreed that some parts of his evidence should be excluded as they strayed into areas about which he could not properly express an expert opinion. We had statements or reports from all three of those witnesses, on which they expanded orally. In addition we had unchallenged statements made by Corey Sesin, Adam Mussert and Stephen Hulme, all employees of COBE's trading group. If we refer hereafter to Mr Ingram rather more than to Mr Bonsall, we do so because Mr Ingram, as the author of the agreements, was better able to speak about their detail, but we have not disregarded Mr Bonsall's evidence; and in most respects he and Mr Ingram were in agreement. We were provided also with a substantial volume of documents, including the lengthy contracts by which the securitisation was effected.
- There was no significant disagreement between the parties about the principal facts, with which we will deal first, in the next section of this decision. We draw them in part from what we were told was common ground, and in part from the witnesses and the documentation. In the interests of brevity, we mention the evidence only when it is necessary to do so, for example in order to deal with those few matters which were not agreed, or for clarity. In dealing with the facts we have concentrated on those which are necessary for our decision and have omitted those which are not necessary either for that purpose or as background information. We deal at paragraph 26 with the detail of the contracts by which the securitisation was effected, and at paragraph 63 we summarise our findings of fact; at paragraph 67 we describe the agreed special method and its application; at paragraph 82 we come to the six individual issues which Mr Paines identified in the Respondents' skeleton argument and which, after some slight initial hesitation, Mr Cordara accepted as a fair description of the questions we must decide, followed by an examination and discussion of the parties' arguments; and at paragraph 163 we set out a summary of our conclusions.
The facts
- Until 31 August 2000 the United Kingdom branch of Capital One Bank ("COBUS"), a United States corporation, carried on business in the United Kingdom. COBE, which is incorporated in the United Kingdom and is a wholly-owned subsidiary of COBUS (which is in turn a wholly-owned subsidiary of Capital One Finance Corporation, also a United States corporation), took over COBUS's business in the United Kingdom as a going concern, without making any significant changes to it, from 1 September 2000. COBUS had until then been the representative member of a UK VAT group and, when it took over the business, COBE also succeeded to COBUS's position as the representative member of the VAT group. COBUS then ceased to trade within the United Kingdom. COBUS itself made (and COBE now makes) no taxable supplies (although COBE makes some "out of scope with recovery" supplies) since their core business was and is the making of exempt supplies falling within Group 5 of Schedule 9 to the Value Added Tax Act 1994, but other companies within the VAT group did and do make some taxable supplies.
- COBUS and COBE, despite their names, are not banks in the conventional sense, providing the full range of services expected of a high street bank, but operate credit card businesses, providing credit cards to members of the public and servicing their customers' accounts. They also accept deposits.
- COBUS and, latterly, COBE incurred and COBE continues to incur input tax on their overheads, such as the costs of acquiring and maintaining information technology systems, of running a call centre and on the general expenses of servicing and administering the credit card accounts. Like any trader, or VAT group, making some taxable and some exempt supplies, COBUS and, now, COBE were and are entitled to recover part of that input tax. In late 1997 COBUS, at that time the representative member of the VAT group, agreed with the Respondents—then the Commissioners of Customs and Excise—that it could use a special method, within the meaning of regulation 102(1) of the Value Added Tax Regulations 1995 (SI 1995/2518), for its partial exemption calculation. We set out the terms of the agreed special method in the section beginning at paragraph 67 below.
COBE's business
- COBE is licensed to provide credit and is regulated, within the UK, by the Financial Services Authority. Its business is run in much the same way as any other credit card business: its customers are issued with cards which entitle them to make purchases, and obtain cash advances, up to an agreed aggregate maximum amount. COBE is required to finance its customers' purchases by paying to the retailers and other suppliers, through the banking system, the cost of the goods or services acquired by the customer, less a charge—a variable percentage of the price—known as "interchange", and to make cash available, also through the banking system, to satisfy its customers' demands for advances. Monthly, customers who have any sum outstanding must pay to COBE an amount between a specified minimum and the total then outstanding. Those who do not pay the full amount are charged interest and COBE also levies some fees and penalties, for example for late payment by customers of the minimum amount. The interest, fees and penalties (that is, all of COBE's receipts from its customers, other than of capital) are together known as "finance charges".
- Three characteristics of the credit card business are of relevance in this appeal. The first is the considerable amount of capital which is necessary. The second is the customer's right to make purchases, or obtain cash advances, without notice provided he remains within his agreed credit limit. The third is the fact that, in consequence, the amount of capital which is at any time outstanding (and, correspondingly, the overall sum owed to COBE by its customers) is variable. Although, as we shall mention later, some predictions can be made with reasonable accuracy and certainty about the behaviour of a large group of people such as the customers of a credit card bank, there are seasonal variations—particularly at Christmas—in the amounts those customers spend, and general economic conditions, wholly outside the issuer's control, may encourage or discourage spending, or increase or diminish the amounts which customers as a group pay in discharge of their outstanding balances each month.
- A credit card company, like any other lending institution, earns its profits from the difference—the "spread"—between the amount it can earn, in the form of the interest and other charges due to it from its customers, and the cost to it of obtaining the funds used to pay for the customers' purchases and cash advances—its working capital. Although there are, we understand, quite wide differences between the amounts credit card companies charge their customers, tempered by special offers and discounts, there is nevertheless intense competition and, in consequence, continual downward pressure on the amounts which can be charged, particularly by way of interest. It is correspondingly in the companies' interests to minimise the cost to them of the funds they use. Credit card companies must, not least for regulatory reasons, have some capital of their own but they are not required to fund the entirety of their operations from their own resources. They may instead (and, in practice, almost all do) borrow some of their working capital.
- While issuers which carry on other types of business in addition may draw on several sources for their capital—for example the UK clearing banks may use the sums kept by customers in their current accounts on which little, if any, interest is paid—"monoline" issuers (that is, those which have little or no other business activity) such as COBE do not have access to relatively cheap and plentiful funds. COBE has been able to accept retail deposits since September 2000, when it obtained regulatory approval to do so, but, because it is not a conventional high street bank, must always offer a significant interest rate in order to attract funds. Such companies may—as COBE has done—borrow from their parent companies, or they may borrow on the capital markets. The former course has two disadvantages: the parent may not have sufficient funds of its own and, even if it has, the regulatory authorities in both the UK and the US impose limits on the amounts which may be lent and borrowed in this way. COBE's borrowing from COBUS is restricted by the Federal Reserve to $550 million, too little to satisfy its needs. A simple borrowing on the capital markets is comparatively expensive for an institution such as COBUS, which has a much lower credit rating than a UK clearing bank, while COBE has no credit rating at all of its own and, if it were to borrow, would have to procure COBUS's guarantee of the loan. Even then, the Financial Services Authority ("FSA"), COBE's UK regulator, will not permit it to be over-reliant on its parent.
- The credit rating of a financial institution, and of securities issued by such institutions and others (for example quoted companies) is determined by credit rating agencies, of which the best known are Standard and Poor's, Fitch and Moody's. The best possible rating (using Standard and Poor's system) is AAA, signifying that the risk of default is no greater than that on US government bonds. On the same scale, the lowest commercially recognised rating is BBB which, in the period with which we are concerned, was COBUS's rating. Unsurprisingly, the higher an institution's credit rating, the lower the interest rate it must expect to pay on borrowed funds; but an institution cannot (except over a comparatively long time) acquire a higher credit rating because of its track record, and even then there will be material, external, factors which it cannot control itself. In addition, COBE's credit rating, if it had one, would be adversely affected by its being a monoline business with no opportunity to offset losses from one activity against profits derived from another.
Securitisation
- A possible solution, from the point of view of an issuer such as COBE, and the focus of this appeal, is securitisation, a capital-raising process which was invented, we understood, in the United States, and was originally used in the residential mortgage market but has since been adopted by other capital-intensive businesses generating a predictable income stream. We were told that it has been commonly and very extensively used in the UK and in continental Europe for between ten and fifteen years, and those availing themselves of the process now include clearing banks (despite their ready access to cheap funds) and other large financial institutions.
- A credit card issuer, or any other institution wishing to do so (an "originator"), obtains capital by assigning the sums it is due to receive from its customers ("Receivables") to another legal entity which, directly or indirectly, borrows in the capital markets, using the assigned receivables as security, and paying the amount it borrows to the credit card company. The lender assumes the risk that the issuer's customers will fail to pay their debts, but it can measure the risk of that failure against the known historical experience and the substantially predictable behaviour of a large group of people. The risk is assessed by the rating agencies, which give the assigned receivables (or, perhaps more accurately, the negotiable instruments for which they constitute the security) an appropriate rating. In practice, we were told, the risk of default, beyond an assumed level of which account is taken when receivables are securitised, is very small and, typically, a portfolio of credit card receivables securitised in the manner in issue in this appeal will attract a credit rating of AA (again adopting Standard and Poor's rating system), equivalent to that of a UK clearing bank; potentially, credit card receivables, if subject to "term" securitisation (that is, securitisation for a fixed term), can achieve the highest possible rating, of AAA. Mr Ingram explained that achieving the highest practicable rating is the most important objective of a securitisation, to which all the others are subordinate. Large parts of the contracts, to which we shall come shortly, are devoted to ensuring that nothing is done which might adversely affect the rating agencies' assessment of the securitised assets. The advantage to the issuer is that, because of the higher rating, the cost to it of obtaining the funds it needs to conduct its business (that is, the interest it must pay) is lower than it would be if it were to borrow directly from the lender (commonly referred to, in the context of securitisations, as the "investor").
- The advantage for the lender is that it is insulated from the much greater risk that the credit card issuer might itself become insolvent for reasons other than the poor performance of its credit card portfolio, a risk to which the lender would be exposed if it were to make a simple loan. Commercial interest rates, within the United Kingdom, are normally determined by reference to the London Inter-Bank Offer Rate, or LIBOR, being set at small increments above that rate, which can move up and down (though usually only within very small limits) on a daily basis. The difference between the rates of interest charged to AA-rated and BBB-rated borrowers might appear quite small—the range, we understand, may be of as little as a half of a single percentage point—but the difference in cost, taking into account the amount of money borrowed and the period of the borrowing, can be considerable. Thus the benefit to COBE, as a subsidiary of a BBB-rated organisation, of securitising its receivables and thereby securing funds at a rate of interest appropriate to an AA-rated borrower rather than that it would be required to pay if it borrowed conventionally in the market significantly outweighs the substantial cost, particularly in professional fees, of the securitisation.
- Although each securitisation differs in detail from every other, we understood that all securitisations, or at least those of the "revolving trust" variety with which we are concerned in this appeal, after some initial experimentation, now follow much the same pattern, although the US and UK models are not identical as differences in the law must be accommodated. The essentially similar structure is used, it was explained, in part because there is nothing to be gained from continually re-inventing a contractual framework which achieves its objective and partly because investors are familiar with the standard framework and are correspondingly reluctant to expend time and money on evaluating the efficacy of other methods; even so, the investors receive reassurance, in respect of each securitisation, in the shape of the credit agency rating which is in part based upon a detailed letter giving various warranties written by the solicitors who have prepared the documentation. An important feature of the letter is that it identifies the manner in which the securitised assets are insulated from any liability, or risk of insolvency, of the originating institution.
- It was agreed that the contracts with which we are concerned are entirely consistent with current market standards. Mr Bonsall made some comments about the, as he saw it, unnecessary use of Jersey-based corporate vehicles but the Respondents do not take any issue on their use which, as the evidence indicated, was by no means unusual in any event (some reasons for the use of Jersey-based vehicles, which we do not need to explore, were given and it was apparent that Mr Gerwat spends a large part of his professional time on dealing with the various tasks allocated to Jersey companies involved in securitisations undertaken by several different institutions), and we leave those comments out of account.
- The arrangements must, if they are to be effective, satisfy a number of requirements which do not always coincide; Mr Ingram explained that the solution to one problem might give rise to another. Some, such as the isolation of the lender from the risk of the credit card issuer's insolvency which we have already mentioned, are dictated by market requirements but are also imposed by the regulatory authorities. In particular, the FSA and other regulatory bodies, we were told, do not consider it appropriate that the credit card issuer should, even indirectly, underwrite the ultimate repayment of the borrowing (from which, if COBE's arguments are correct, it has distanced itself) and the contracts expressly exclude any such underwriting. On the other hand, the issuer has an interest in seeing that the investors are repaid since otherwise it would encounter difficulty in undertaking a further securitisation in the future. The FSA's objection extends, however, to support which, even though not a contractual obligation, is in fact given by the issuer if there is any risk that the loan will not be paid. There are also tax considerations to be borne in mind since, as Mr Ingram explained, the securitisation might generate a tax liability which (we infer) would not arise were the credit card issuer to raise money in another way, and he and his colleagues have spent a significant amount of time obtaining Inland Revenue clearances for this and other securitisations in which they have been involved (we should perhaps add that there is no suggestion by the Respondents that securitisation is a tax-avoidance device). A particular problem, at the time with which we are concerned, was the incidence of stamp duty, a topic to which we shall need to return briefly.
- In other respects there is a conflict, or potential conflict, between regulatory and market requirements. Although the US and UK regulatory authorities have the same, or at least closely similar, objectives (and some European Union directives are also in point), they endeavour to achieve them in different ways. American and United Kingdom accounting standards, too, differ in some ways and, as Mr Paines pointed out, the securitisation was recorded in COBE's UK accounts in one way, and in the US group accounts in another. That is due, it was explained to us, to the application in this country of the UK standard FRS 5 and the application to the US consolidated accounts of the US standard FAS 140. The two standards, although they have similar objectives, adopt quite different means of achieving them, and it is unsurprising that they lead to differing presentations of essentially the same facts in UK and US accounts. Mr Bonsall made much of COBE's UK balance sheet, which shows the securitised receivables as an asset, and the amount raised from the investors as a liability. A note to the accounts explains that this has been done because COBE is unable to satisfy the criteria for linked presentation (which requires the tracking of individual receivables rather than individual accounts, and, we were told, is almost impossible to achieve in the context of a securitisation) and is consequently forced to prepare its balance sheet in that way. However, the note describes the transfer of the receivables as a sale, and we think it likely that a sophisticated reader of the accounts, with an understanding of securitisation and of the requirements of FRS 5, would not be misled by the treatment of the securitised receivables in the balance sheet. The evidence showed that, despite the treatment of the securitised receivables in the accounts, the FSA treated this as an "off balance sheet" arrangement, reflecting a "clean break" between COBE and the receivables. US accounting standards operate in a different fashion and do not demand similar presentation of securitised assets; thus similar problems did not arise in the US.
- A great deal of time was spent at the hearing in considering the detail of the various requirements which influenced the structure of the securitisation but we have come to the view that they are, with three exceptions, of peripheral relevance to the issues we must decide. While we recognise that the contents of a company's balance sheet should not be lightly disregarded, we also recognise that accounting standards vary from one jurisdiction to another, and that accounts produced for one purpose may, quite legitimately, be compiled in a different way when prepared for another purpose. We accept too that the manner in which transactions are presented in order to satisfy accounting standards may not point to the correct VAT analysis. Mr Ingram explained that the draftsman's task in producing and documenting a structure which simultaneously satisfied one regulatory or accounting requirement without offending another required some ingenuity, a proposition with which Mr Bonsall took no issue and which, as we examined the documents ourselves, we could see had some force. We are therefore not persuaded by Mr Paines' argument that the accounting treatment of the securitised receivables, in the more general sense, must be taken as an indication that the securitisation is, in reality, of a different character from that depicted by the contracts. Rather, we think, the presentational differences represent no more than an attempt to satisfy the regulatory and accounting requirements imposed in different jurisdictions on COBE and its parent. As Mr Ingram was to tell us, there are international agreements whose purpose is to harmonise the treatment in different countries of transactions of this and other kinds, but that harmonisation has not yet been achieved.
- Two of the exceptions are the consequence of US requirements. The first, which the Appellant contends is reflected in substance and in form in the structure which has been achieved, is that the assignment must be a true sale; it may not be an assignment by way of security if US accounting standards are to be respected (necessary because COBE is a wholly-owned subsidiary of a US corporation which is subject to US standards). No such requirement is imposed by UK accounting standards, nor by the FSA. The second is that the special purpose vehicles which, as we shall explain, are used for the implementation of the securitisation must not be allowed any discretion. The evidence did not extend to a full explanation of the reasons behind those requirements (though it was apparent that the latter is in part designed to ensure that the operation of the arrangements cannot be upset), but what Mr Ingram told us was undisputed and we accept that the requirements were significant factors affecting the structure of the arrangements. The third requirement of significance, on which Mr Ingram laid considerable emphasis, is that the risk of cardholder default must be transferred from the originator to, ultimately, the investors. That requirement is not specifically US-driven. We shall return to the significance of these three points.
- An important practical consideration lies in the nature of credit card debts: those in existence at the moment of securitisation ("Existing Receivables") are paid off, frequently within a short period (many customers pay off the entirety of their debts each month) and other debts ("Future Receivables") come into existence as the same customers make further purchases or take cash advances. The credit card company does not set out to accelerate its cash flow by selling debts, crystallised at the moment of sale, and which will be paid in the fairly near future, but to secure working capital which it may use for the purposes of its business over a reasonable period, an objective which it could not achieve by assigning finite debts in return for a single payment, in the same way as debts may be factored. Similarly, the ultimate investors do not wish to buy debts at a discount, and to recover the amount advanced within a short period, but to make a medium-term loan on which they can earn interest, while remaining confident that the capital sum advanced will be repaid at the agreed time.
- A securitisation must take those objectives into account and contain a mechanism to accommodate the fact that debts are paid off by the customers, and replaced by new debts; thus the security is constantly shifting. During the period when the capital is intended to remain outstanding (the "revolving period") sufficient money must be released from the customers' payments to pay the interest and to meet the administrative cost of servicing the customers' accounts and the securitisation itself. What remains is available to the credit card company, which can use the capital element as working capital; the income element is treated as profit. There must also be a means by which, at the end of the term, the capital sum is repaid; this occurs not immediately, but over a time known as the "amortisation period". Mr Ingram told us that in some types of securitisation the length of the revolving period was fixed, and could typically extend to about five years, but in others, of which the two securitisations with which we are concerned are examples, the initial term was of slightly less than one year (again, for regulatory reasons which it is not necessary to develop), but that the initial period could be renewed, and that when the initial year and any renewal of it expired, the investors were repaid in the course of an amortisation period of between 18 months and two years.
