The courts have recently considered the scope of the financial services exemption and whether it covers loan administration services provided by Target Group Ltd (Target) to a bank.
While references in the court case are to EU legislation, the report makes the point that it made no distinction between this and UK legislation and so I have referred to UK legislation here as that will be more familiar to readers.
Group 5 of Schedule 9 to VATA 1994 exempts from VAT:
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
2 – the making of any advance or the granting of any credit
2A – the management of credit by the person granting it
8 – the operation of any current, deposit or savings account.
There are other financial services included in the exemption but the above are referred to in the court case.
What does Target do?
Target administers loans made by Shawbrook Bank Limited (Shawbrook). This administration includes operating individual loan accounts and instigating and processing payments due from borrowers.
It operates bank accounts on behalf of Shawbrook and is responsible for matching payments to individual loan accounts and identifying missing payments.
Target is responsible for generating instructions for direct debit payments, and also accepts payment by debit card and cheque. Target is also responsible for calculating the interest due on the loans and for calculating and applying any fees.
The company has a certain amount of authority to negotiate how missed payments will be dealt with but severe cases are referred to Shawbrook. Only Shawbrook has the right to change the terms of a loan and to decide whether to take legal action.
The arguments for exemption
Target contended that the work it did fell within the VAT exemption, specifically because the company:
- gives instructions that automatically and inevitably result in payment from the borrowers’ bank accounts to Shawbrook’s bank accounts via BACS
- inputs entries into the borrowers’ loan accounts with Shawbrook.
One issue is that, even if the above two activities do fall within the exemption, these are not the only services supplied by Target. It could be argued that its services form a composite supply of “debt collection”, which is specifically excluded from the exemption, or a supply of “management of credit”, which is only exempt if it is made by the person providing the credit.
The story so far
In 2018, the first tier tribunal (FTT) found that, while the supply did include some elements that would fall within the exemption if supplied alone, the predominant nature of the supply was debt collection and so it was standard-rated.
In 2019, the upper tribunal (UT) held that the supplies were actually those of processing payments and inputting accounting entries in the loan accounts. As they did not change either party’s legal or financial position; they did not fall within the exemption. As all the elements of the supply were therefore standard-rated, there was no need to consider whether this was a single supply of debt collection.
In 2021, the Court of Appeal upheld the decision of the UT.
Supreme Court consideration
The Supreme Court considered a vast amount of case law including Sparekassernes Datacenter (SDC), FDR, Axa ECJ, Nordea Pankki, Bookit, and DPAS.
The case law led them to these key points:
- Terms used to specify exemption must be interpreted strictly as they constitute exceptions to the general rule that VAT should be levied on all services.
- Due to the requirement for narrow interpretation of the exemption, for it to apply, the services must have the effect of transferring funds and changing the legal and financial situation of the parties. It is not enough to give instructions to trigger a transfer or payment. “Actual execution is necessary” and “Merely giving an instruction is not sufficient”.
The court’s conclusion
The court concluded that Target is processing payments and inputting accounting entries in loan accounts. Neither of those supplies is covered by the VAT exemption and the supply is therefore standard-rated.
In most circumstances, although perhaps not all, this means that only services provided by a bank or similar financial services institution will ever fall within these parts of the exemption.
