Credit notes – what are they?

If you issue Credit Notes, to reclaim over £5m of VAT, you should expect HMRC to query them, especially if you do not refund the money to clients.

I would expect HMRC to make some comment on the joined cases of Inventive Tax Strategies Ltd (In Administration), Professional Advice Bureau Ltd (In Administration), Sterling Tax Strategies Ltd (In Liquidation), and Bell Strategies Ltd (In Liquidation). The companies were involved in SDLT tax avoidance schemes, with around 3,000 subscribers, mainly private individuals. The schemes were challenged by HMRC, and their decisions not Appealed. The companies therefore had a liability to refund fees collected from clients, presumably under a contingent fee arrangement, although this is not explicit in the decision.

The companies entered into insurance agreements, which would pay out in the event that the avoidance schemes were unsuccessful. The insurer, the International Insurance Company of Central America, established in Belize, was subsequently dissolved, meaning the Appellant companies’ claims could not be settled, even if they met the terms of the policies.

The Appellant companies issued credit notes, to reflect the fact the reduction in fees due from clients. Unfortunately, the companies did not have funds to make refunds to clients. The Tribunal followed the ECJ decision in Freemans plc [2001] STC 960, which held that, unless the client does receive a refund, there is no reduction in the price, and the supplier can claim no refund of output tax. Paras 36 & 37 of the decision explain this.

One wonders where the £5m claimed from HMRC would have gone, had it been repaid!

 (The decision looks at the four different client contracts entered into, and makes some comments in relation to them, but this does not alter the main decision.)

Credit notes have to evidence a refund to clients; they cannot be used just to evidence an entitlement to a refund.  

The joined cases are here: http://financeandtax.decisions.tribunals.gov.uk//Aspx/view.aspx?id=10062