- Because of the requirements of the regulatory authorities, accounting standards and the rating agencies, the securitisation of credit card receivables (and, we deduce, other similar assets) requires several participants and a substantial number of contracts. Those with which we are concerned were prepared by a team led by Mr Ingram, whose instructions came not from COBE but from COBUS, which has its own securitisation team. Some of COBE's staff deal with the operation of a securitisation once it has been put in place, but they are not instrumental in its being effected. It appears that at the outset the instructions relating to the two securitisations with which we are concerned in this appeal were given before the transfer of the UK business from COBUS to COBE had occurred, but in anticipation of it. Mr Ingram's evidence was that despite that transfer, his instructions continued to come at all times from the US, and that the timing of the securitisations was driven in part by the trading group's overall financial planning requirements.
- Mr Bonsall suggested in his statement that there are a number of unusual features in the manner in which these securitisations have been effected. As he gave his evidence, however, it became apparent that his views were rather less strongly held than his statement suggested, and that many of his concerns had been resolved by Mr Ingram's evidence about the reasons why the agreements had been prepared in one way rather than another. They are no doubt rather more complicated than some other securitisation agreements because of the need to satisfy dual accounting and regulatory standards, which would not be a feature if a solely UK- or US-based institution were the originator. Overall, we were left with the impression that any residual misgivings on Mr Bonsall's part related to detail rather than substance. He did not identify any feature which, as we understand his evidence, distinguishes this arrangement from any other in a significant manner. He did not disagree with Mr Ingram's view that what has been achieved is a true sale, an essential condition if capital relief is to be obtained for regulatory purposes in the US (it is not a UK requirement), though his opinion was that the arrangements, seen as a whole, are consistent only with what is in any real sense a borrowing by COBE.
The contracts
- The contracts used for COBE's securitisation were all made by deed (which we understand is invariably the case), and all, including those affecting the Jersey-registered vehicles, are expressed to be governed by English law. They were made on 8 August 2001 and amended on 24 September 2001. Mr Ingram explained that there had been some pressure to put the deeds in place by 8 August and in the haste some errors had been made; for the same reason some of the deeds had also been amended on 9 August. There were further amendments still in April 2002, but they do not affect the present dispute. Each contract is made between different parties (though COBE itself is a party to most of them) and has a limited function. Together, however, they create a framework within which each of COBE's individual securitisations can be effected, but they do no more than provide the framework. The details of each securitisation vary, and they are recorded in and effected by a supplement which relates only to that securitisation. The framework can, and does, support multiple securitisations, of the same and different types. The two with which we are concerned were of the same type, but we understand that there have been later securitisations of different types, effected by further supplements.
- The deeds cater for various contingencies, many of which are not material here and which we can ignore, and they are long and extremely complicated. Among them there is a Master Definitions Schedule, whose sole purpose is to provide definitions of the terms common to the various deeds; some other terms, used in a single deed, are defined only in that deed. It is perhaps a measure of the complexity of the arrangements that the Master Definitions Schedule alone runs to some 25 pages. We have simplified the following analysis as much as we think it is possible to do without omitting any feature which is germane to the parties' arguments and to our conclusions and we have focused on only two deeds and the two relevant supplements; even so, it will be apparent that the detail and complexity of the arrangements is formidable.
- Although the deeds all bear the same dates, logically the first, since it sets the process in motion, is the Receivables Securitisation Deed. There are two parties to it: COBE as "Seller and Offeror" (in the 8 August deed) and as "Transferor and Offeror" (in the 24 September amendment); and Castle Receivables Trust Limited ("Castle"), a company incorporated in Jersey, as "Receivables Trustee". Castle, like the other Jersey companies to which we shall refer later, is a special purpose vehicle, established solely in order that it may play its part in the securitisations intended to be effected in accordance with this deed; it has no other purpose or function, and cannot participate in any other securitisation than those effected in accordance with this deed. Its issued share capital is beneficially owned by a Jersey general charitable trust, a device, Mr Gerwat explained, designed to prevent its being owned, or treated as if it were owned, by COBE or any of the other organisations involved in the securitisation, or treated as if it were in COBE's corporate group. Its directors at the relevant time were Mr Gerwat and one of his partners, a Mr Richardson. Mr Gerwat and (we deduce, though the evidence did not extend to his position) Mr Richardson, are domiciled and resident in Jersey, and they carry out their duties as directors there. We shall deal with the nature of the trust of which Castle acted as trustee shortly. Structures making extensive use of trusts are usual in the UK but not in US and continental European securitisations since their legal systems provide a different mechanism, but we understand that the essential characteristics of US and continental schemes are much the same.
- The Receivables Securitisation Deed grants COBE the right to initiate "from time to time" what is described as a "possible securitisation" by first nominating any one or more of its customers' accounts, and then offering to assign the receivables, existing and future, arising on the accounts so nominated (but not the accounts themselves) to Castle. COBE is not allowed to nominate an ineligible account—that is, one where the customer is not an individual, has already defaulted, or is not resident in the United Kingdom, or which fails to satisfy some other formal requirements—and in practice it nominates very large numbers of accounts simultaneously. For regulatory reasons, nomination has to be undertaken on a random basis; this requirement is designed to prevent a credit card bank from securitising only the better quality accounts, thus giving the ultimate investors an advantage, and to eliminate the possibility that the bank will expose itself to excessive risk as a result of its being left with the less desirable accounts. Nomination requires no more than the identification by COBE of the relevant accounts in its records. In practice this is done by its computer attaching a marker to each nominated account. Provided it respects the requirement that its nomination be random, COBE can, and does, determine the aggregate value of the accounts which it nominates at any one time.
- What COBE may validly offer to assign is strictly defined. It cannot be selective; with some limited—and automatic—exceptions, to which we will return, once accounts have been nominated for the purpose of a securitisation the receivables attaching to them must be included in any offer made for the purpose of that securitisation. Moreover, it is necessary to offer to assign the entire benefit of each nominated account included in the offer, which benefit is allocated to five distinct categories, a division which reflects the intricacy of the arrangements. The five categories are:
(1) "Existing Receivables", that is the amount owed to COBE by the customer at the time the offer is accepted;
(2) "Future Receivables which are not Finance Charge Receivables", being principal (in respect of purchases and cash advances) for which the customer will (it is assumed) incur a liability to COBE in the future;
(3) "Future Receivables which are Finance Charge Receivables", that is future charges of interest, fees and penalties to be levied by COBE against the customer;
(4) the benefit of guarantees and insurance policies (for example policies protecting a customer against the risk that he might become unable to discharge his debt by reason of redundancy); and
(5) "Acquired Interchange", representing the charge levied by COBE on retailers and other suppliers accepting its card in payment for goods and services: this is a calculated amount, but it is not assessed on an account-by-account basis.
The last two of those categories are of no immediate relevance, and we propose to ignore them for the purposes of this decision.
- An offer must be made in the form set out in a schedule to the deed. A valid offer may be made only if some formal conditions, relating to COBE's solvency, are satisfied. Castle cannot choose whether or not to accept an offer; it has no discretion in the matter. It is a requirement of the US regulatory authorities (though not in the UK) that "Qualifying Special Purpose Entities", of which Castle is one, must have no discretionary powers. The approach adopted in the agreements is that Castle delegates its nominal discretion, in this and in any other context in which it is required to make a decision (in effect, to implement COBE's own decision), to the Brussels branch of the Bank of New York ("BONY"), an organisation at arm's length to COBE and to Castle. BONY, too, has only a notional discretion; provided the objective criteria are satisfied it must instruct Castle to accept any offer COBE makes, and Castle must follow the instruction. There is no facility for negotiation, and the deeds are silent about the consequences of a failure to accept an offer; there is an evident assumption that every offer made will be in due form and therefore accepted. The delegation is reflected in the wording of the Receivables Securitisation Deed, but is implemented by a separate RT [Receivables Trust] Operating Agreement, made between Castle and BONY, which is described in the deeds as the "RT Operating Party". There is an undertaking by Castle with COBE, in the Receivables Securitisation Deed, that it will comply with BONY's instructions.
- The offer is of an assignment of receivables; the value of the receivables to be assigned, and the amount which COBE expects to receive in return, are not specified in the offer itself. It does state, however, that it may be accepted, once the face value of the Existing Receivables included in it has been notified by COBE to Castle, by the payment by Castle to COBE of an "Acceptance Price" of £10,000. Although, perhaps strangely, the prescribed form of the offer itself does not say so, the contracts provide that the Acceptance Price is to be followed immediately by a "Further Payment". The Further Payment is defined as the "Outstanding Face Amount of the Existing Receivables … less the Acceptance Price". There will, of course, be a change in the value of the Existing Receivables between the date of the offer and the date of acceptance, since there are daily movements on customers' accounts, and the deed provides for calculation and notification of the precise amount on the day on which an offer is to be accepted. The two-stage payment process is not a factor material to our decision; it was designed primarily to avoid the imposition of stamp duty by reference to the value of the Further Payment (the stamp duty rules have since been changed, and we understand that this complication is no longer necessary). Since Castle, through BONY, is required to accept any offer which complies with the deed's conditions, COBE is effectively able to dictate the amount it receives, by nominating accounts with an aggregate value of Existing Receivables of the chosen sum. In practice, it nominates accounts whose Existing Receivables have, or are expected to have, a face value significantly greater than the amount it wishes to receive in cash. This is done in order to ensure that there will at all times be sufficient receivables to provide security for the amount raised, allowing for the fluctuations which will occur as customers pay off their debts and create new debts, and to provide a margin for the predictable level of customer default (that is, complete failure to pay the amount due rather than delay in payment, a topic with which we do not need to deal further). We shall explain how the structure accommodates the surplus shortly.
- The contracts provide that, when an offer has been accepted, additional payments become due as time passes: "an amount equal to the Outstanding Face Amount of the Principal Receivables comprised in … Future Receivables, as calculated by the Transferor and notified to the Receivables Trustee by the Transferor" (a sum which, so far as we have been able to ascertain, is not given a name of its own); and "Deferred Consideration", to the meaning of which we shall return in due course. The aggregate of the four payments (Acceptance Price, Further Payment, unnamed amount and Deferred Consideration) is defined as the "Purchase Price".
- COBE's offer, once accepted, is to assign the Existing Receivables, immediately, and the Future Receivables as they come into existence. The assignment is to take effect in equity only, although there are provisions which come into effect in certain eventualities (in essence, if COBE becomes insolvent) one of which allows Castle to give notice of the assignment to the debtor-customer (in the contracts called an "Obligor"), thus converting it into a legal assignment. In practice, no such notice has ever been given (and the affected customers remain entirely ignorant of the assignments affecting their accounts) but the possibility of giving notice remains in case it should become necessary for Castle to enforce the debt and COBE is unable or unwilling to join in an action to do so. Upon acceptance of an offer, the nominated accounts become "Designated Accounts".
- Castle acts only as the trustee of a trust of which there are four beneficiaries: Dover Castle Funding Group Limited ("Dover"), Tenby Castle Funding Group Limited ("Tenby"), Carlisle Castle Funding Group Limited ("Carlisle") and COBE itself. The first three, all Jersey-registered, are special purpose vehicles whose only role, like Castle's, is to participate in the securitisation, and they are collectively described in the documentation as the "Investor Beneficiaries". Mr Gerwat and Mr Richardson are their only directors and their beneficial ownership, too, lies in the Jersey charitable trust. Their task is to issue the loan notes which, as we shall later explain, are, or are the evidence of, the ultimate investors' security; none does anything else and, like Castle and for the same reasons, none is permitted any true discretion. The arrangements contemplated three varieties of loan notes, for which the Investor Beneficiaries' names are mnemonics: Dover for "Development Loan Notes", Tenby for "Term Loan Notes" and Carlisle for "Commercial Paper Loan Notes". In the period with which we are concerned, only commercial paper loan notes were issued, and Dover and Tenby were inactive.
- The trust is known as the "Receivables Trust". The manner in which the trust property is to be held by Castle is dictated by the second of the principal deeds, a Receivables Trust Deed and Servicing Agreement ("RTDSA"), the deed which also controls the day to day administration of the securitisation, a topic with which we shall need to deal in some detail. It was made, also on 8 August and amended on 24 September 2001, between Castle, as the Receivables Trustee, COBE, variously described as the "Seller Beneficiary", the "Transferor Beneficiary", the "Servicer", the "Seller" and the "Transferor" (the use of the terms "Transferor" and "Seller", apparently synonymously, seems merely to reflect the change in terminology between the August and September versions of the Receivables Securitisation Deed, and we read no greater significance into the change than that), Carlisle, Tenby and Dover.
- The documentation makes it clear that the trust is a bare trust, and that Castle again has no discretionary powers: it must deal with the trust property in the exact manner dictated by the deeds. This feature of the arrangements is of particular relevance to one of the issues which we must decide, and we will return to it in due course. At this stage we need do no more than record that the administration of the trust is undertaken in accordance with an agreement specific to this securitisation by Bedell Cristin Trust Company Limited ("BCTC"), a company owned and controlled by Bedell Cristin, the Jersey law firm of which Mr Gerwat and Mr Richardson are partners. Mr Gerwat's evidence was that although the administration has to be carried out in a manner which respects the strict requirements of the deeds it is not a purely mechanical process, since it is necessary for the directors to ensure that the formal requirements have been satisfied, and that what is required of the companies is lawful. We should add that BCTC's business consists of the provision to companies of fiduciary and administrative services, including but not limited to those required in securitisations, and that it is licensed to provide such services by the regulatory authorities in Jersey.
- We should perhaps also mention that one consequence of its being a bare trust is that the beneficiaries for the time being could, if they chose, terminate the trust and demand that their respective shares of the assets be transferred to them, and that Castle would have no means by which it might prevent them from doing so. COBE is, for all practical purposes, able to control Carlisle, Tenby and Dover and could force them to join it in making such a demand. In practice, the possibility of its doing so is little more than theoretical, since the Investor Beneficiaries' interests are the security for loan notes they have issued but, as we shall explain, the fact that the power exists, but its exercise is so restrained, is in our view a material factor.
- The deed provides that Castle is to hold the trust property "for the purpose of receiving amounts arising therefrom [that is, coming into the trust] and transferring and distributing such amounts in accordance with" the RTDSA. In order to make those functions possible, the trust has five divisions which (somewhat simplified) are as follows:
(1) the "Undivided Bare Trust", encompassing all trust property other than that allocated to another division, which is to be held on an undivided basis for the benefit of the beneficiaries for the time being of the trust;
(2) the "Ineligibles Bare Trust", comprising Ineligible Receivables and Ineligible Collections—items which have mistakenly been included in the securitisation despite the ineligibility of the underlying accounts and which must be returned to COBE; this property is to be held on a "segregated separate trust for the benefit of" COBE alone;
(3) the "Segregated Bare Trusts", comprising that trust property which Castle has "expressly segregated … for the benefit of an Investor Beneficiary or [COBE]"—this category cannot include property which falls within categories (2) or (4);
(4) the "Deferred Consideration Bare Trust", which applies to the "Additional Consideration … received by [Castle] pursuant to the terms of any Supplement"—the property within it is to be held on a "segregated bare trust for the purpose of paying Deferred Consideration" to COBE; and
(5) "Other Trusts", covering property expressly segregated by Castle for the benefit of any beneficiary other than COBE, in accordance with the terms of a Supplement; this trust allows for the possibility that further Investor Beneficiaries will be created.
- Although the Receivables Securitisation Deed describes what it envisages rather tentatively as a "possible securitisation" the process is, of course, organised carefully in advance, and all of the necessary steps are so arranged that they occur in the correct sequence, and at the appropriate times. Castle has no assets of its own, apart from the nominal £2 which each of the beneficiaries paid in for the purpose of creating a fund to which the trust could immediately attach, and it cannot pay the Acceptance Price or the Further Payment unless steps have already been taken to secure the necessary funds. Those funds are raised through the medium of loan notes issued, as is appropriate to the type of securitisation then intended, by Dover, Tenby or Carlisle. The security for the loan notes is the issuer's beneficial interest in the trust assets, represented by the receivables allocated to a segregated bare trust within category (3) above.
- In the year to 31 March 2002, only two relevant issues of loan notes were made, in September 2001 and January 2002, both by Carlisle, and each with a face value of £350 million; thus of the three Investor Beneficiaries only Carlisle had an interest in a Segregated Bare Trust. Each issue was made to financial institutions, which were required to retain the loan notes; thus they were, in principle, non-negotiable, although there were provisions enabling assignment in certain limited circumstances. The institutions were, for the September 2001 issue, Sheffield Receivables Corporation (a United States company) and Barclays Bank plc and, for the January 2002 issue, Eureka Securitisation plc, a subsidiary of Standard Chartered Bank. The loan notes were in each case divided into two or three Classes, with slightly different rights. In particular, the Class A notes ranked before the Class B notes, which in turn ranked before the Class C notes (in the first issue, there were only classes A and B). The Class A notes had a slightly higher agency rating than the others because of their priority. They were all endorsed on their face as "Not an interest in or recourse obligation of [COBE]", reinforcing the point that the security for them was the pool of assigned receivables, and nothing else. The Supplements pursuant to which the loan notes were issued, and to which the loan notes themselves referred, set out the terms on which interest was to be paid, and the date and manner of redemption. They also contain the provisions for renewal which we have mentioned.
- The loan notes, in common with all others contemplated by the deeds, are non-negotiable, because the intention is not that the loan-note holders—the financial institutions to which they are issued—will themselves provide the funds representing their face value, but that they will in turn issue negotiable securities to be acquired by the ultimate investors, and which can be traded freely in an appropriate market. The negotiable securities issued in a revolving securitisation are known as "commercial paper". The institutions which act as loan note holders are also known as "conduits" because they act as the link between the borrower and the true lenders, channelling the amount raised from the lenders to the trust at the outset, the interest during the currency of the loan and the repayments of capital as the loans are discharged. It is undesirable that the loan notes should be assignable as it is necessary for the working of the scheme that the holders can be relied upon to cooperate in the arrangements; moreover, the identity of the loan-note holders is itself a factor which might affect the credit rating of the commercial paper. It is, ultimately, the rate of interest payable on the commercial paper, lower than that at which COBE could itself have borrowed in the market, which leads to the saving we have described, the driving force behind the scheme.
