Supreme Court denies compound interest in taxpayer's claim against HMRC

In Littlewoods Ltd and others v HMRC [2017] UKSC 17, the Supreme Court delivered a controversial decision  allowing HMRC's appeal, which means that the taxpayer's claim for compound interest of £1.2 billion against HMRC fails.

The Supreme Court held that (i) the taxpayer's common law claim for restitution (which would have allowed for compound interest) is excluded by the statutory regime in the Value Added Tax Act 1994 (VATA 1994), and (ii) that statutory regime, which provides for the payment of simple interest only, did give the taxpayer an "adequate indemnity" for the loss suffered by the taxpayer as required by EU law.

This decision has two important consequences for the estimated 5,000 claims by companies against HMRC that are stayed pending the resolution of Littlewoods, in connection with VAT and other taxes. HMRC will likely now invite taxpayers with VAT related compound interest claims to withdraw them.

In relation to compound interest claims in connection with other taxes, it is likely that HMRC will argue that the decision has general application, in particular where similar provisions exist which restrict the remedy available to taxpayers to the statutory regime and the payment of simple interest only.

Introduction

When tax is charged contrary to EU law, EU law requires Member States to give an "adequate indemnity" for the losses suffered by the taxpayer, which requires the repayment of the principal sum plus interest.

Under domestic legislation, claims for overpayment of output VAT are governed by section 80 of VATA 1994, which provides an exhaustive remedy for obtaining repayment of overpaid VAT from HMRC and in particular, excludes common law remedies such as restitution.

The interest to be paid on any repayment of overpaid VAT is set out in section 78 of VATA 1994. The rates applicable are set out in Regulation 8 of the Air Passenger Duty and Other Indirect Taxes (Interest Rates) Regulations 1998 and are calculated on a simple basis.  The rates (relevant to the claims in Littlewoods) range between 6 and 15 per cent.

In essence, the Littlewoods litigation concerned whether the scheme provided for under ss.78 and 80 of the VATA 1994 provides an adequate indemnity under EU law, and if not, what is an adequate indemnity.

The Facts

During the period 1973 to 2004, Littlewoods Ltd and other companies in the same group (together, Littlewoods) overpaid a total of some £204 million in VAT to HMRC contrary to EU law.  HMRC repaid the principal sums plus simple interest of over £250 million at the rates provided for in section 78 of VATA.  In 2007, Littlewoods made claims against HMRC to recover in restitution the time value of the VAT which they wrongly paid in the order of £1.2 billion.  The claims represented compound interest on the overpayment of VAT during the period to the extent that it exceeded the simple interest already paid by HMRC.

The Decision

The Supreme Court gave judgment on the following two issues:

• Issue 1: Were Littlewoods' restitution claims excluded by sections 78 and 80 of VATA 1994 as a matter of English law and without reference to EU Law?
• Issue 2: If Littlewoods' restitution claims were excluded by sections 78 and 80 VATA 1994, was that exclusion contrary to EU law? Specifically, notwithstanding the right to interest under section 78 VATA 1994, did that exclusion violate the principle of effectiveness by depriving Littlewoods of an adequate indemnity for the loss occasioned through the undue payment of VAT?

On Issue 1, the Court found that Littlewoods was prevented from bringing a common law claim for restitution as a matter of English law without reference to EU law:

• In relation to the right to repayment of overpaid VAT under section 80 VATA 1994, the Court found that section created a specific remedy for taxpayers who have overpaid VAT subject to certain limitations, such as the four year time limit in which claims may be brought and statutory passing-on defence for HMRC. Because those limitations would have no equivalent in a common law claim, and would therefore be defeated if it were possible for the taxpayer to bring such a claim, Parliament could not have intended the special regime in section 80 to be capable of circumvention in that way.
• In relation to the payment of interest under section 78, Littlewoods argued that the reservation in section 78(1) ("if and to the extent that they would not be liable to do so apart from this section") created a liability for HMRC to meet a claim for interest existing apart from section 78, such as one based on restitution (which allows the award of compound interest).  This was rejected by the Court.  Applying a purposive approach to construction, it was held that since the scheme created by section 78 is inconsistent with the availability of concurrent common law claims to interest, it must therefore be interpreted as referring only to statutory claims and impliedly excluding common law claims.

On Issue 2, the question for the Supreme Court was the proper interpretation of the CJEU judgment delivered on 19 July 2012 (pursuant to a reference made by the High Court in this case). The Supreme Court held that on a proper interpretation of the judgment, the payment of simple interest could not be regarded as having deprived Littlewoods of an adequate indemnity in this case.

In reaching that conclusion, the Court formed a different view as to the meaning of "adequate indemnity" in the CJEU judgment from that applied in the lower courts. It was held that, construed in the wider context of the CJEU judgment, "adequate indemnity" has a broader meaning than that of "full reimbursement" (contrary to the findings of the lower courts).

The Supreme Court found that the national courts of Member States are given a discretion by the CJEU to provide reasonable redress, which discretion is not tied to the idea of full compensation for the time value of money (i.e. compound interest).  The Court gave three reasons for this conclusion:

• The structure of the CJEU judgment.  The Court said that there was no general principle of EU law that there must be full reimbursement of the use value of money, and noted that the CJEU judgment suggested that the payment of a substantial amount of interest in a claim for repayment over 125% of the principal sum might constitute reasonable redress.  In this regard, the Court repeatedly referred to the fact (as noted by the CJEU) that the simple interest already paid by HMRC was over 125% of the principal tax.
• Widespread practice in Member States of awarding simple interest on unlawfully levied tax.  The Court said that if the CJEU had been seeking to outlaw the award of simple interest, it would have used clear words to that effect (which words were absent from the judgment).
• The Court's interpretation of the CJEU judgment is consistent with prior and subsequent case law, where the CJEU had held that the payment of interest is a matter to be settled in national law.

Given that HMRC were successful in their appeal on Issue 2 (which meant Littlewoods failed to establish a claim), the outstanding issues on quantum were not relevant to this case and were not considered by the Court.

Next steps

It is likely that HMRC will publish a statement shortly indicating their view on how the decision should be applied to claims for compound interest in connection with VAT and other taxes.  It is likely that HMRC will invite claimants for compound interest to discontinue their claims (at least where the underlying principal amounts are overpaid VAT). Other claimants will need to consider whether their claims are excluded by statutory regimes comparable to the VAT regime and to form a view as to whether to withdraw their claims or continue to defend them (which could have adverse cost consequences).