Mergers and acquisitions (M&A) are ripe for a comeback. But the costs behind such a move may still prove prohibitive. However, one recent and potentially pivotal court case – the First-Tier Tribunal decision that airports operator BAA can claim back from HM Revenue & Customs (HMRC) the VAT it incurred on the cost of its acquisition by Spanish rival Ferrovial – may prove one way to lessen the impact and facilitate more deals.
In BAA’s case, the takeover was carried out by Ferrovial through a newly incorporated company which acquired all of BAA incurring acquisition costs of £38m, most of which were fees payable to a bank. This new company registered for VAT on the grounds that its intended business activity would be for “supplies only to other members (within the BAA VAT group) totalling £100,000 annually”, and joined the BAA VAT group within a few months of the takeover. The group then claimed back the £6.7m in VAT incurred on the acquisition costs, which HMRC disputed in the tribunal. But how might the ruling in BAA’s favour – which Peter Mason, head of VAT at CMS Cameron McKenna hailed as “a victory for the taxpayer” – affect other companies now eyeing up potential acquisition targets?
What happened in the BAA case isn’t entirely uncommon, according to Alan Sinyor, head of VAT at Berwin Leighton Paisner, but it is an extremely difficult area of VAT law.
“Essentially, a new company can buy and hold the shares in the target company, in which case it can’t recover VAT on the acquisition costs from lawyers, accountants and so on, as they’ll relate solely to the share purchase,” Sinyor says. “Or, the new company can make supplies or provide management services to the VAT group – generally, it can recover VAT in this case.”
The question here, he says, is when you have a new company that does both, do you relate the costs to the shares, where you cannot recover VAT, or to the supply of services where you can – or both?
Marc Welby, VAT partner at BDO, cautions that a number of companies have received assessments from HMRC over bid costs – so any company thinking of a takeover by a similar method must structure it carefully.
“If a new company is being formed to mount a bid it should be established as soon as possible before liaising with advisers over the acquisition,” he says. “Typically, by the time advisors’ fees are billed, the bid has been concluded and the new company is registered for VAT and part of the VAT group. However, the new company can’t just passively hold shares.”
With the European Commission looking to change the UK VAT grouping rules, Welby says that if it succeeds, the new rules would “make it even more crucial that the new company should be set up with the intention to actively manage the group it acquires – incurring management fees and so on. That’s more important than even the VAT grouping; if a company incurs VAT on costs, it can only recover them to the extent of its VAT-taxable activity.”
Other implications may rise out of the BAA ruling. While there will not be any knock-on effects for other taxes, Mason explains that in future HMRC may scrutinise the charges levied by banks for their services more carefully. He says, “Even though a bank may call certain transactions ‘advisory’, HMRC could look to see if there is an underlying financing or share purchase transaction in mind. If there is, costs could rise if banks pass on to their customers the irrecoverable VAT on their cost base,” he warns.
But one should not expect the BAA decision to set a precedent as it stands, says Chas Roy-Chowdhury, head of taxation at ACCA. “There is still some way to go. An HMRC appeal could go all the way to the Supreme Court or the European Court of Justice,” he says.
And HMRC has indicated its intention to appeal the tribunal ruling, a move which does not surprise Sinyor who notes that there are valid arguments on both sides. Welby agrees that the case will not necessarily set a precedent for others.
“It’s far too early to tell,” he says. “However, the case is persuasive, and will certainly offer hope to other companies in a similar position.”
But with the current tribunal ruling pointing the way for recovery of VAT on takeover costs, could companies be encouraged to put their M&A plans firmly back on track as a result? CMS Cameron McKenna’s Mason doesn’t think so.
“The driver for M&A deals is commercial, not tax,” he says. “The tax treatment may be a factor but it is usually the tail and not the dog, unless the tax burden is so high that businesses decide to relocate.”
Welby concurs. “Tax recovery is less likely to be an encouragement to undertake a deal – the weakness of the pound is much more attractive for foreign takeovers of UK companies, which are now substantially cheaper than two years ago,” he says.
But Roy-Chowdhury believes there must be some benefit. “The ruling wasn’t ground-breaking, but it will be a mild shot in the arm for the M&A market,” he says. “Tax recovery wouldn’t be a primary motive for companies to make an acquisition but any reduction in the cost of acquisition is good.”
Read the tribunal document here
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