- While the financial institutions which hold the loan notes and issue the commercial paper know of the arrangements in accordance with which the security has been created (as do the rating agencies), the holders for the time being of the commercial paper (the "investors") usually know no more than that the ultimate security for it consists of credit card receivables. They rely on the rating agencies' assessment of that security and, unless they guess correctly, do not know of COBE's participation. Indeed, we understand, the commercial paper might be issued on the strength of mixed security, of which the receivables securitised by COBE represent only a part.
- From the customer's point of view, nothing changes when his account becomes the subject of a securitisation. As we have said, although the deeds provide for the giving of notice to the customers, this is a contingency provision and in practice the customers do not receive notice of the assignment, and indeed nothing at all is said to them. Their agreements with COBE are unaffected; as the recitals to the RTDSA put it, COBE "will continue to have contractual relationships with the Obligors on the terms set out in the Lending Agreements [COBE's standard-form agreements with its customers] and accordingly will continue to be a grantor of credit in respect of both Existing Receivables and Future Receivables". The customers continue to receive monthly statements and other communications from COBE, which renews their cards whenever necessary, provides the funds to finance their purchases and cash advances, and collects their payments. The majority of COBE's staff, too, do not know whether an individual customer's account has been the subject of a securitisation; only those with access to the relevant part of the computer record are able to distinguish between those accounts which have, and those which have not, become Designated Accounts. Thus a customer who, for example, telephones with an enquiry is treated by COBE's staff in exactly the same way, whatever the status of his account.
- Behind the scenes, however, it is necessary to have arrangements in place for the servicing of the accounts and, in particular, the handling of customers' payments to COBE. All of those arrangements are provided for by the RTDSA, although some of the detail is dealt with in supplementary documents. In theory, the customers' accounts could be serviced by an independent organisation, or by Castle itself if it had the necessary resources (and the agreements make provision for the appointment of BONY as the servicing organisation, though only as a contingency measure), but for practical reasons, as the arrangements envisage, it is necessary for COBE to continue dealing with its customers as hitherto. Despite the contingency provisions catering for the possibility that COBE will become unable to continue the servicing. all of the documentation assumes that, unforeseen circumstances aside, COBE will continue to service the accounts after the assignment. Its doing so is, indeed, a factor in the rating agencies' assessment of the creditworthiness of the assigned receivables, since COBE, but not Castle nor, we deduce, BONY, has the resources to service the accounts, and experience of doing so.
- The servicing arrangements can conveniently be divided into two categories: those relating to the day-to-day handling of receipts from customers, and accounting for them; and those relating to the periodic allocation of the funds. The arrangements in the revolving period, when no repayments of principal are made to the investors, differ from those in the amortisation period, when such repayments must be made. Since there was no amortisation period in the year to 31 March 2002, we concentrate on the revolving period, though some description of the amortisation process is necessary.
- Because there is no overt distinction between those customers whose accounts have become designated and those whose accounts have not (nor between accounts which have been designated for different securitisations) all receipts from customers (which are called "Collections") are initially paid into COBE's general purpose Operating Account. Thereafter the money attributable to Designated Accounts (and so identified by COBE's computer), is to be paid, within two business days, into Castle's "Trustee Collection Account". In practice, COBE's computer in Nottingham runs a program overnight which segregates its receipts correctly. Its first task is to separate receipts from customers with Designated Accounts from its other receipts (we ignore for present purposes the additional complication which results from there being two or more concurrent securitisations). The latter may be dealt with by COBE as it pleases, but the former must be further allocated to five categories, as the RTDSA identifies them. The money itself is not divided at this stage, but is transferred as a single sum to the Trustee Collection Account. At the same time COBE's computer generates a daily report setting out the sums included in the total amount transferred which belong to the various categories, which is sent to Castle. The report amounts to a set of instructions to Castle, requiring it to apply the aggregate sum received each day in specified ways. Castle has no facilities of its own by which it might undertake the task of identification, or which might enable it even to verify what COBE has done, and it merely follows the instructions set out on the daily report. The deeds provide for the establishment by Castle of a series of bank accounts, in order that the receipts may be held separately and payments may be charged against the appropriate source. Castle makes inter-account transfers daily, with monthly adjustments. The monthly adjustments are made in accordance with another set of instructions which is generated (drawing on data provided by COBE) by a computer owned by COBUS, situated in Virginia.
- The first and most important of the required segregations is between Principal Collections—repayments by customers of principal sums advanced to them, and the cost of their purchases—and other items, of an income character. The former are, broadly speaking, repaid to COBE daily. Principal Collections may be drawn upon to make up any shortfall in the sums due to the investors, should that be necessary, before any payment to COBE is made, but a shortfall on one day may be compensated for by a surplus on another and, over time and assuming no unforeseen loss, all of the Principal Collections are returned to COBE during the revolving period. The total value of each daily repayment of Principal Collections represents two items. The first is described by the deeds as the payment for the new receivables which have come into existence, being the sums which COBE has advanced to its customers and paid in respect of their purchases, where those customers' accounts are designated. Its amount is the face value of those new receivables. The money so used is sometimes described in the documents as cash available for investment. The remainder—that is, the total of the Principal Collections less any sum used to make up a shortfall (but plus any surplus used to compensate for an earlier shortfall) and the face value of the new receivables is termed the "Seller's Interest". The aim is to ensure that COBE has the full benefit of the principal collected each day—indeed, its ability to re-use the principal is a critical feature of the scheme. It is not, however, restricted in the uses to which it may put the money, which can be used to create additional receivables (by making further advances to cardholders, or by paying for their purchases), for COBE's ordinary administrative expenses or to repay borrowings.
- Secondly, Finance Charge Collections are identified, and apportioned between COBE, as Transferor Beneficiary, and the Investor Beneficiary in accordance with their respective interests in the Undivided Bare Trust (we shall explain this concept more fully shortly). COBE's share is paid to it immediately, on a day-to-day basis, while Investor Beneficiary's share, together with the remainder of the money included in the day's transfer, is retained in the trust account to await the monthly adjustment. The deeds provide also for some minor adjustments (in the main designed to allow for errors) which may be disregarded for present purposes.
- The payments and other adjustments Castle is required to make are dictated by a process known informally as the "waterfall". It is designed to ensure that the various priorities dictated by the deeds are respected: most importantly, that the interest due to the investors is paid (and, during the amortisation period, that capital repayments are made) and that, after making up any shortfall in the sums due to investors (which will, as we have explained, usually be the subject of a later, balancing, adjustment) an amount equal to the Principal Collections is paid to COBE. The system also caters for the other payments which the process of securitisation requires. There is an in-built mechanism designed to allow for occasions when the face value of new receivables exceeds the Principal Collections, and vice versa, for adjustments of earlier payments in respect of shortfalls in the funds available to meet any category of expenditure which have since been made up from the normal source of the funds used for meeting that category. We shall describe the mechanism by which these payments are accounted for at a later stage.
- The monthly adjustments are designed to allocate the Investor Beneficiary's share of the income receipts (Finance Charges and Acquired Interchange) correctly. Some are of little or no relevance for present purposes, though we should mention that the deeds, primarily the RTSDA, cater here too for the possibility that there will be a shortfall in one or more categories of receipt, for the immediate consequences of that shortfall, and (where appropriate) for its making up from a later surplus. The arrangements are carefully designed to distinguish between different types of receipts and to allocate the payments correctly, so that the money reaches the entity or entities to which it is due, in order of priority, and that the risk of loss falls where it should. In particular, losses are borne by the investors in the commercial paper dependent on the Class B loan notes before the investors in the commercial paper dependent on the Class A notes are affected. In somewhat truncated summary, the available money is used to pay the interest due on the commercial paper, the fees due to BCTC, Castle and BONY for their participation in the arrangements, a servicing charge to which COBE is entitled, representing the cost of servicing the accounts, and any other outgoings which have been incurred. Any surplus of income receipts over the aggregate of the sums so paid out (and we understand it was always anticipated that there would be such a surplus—indeed, securitisation is designed to ensure it) is known as "Excess Spread" and is due to COBE. It represents the effective difference between the cost of the capital obtained by the securitisation and the income earned from it, and is COBE's profit derived from the use of that capital. For all practical purposes, the Excess Spread is the same as the Deferred Consideration to which we have referred; it is what is left over after every other outgoing has been accommodated.
- In the amortisation period, the capital receipts are used, in whole or in part, to repay the loan notes (and correspondingly to redeem the commercial paper); the proportions which are used for that purpose and which are returned to COBE depend upon the rate of receipt and the time over which the amortisation period is to extend. Income receipts are applied largely as before, though there are some minor variations. Although the loan notes, as we have mentioned, were issued for a relatively short initial period but with the facility for renewal, it was always in contemplation that they would be repaid within about five years; this is not an arrangement by which the loan notes can be renewed repeatedly over an indefinite period. When a securitisation has been fully amortised—that is, the loan notes have been completely repaid—the trusts are wound down, and anything remaining in them is returned to COBE.
- We should make it clear that we are satisfied that the payments intended to pass between COBE, Castle and Carlisle are actually made, and are not mere bookkeeping entries: BCTC's staff act upon the daily and monthly reports by issuing instructions to Castle's and Carlisle's bankers to make the necessary payments. We were provided with an elaborate diagram showing what happens, daily and monthly. It traces the daily payments from COBE to Castle of the Collections, their division by Castle into the appropriate categories and their transmission to COBE and Carlisle as required, with the further division of those receipts by Carlisle before the money, so divided, is paid either, through the conduits, to the investors or back to Castle, which uses the money to defray the monthly expenses, passing the remainder on to COBE. It was clear to us from the evidence that considerable care is taken segregate the payments accurately and to calculate them to the penny.
- It will be apparent from the foregoing description that securitisation is not undertaken speculatively, in the hope that investors will be found who will take up the commercial paper, but is a carefully choreographed procedure. We have already made the comment that Castle has no assets of its own apart from the nominal payments made by the four beneficiaries; it is quite unable, from its own resources, to pay even the initial Acceptance Price of £10,000, yet it is required to accept any offer to assign receivables which COBE chooses to make, regardless of value, and to pay the remainder of the capital sum due following acceptance, the Further Payment, almost immediately afterwards. Mr Ingram described the means by which the commercial paper is placed, so that the interval between the acceptance of COBE's offer and the funds' becoming available is minimised, but it is impossible to eliminate the interval altogether. The funds cannot be made available until the security is in place, since the commercial paper is, of its essence, asset-backed; yet the arrangements, as we have so far described them, do not cater for the putting in place of the security without immediate payment.
- The solution is found in another feature of the arrangements, which imports a measure of flexibility, or elasticity, to accommodate not only this problem but also the fluctuation in the aggregate value of the receivables due from time to time on the securitised accounts. We have mentioned already that COBE is described in the deeds, among other things, as the "Transferor Beneficiary". In that capacity, it is itself a beneficiary of the Receivables Trust, its interest consisting of, and being limited to, the excess of the value of the assigned receivables at any moment over the interests of the investor beneficiaries, Tenby, Dover and Carlisle. In the event, only Carlisle had an interest in the trust, amounting to £350 million for each of the two relevant securitisations. The value of that interest was fixed and the benefit of the fluctuating surplus (we understand that matters were so arranged that in all foreseeable circumstances there would be a surplus) vested in COBE's Transferor Beneficiary interest in the trust. The deeds provide that payment by Castle, of the Acceptance Price, the Further Payment or of any other sum due to COBE may be satisfied either by a payment of cash or by increasing the value of COBE's Transferor Beneficiary interest.
- Accordingly, in the interval between the acceptance of an offer and the receipt of payment for the loan notes, COBE's interest in the trust extends to all of its assets (disregarding the nominal £2 subscribed by each beneficiary); but once the capital which the securitisation is designed to procure is received from the investors and paid, via the relevant Investor Beneficiary and Castle to COBE, the Investor Beneficiary's interest has a value equivalent to the capital raised, while COBE's interest as Transferor Beneficiary diminishes by the same amount. In the first of the securitisations with which we are concerned, COBE's offer was accepted on 21 August 2001, and on that date it assigned Receivables to a value of about £757 million to Castle. It assigned a further £263 million of Receivables on 4 September. At that point the value of the Transferor Beneficiary's interest was the aggregate of those two sums, £1.02 billion. However, no money had yet been received by Carlisle from the investors. COBE's case is that, since any payment which Castle is required to make may be satisfied by its increasing the value of COBE's interest in the trust, the increase which in fact occurred, from £2 to £1.02 billion, is the consideration it received for the assignments. On 26 September, £350 million was received by Carlisle, via the conduits, and paid by it to Castle, and then paid on by Castle to COBE. Carlisle's Investor Beneficiary interest increased from nil to £350 million, and COBE's Transferor Beneficiary interest decreased by the same amount. COBE contends that the £350 million represents further consideration in its hands; we shall return to the arguments in support of that proposition in due course. Though the dates and amounts differ, the pattern of payments surrounding the second securitisation is very similar.
- It is the same mechanism which accommodates differences between Principal Collections and the face value of new receivables, which we have previously mentioned: the Transferor Interest has a value which fluctuates daily, in line with the differences. Similarly, during the amortisation period, COBE's Transferor Beneficiary interest in the trust can be used to accommodate differences between the amounts required to redeem the loan notes and the amounts received from its customers. The value of the Existing Receivables assigned to Castle at the outset of a securitisation is always greater than the amount which is to be obtained from the ultimate investors, to provide a margin for fluctuations in the value of the receivables within the trust at any given moment, and in order to satisfy the rating agencies' requirement that the originator's interest in the trust property should be maintained at a minimum of five per cent. In practice, COBE's Transferor Beneficiary interest in the Undivided Bare Trust was a great deal higher. In the period with which we are concerned it does not seem to have fallen below 25 per cent, and at times, particularly in the period before the second of the two securitisations was effected, and when receivables had been injected in anticipation, it amounted to about two thirds of the total. The total value of the trust assets is always equivalent to the face value from time to time of the Receivables within the trust. Although the calculation prescribed by the deeds of the Investor Beneficiary's and the Transferor Beneficiary's respective shares of that value is a little more elaborate, in order to allow for possible shortfalls and other contingencies, its effect is that the Investor Beneficiary's interest is always of an amount equivalent to the sum received from the investors, and the remainder of the property within the trust constitutes the Transferor Beneficiary's interest.
- A particular point with which Mr Ingram dealt in some detail in his evidence is the requirement, imposed primarily by accounting standards and the regulatory authorities but also desirable from an originator's point of view, that the risk of cardholder default be transferred from the originator to the investors. Although, as we have mentioned, there is some tailoring to meet COBE's individual requirements, this structure follows the industry standards for money-raising securitisations, in this as in other respects. It was clear to us from Mr Ingram's evidence that risk transfer is one of the more important of the accounting requirements and that considerable care and effort was devoted to drafting the agreements in a manner which would ensure that it was achieved. Mr Ingram also mentioned that some securitisations ("synthetic" securitisations) are undertaken not to raise money but purely in order to transfer risk. Conversely, if a securitisation is to achieve its objective, the investors must be insulated from the risk of the originator's insolvency.
- This is achieved, Mr Ingram told us, by ensuring that there is a true sale of the receivables so that, once they are assigned, they cannot normally be returned to the originator. There are provisions in this structure—as in others—allowing for the return of receivables which have been incorrectly assigned, because they were ineligible at the outset, and enabling COBE to buy back "defaulted" receivables (those where the debt has remained outstanding for an excessive period) so that enforcement action can be taken; in each case there are further provisions which deal with accounting for such returns and for indemnifying the investors against losses caused by defaults (the indemnity provisions have the effect, if losses are sufficient, of indemnifying the class A note holders at the expense of the class B holders) and, in the case of defaulted receivables which are later recovered, for the money obtained to be returned to the trust and the indemnity to be reversed.. As long as such provisions remain within prescribed limits, they satisfy accounting requirements and the regulatory bodies and rating agencies accept them. It is also possible, Mr Ingram told us, for an originator to "undo" a securitisation altogether, and recover the receivables then assigned. There are, however, restrictions imposed both by American accounting standards and the FSA. The effect of those restrictions is that an originator may not wind up a securitisation and recover the receivables until their value has fallen to less than ten per cent of the total value of the receivables originally assigned.
- We have hitherto touched only briefly and incidentally on the arrangements for the management of Castle and Carlisle in Jersey, the one factual issue which gave rise to any significant controversy. Both, as we have mentioned, were incorporated in Jersey, are owned by a Jersey trust, and have directors resident and domiciled in Jersey. Neither has any employees, and Castle is formally prohibited by the agreements from having any. Although Carlisle undertakes the tasks of issuing the loan notes and passing on payments of principal and interest, and is involved in the receipt of payments from Castle and their return as we have described, its role is largely passive, and the focus of the debate before us was on Castle's role and its management. COBE's position is that the tasks which Castle is required to undertake, of entering into the various contracts, of accepting COBE's offers of assignments, even if only on the instructions of BONY, and of processing the daily and monthly instructions for the allocation of money are tasks of substance. Mr Gerwat's evidence was directed to the responsibility of BCTC's employees for executing the daily and monthly instructions, and he was at pains to explain that they report at regular intervals to him and Mr Richardson at formal, minuted board meetings. There are occasions, he said, when there are clerical errors in the reports generated by COBE and consequently BCTC's staff cannot simply follow the instructions; they have to be checked for accuracy (though that check does not extend to an examination of the monetary amounts, which are taken on trust, and it became clear that the clerical errors which occur are limited to minor typing or similar mistakes). He also emphasised that the directors' role of ensuring that Castle's activities, as well as those of the Investor Beneficiaries, are lawful and in accordance with the agreements is no mere formality. If COBE were to become insolvent Castle's position would change fundamentally, since it would be required to protect the investors' interests against any possible claim by COBE's administrator or receiver and would no longer be able to rely on COBE's servicing the Designated Accounts; the possibility might be remote, but it is real and its existence demonstrates that Castle is not a mere instrument of COBE compelled to carry out its instructions regardless. (Castle's own assets, limited though they are, are protected in the event of COBE's insolvency.)
- Mr Paines did not seek to argue that Castle had no presence at all in Jersey; he accepted that it had a Jersey registered office and Jersey directors. The Respondents' position as he put it is that the Jersey companies all came into existence for no reason other than to participate in the securitisations, and to do so entirely in accordance with instructions given by COBE or its professional advisers. They do not have, and are excluded from exercising, any discretion. It cannot realistically be said that any of them does anything other than mechanically execute the instructions they are given. None has facilities of its own, in the form of employees or offices; they are merely vehicles created and controlled by COBE for its own purposes. Thus while it may be true to say that they have a Jersey presence in a formal sense, they have no substance in Jersey; all of the real tasks necessary for their functioning are carried out by COBE at its UK headquarters in Nottingham, or by COBUS in Virginia, and are merely executed in Jersey, and even then not by Castle itself but by BCTC. If COBE became insolvent the true burden of stepping in, to protect the investors and service the accounts, would fall not on Castle but on BONY; Castle would simply follow BONY's instructions instead.
