Royal and Sun Alliance Insurance Group plc (Respondents) v. Her Majesty's Commissioners of Customs and Excise (Appellants).

Under regulation 109 of the Value Added Tax Regulations 1995, an input-tax adjustment requires the goods or services originally intended for exempt supplies to be the same goods or services later used, or intended to be used, for taxable supplies.

Where accommodation is supplied under a lease for periodical consideration, the time-of-supply rules treat each period as a separate and successive supply. A later election to waive exemption cannot alter the intended use of supplies relating to periods which have expired. A failure to make the intended exempt outputs does not retrospectively make those inputs components of a later taxable activity.

The respondent insurance group held five leasehold properties which became surplus. Its landlords had elected to waive VAT exemption, so VAT was charged on rent and service charges. The respondent initially intended to make exempt sublettings and did not deduct that input tax. After the properties had remained vacant, it elected in November 1995 to waive exemption and subsequently made taxable sublettings. It sought repayment under regulation 109 of the Value Added Tax Regulations 1995 for input tax incurred during the earlier vacant, unelected periods.

The VAT and Duties Tribunal rejected the claim: [1999] V & DR 336. Park J allowed the taxpayer's appeal: [2000] STC 933. A majority of the Court of Appeal affirmed that decision: [2001] STC 1476. The central issue was whether the later intention concerned the same goods or services as those supplied during the expired periods.

1. Appeal allowed by a majority of three to two. Lord Hoffmann and Lord Walker of Gestingthorpe delivered the principal majority speeches. Lord Steyn agreed with both and would restore the Tribunal's decision. Lord Woolf and Lord Clyde dissented.

2. Per Lord Hoffmann, regulation 109 of the Value Added Tax Regulations 1995 requires identity between the particular goods or services first intended for exempt outputs and those later used, or intended to be used, for taxable outputs. The provision permits a change of intention concerning an existing input. It does not permit a taxpayer to form a new intention about an input which has already been used or has passed into history.

3. Per Lord Hoffmann and Lord Walker, section 6(14) of the Value Added Tax Act 1994 and regulations 85 and 90 treat accommodation supplied for periodical consideration as separate and successive supplies. The supplies received during each vacant, unelected period were therefore distinct from supplies received after the election. Once a period of occupation had expired, the respondent could not use or intend to use that period's supply in making a later taxable subletting.

4. Per Lord Hoffmann, exempt letting and taxable letting are different economic activities for VAT purposes. Principles permitting deduction of costs incurred for an intended taxable activity did not assist a taxpayer whose claim necessarily assumed an original intention to make exempt supplies. Failure to achieve the intended exempt outputs did not itself create a right to deduct. Inputs of a permanent nature which remained available for the later taxable activity might, by contrast, qualify for adjustment.

5. Per Lord Hoffmann, Svenska International plc v Customs and Excise Commissioners [1999] 1 WLR 769 depended on the special statutory reconstruction required by VAT grouping. It did not permit retrospective reattribution merely because the nature of an economic activity later changed.

6. Lord Woolf and Lord Clyde considered that the properties and the intended economic activity of subletting remained the same, that the vacant properties had not been used or consumed, and that regulation 109 therefore authorised the adjustment. The majority rejected that analysis because it failed to give decisive effect to the separate-and-successive-supply rules.

7. The Tribunal's decision was restored. The orders for costs below were undisturbed and no order for costs was made in the House.

1. House of Lords: The Commissioners' appeal was allowed by a majority of three to two. The Tribunal's decision was restored: [2003] UKHL 29.

2. Court of Appeal: By a majority, Aldous and Sedley LJJ, Arden LJ dissenting, the court upheld Park J's decision in favour of the taxpayer: [2001] EWCA Civ1476; [2001] STC 1476.

3. High Court: Park J allowed the taxpayer's appeal, holding that the necessary direct and immediate link existed: [2000] STC 933.

4. VAT and Duties Tribunal: The Tribunal upheld the Commissioners' rejection of the repayment claim because the necessary direct and immediate link was absent: [1999] V & DR 336.