- We consider there is some merit in both parties' arguments. It is true that the Jersey companies have no raison d'être other than the securitisation, that Castle must follow BONY's, COBE's, and COBUS's instructions without exercising any discretion or judgment of its own, and that it has no means of functioning (nor any function to perform) which is independent of COBE, and not driven by its interests. We reject the suggestion made by Mr Ingram that Castle demonstrates some independence by its directors' consideration of the documentation before causing Castle to enter into the agreements. We are sure Mr Gerwat did review the documentation, but in order to ensure that it posed no problems for BCTC or for himself and his fellow directors, in that capacity; it is in our view quite artificial to claim that there was any meaningful consideration of the documents by, or on behalf of, Castle itself when it was created for no other purpose than to enter into them and there was no possibility, beyond the fanciful, that it would not do so. We consider too that, in practical terms, Castle's position would be little changed if COBE were to become insolvent: it is a bare trustee, and its own assets are protected. On the other hand, we do not think we can overlook the facts that Castle and the other companies are incorporated in Jersey, that they have their own directors, independent of COBE, who hold real meetings and that, albeit it has procured (even if as part of the overall scheme) that they are actually performed by BCTC's employees, Castle carries out daily and monthly tasks. Mr Paines' argument was not that Castle is in reality no more than a façade for COBE (and we are satisfied that it has rather more substance than that) but that it has two rival "establishments", in Jersey and Nottingham, and we should conclude that it "belongs" in the latter. Since this issue cannot be decided without a consideration of the relevant case-law we will set out our findings on it later in this decision.
Summary of our findings of fact
- We are satisfied that securitisation is a well-established means by which financial institutions raise funds, that it is frequently and extensively used (we were told that the value of the securitisation market in the UK in 2004 amounted to about €100 billion), that there are recognised industry standards and that there is nothing out of the ordinary in the structure used by COBE. The tensions between the various commercial, accounting and regulatory requirements which must be met present the draftsman of such a scheme with formidable problems, and add considerably to the complexity of the structure; we are not persuaded that there is anything in this structure—apart from the added complexity attributable to the need to respect dual regulatory and accounting standards to which we have referred—which differentiates it in any way from the norm.
- The essential purpose of a securitisation, as we perceive it, is to enable the originator to obtain working capital at the lowest possible cost: in other words, the more an originator such as COBE, whose business is, in essence, lending to retail customers, can secure as working capital, the more it can lend, and the greater the difference between the cost of securing that working capital and the income it derives from lending, the greater the profit. The lowest possible cost of securing funds is achieved by the originator's putting up debts owed to it which are used, directly or indirectly, as security for a borrowing; whether it is the originator which is using the debts as security is an issue of law we must decide. Since working capital is of limited value to the originator if it has to be returned in a short time, a means must be devised of enabling the originator to use, and profit from, the money received in discharge of the debts while at the same time replenishing the stock of debts used to provide the security. Whether the replenishment amounts to a sale, or series of sales, is a further issue of law we must decide.
- An additional critical feature of the process of securitisation is the manner in which it accomplishes the transfer of one form of risk, of exceptional cardholder default (excessive, that is, when measured against the predicted level for which the arrangements cater and which the agency ratings allow), as well as the possibility that significantly more than predicted cardholders will pay off the full balance owed by them each month, and thereby incur no interest charges, while "ring-fencing" another (of originator insolvency). Those ultimately providing the funds must be isolated from the risk of the originator's insolvency, and at the same time the risk of excessive debtor default must be removed from the originator. The securitisation with which we are concerned, we are satisfied, achieves those objectives.
- Although in doing so we are perhaps stating the obvious, we should also record that the structure of this securitisation was designed and created by COBE (through Mr Ingram's agency) to suit COBE's needs, and that the manner in which it was operated, both in the inception of each individual securitisation and in its application to those securitisation, was throughout dictated by COBE or, ultimately, COBUS. None of Castle, Carlisle or the other Investor Beneficiaries was able to influence the shape of the structure in any way. We heard no evidence about any influence the conduits may have had, but we think it probable that they, like the rating agencies and the ultimate investors, shaped the structure only in the sense that COBE was conscious of the requirements it must satisfy. Those requirements were of a standard nature, without modification peculiar to these securitisations.
The agreed special method
The terms of the method
- The terms of the agreed method are set out in a letter from the Commissioners of 18 November 1997. The agreement had retrospective effect, to 1 December 1996, and was said to be effective until 31 March 1998 but no other method, to apply after that date, was agreed and COBUS (and, following its becoming the representative member, COBE) continued to use it, without apparent objection by the Commissioners. Although the Respondents initially had some reservations on the point, it is now common ground that COBUS and COBE were entitled to do so; despite the projected expiry of the agreement on 31 March 1998, in the absence of a replacement agreement or direction they were required, by regulation 102(3) of the VAT Regulations, to continue its use.
- The relevant provisions of the agreement, as they were set out in the letter, are as follows:
"2 For the purposes of attribution or apportionment of tax within your input tax recovery method and for the purposes of this approval letter, the term 'taxable' shall refer to those supplies or transactions which incur input tax and which carry a right to recover such tax.
The term 'total' shall refer to those supplies or transactions which incur input tax, whether or not there is a right to recover such tax.
3 In each tax period input tax, apart from any that is not deductible in any circumstances (see Notice 700), should be attributed directly to taxable, to exempt and to other non-taxable activities to the fullest extent possible.
Only input tax attributed directly or indirectly to the making of taxable supplies is recoverable.
4 Any input tax which cannot be attributed directly should be apportioned between your taxable and non-taxable supplies in the ratio of the value of taxable supplies in each period as a percentage of the total value of the supplies in the period.
Because the extent to which goods and services are used in the making of taxable supplies is calculated as a percentage based on the ratio that the value of taxable supplies bears to the total value of supplies, you may round the recovery rate of tax up to the nearest whole number both in each tax period and in the annual adjustment."
- Those familiar with partial exemption calculations will observe that there is little obvious difference between the agreed method, as it is set out at paragraphs 3 and 4, and the standard method for apportioning residual input tax prescribed by regulation 101(2) of the VAT Regulations. The significant provision of the agreed method lies in paragraph 2, and its interpretation, in conjunction with regulation 103(1)(b), is the central matter of controversy in this appeal. Although none of the annual adjustments before the one which gave rise to the instant claim reflected a securitisation (since none was undertaken by COBE until the latter part of 2001) and the adjustments were, it seems, accepted as submitted without significant comment, we learnt that the Commissioners had already developed some misgivings about the use of the special method as early as 1999 and, after lengthy correspondence, they revoked, or purported to revoke, the method before the relevant return was submitted, though only with effect from 30 June 2002; whether they have validly done so is the subject of another appeal to this tribunal, and the reasons for the revocation are not now material.
The application of the method
- COBE's case is that the money it received in return for its assignment of receivables—not merely the capital sum of £350 million obtained from each of the two relevant securitisations but also the further capital payments it received as time went by, Receivables became Collections and the principal element was returned to it in exchange for new Receivables, as well as some other payments (we shall return to COBE's contentions on this issue)—represents the consideration for supplies falling within Item 1 of Group 5 of Schedule 9 to the Value Added Tax Act 1994. That Item reads:
"The issue, transfer or receipt of, or any dealing with, money, any security for money or any note or order for the payment of money".
- Mr Cordara accepted that those words are not obviously apt to include the assignment of debts, and at first sight set out a description of conventional banking, but they must be taken to include an assignment of debts since the Item is the implementation in domestic law of article 13B(d)(3) of the Sixth VAT Directive (77/388/EEC), the relevant part of which reads:
"transaction, including negotiation, concerning deposit and current accounts, payments, transfers, debts, …"
There is no other item within Group 5 which might include the assignment of debts. Since the implementation of article 13B is mandatory, it must be assumed, despite the different terminology, that assignments of debts are included within the expression "dealing with money". Mr Paines, without necessarily conceding the argument, did not address us on this topic and in the absence of contrary argument we will assume that Mr Cordara is right. If the assignments fall within Item 1 of Group 5, they are, in principle, exempt supplies.
- A registered trader's right to recover input tax incurred by him in the course of his business stems from article 17 of the Sixth Directive which, so far as presently material, reads:
"2 In so far as the goods and services are used for the purposes of his taxable transactions, the taxable person shall be entitled to deduct from the tax which he is liable to pay:
(a) value added tax due or paid within the territory of the country in respect of goods or services supplied or to be supplied to him by another taxable person …
3 Member States shall also grant every taxable person the right to the deduction or refund of the value added tax referred to in paragraph 2 in so far as the goods and services are used for the purposes of: …
(c) any of the transactions exempt pursuant to Article 13(B) … (d)(1) to (5), when the customer is established outside the Community …
5 As regards goods and services to be used by a taxable person both for transactions covered by paragraphs 2 and 3, in respect of which value added tax is deductible, and for transactions in respect of which value added tax is not deductible, only such proportion of the value added tax shall be deductible as is attributable to the former transactions.
This proportion shall be determined, in accordance with Article 19, for all the transactions carried out by the taxable person."
- We shall deal with paragraph 5 of the article at paragraph 76 below. The transposition into domestic law of paragraphs 2 and 3 begins with section 26 of the 1994 Act of which the relevant part is as follows:
"(1) The amount of input tax for which a taxable person is entitled to credit at the end of any period shall be so much of the input tax for the period (that is input tax on supplies, acquisitions and importations in the period) as is allowable by or under regulations as being attributable to supplies within subsection (2) below.
(2) The supplies within this subsection are the following supplies made or to be made by the taxable person in the course or furtherance of his business—
(a) taxable supplies;
(b) supplies outside the United Kingdom which would be taxable supplies if made in the United Kingdom;
(c) such other supplies outside the United Kingdom and such exempt supplies as the Treasury may by order specify for the purposes of this subsection.
(3) The Commissioners shall make regulations for securing a fair and reasonable attribution of input tax to supplies within subsection (2) above … "
- The regulations referred to in subsections (1) and (3) are the VAT Regulations 1995, and particularly regulations 99 to 111. The special method was, as we have mentioned, agreed in accordance with the provisions of regulation 102(1), and we shall need to return to that regulation and to examine regulations 101 and 103 (we come to regulations 101 and 102 shortly, while regulation 103 is set out at paragraph 138 below). The order referred to in subsection 26(2)(c), and the implementation in domestic law of article 17(3) of the directive, is the Value Added Tax (Input Tax) (Specified Supplies) Order 1999 (SI 1999/3121) (the "Specified Supplies Order"). COBE relies on articles 2 and 3:
"2 The supplies described in articles 3 and 4 below are hereby specified for the purposes of section 26(2)(c) of the Value Added Tax Act 1994.
3 Services—
(a) which are supplied to a person who belongs outside the member States;
(b) which are directly linked to the export of goods to a place outside the member States; or
(c) which consist of the provision of intermediary services within the meaning of item 4 of Group 2, or item 5 of Group 5, of Schedule 9 to the Value Added Tax Act 1994 in relation to any transaction specified in paragraph (a) or (b) above,
provided the supply is exempt, or would have been exempt if made in the United Kingdom, by virtue of … any of items 1 to 6 … of Group 5, of Schedule 9 to the Value Added Tax Act 1994." [Article 4 is of no present relevance.]
- Thus if COBE is correct in its contention that its assignment of receivables to Castle amounts to a supply for the purposes of VAT, it is a supply which, if made in the United Kingdom, would be exempt; but, because it comes within Item 1 of Group 5 of Schedule 9 of the 1994 Act, and Castle is (it says) "a person who belongs outside the member States", in Jersey, it is specified, by the Specified Supplies Order, for the purposes of section 26(2)(c) of the Act, and COBE is therefore entitled to credit for any input tax it has incurred which is attributable to the making of the supply. That analysis is, it argues, also consistent with paragraph 2 of the special method, which treats as taxable "supplies or transactions which incur input tax and which carry a right to recover such tax": those supplies which are identified in the Specified Supplies Order carry that right.
- Mr Paines did not disagree with that reasoning, though he took issue on the assumptions which underpin the Appellant's case, and he relied too on article 19(2) of the directive, to which we now turn, though we need to set out article 17(5) first. It reads:
"5 As regards goods and services to be used by a taxable person both for transactions covered by paragraphs 2 and 3, in respect of which value added tax is deductible, and for transactions in respect of which value added tax is not deductible, only such proportion of the value added tax shall be deductible as is attributable to the former transactions.
This proportion shall be determined, in accordance with Article 19, for all the transactions carried out by the taxable person.
However, Member States may:
(a) authorise the taxable person to determine a proportion for each sector of his business, provided that separate accounts are kept for each sector;
(b) compel the taxable person to determine a proportion for each sector of his business and to keep separate accounts for each sector;
(c) authorise or compel the taxable person to make the deduction on the basis of the use of all or part of the goods and services;
(d) authorise or compel the taxable person to make the deduction in accordance with the rule laid down in the first sub-paragraph, in respect of all goods and services used for all transactions referred to therein;
(e) provide that where the value added tax which is not deductible by the taxable person is insignificant it shall be treated as nil."
- Article 19, which is entitled "Calculation of the deductible proportion", deals (as article 17(5) indicates) with the mechanics of the attribution to be applied by traders who make both taxable and exempt supplies. It provides, so far as material:
"1 The proportion deductible under the first sub-paragraph of Article 17(5) shall be made up of a fraction having:
—as numerator, the total amount, exclusive of value added tax, of turnover per year attributable to transactions in respect of which value added tax is deductible under Article 17(2) and (3),
—as denominator, the total amount, exclusive of value added tax, of turnover per year attributable to transactions included in the numerator and to transactions in respect of which value added tax is not deductible …
The proportion shall be determined on an annual basis, fixed as a percentage and rounded up to a figure not exceeding the next unit.
2 By way of derogation from the provisions of paragraph 1, there shall be excluded from the calculation of the deductible proportion, amounts of turnover attributable to the supplies of capital goods used by the taxable person for the purposes of his business. Amounts of turnover attributable to transactions specified in Article 13B(d), in so far as these are incidental transactions, and to incidental real estate and financial transactions shall also be excluded …
3 The provisional proportion for a year shall be that calculated on the basis of the preceding year's transactions. In the absence of any such transactions to refer to, or where they were insignificant in amounts, the deductible proportion shall be estimated provisionally, under supervision of the tax authorities, by the taxable person from his own forecasts. However, Member States may retain their current rules.
Deductions made on the basis of such provisional proportion shall be adjusted when the final proportion is fixed during the next year."
- Those provisions have been transposed, in the ordinary way, into United Kingdom domestic legislation. There was no suggestion that the transposition was in any way incorrect. The primary rule is to be found in section 26 of the Value Added Tax Act 1994, which we have set out at paragraph 73 above, while the detail of the standard method is to be found in regulation 101 of the VAT Regulations. Regulation 101(2) is the implementation of article 19(1) and sets out the basic standard method, appropriate for most partially-exempt traders, while paragraph (3) contains the implementation of article 19(2). Those paragraphs read:
"(2) In respect of each prescribed accounting period—
(a) goods imported or acquired by and goods or services supplied to, the taxable person in the period shall be identified,
(b) there shall be attributed to taxable supplies the whole of the input tax on such of those goods or services as are used or to be used by him exclusively in making taxable supplies,
(c) no part of the input tax on such of those goods or services as are used or to be used by him exclusively in making exempt supplies, or in carrying on any activity other than the making of taxable supplies, shall be attributed to taxable supplies, and
(d) there shall be attributed to taxable supplies such proportion of the input tax on such of those goods or services as are used or to be used by him in making both taxable and exempt supplies as bears the same ratio to the total of such input tax as the value of taxable supplies made by him bears to the value of all supplies made by him in the period.
(3) In calculating the proportion under paragraph (2)(d) above, there shall be excluded—
(a) any sum receivable by the taxable person in respect of any supply of capital goods used by him for the purposes of his business,
(b) any sum receivable by the taxable person in respect of any of the following descriptions of supplies made by him, where such supplies are incidental to one or more of his business activities—
(i) any supply which falls within item 1 of Group 5, or item 1 of Group 6, of Schedule 8 to the Act, …"
- Regulation 102 provides for the use of non-standard methods. It has recently been amended but without retrospective effect; at the material time it read, so far as relevant:
"(1) Subject to paragraph (2) below and regulation 103, the Commissioners may approve or direct the use by a taxable person of a method other than that specified in regulation 101 …
(2) Notwithstanding any provision of any method approved or directed to be used under this regulation which purports to have the contrary effect, in calculating the proportion of any input tax on goods or services used or to be used by the taxable person in making both taxable and exempt supplies which is to be treated as attributable to taxable supplies, the value of any supply within regulation 101(3) shall be excluded."
- Mr Paines' argument was that, if the Appellant is correct in its assertion that it made a supply to Castle and, by virtue of the Specified Supplies Order, it is prima facie entitled to bring input tax incurred in making that supply into its partial exemption calculation and treat it as attributable to taxable supplies, it is nevertheless disqualified by regulation 101(3)(b) from doing so as the supply, if such it be, to Castle is incidental to its business activities. We will deal with the parties' opposing contentions on this issue later.
- As we have mentioned, during COBE's relevant "longer period", ending on 31 March 2002, only two securitisations were effected, in September and December 2001. Each was for an initial value of £350 million, and each was in its revolving period when the longer period ended. The rapidity with which Existing Receivables are collected, and Future Receivables replace them, is illustrated by the value of the total consideration which COBE contends had been paid by that time. We were not given wholly accurate figures, and are not required to deal with matters of such detail in any event, but were told that the aggregate value of the Existing Receivables and Future Receivables which were not Finance Charge Receivables (items (1) and (2) in the list set out at paragraph 30 above) which had become Collections by 31 March 2002 was about £1.4 billion, Future Receivables as they stood at that date added about £750 million and Finance Charges and Acquired Interchange (items (3) and (5)) amounted to about £48 million. If sums of this magnitude can, as the Appellant contends, be brought into its partial exemption calculation, it is unsurprising that they have a significant effect on its result, increasing COBE's recovery rate (disregarding its group's other taxable supplies, which are of modest value) from nil to, on the Appellant's best case, about 86 per cent.
The issues
- The issues were set out by Mr Paines in his skeleton argument in the form of six questions, and Mr Cordara agreed that they identified the matters we must decide, although they amount to no more than a summary and do not represent entirely discrete issues. Slightly restated, they are as follows:
(1) Did the assignment of equitable interests in the Receivables by COBE to Castle, assuming it was made for a consideration, amount to a supply at all? (The discussion begins at paragraph 84 below)
(2) If the answer to question (1) is "yes", was that putative supply made for a consideration? (Paragraph 120)
(3) If it was a supply for a consideration what was the value of the supply? (Paragraph 132)
(4) If, by its assignment of equitable interests in the Receivables to Castle, COBE made a supply for consideration, was that supply incidental to COBE's credit card business activities within the meaning of regulation 103(2)(b) of the VAT Regulations 1995? (Paragraph 138)
(5) If, by its assignment of equitable interests in the Receivables to Castle, COBE made a supply for consideration, did Castle belong, for the purposes of article 3(a) of the Specified Supplies Order, in Jersey and therefore outside the Member States? (Paragraph 76)
(6) Was COBE right to exclude the value of its exempt supplies to its Cardholders in respect of Designated Accounts from the calculation it made in order to ascertain the deductible proportion of its residual input tax? (Paragraph 153)
- Mr Cordara acknowledged that while answers unfavourable to COBE to the last four of those questions would merely affect the calculation of the recoverable input tax, an adverse answer to either of the first two questions would be fatal to its appeal. However, the parties asked that, so far as the material before us enabled us to do so, we should answer all of the questions and it is in any event desirable that we provide answers in case the matter should go further. We shall deal with the issues, so far as we can, one by one, although there is some overlap between them. That is particularly so in the case of the first and second, partly because the concept of a supply without consideration is alien to the scheme of VAT, and partly because what Mr Cordara contended was the consideration for the supply of receivables was, Mr Paines contended, itself the supply. We will, however, deal with that particular argument when we come to the second issue, since the authorities on which Mr Paines relied for it are more conveniently considered there.
(1) Assuming consideration, did COBE's assignment of the receivables amount to a supply?
- It is, we think, trite law that the assignment of a chose in action, such as a debt, is capable in principle of constituting a supply as that term is understood for the purposes of VAT: the VAT Act 1994, implementing the first indent of article 6(1) of the Sixth Directive, provides by section 5(2)(b) that "anything which is not a supply of goods but is done for a consideration (including, if so done, the granting, assignment or surrender of any right) is a supply of services". The essence of the issue before us is therefore not whether the assignment of receivables by COBE to Castle is capable of amounting to a supply, but whether it does so. The competing contentions are that the assignment is a simple sale, and therefore a classic supply; and that it is not a supply at all but the giving of security to satisfy the conditions on which a lender is willing to make a loan, and that it is the loan which represents the supply.
- Mr Cordara began by an attack on the Respondents' approach, as he perceived it to be, of attempting to undermine the Appellant's case that there was such an assignment by incorrectly treating the entire process of the securitisation of receivables as if it were a single transaction. That approach was, he said, revealed by the claim, in the re-amended statement of case, that "the objective character of the transaction was that the Appellant received a loan for which the assignment of the receivables was no more than security". He did not demur from the proposition that the arrangements, if viewed as a whole, constitute a sophisticated method by which COBE could procure part of its working capital at a cost lower than that it would have incurred had it not made the arrangements, nor could he realistically have done so: Mr Ingram's evidence made it perfectly clear that the arrangements have no other purpose. He carefully avoided conceding that, in effect, and again taking the transactions as a whole, COBE had borrowed, though he did not advance a positive case to the contrary. But it is implicit in his arguments that even if, taking an overall view, COBE borrowed, that fact is immaterial.
- The Court of Justice made it clear in BLP Group plc v Customs and Excise Commissioners (Case C-4/94) [1995] STC 424 that one cannot take an overall, purposive, view of a series of transactions in order to ascertain the correct tax consequences. There, BLP raised money to be used for the purpose of paying off debts it had incurred in pursuing its business activities by selling shares in a German subsidiary. It sought to recover the input tax included in the professional fees it had incurred in effecting the sale; while acknowledging that the sale of shares was an exempt supply, it maintained that the input tax was attributable to its business of making taxable supplies and was therefore recoverable. As the Advocate General said, at paragraph 39 of his opinion:
"Virtually every transaction which falls within the scope of the Sixth Directive can therefore be understood as a raising of funds for the benefit of the taxable person's activity and more precisely the taxable transactions which he may carry out. That characteristic, which attaches to every such transaction, is clearly not liable as such to span the division between taxable and exempt transactions …"
- In its judgment, the Court said, at [1995] STC 424 at 437:
"19. Paragraph 5 [of article 17 of the Sixth Directive] lays down the rules applicable to the right to deduct VAT where the VAT relates to goods or services used by the taxable person 'both for transactions covered by paragraphs 2 and 3, in respect of which value added tax is deductible, and for transactions in respect of which value added tax is not deductible'. The use in that provision of the words 'for transactions' shows that to give the right to deduct under para 2, the goods or services in question must have a direct and immediate link with the taxable transactions, and that the ultimate aim pursued by the taxable person is irrelevant in this respect …
- … if BLP's interpretation were accepted, the authorities, when confronted with supplies which, as in the present case, are not objectively linked to taxable transactions, would have to carry out inquiries to determine the intention of the taxable person. Such an obligation would be contrary to the VAT system's objectives of ensuring legal certainty and facilitating application of the tax by having regard, save in exceptional cases, to the objective character of the transaction in question."
- It is not open to the Respondents, Mr Cordara continued, to take the assignment from COBE to Castle together with any other of the transactions, and treat them as if they were a single transaction. If there remained any possible doubt about the prohibition it was laid to rest by the judgment of the House of Lords in Customs and Excise Commissioners v Robert Gordon's College [1995] STC 1093. Lord Hoffmann gave the only substantive speech. After analysing both the Advocate General's opinion and the judgment in BLP he said, at p 1100:
"… that decision makes it clear that for the purposes of European VAT legislation, it is not permissible to take a global view of a series of transactions in the chain of supply."
- Just as it was not possible for BLP to obtain credit for the input tax it had incurred on a cost component of one transaction by pointing to the wider purpose which that transaction served, so it was not possible for the Respondents to argue in this case that, because COBE's wider purpose was to raise funds, and those funds had, ultimately, been obtained by a borrowing (though a borrowing by Carlisle rather than COBE), the assignment by COBE to Castle of receivables had to be characterised as the creation of security for that borrowing.
- It is clear too that the test of a direct and immediate link must be applied strictly: see Midland Bank plc v Customs and Excise Commissioners (Case C-98/98) [2000] STC 501 and Dial-a-Phone Ltd v Customs and Excise Commissioners [2004] STC 987 in which, at [71], Jonathan Parker LJ said:
"The words 'attributable' and 'attributed' in reg 101 fall to be interpreted by reference to art 2 of the First Directive and art 17 of the Sixth Directive, and in accordance with the principles enunciated by the ECJ in BLP and Midland Bank. Those authorities establish that the appropriate test of attributability in this context is the 'direct and immediate link'/'cost component' test … For convenience, I will refer to it hereafter as 'the BLP test'. Moreover, as the ECJ made clear in para 25 of its judgment in Midland Bank …, it is for the national courts to apply the BLP test to the fact of the case, 'and to take account of all the circumstances surrounding the transactions at issue'…
[72] By its very nature the BLP test is fact-sensitive, in the sense that its application inevitably requires a qualitative judgment to be made on the basis of the facts (as found or admitted) relating to the transactions in question. So whilst I accept that the question whether the BLP test has been correctly applied in any particular case is a question of mixed fact and law, the factual element in that question is bound to be a substantial one …
[74] … the quest is not for the closest link, but for a sufficient link."
- In Dial-a-Phone the taxpayer sought to argue that the input tax it had incurred was solely attributable to taxable supplies of mobile telephones and accessories, and not partly to those supplies and partly to its exempt supplies of insurance intermediary services. As Mr Cordara put it, the court was not interested in the taxpayer's motives (of increasing its sales of telephones by making an offer of three months' free insurance) but in what it actually did: it sold mobile telephones, and it supplied insurance for which the customer paid after the three-month period expired. The arrangements could not be regarded, and treated for tax purposes, as a single transaction.
- Although Mr Paines denied any intention of infringing the Robert Gordon's College prohibition, he did not disavow the proposition that we should treat the arrangements as if they were in reality a single transaction. Mr Cordara's own approach of considering the assignment from COBE to Castle in isolation was, he said, excessively formal, and we should look instead to the substance. A true analysis of the substance of the transaction could lead only to the conclusion that COBE provided the security without which the loan would not have been made. The claim that COBE made a supply of receivables in exchange for consideration was artificial; the obvious reality was that it provided security in order to satisfy the conditions on which the investors were willing to lend. The mere fact that COBE claimed to have sold the receivables was not determinative; we must examine what it actually did, and we should not allow ourselves to be influenced by the fact that the parties to an agreement had applied a particular label to the transaction: see Street v Mountford [1985] 1 AC 809. It is, instead, necessary to examine the entire agreement in order to ascertain its true nature, since, as the Court of Justice put it in Customs and Excise Commissioners v DFDS A/S (Case C-260/95) ("DFDS") [1997] STC 384 at 398, paragraph 23, approving a comment of the Advocate General, "consideration of the actual economic situation is a fundamental criterion for the application of the common VAT system".
- One obvious difference between a true sale and the putting up of security is that in the former the vendor retains no continuing interest in the goods or other assets he has sold whereas in the latter the assignor has the right (assuming he has not defaulted) to have the security returned to him. That, Mr Paines argued, was the reality of the position here: absent any default on COBE's part, as each assigned Receivable matured into a Collection, it was returned to COBE since it had discharged its function of standing as part of the security, and it was replaced in that role by another Receivable which, in turn, would become a Collection and be replaced in due course—and the process would be repeated continually while the revolving period lasted. It could not be said that COBE retained no interest in the Receivables once they had been assigned; each Receivable was assigned only for so long as it did not become a Collection. And at the end of the securitisation, what was left would also be returned to COBE.
- He referred us to two passages in the well-known judgment of Laws J in Customs and Excise Commissioners v Reed Personnel Services Limited [1995] STC 588. At p 591 the judge remarked
"I certainly accept that where any issue turns wholly upon the construction of a document having legal consequences, the exercise of construction is one of law for the judge. But for the proper resolution of a case of this kind, there are I think two qualifications. The first is that the concept of making a supply for the purposes of VAT is not identical with the performance of an obligation for the purposes of the law of contract, even where the obligation consists in the provision of goods or services. The second is that, in consequence, the true construction of a contractual document may not always answer the question—what was the nature of the VAT supply in the case? In so far as the answer to that question is not concluded by the legal process of construing the documents, there remains a question of fact …"
- Then, after setting out the facts of that case, he said, at p 595:
"First … the concept of 'supply' for the purposes of VAT is not identical with that of contractual obligation. Secondly, in consequence, it is perfectly possible that although the parties in any given situation may conclude their contractual arrangements in writing so as to define all their mutual rights and obligations arising in private law, their agreement may nevertheless leave open the question, what is the nature of the supplies made by A to B for the purposes of A's assessment of VAT. In many situations, of course, the contract will on the facts conclude any VAT issue, as where there is a simple agreement for the supply of goods or services with no third parties involved. In cases of that kind there is no space between the issue of supply for VAT purposes and the nature of the private law contractual obligation. But that is a circumstance, not a rule. There may be cases, generally (perhaps always) where three or more parties are concerned, in which the contract's definition (however exhaustive) of the parties' private law obligations nevertheless neither caters for nor concludes the statutory question, what supplies are made by whom to whom. Nor should this be a matter for surprise: in principle, the incidence of VAT is obviously not by definition regulated by private agreement. Whether and to what extent the tax falls to be exacted depends, as with every tax, on the application of the taxing statute to the particular facts. Within those facts, the terms of contracts entered into by the taxpayer may or may not determine the right tax result. They do not necessarily do so. They will not do so where the contract, though it tells all the parties everything that they must or must not do, does not categorise any individual party's obligations in a way which inevitably leads to the conclusion that he makes certain defined supplies to another. In principle, the nature of a VAT supply is to be ascertained from the whole facts of the case. It may be a consequence, but it is not a function, of the contracts entered into by the relevant parties."
- Although those comments make the point that we are not bound by the views of the parties to a contract about its effects, but should instead construe the contract itself in order to ascertain its proper tax consequences, they do not offer guidance on how the task is to be approached. On that issue, the parties both referred to a number of authorities which were reviewed by Jonathan Parker LJ in Tesco plc v Customs and Excise Commissioners [2003] STC 1561 at [33] to [42]. There is nothing to be gained by our repeating the details of his comprehensive analysis, with which we respectfully agree, but it is, we think, worth mentioning briefly two of the cases to which he referred since one or both of the parties placed some reliance on them.
- In Lex Services plc v Customs and Excise Commissioners [2001] STC 1568, the taxpayer, a motor dealer, argued that its artificially increasing the trade-in value of a customer's car by a given amount against the list price of a new car had the same effect as reducing the price of the new car by the same amount and allowing against it the true trade-in value of the old car, that the two arrangements were in substance the same transaction, and that the tax consequences each attracted should be identical. At [84], in a remark later approved by the House of Lords ([2004] STC 73) Chadwick LJ, giving the judgment of the Court of Appeal, said:
"We reject the submission that there is any principle that transactions which have the same economic effect are, necessarily, to be treated in the same way for the purposes of VAT."
- In Customs and Excise Commissioners v Mirror Group plc [2001] STC 1453 the Advocate General (Tizzano) said, at paragraphs 27 and 28 of his opinion:
"27. In order to identify the key features of a contract, however, we must go beyond an abstract or purely formal analysis. It is necessary to find the contract's economic purpose, that is to say, the precise way in which performance satisfies the interests of the parties. In other words, we must identify the element which the legal traditions of various European countries term the cause of the contract and understand as the economic purpose, calculated to realise the parties' respective interests, lying at the heart of the contract. In the case of a lease, as noted above, this consists in the transfer by one party to another of an exclusive right to enjoy immovable property for an agreed period.
28. It goes without saying that this purpose is the same for all the parties to the contract and thus determines its content. On the other hand, it has no connection with the subjective reasons which have led each of the parties to enter into the contract, and which obviously are not evident from its terms. I have drawn attention to this point because, in my view, failure to distinguish between the cause of a contract and the motivation of the parties has been the source of misunderstandings, even in the cases under consideration here, and has complicated the task of categorising the contracts at issue."
- The facts of Tesco can be shortly described. Customers who had joined its Clubcard scheme earned points as they purchased goods. The points were later converted into vouchers which had a monetary value and could be used (or redeemed) in part payment for other goods purchased by the customer from Tesco. Tesco claimed that the vouchers were granted for a consideration—that is, of the customer's payment, an amount equal to the face value of the voucher which would eventually be obtained in exchange for the points earned in the transaction represented the consideration for the voucher, while the balance of the payment represented the net cost of the goods—and that, by virtue of paragraph 5 of Schedule 6 to the VAT Act (which has since been repealed and replaced by rather different provisions) it could exclude from its output tax calculation the face value of the vouchers when they were earned by the customers, though it must bring them into account on redemption. Not all the vouchers were redeemed; thus if Tesco was right, it was liable to account for output tax on a sum less than the aggregate amount which it had actually received from its customers. The conclusion at which Jonathan Parker LJ arrived (and with which the other members of the court agreed) was that the points, and the vouchers which depended on them, were not granted for consideration. The analysis was of the entire relationship between Tesco and its customers, but that relationship was between only two parties (the dispute relating to a parallel "third party" scheme was decided on rather different grounds).
- Jonathan Parker LJ drew the threads of his analysis together at paragraph [159] of the judgment:
"So what is the correct approach in the instant case? There are number of pointers in the authorities … The more significant of such pointers in the context of the instant case seem to me to be these: 1. The resolution of the issue as to the application of para 5 [of Schedule 6 to the VAT Act 1994] in the instant case depends upon the legal effect of the Clubcard scheme, considered in relation to the words of the paragraph (see British Railways Board especially [1977] STC 221 at 223 per Lord Denning MR …). 2. In considering its legal effect, the entire scheme must be examined (what is the 'entire scheme' for this purpose being objectively determined by reference to the terms agreed) (see Pippa Dee especially [1981] STC 495 at 501 per Ralph Gibson J …). 3. The terms contractually agreed may not be determinative as to the true nature and effect of the scheme (Reed Personnel Services …): it is necessary to go behind the strictly contractual position and to consider what is the economic purpose of the scheme, that is to say 'the precise way in which performance satisfies the interests of the parties' (see the Advocate General's opinion in Mirror Group, para 27 …). 4. Economic purpose is not the same as economic effect. The fact that two transactions have the same economic effect does not necessarily mean that they are to be treated in the same way for VAT purposes (see Customs and Excise Commissioners v Littlewoods Organisation plc [2001] STC 1568 especially at para 84 per Chadwick LJ …). 5. Equally, the economic purpose of a contract (what the Advocate General in Mirror Group called the 'cause' of a contract: see para 27 of his opinion …) is not to be confused with the subjective reasons which may have led the parties to enter into it (in so far as those subjective reasons are not obviously evident from its terms) (see Mirror Group para 28 …). The Advocate General went on to observe (an observation which seems to me to be particularly apt in the context of the tribunal's decision in the instant case):" [and he went on to quote the conclusion of paragraph 28 of the opinion, set out above].
- We add only the gloss on that statement which is to be found in the recent judgment of Arden LJ in Telewest Communications plc v Customs and Excise Commissioners [2005] STC 481. At [83] she said:
"In my judgment, there is an objection in principle in this field of law to taxing transactions according to their economic reality. The economic reality of a transaction is antithetical to legal certainty. If VAT is payable according to economic reality, the seller will not know what VAT to account for, and the purchaser will not know what to VAT to pay. The system for the collection of VAT would no longer be straightforward … The principle of legal certainty is one recognised and applied by the Court of Justice in this field (see, for example, Customs and Excise Commissioners v Cantor Fitzgerald plc (Case C-108/99) [2001] STC 1453 at para 33)."
Then, after reviewing a number of authorities relied on by the Commissioners, she continued:
"[87] This line of authority is, in my judgment, inconsistent with the argument which the commissioners seek to run. The mere fact that the court seeks to find the commercial reality of a transaction does not mean that it would seek to apply the economic reality of the transaction. The economic reality of the transaction may have nothing to do with either the essential features of what the parties agreed or the legal structure of their transaction. Moreover, as this court said in Tesco at [159]: 'Economic purpose is not the same as economic effect' (emphasis added in original)."
- Here, the competing arguments are that we should, indeed may, look no further than the immediate relationship between COBE and Castle (in effect, we should consider only the Receivables Securitisation Deed) as the Appellant contends—in which case the remaining deeds provide no more than background information—or, as the Respondents argue, we should look rather more widely in order to ascertain what the scheme is designed to, and does, achieve, and thereby to identify its economic purpose.
- Mr Cordara, advocating the stricter approach, pointed out that the deeds provide only for a sale of receivables by COBE to Castle in exchange for a purchase price, and that their wording throughout is consistent only with a contract of sale. There is no need to go beyond the assignment by COBE to Castle of the receivables because a proper construction of the Receivables Securitisation Deed can lead only to the conclusion that each assignment was a true sale: COBE divested itself of the beneficial interest in the Existing and Future Receivables in return for the payment of a price. The sale was indisputably made in the course of COBE's business. Thus, assuming it was made for consideration as that word is understood in the context of VAT, it fell within the definition of "economic activity", the phrase used in the Sixth Directive, and of "supply", the corresponding term used in the VAT Act.
- That Carlisle might use its beneficial interest in the debts assigned by COBE to the Receivables Trust as security for its own borrowing, undertaken for the purpose of acquiring that interest, is an immaterial consideration; the loans were not made to COBE. There has never been a contractual relationship between COBE and the loan note holders, nor between COBE and the ultimate investors. The fallacy of the Respondents' argument, he said, lies in their failure to recognise that in a securitisation it is the Receivables Trustee or (as in this case) the Investor Beneficiary which gives security for a loan, which it can do only if it has the beneficial interest in the assets over which that security is to be granted. The contracts between Castle and COBE are quite inconsistent with the Respondents' proposition that there was a loan from the former to the latter supported by security: there is no provision for repayment of the loan and redemption of the security, no provision for enforcement and no provision for the payment of interest.
- In similar vein Mr Cordara referred us also to the comment of the Court of Justice at paragraph 33 of its judgment in Cantor Fitzgerald International, which Arden LJ mentioned in Telewest Communications plc:
"… it is necessary to have regard, save in exceptional cases, to the objective character of the transaction in question … A taxable person who, for the purposes of achieving a particular economic goal, has a choice between exempt transactions and taxable transactions must therefore, in his own interest, duly take his decision while bearing in mind the neutral system of VAT … The principle of the neutrality of VAT does not mean that a taxable person with a choice between two transactions may choose one of them and avail himself of the effects of the other."
That comment must, he said, apply both ways: if COBE arranged its affairs in one way, it was not open to the Respondents to tax it as if it had arranged them in another. COBE chose to alienate its receivables for good commercial reasons—that is, as a means of improving the rating agencies' perception of the loan notes—and its liability for tax should be assessed upon the basis of the alienation which it has effected.
- Shortly put, Mr Paines' argument was that we should not be over-zealous in applying Lord Hoffman's comment in Robert Gordon's College. He referred us to the observation of Neuberger LJ in WHA Ltd and another v Customs and Excise Commissioners [2004] STC 1081 at [29]:
"… when assessing the impact of the VAT legislation on a particular transaction or series of transactions, one must look at the way the parties have actually structured, and indeed, expressed, their transaction or transactions. This appears to have been the approach approved by Lord Hoffmann in Robert Gordon's College … applying the reasoning of the Court of Justice of the European Communities in BLP Group … However, it is important to bear in mind that the proper analysis of the effect of that transaction or those transactions for VAT purposes may not be the same as that characterised, or apparently characterised, by the parties in the documents giving effect to their transaction or transactions. In this connection, I would refer to the guidance given by Laws J in … Reed Personnel Services Ltd [1995] STC 588 at 591 and 595, part of the latter passage having been cited with evident approval by Lord Slynn of Hadley in Eastbourne Town Radio Cars Association v Customs and Excise Comrs [2001] STC 606 at [14]."
- We agree with Mr Paines that the prohibition in Robert Gordon's College (and the similar observation in BLP) should not be applied any more widely than was intended. Particularly, one should be cautious of utilising a test prescribed for one situation in the context of another. In both BLP and Robert Gordon's College, the court was not required to consider, as here, a set or series of transactions designed, together, to achieve an objective but whether one transaction, or group of transactions, could legitimately be linked with other transactions which did not form part of the same scheme. In BLP the sale of the shares in the subsidiary was not an inbuilt feature of BLP's day to day business activity. In Robert Gordon's College, the Commissioners sought to apply a self-supply charge by reference to the economic effect, as they perceived it, of the arrangements into which the College had entered, rather than by reference to its economic purpose. It is worth recording that the Commissioners failed, in part, because their approach was inconsistent with the provision of articles 5 and 6 of the Sixth Directive. In essence, the taxpayer (in BLP) and the Commissioners (in Robert Gordon's College) sought to argue that one supply was "infected" by another. That both kinds of supply had been made was not in doubt. The issue with which we are concerned at this juncture, by contrast, is whether COBE made a supply at all.
- The situation with which we are faced is rather different from those considered by the court in BLP and Robert Gordon's College. While we recognise that one cannot link two otherwise discrete transactions simply because they have one or more participants in common, that cannot be the correct approach when the parties have come to an arrangement which they have chosen to effect by a set of contracts, rather than by a single document. If Mr Cordara were right, an ingenious trader could avoid an output tax liability by entering into two or more separate contracts with his customers, each providing for some of the ingredients of a supply, but none providing for all of them, though if the separate contracts are read together, all of the ingredients are present. Plainly he would not be permitted to avoid his liability in that way; the court would read the contracts as a whole. The Court of Appeal reached a similar conclusion, albeit against a rather different factual background, in Debenhams Retail plc v Revenue and Customs Commissioners [2005] STC 1155: see particularly [34]. We do not agree with Mr Cordara's approach, and we think that there is a real distinction to be made between this case and BLP and Robert Gordon's College.
- We have concluded therefore that the prohibition in Robert Gordon's College does not prevent the court or tribunal from setting the transaction whose character and resulting tax treatment fall for consideration in its context, in order to determine what that character is. That was the approach adopted by the Court of Appeal in WHA, and by the House of Lords in the earlier case of Customs and Excise Commissioners v Plantiflor Ltd [2002] STC 1132. In each case, contracts—much simpler in their structure than those in the instant case—involving more than two parties were considered as a whole, not (offensively) in order to ascertain their "economic reality", but in order to identify what was supplied, by whom and to whom. Only then did the court determine the correct tax treatment of the supply as so identified.
- It is true, as a matter of legal form, that Carlisle and not COBE or Castle issued the loan notes and offered its beneficial interest in the Receivables Trust as the security for them, and to that extent Mr Cordara is right. But, as the agreements make perfectly plain, Castle and Carlisle were not free agents. Their role was pre-ordained by COBE (or by COBUS – it makes no difference which, in our view) and they came into existence for no purpose other than to participate in COBE's securitisations of its receivables. As Mr Paines rather dramatically put it, if COBE said "let there be an issue of loan notes" Carlisle had to issue loan notes: neither it nor Castle had any choice in the matter but were compelled to follow COBE's instructions. Mr Cordara's retort is that this is of no consequence: COBE may well have dictated what was to happen but it did not, itself, do anything other than assign receivables by way of sale. That proposition, too, is true in a literal sense, but it does not reflect the reality that Castle and Carlisle were no more than COBE's instruments: they did what, and only what, it determined they should do. The implied suggestion that they could exercise any independence of action is contrary to the facts of the case as we have found them; indeed, it is an inbuilt feature of the arrangements that they cannot act independently.
- Moreover, the use, in Dial-a-Phone and in WHA, of the word "transactions", in the plural, as the subject of analysis is, in our view, inconsistent with Mr Cordara's contention that the assignment must be considered alone. In addition, we do not think that the BLP test, as Jonathan Parker LJ described it in Dial-a-Phone, demands an approach by which each transaction in a series must be examined in isolation. Even when the test is applied in order to ascertain whether there exists the necessary direct and immediate link between the input tax-generating supply to the trader and his onward supply at least those two transactions must be considered, and considered together. When one is examining a series of transactions the question which must be asked, we think, is whether they are directly and immediately linked in the sense that they together form a united structure, each element being dependent for its efficacy on the other or others. The dependency may not be complete (as Jonathan Parker LJ said in Dial-a-Phone, the link need only be sufficient: thus one does not have to ask if the structure would collapse entirely if one element were removed) but if any one transaction in the series is capable of an independent existence—that is, its economic purpose can be satisfied without recourse to any other—the link between that transaction and the remainder will not be established. That cannot be said here. COBE's assignment to Castle of its Receivables, to be held by Castle in a bare trust for COBE achieves nothing, and it cannot satisfy any identifiable economic purpose of COBE. Carlisle's acquisition of an interest in the trust likewise achieves nothing: Carlisle makes, and can make, no profit or capital gain. Neither transaction has an economic purpose without the other.
- We do not accept Mr Cordara's argument that our intended approach offends the BLP and Robert Gordon's College prohibition. It is in our view precisely what Neuberger LJ had in mind in WHA ("one must look at the way the parties have … structured their transaction or transactions"), and it accords with the comment of the Advocate General in Mirror Group ("we must identify the … cause of the contract"). If one asks, "what was the economic purpose of COBE's assigning Receivables to Castle, as trustee?" only one answer is reasonably possible: to enable Carlisle to use them as the security for a borrowing for COBE's benefit. The elaborate contractual edifice was not constructed as a means by which COBE could sell Receivables, with the arrangements by which Carlisle borrowed in order to finance its indirect purchase of them being introduced almost as an afterthought; the economic purpose of the structure was to enable COBE to secure funds and to do so at a cost lower than it would have been required to pay had it borrowed directly from the investors. The insertion of Castle, Carlisle, the conduits and the trust between COBE and the investors was, as we accept, necessary in order to achieve the higher credit rating COBE desired and to satisfy the regulatory and accounting requirements we have described, but it does not alter the essential character of the transaction, nor its economic purpose, namely to enable COBE to borrow.
- It is in our view no answer to say, as Mr Cordara does, that COBE, Carlisle and Castle must be treated as distinct entities. As the various deeds make abundantly plain, Carlisle and Castle can do only what COBE requires them to do. Carlisle's only economic purpose in issuing the loan notes in 2001 was to obtain funds for the benefit of COBE; the notion that it might have had any other economic purpose of its own (such as to buy an interest in the Receivables Trust for its own sake) is simply fanciful. Castle, too, has no economic purpose of its own; its role is merely to act as a bare trustee, doing as the beneficiaries—in effect COBE alone—demand. It is true that it receives a (very modest) payment for so acting but we regard that payment as a token, designed to ensure that there is some consideration passing to Castle. We accept, as we have already said, that this securitisation, like many others, was put in place for sound commercial reasons, and that its structure is dictated by the various factors which we have described. It is, nevertheless, nothing more than a sophisticated means of borrowing money.
- If that is the correct analysis, it seems to us to follow that the Respondents are right: the assignment of the receivables was an assignment by way of security and not an assignment by way of sale. There are, we think, three telling features. First, neither Castle nor Carlisle could treat the receivables in any other way than as the security for the loan notes. Castle, of course, was constrained by its status as a bare trustee. Carlisle could not sell its share of the receivables (in part because it had only an undivided interest in them) or even its beneficial interest in the trust: it could only ever be used as the security for a loan. Second, COBE did not, as it maintains, wholly alienate the receivables, once they were assigned, in a manner which enabled the assignee, Castle, to do with them as it wished, even in the capacity of trustee. During the revolving period it could not use the money which came in as Receivables became Collections for any purpose other than to replace those former Receivables with new Receivables, in order to maintain the pool of Receivables available as security. The requirement imposed on Castle to spend the money received when debts are paid on buying new debts from COBE is not, in our view, consistent with the proposition that the original debt has been absolutely assigned; COBE retained control over it. Third, COBE did not divest itself of all interest in the Receivables as one would expect in the case of an absolute assignment; they were held in an undivided bare trust in which, at all times, COBE retained a more than nominal interest. In our view, the only analysis which stands up to scrutiny is that COBE created the security for a loan. We do not think that analysis is defeated by the BLP and Robert Gordon's College prohibition; Neuberger LJ, in WHA, had no difficulty with the concept of analysing a series of transactions in order to determine their economic purpose, and in doing so he took into account the relationships between the contracts.
- Even if we are wrong in that view, and are confined to the segmented analysis which Mr Cordara urged upon us, we arrive at the same result. COBE's case stands or falls by its claim to have sold the receivables—to adopt the phrase used repeatedly at the hearing, there must be a "true sale". Mr Ingram and Mr Bonsall agreed that there was a true sale, but it is clear that they were focusing on the position if what the agreements refer to as a "notification event" occurred. A notification event is, shortly put, one which signals COBE's insolvency. In the letter which we have mentioned, prepared by Mr Ingram's firm (and of which he was largely the author) for the benefit of, among others, the rating agencies, the question of "true sale" is dealt with in this way:
"(76) We have considered whether any of the transfers referred to in paragraph (46) could be contested successfully by a liquidator, administrator, administrative receiver or receiver of, or any other person claiming through, or any creditor of, the Transferor on the basis that it creates a security interest in the property which is the subject matter of the relevant Receivables Assignment in favour of the Receivables Trustee which will be void against such liquidator, administrator or creditor unless registered pursuant to Part XII of the Companies Act 1985. No such registration has been, or is intended to be, made. In our opinion, in accordance with the principles set out in Re George Inglefield [1993] Ch 1, as considered and applied by the Court of Appeal in Welsh Development Agency v Export Finance Co Ltd [1992] BCC 270 and Orion Finance Ltd v. Crown Financial Management Ltd. [1996] (unreported), a court would find that the transfers referred to above were made by way of sale rather than by way of the granting of a mortgage or other security interest."
Then, after making some points of detail, the relevant section of the letter concludes with the following paragraph:
"Accordingly, in our opinion no sale pursuant to a Receivables Assignment would be characterised by an English court as a loan made by the Loan Note Issuer (CP) or the Receivables Trustee to the Transferor against the security of the Receivables arising pursuant to the Lending Agreements."
- This letter has, however, to be set in its context. Its purpose is to give an opinion about the risk to the investors in the commercial paper should COBE become insolvent. It deals only with the possibility that an administrator or receiver might seek to set aside the assignment. It necessarily assumes that by the time a notification event has occurred, receivables have been assigned to Castle, Carlisle has issued loan notes, commercial paper has been bought by investors and COBE has received the face value of the loan notes. We do not lightly disregard the opinion of an experienced and respected practitioner in the field (nor do we overlook the fact that Mr Bonsall agrees with him) but it seems to us that Mr Ingram's view is irrelevant to the issue we must decide, that is whether COBE made a supply as that term is understood for the purposes of VAT.
- We can arrive at a similar conclusion by a different route, for which purpose we return to the chronology. On 21 August 2001, COBE assigned receivables to Castle; on 4 September 2001 it assigned more. In return, it received no immediate monetary payment, but merely an increase in the value of its share in the trust. It was a bare trust: at that stage the beneficiaries could "break" it at any moment. The Investor Beneficiaries—Carlisle, Tenby and Dover—had negligible interests of £2 each; COBE's interest had a value, by 4 September, of more than £1 billion. The result of the transaction at that stage was COBE had placed receivables in a trust for its own benefit, on terms which enabled it to retrieve them immediately. The agreements, of course, provided otherwise, but since COBE instigated the process at a time of its own choosing, was under no obligation to instigate any securitisations at all, and could in practice rescind any securitisation it had initiated at any time before loan notes were issued, we do not regard the contractual provisions as an impediment. The net effect of the assignment at that stage was that COBE had transferred the receivables to itself, even though they were within a trust. We agree with Mr Paines that such a transfer cannot amount to a supply; the Sixth Directive proceeds throughout on the footing that it deals with A's supplies of goods or services to B, in return for payment, or non-monetary consideration, provided to A by B. A truly bilateral arrangement is lacking here and there is thus no recognisable supply.
- On 26 September, when £350 million was received by Carlisle from the investors, Carlisle paid that money to Castle, in order to increase its interest in the trust, from the nominal £2 at which it then stood, by £350 million. Castle could effect that increase only by diminishing the value of COBE's interest in the trust, for which a balancing payment was made to COBE. If (which we doubt) it could be said that by diminishing its interest in the trust COBE made a supply, it was not a supply of receivables but of an interest in a trust: no other conclusion is possible if Mr Cordara's segmented approach is adopted. Later, as daily assignments of receivables were made and daily payments came back to COBE from the Collections, the intervals between assignment and receipt of money were shorter, but the principle was the same. In return for the assignment, COBE's interest in the trust increased; it did not receive immediate payment. On any given day, there was an increase in COBE's interest as new receivables were assigned, and a decrease in its interest as Principal Collections were used in order (on the Appellant's analysis) to buy them. But if Mr Cordara's approach is correct, the payments were made by Carlisle in order to maintain the size of its interest in the trust. They were not the consideration for receivables, and similarly the payments COBE received were made in exchange for the reduction in its interest in the trust, and not in exchange for receivables. Thus there was no supply of receivables.
- Our conclusion on this issue is that COBE did not make a supply of receivables, meaning a supply recognised by the Sixth Directive and the VAT Act. Our preferred view is that, properly analysed, the contracts provided for COBE to give security for a loan. Alternatively, it made supplies only to itself.
(2) Assuming there was a supply, was there consideration for it?
- We can deal with this issue only on the footing that our first conclusion is wrong, and Mr Cordara necessarily advanced his arguments on this point upon the assumption that we would determine the first issue in the Appellant's favour. For present purposes, therefore, we assume that COBE's assignments to Castle of receivables have all but one of the ingredients of a supply and consider whether that last ingredient, consideration, is present.
- Superficially, the answer seems obvious: COBE received money which it would not have received had it not assigned the receivables, and it received that money pursuant to a contractual obligation. That is, in essence, what consideration is, a payment made, pursuant to an obligation to pay, in return for a supply: see Tolsma v Inspecteur der Omzetbelasting Leeuwarden (Case C-16/93) [1994] STC 509. (For this purpose we treat the payments as having been made in exchange for receivables rather than as the quid pro quo for the diminution of COBE's interest in the trust). We hope we are doing justice to Mr Cordara's argument in saying that he relied on the obvious answer; his case was that there was a simple sale in exchange for money. Mr Paines' argument was that the obvious answer is in fact wrong since different considerations arise when, as here, the supply is of something which can be reduced to money. As we indicated earlier in this decision, we will deal in this section with the Respondents' argument that the attempt to identify consideration leads to the conclusion that what COBE contends was the consideration was in truth the supply.
- We begin, in order to exclude them from further consideration, with three points which were not in issue. As long as there is true reciprocity of obligation (in the sense developed in Tolsma) it does not matter that the sum paid for the supply exceeds its true value: Customs and Excise Commissioners v Tron Theatre Ltd [1994] STC 177; or cannot readily be ascertained: Customs and Excise Commissioners v Telemed Ltd [1992] STC 89 at 97c. Nor does it matter if the recipient of the supply does not know what the consideration for it is: Customs and Excise Commissioners v First National Bank of Chicago (Case C-172/96) ("FNBC") [1998] STC 850.
- We were referred in detail by the parties to three cases dealing with supplies of money and intangibles. The first, chronologically, was H J Glawe Spiel und Unterhaltungsgeräte Aufstellungsgesellschaft mbH & Co KG v Finanzamt Hamburg-Barmbek-Uhlenhorst (Case C-38/93) [1994] STC 543, in which the Court was required to determine the taxable amount in the case of gaming machines which, to comply with the law, were programmed so that 60 per cent of the money fed into them by players was returned as winnings. The taxable amount was found to be the 40 per cent retained by the owner of the machine since that was the only consideration it actually received: as the court put it, the value of the supply was the amount the machine owner could take for himself.
- In FNBC the Court had to consider a "money for money" exchange. The bank undertook bureau de change operations for which it charged no commission, deriving its profit entirely from the "spread" between the prices at which it bought and sold currency. It could not be said that any individual transaction, taken alone, earned the bank a profit, or resulted in a loss, since exchange rates changed over time: thus the bank could never be sure when it bought a currency at what rate of exchange it would later be able to sell it again. The Court had no difficulty finding that the bank's operations constituted a service which satisfied the test of reciprocity laid down by the Court in Tolsma and, applying Glawe Spiel, that the consideration was represented by the amount the bank could take for itself—in effect, its gross profit.
- In Finanzamt Groß-Gerau v MKG-Kraftfahrzeuge-Factory GmbH (Case C-305/01) ("MKG") [2003] STC 951 the issue was the nature of the service provided in a non-recourse "true" factoring arrangement. The Court rejected the German government's argument that a factor did no more than buy the debts and that, by applying Polysar Investments (Netherlands) BV v Inspecteur der Invoerrechten en Accijnzen, Arnhem (Case C-60/90) [1993] STC 222, the conclusion must be that it was merely holding assets and was not engaged in economic activity. The court concluded instead that a factor provides to the assignor of debts the service of relieving him of the task of recovering the debts and the risk of non-payment, recognised by the Sixth Directive as a taxable supply. The consideration for that supply was found by the court to be the difference between the face value of the debts and the amount the factor paid to the assignor.
- None of these cases is, in our view, directly in point, since the court was not required in either FNBC or MKG to consider whether consideration was given for the currency itself or the debts respectively. Glawe Spiel shows only that the 60 per cent of the total amount placed in the machines by the customers which was set aside for potential winnings was not the consideration for a supply. In MKG the court observed (at paragraph 49 of the judgment) that "the factor engages in true factoring by purchasing debts owed to his client", a comment which can indicate only that the court assumed a supply of debts in exchange for consideration. It went on to consider Chaussures Bally SA v Belgian State (Case C-18/92) [1997] STC 209 in which the issue was whether a retailer who accepted payment by credit card must account for output tax on the value of the customer's total payment, or only on the net amount received from the credit card company. The court, in a decision which finds an echo in the Debenhams case to which we have referred, determined that output tax was due on the full price. It seems to us that, had it been asked to do so, the court would have determined in MKG that the consideration received for the assigned debts was their face value; that is, we think, the only conclusion consistent with its decision. In FNBC the court referred, at paragraph 32 of its judgment, to the bank's selling and buying currencies and, at paragraph 43, to the currencies' being the subject of a supply, although the latter comment is perhaps a little odd since the supply contemplated is that made by the customer to the bank.
- What emerges from the cases, even if only indirectly, is that the Court of Justice is willing to accept (and apparently without argument) that the right to receive a payment (as in the case of a debt) or even currency itself can be the subject of a supply, and that the consideration for that supply, absent agreement to the contrary, will be the face value of the debt or currency; if there is an identifiable service, such as the factor or the money-changer provides, the consideration for that supply is to be independently determined, even if, in order to determine it, one has to deduct the amount received by the supplier from the face value of what he supplies.
- In those circumstances, if it is assumed that COBE made a supply of receivables to Castle, the payments which flowed from Castle to COBE and (we emphasise) were paid in consequence of that, rather than any other, supply, were the consideration for it. We come in the next section of this decision to the identification of the value of the supplies.
- We first return, however, to Mr Paines' argument that the payments made by Castle to COBE, or some of them, were not the consideration for a supply, but themselves the subject of a supply. For this argument he relied principally on MKG. In his skeleton argument he put the matter in this way:
"Just as the Investor Beneficiary here receives an equitable interest in Capital One's receivables, MKG received assignments of receivables; but MKG was nevertheless held to be making a supply of factoring, just as the Investor Beneficiary is making a supply of finance."
- In our judgment that argument reflects only part of the court's judgment in MKG. It seems to us to be inherent in its conclusions that it had identified two supplies: of receivables by MKG to the factor; and of its services of collecting the debts and relieving the assignor of the risk of default by the factor to MKG. As we have already said, it is inherent in the court's conclusions that it was satisfied, or at least assumed, that MKG made a supply of the debts to the factor for which the consideration was their face value. There is no difference in principle between that conclusion and the decision reached in Chaussures Bally; the apparent difference is explained by the fact that in the one case there were only two parties and in the other there were three. We do not accept Mr Paines' argument that the decision of the Court of Justice in MKG represents further support for the proposition that COBE did not make a supply of receivables. In our view it is neutral on the point.
- We resolve this issue in favour of the Appellant: if (contrary to our finding on the first issue) COBE made a supply of receivables, it was a supply supported by consideration. It is, of course, a necessary consequence of our conclusion on the first issue that the sums paid by Castle to COBE themselves represented the supply of a loan, and not the consideration for a supply by COBE, but we do not adopt Mr Paines' argument about MKG in reaching that conclusion.
(3) What was the value of any supply COBE made?
- We approach this issue, too, upon the basis that we are wrong in our conclusions on the first issue, and therefore assume that there was a supply of receivables in exchange for consideration. Mr Cordara's starting point was article 11A(1) of the Sixth Directive, which sets out in a simple form the basic rule about the evaluation of the "taxable amount", effectively synonymous with consideration. We do not address the much more complicated domestic implementation of the article, which throws no additional light on the matter we must decide. Article 11A(1) reads:
"The taxable amount shall be:
(a) in respect of supplies of goods and services … everything which constitutes the consideration which has been or is to be obtained by the supplier from the purchaser, the customer or a third party for such supplies including subsidies directly linked to the price of such supplies …"
- What COBE received, Mr Cordara continued, was set out in clause 5 of the Receivables Securitisation Deed, which defined the Purchase Price. It includes, as we indicated earlier, at paragraph 33, the Acceptance Price (the initial £10,000), the Further Payment (the face value of the assigned receivables, less the Acceptance Price), the face value of the Future Receivables and the Deferred Consideration. All of those sums were paid to COBE, in return for assignments of receivables, and they were available to COBE; thus applying Glawe Spiel and FNBC, they must represent the consideration. When COBE's offer of assignment was accepted, Castle paid £10,000. It did so by increasing COBE's interest in the Undivided Bare Trust by that amount, since at that point it did not have the funds to make a cash payment. However, the deeds provide that the obligation to make a payment may be satisfied by Castle's increasing the value of COBE's interest in the trust, and such an increase is within the contemplation of article 11 as something "obtained by the supplier from the producer". As receivables became collections, the proceeds became funds available to Castle—passed back to it by Carlisle for the purpose—by which it could acquire Future Receivables. It was used for that purpose and was correspondingly the consideration for the Future Receivables as they were assigned. Similarly Deferred Consideration, being "obtained by the supplier from the purchaser", was part of the consideration for the receivables.
- Although, as we shall explain, we disagree with Mr Cordara's analysis it is, at least so far, arguable. But his argument went rather further. The consideration received by COBE, he said, included not only the increase in COBE's interest in the Undivided Bare Trust, but also the cash paid to it when that same interest diminished. That argument is, in our view, quite unsustainable. We think the proper view is that such payments merely returned COBE's own property to it (echoing the conclusion we have already reached that COBE's transfers in to the limit were in substance supplies to itself) but if, instead, they are the consideration for anything, they are the consideration for COBE's relinquishing put of its interest in the trust, and not for a supply of receivables. Even if the remainder of Mr Cordara's argument were right, here he is, we are sure, guilty of double-counting.
- We do agree with Mr Cordara that Glawe Spiel and FNBC provide the answer to this question, but we do not agree with his analysis. As these cases make clear, one needs to determine what it is that the supplier has received for himself. If one assumes a supply of receivables in return for consideration, rather than the creation of security as we have in fact determined, we see no difficulty in concluding that the aggregate sum of £700 million which was raised by means of the loan notes and the commercial paper, came into the arrangement from outside, and was passed to COBE for use in its business, is the consideration for that supposed supply. But in our view, that is the limit of the consideration. Nothing else came into the arrangements from outside; all the other money which came into the securitisations, passed through Castle to Carlisle, and then back through Castle to COBE, was the fruits of COBE's exploitation of the £700 million. Whether the proper view is that COBE created the security or that Carlisle did so, the purpose of COBE's continually assigning receivables to Castle was to replace spent receivables (that is those which had become collections) with new receivables, in order to maintain the value of the security. That it did so by means of an elaborate (even if necessarily elaborate) mechanism which involved the circulation of money does not alter, in our view, the true character of what it was doing, namely replacing old receivables by new, in order to maintain the pool.
- We recognise that, had the requirements imposed on those undertaking securitisations permitted, COBE could instead have retained collections and simply injected further receivables into the trust as necessary in order to maintain the value of the pool, without receiving cash payments from Castle, and we recognise too that, as Lex Services indicated, we must not treat differently structured arrangements in the same way merely because they have the same result. We are, however, satisfied that we are not falling into that trap. Superficially, there is a difference between COBE's retaining the money collected from its customers, save for the amount necessary to pay to the investors in respect of interest, and replenishing the stock of receivables on the one hand, and the arrangements into which it actually entered on the other; but the difference is no more than superficial. Although money went into the structure, it did so only in order that it might go round in a circle, with so much of it as was necessary to pay the interest extracted (with the modest payment to Castle and BCTC's fees, necessary because of the structure) before finding its way back to COBE. It is also material to point out that the payments of interest and fees came out of the income and not the capital element of the circulating money, and it was the capital element which was, supposedly used to buy new receivables. In Lex Services, the arrangements involved a third party whose interests were affected, even if to a very limited extent; here, there is no third party in any true sense since all of the participants in the structure, as we have already said, do precisely what COBE commands them to do. COBE's circulating money through the structure has, in our view, no greater significance than a decision to pay money into one bank account rather than another—that is, none. There was no obligation to pay any of it to anyone outside the structure; it had all (save for the payments we have identified) to be returned to COBE. The reality is that it was, and remained, COBE's money, and it is for that reason we have concluded that there is no difference of substance between the two arrangements we have described.
- We therefore conclude, on this issue, that if there was consideration for a supply by COBE of receivables, the value of the supply in the period to 31 March 2002 was £700 million.
(4) Was any supply COBE made " incidental"?
- In order to determine this issue we must first examine the provisions of Article 19 of the Sixth Directive (which we set out at paragraph 76 above) and the domestic implementation of it in, primarily, regulation 103 of the VAT Regulations. That regulation, as it was in force at the material time, read:
(1) Input tax incurred by a taxable person in any prescribed accounting period on goods imported or acquired by, or goods or services supplied to, him which are used or to be used by him in whole or in part in making—
(a) supplies outside the United Kingdom which would be taxable supplies if made in the United Kingdom, or
(b) supplies specified in an Order under section 26(2)(c) of the Act …
shall be attributed to taxable supplies to the extent that the goods or services are so used or to be used expressed as a proportion of the whole use or intended use.
(2) Where—
(a) input tax of the description in paragraph (1) above has been incurred on goods or services which are used or to be used in making both—
(i) a supply within item 1 or 6 of Group 5 of Schedule 9 to the Act, and
(ii) any other supply, and
(b) the supply mentioned in sub-paragraph (a)(i) above is incidental to one or more of the taxable person's business activities,
that input tax shall be attributed to taxable supplies in accordance with paragraph (1) above notwithstanding any provision of any method that the taxable person is required or allowed to use under this Part of these Regulations which purports to have the contrary effect.
(3) For the purpose of attributing to taxable supplies any input tax of the description in paragraph (2) above, it shall be deemed to be the only input tax incurred by the taxable person in the prescribed accounting period concerned."
- The effect of these provisions is that, regardless of the terms of any agreed special method for calculating a trader's recoverable input tax, the attribution is to be based on the use rather than (as COBE's agreed method prescribes) the value of the supplies. It was common ground that the rationale behind the provision, and behind article 19(2) of the Sixth Directive which it is designed to implement, is to prevent distortion of input tax recovery (and the provision exists primarily in order to protect taxpayers). To what extent the imposition of use-based attribution in place of values-based attribution would affect COBE's recovery rate was not explained before us.
- We should first deal, briefly, with the question whether, as the Respondents say, paragraph 2(a)(i) should be interpreted so as to mean a supply with the description set out in item 1 or 6 of Group 5 (only item 1: "The issue, transfer or receipt of, or any dealing with money, any security for money or any note or order for the payment of money" is relevant here) or whether, as Mr Cordara argued, it has a restricted meaning, and includes only supplies which actually fall within the item. The point is significant because, Mr Cordara argued, item 5 applies only to within-country supplies and does not include out-of-country supplies such as those made here (assuming that is, we determine issue (5) in the Appellant's favour).
- On this point, we prefer Mr Paines' argument. The regulation is designed to implement article 19 of the Sixth Directive, which refers to "transactions specified in Article 13B(d)" to which we have already referred and which does not discriminate between within-country and out-of-country supplies. Moreover, a reading of paragraphs (1) and (2) together would make little sense if Mr Cordara were right, since the supplies specified for the purposes of section 26(2)(c) of the Act, by the Specified Supplies Order, are so specified by reference to their descriptions as they are set out in Schedule 9. We are quite sure that here, too, the draftsman intended to utilise the description set out in Group 5. It seems to us quite clear that he did not intend, in paragraph (1), to deal with supplies whose treatment has been mutated by a special provision, and then, and despite linking the two paragraphs, to refer in paragraph (2) only to supplies whose treatment has not been so mutated. Indeed, it is difficult to see how, if Mr Cordara is right, input tax within paragraph (1) could ever be incurred in making supplies within paragraph 2(a)(i).
- Mr Cordara argued that the supplies (if such they are) in this case are, on the facts, incapable of being incidental financial transactions. They are, he said, an ordinary activity frequently engaged in by COBE, and did not have the occasional or sporadic character which is necessary if an activity is to be regarded as incidental. COBE's business was dealing in receivables, and securitisation was itself a dealing in receivables. The value of the consideration it received (assuming it was consideration) of £1.4 billion or more was so great that the epithet "incidental" was quite inappropriate. He relied on Régie Dauphinoise—Cabinet A Forest SARL v Ministre du Budget (Case C-306/94) [1996] STC 1176 in which the taxpayer, a property management company, received advance payments from the owners and tenants of properties it managed. It was required to account for the capital so advanced but, while it held the money, was at liberty to invest it and to retain the interest earned. The court concluded that the investment of such moneys was not incidental to, but a direct and permanent extension of its principal activity. Its reasoning is set out in the judgment at p 1191:
"18. It is true that services such as placements made with banks by the manager of a condominium would not be subject to VAT if supplied by a person not acting as a taxable person. However, in the case at issue in the main proceedings, the receipt, by such a manager, of interest resulting from the placements of moneys received from clients in the course of managing their properties constitutes the direct, permanent and necessary extension of the taxable activity, so that the manager is acting as a taxable person in making such an investment.
- To the extent that Régie's placements with financial institutions are to be regarded as services falling within the scope of VAT, those placements are exempt by virtue of art 13B(d)(1) and (3) of the Sixth Directive.
- It is therefore necessary to consider whether they constitute incidental financial transactions within the meaning of art 19(2).
- The purpose of excluding incidental financial transactions from the denominator of the fraction used to calculate the deductible proportion in accordance with art 19 of the Sixth Directive is to comply with the objective of complete neutrality guaranteed by the common system of VAT. As the Advocate General (Lenz) has observed at para 39 of his opinion, if all receipts from a taxable person's financial transactions linked to a taxable activity were to be included in that denominator, even where the creation of such receipts did not entail the use of goods or services subject to VAT or, at least, entailed only their very limited use, calculation of the deduction would be distorted.
- However, placements by property management companies are the consequence of advances to them by co-owners and lessees for whom they manage their properties. With the consent of their clients, those companies are able to place these moneys for their own account with financial institutions. That is why, as the court has pointed out at para 18 of this judgment, the receipt of interest from those placements constitutes the direct, permanent and necessary extension of the taxable activity of property management companies. Such placements cannot therefore be characterised as incidental financial transactions within the meaning of art 19(2) of the Sixth Directive. To take them into account in order to calculate the deductible proportion would not be such as to affect the neutrality of the system of VAT."
- Mr Cordara's contention was that there was a nearly exact parallel between Régie Dauphinoise and the present case: as Régie had money to invest, so COBE had choses in action to sell, and in each case, the exploitation of those assets was a recurrent and necessary extension of the business. COBE was not alone in exploiting its receivables in this way; as Mr Ingram had said, securitisation is a procedure used by many banks and other institutions for the purpose of raising the funds which are necessary for the running of the business. The test to be derived from Régie Dauphinoise was limited to whether the supply in question was the "direct, permanent and necessary extension" of the taxpayer's business activity; that the value of the supply in question might be high, a factor on which the Respondents relied, did not feature in the court's reasoning and was immaterial.
- Mr Paines argued that COBE's business is the provision of consumer credit by means of credit cards. It cannot be said to be the generation of receivables that it can securitise; it undertakes securitisations for the purpose of enabling it to conduct its business and as a matter of ordinary analysis that leads to the conclusion that the securitisations are incidental. He took us to Empresa de Desenvolvimento Mineiro SGPS SA v Fazenda Pública (Case C-77/01) ("EDM") [2005] STC 65 at 91:
"75. In that regard, it is appropriate to observe that, for the purposes of applying art 19(1) of the Sixth Directive, an increase of the amount of the turnover relating to transactions in respect of which VAT is not deductible leads to a decrease in the amount of VAT which the taxable person may deduct. The purpose of excluding certain incidental transactions from the denominator of the fraction used to calculate the deductible proportion, in accordance with the second sentence of art 19(2), is to neutralise the negative effects for the taxable person of that consequence inherent in the said calculation in order to avoid such transactions distorting that calculation and to thus meet the objective of neutrality guaranteed by the common system of VAT.
76. As the Court of Justice held at para 21 of the judgment in Régie Dauphinoise [1996] STC 1176, if all receipts from a taxable person's financial transactions linked to a taxable activity were to be included in that denominator, even where the creation of such receipts did not entail the use of goods or services subject to VAT, or at least entailed only their very limited use, calculation of the deduction would be distorted.
77. In that regard, it is appropriate to observe that the scale of the income generated by financial transactions within the scope of the Sixth Directive may be an indication that those transactions should not be regarded as incidental within the meaning of the second sentence of art 19(2). However, the fact that income greater than that produced by the activity stated to be its main activity by the undertaking concerned is generated by such transactions does not suffice to preclude their classification as 'incidental transactions' within the meaning of that provision. As the Commission correctly observed, in a situation such as that in the main proceedings, in which the activity of prospecting is profitable in the medium term only or may even prove to be unprofitable and the turnover from transactions in respect of which VAT is deductible may, as a result, be very small, the inclusion of those transactions solely because of the extent of the income they produce would clearly result in distortion of the calculation of the deduction."
- If the purpose of the legislative provisions—in article 19 and in regulation 103—was to prevent distortion, it must follow that the distortive effect upon COBE's partial exemption calculations of including supplies of receivables is a material factor in considering whether they are incidental. It could not be said that the supplies of receivables (assuming there was a supply) consumed any significant amount of input tax yet the inclusion of the supposed consideration in the Appellant's partial exemption calculation had the effect of increasing its recovery rate by a very large amount, as we have already explained.
- We have come to the conclusion on this issue that Mr Cordara's arguments are to be preferred. We accept Mr Paines' point that the inclusion of the supplies of receivables has the effect of distorting—or at least dramatically increasing—COBE's recovery rate. But we do not think it is sufficient to force one to the conclusion that the supplies are incidental, nor do we think that EDM supports the argument, beyond establishing that the effect of the inclusion of the supplies is a factor to consider. Article 19(2), and the domestic legislation which implement it, may be designed to prevent distortion, but it does so not by conferring the discretion on Member States to take measures to prevent distortion, but by reference to whether or not the supply in question is incidental. Thus while the effect of including a particular supply may, as EDM suggests, be a material consideration, it is not the test.
- COBE's business, though it is properly described as the issuing and servicing of credit cards, is in reality the lending of money. In order to pursue that business, it needs itself to raise money, in part by selling its assets or, as we have found, borrowing against them. If it does not have money, it cannot lend it. It makes its profits by exploiting, not tangible assets as in EDM, but the money itself. In our view, COBE's acquiring the money it needs in order to carry on its business of lending is equivalent to a manufacturer's acquisition of the raw materials he needs in order to make his product: it is integral to the business activity. We are satisfied that, if COBE's assignments of receivables amounted to supplies, they would satisfy the Régie Dauphinoise test, and that the test has not been overridden by EDM; rather we think, EDM merely builds on that test. We accordingly resolve this issue in COBE's favour.
(5) Did Castle "belong" in Jersey?
- COBE's claim that it is entitled to recover input tax attributable to its (again supposed) supplies of receivables depends on its being able to establish that those supplies are made "outside the United Kingdom" since otherwise the provisions of section 26(2)(c) of the 1994 Act, the Specified Supplies Order and regulation 103 do not come into play. COBE's case is that Castle is a company incorporated in Jersey, and controlled by Jersey-resident directors; it had and has no presence in the United Kingdom, in the shape of offices or any other establishment, and did and does not carry on business in the UK. Particularly, it has no contractual relationship with COBE's customers. Mr Cordara disputed Mr Paines' contention that COBE itself provides a fixed establishment in the UK for Castle, at its own offices in Nottingham, which was based upon his contention that of the two competing possibilities—Jersey and Nottingham—Nottingham should be preferred. Although Castle is incorporated in Jersey, it has no offices or staff of its own, but is entirely dependent on BCTC for its administration. It has appointed COBE to service the designated accounts on its behalf and the task is undertaken in Nottingham; thus, Mr Paines argued, the receivables are used (in the sense of exploited) in the UK and there is no supply to Jersey.
- Our examination of this issue must begin with article 9 of the Sixth Directive which, so far as material, is as follows:
"1 The place where a service is supplied shall be deemed to be the place where the supplier has established his business or has a fixed establishment from which the service is supplied or, in the absence of such a place of business or fixed establishment, the place where he has his permanent address or usually resides.
2 However: …
(e) the place where the following services are supplied when performed for customers established outside the Community or for taxable persons established in the Community but not in the same country as the supplier, shall be the place where the customer has established his business or has a fixed establishment to which the service is supplied or, in the absence of such a place, the place where he has his permanent address or usually resides: …
—banking, financial and insurance transactions …"
- That provision is implemented in domestic law by section 9 of the 1994 Act and article 16 of the Value Added Tax (Place of Supply of Services) Order 1992 (SI 1992/3121). Section 9, so far as relevant, reads:
"(1) Subsection (2) below shall apply for determining, in relation to any supply of services, whether the supplier belongs in one country or another and subsections (3) and (4) below shall apply … for determining, in relation to any supply of services, whether the recipient belongs in one country or another.
(2) The supplier of services shall be treated as belonging in a country if—
(a) he has there a business establishment or some other fixed establishment and no such establishment elsewhere; or
(b) he has no such establishment (there or elsewhere) but his usual place of residence is there; or
(c) he has such establishments both in that country and elsewhere and the establishment of his which is most directly concerned with the supply is there.
(3) If the supply of services is made to an individual and received by him otherwise than for the purposes of any business carried on by him, he shall be treated as belonging in whatever country he has his usual place of residence.
(4) Where subsection (3) above does not apply, the person to whom the supply is made shall be treated as belonging in a country if—
(a) either of the conditions mentioned in paragraphs (a) and (b) of subsection (2) above is satisfied; or
(b) he has such establishments as are mentioned in subsection (2) above both in that country and elsewhere and the establishment of his at which, or for the purposes of which, the services are most directly used or to be used is in that country.
(5) For the purposes of this section (but not for any other purposes)—
(a) a person carrying on a business through a branch or agency in any country shall be treated as having a business establishment there; and
(b) "usual place of residence", in relation to a body corporate, means the place where it is legally constituted.
And article 16 of the 1992 Order, so far as relevant is:
"Where a supply consists of any services of a description specified in any of paragraphs 1 to 8 of Schedule 5 to the Act, and the recipient of that supply—
(a) belongs in a country, other than the Isle of Man, which is not a member State; …
it shall be treated as made where the recipient belongs."
- It was common ground that, if the assignments of receivables amount to supplies, they come within article 9(2)(e) of the directive and paragraph 5 of Schedule 5 to the 1994 Act ("Banking, financial and insurance services …") and that the criteria set out in the foregoing provisions apply. Thus the focus of enquiry is primarily on the place in which the customer (the assignee in this case) has his "business or fixed establishment" with (Mr Paines argued) a secondary focus (pace section 9(4)(b)) on the place where the supplies are to be used.
- The case-law on the subject begins with Berkholz v Finanzamt Hamburg-Mitte-Aldstadt (case 168/84) [1985] ECR 2251 but the principles to be derived from that case were set out and expanded upon in the following extracts from the European Court's judgment in DFDS:
"16. As regards the place of taxation, art 26(2) provides that the services of a travel agent are to be taxable in the member state in which the travel agent has established his business or has a fixed establishment from which the travel agent has provided the services.
17. As has been pointed out by all the participants in these proceedings, that provision uses the same concepts of place where a supplier's business is established and fixed establishment as those used in art 9(1) of the Sixth Directive to define the two main fiscal points of reference which may be applied to supplies of services in general. It is therefore appropriate to refer to the rules arising from that definition of place of supply.
18. As the court stated in para 14 of its judgment in Berkholz at 2262, art 9 is designed to secure the rational delimitation of the respective areas covered by national VAT rules by determining in a uniform manner the place where services are deemed to be provided for tax purposes and in particular to avoid conflicts of jurisdiction between member states.
19. It is for the tax authorities of each member state to determine, from the range of options set forth in the Sixth Directive, which point of reference is most appropriate to determine tax jurisdiction in respect of a given service. According to art 9(1), the place where the supplier has established his business is a primary point of reference inasmuch as regard is to be had to another establishment from which the services are supplied only if the reference to the place where the supplier has established his business does not lead to a rational result for tax purposes or creates a conflict with another member state (see Berkholz (at 2263, para 17)).
20. Moreover, services cannot be deemed to be supplied at an establishment other than the place where the supplier has established his business unless that establishment is of a certain minimum size and both the human and technical resources necessary for the provision of the services are permanently present (see Berkholz (at 2263, para 18)) …
23. As the Advocate General points out in paras 32 to 34 of his opinion, consideration of the actual economic situation is a fundamental criterion for the application of the common VAT system. The alternative approach for determining the place of taxation of the services of travel agents, based on the fixed establishment from which these services are supplied, is specifically intended to take account of the possible diversification of travel agents' activities in different places within the Community. Systematic reliance on the place where the supplier has established his business could in fact lead to distortions of competition, in that it might encourage undertakings trading in one member state to establish their businesses, in order to avoid taxation, in another member state which has availed itself of the possibility of maintaining the VAT exemption for the services in question …
25. In order to determine whether, in circumstances such as those of this case, the travel agent actually has such an establishment in the member state in question, it is necessary first to ascertain whether or not the company operating in that state on behalf of the agent is independent from him."
- Mr Cordara argued that two of the criteria identified by the Court in DFDS were not met. Castle operated independently from COBE and, whatever view one might take of COBE's supplies to it, Castle did not itself make any supplies within the UK. There was no need to depart from the conclusion that Castle was established in Jersey, where it was incorporated and controlled, since the reasons for doing so outlined by the court at paragraph 19 of its judgment in DFDS did not exist.
- Mr Paines' argument began with the premise, drawn from the opinion of the Advocate General (Poiares Maduro) in RAL (Channel Islands) Limited and others v Customs and Excise Commissioners (Case C-452/03) [2005] STC 1025 at 1037, paragraph 44, "… it is necessary to undertake an analysis that is especially responsive to the factual economic and commercial reality of the case". He referred to us, too, the observation of the Court of Justice in ARO Lease BV v Inspecteur der Belasting dienst Grote Ondernemingen, Amsterdam (Case C-190/95) [1997] STC 1272, at paragraph 19 of the judgment:
"… when a leasing company does not possess in a member state either its own staff or a structure which has a sufficient degree of permanence to provide a framework in which agreements may be drawn up or management decisions taken and thus to enable the services in question to be supplied on an independent basis, it cannot be regarded as having a fixed establishment in that state.
- He relied too on a further passage from paragraph 26 of the judgment in DFDS:
"The fact, mentioned by the tribunal, that the premises of the English subsidiary, which has its own legal personality, belong to it and not to the Danish company is not sufficient in itself to establish that the subsidiary is in fact independent from the Danish company. On the contrary, information in the order for reference, in particular the fact that DFDS's subsidiary is wholly owned by it and as to the various contractual obligations imposed on the subsidiary by its parent, shows that the company established in the United Kingdom merely acts as an auxiliary organ of its parent.
- Both ARO Lease and DFDS are cases in which the Court was required to decide which of two establishments, one in each of two member states, was properly to be considered the "fixed establishment". The facts of ARO Lease differ from those here, since the company operated both in the Netherlands (where its head office was situated) and in Belgium, where it had no office. It was introduced to its customers by intermediaries who, following the introduction, took no further part in the arrangements. All of the administration was performed by the company itself, in the Netherlands. Unsurprisingly, the Court concluded (in what was, in reality, a dispute between the Dutch and Belgian tax authorities) that the fixed establishment was in the Netherlands. The facts of DFDS differ too, though perhaps to a lesser degree, in that the issue was whether the UK subsidiary of a Danish parent had its fixed establishment in Denmark or in the UK. The court said that there must be a sufficient presence in the UK, in the shape of human and technical resources, for the UK to be regarded as the subsidiary's fixed establishment. The court also observed that the ownership of premises alone was not enough; the subsidiary had to show "the requisite minimum size in terms of human and technical resources".
- That, said Mr Paines, was sufficient for his argument on this issue to succeed: Castle has no human or technical resources. It is not independent from COBE; it must do as COBE requires. As a matter of accepted fact, it processes instructions provided to it daily by COBE, those instructions being derived from processes undertaken by COBE's computer in Nottingham (although it also processes the monthly instructions provided by COBUS). With the limited exception of the preparation of the monthly instructions, all the work of servicing the receivables is undertaken in Nottingham. Even if it is not clear that Castle's fixed establishment is properly to be regarded as situated in Nottingham, recourse to the alternative determination, that of the use of the supply, must lead to that result. The subject of the supply—the receivables—is collected in Nottingham since customers are required to, and do, continue to make their payments to COBE and not to Castle. Thus, if there is a choice to be made between Nottingham and Jersey, and there is otherwise doubt, section 9(4) comes into play, and must resolve the question in favour of Nottingham.
- We accept that there is a good deal in Mr Paines' arguments. As we recorded at paragraph 60 above, Castle has little substance in Jersey, beyond its being incorporated there, and its having Jersey-resident directors, and it has no real discretion but must do as COBE requires. Nevertheless, it has a presence in the UK only if it is treated as being established in COBE's offices in Nottingham. Unlike DFDS's parent and ARO, it is not actively carrying on any business of its own in another territory; thus Mr Paines' argument succeeds only if we are persuaded that its contracting with COBE that the latter will service the receivables has the consequence that Castle must be considered to have a fixed establishment in the UK. While we see the force of his argument, we do not think the facts of this case lead to that conclusion. Traders commonly outsource tasks to others, and may well do so across national borders. It does not seem to us to follow that the organisation to which a task has been outsourced, for that reason, becomes a fixed establishment of its customer. It is true that the magnitude of the outsourcing here is considerable, but it does not seem to us that its magnitude affects the principle. We think there is merit in Mr Cordara's point that Castle is not dissimilar from the taxpayer in Polysar Investments; it was a financial holding company. The processing of designated accounts is a necessary function, but it is not the essence of the business itself. We are not, therefore, persuaded that Castle can be said to have a fixed establishment in the UK. The use-based method of determination does not arise since, as section 9(4)(b) indicates, it can be used to resolve the doubt only where there are two or more establishments from which to choose.
- We conclude, therefore, that Castle "belongs" in Jersey.
(6) Was the value of COBE's exempt supplies correctly excluded from its partial exemption calculation?
- We can deal with the issue briefly, since Mr Cordara recognised that the Appellant was on weak ground. It arises from COBE's exclusion from the denomination of its partial exemption calculation of the value of its exempt supplies of credit to its cardholders whose accounts have been designated—that is, the interest and charges levied against those customers. The effect of the exclusion is to increase the proportion of its residual input tax which COBE can recover. We did not altogether learn the rationale behind its adopting that course though it seems to be that since the interest and charges, as soon as they were received, had to be put into the trust, they could not form part of COBE's turnover. We were told that other supplies had also been excluded, though not necessarily for the same reason. That may be true as a matter of fact, and it may also be true that, if any one of the excluded supplies is brought into the calculation, so must the others, but we do not need to explore that point further.
- Mr Paines' argument, which Mr Cordara effectively conceded and which seems to us unarguable, is that the supplies of credit to COBE's customers who have designated accounts could legitimately be excluded only if these supplies were, on a correct analysis, made by Castle, or the customers were in fact required to pay no interest or charges. The latter is, obviously, not the case and there does not seem to us to be any basis—nor was any advanced—on which it might be concluded that Castle was making supplies of credit to the customers. One obvious objection to the proposition is that it does not have regulatory permission to do so.
- In our view there can be no doubt, however, one views the structure of the securitisations, that COBE continues to grant credit to its customers notwithstanding the designation of their accounts. Indeed, the agreements, as we have recorded, require it to maintain its contractual relationships with its customers. It must follow that the value of its supplies to its customers are to be included in the calculation of its recoverable residual input tax, and that its exclusion of that value was wrong. We express no view about the correctness of the exclusion of the other supplies we have mentioned, since the matter was not explored before us.
Conclusions
- In summary, our conclusions are:
(1) COBE's assignment of the Receivables to Castle did not constitute a supply within the meaning of article 4(2) of the Sixth Directive or of section 5(2) of the Value Added Tax Act 1994, but amounted to no more than the granting of security for a loan—alternatively it was a "supply" by COBE to itself, not recognised as an economic activity;
(2) If that conclusion is wrong, and there was a supply as that term is understood in the context of VAT, it was made in return for consideration;
(3) The value of the supply in the case of each securitisation was £350 million;
(4) The supply (assuming one was made) was not incidental to COBE's business activities;
(5) Castle "belongs" in Jersey;
(6) COBE's exclusion of its exempt supplies to its cardholders from its partial exemption calculations is incorrect.
- The outcome is that the appeal must be dismissed. Mr Paines did not address us on the question of costs. As we see the matter, it is a case in which it would be appropriate for us to make a direction in the Respondents' favour, should they so wish.
COLIN BISHOPP
CHAIRMAN
Release Date: 9 September 2005
MAN/03/0628
