The Commissioners for Her Majesty's Revenue And Customs v British Telecommunications Plc

Article 11C(1) of the Sixth VAT Directive conferred a directly effective right to proportionate VAT bad debt relief. Member States could prescribe formal conditions and make a limited derogation for non-payment. They could not impose an insolvency condition whose practical effect was to exclude broad classes of genuine small debts.

Where domestic machinery was adapted to enforce that right, the court could not add a reasonable-time limit absent from national law. Nevertheless, legislation could close the scheme prospectively. Closure did not infringe legitimate expectations where a prudent and circumspect operator should have foreseen repeal and received adequate notice. VAT properly due when a supply was made did not become an overpayment under section 80 of the Value Added Tax Act 1994 merely because the customer later defaulted.

British Telecommunications plc claimed VAT bad debt relief in March 2009 for supplies made between January 1978 and March 1989. Its customers had failed to pay, but the statutory insolvency condition governing the Old Scheme had not been satisfied. The claim depended on a directly effective right under article 11C(1) of the Sixth VAT Directive.

The Upper Tribunal determined three preliminary issues. It held that the claim was barred by section 39(5) of the Finance Act 1997 as a matter of domestic law, but that the provision had to be disapplied because inadequate notice had been given before the Old Scheme closed. It also held that section 80 of the Value Added Tax Act 1994 did not provide an alternative basis for the claim.

HMRC appealed on direct effect, proportionality, an alleged reasonable-time requirement and the effect of section 39(5). BT cross-appealed on section 80. The central dispositive question was whether closing the Old Scheme on 19 March 1997 unlawfully curtailed BT's directly effective EU rights.

1. HMRC's appeal was allowed on preliminary issue 2; its other grounds were dismissed. BT's cross-appeal was dismissed. The court unanimously held that section 39(5) of the Finance Act 1997 applied to BT's claim and did not have to be disapplied. The claim made in March 2009 was therefore barred.

2. Article 11C(1) of the Sixth VAT Directive was directly effective. The required reduction was arithmetically proportionate to the unpaid consideration. Conditions determined by Member States concerned formalities and proof rather than alteration of the substantive entitlement. The limited derogation for total or partial non-payment could not be used to deprive taxpayers objectively entitled to relief.

3. The Old Scheme's insolvency condition was disproportionate, unreasonable and unjustified. It identified a bad debt by the debtor's formal status rather than by whether the debt could reasonably be regarded as bad. Its predictable practical effect was to exclude many genuine small debts, particularly where insolvency proceedings were unavailable or commercially irrational. It therefore infringed directly effective EU rights.

4. No general EU-law requirement to claim within a reasonable time could be inserted into the adapted domestic machinery. Sections 12 and 22 and their regulations supplied the procedural route. Once the insolvency-dependent time mechanism was disapplied, domestic law supplied no replacement limit.

5. Section 39(5) nevertheless lawfully closed the Old Scheme. Per Rimer LJ, BT had been able to enforce its rights for many years. The New Scheme made eventual repeal foreseeable, and the November and December 1996 announcements supplied nearly four months' notice. A prudent and circumspect operator in BT's position had ample opportunity to claim. Kitchin and Christopher Clarke LJJ agreed and emphasised that the assessment concerned BT's own legitimate expectations, not the time another taxpayer might need to satisfy the invalid insolvency condition.

6. Section 80 of the Value Added Tax Act 1994 did not apply. Output tax was due when the supplies were made. A customer's later default created a possible bad debt relief claim but did not retrospectively turn the original payment into tax that was not due. The extension in section 121 of the Finance Act 2008 was consequently unavailable.

• Court of Appeal: HMRC's appeal was allowed on preliminary issue 2 but dismissed on the other challenged issues. BT's cross-appeal was dismissed: [2014] EWCA Civ 433.
• Upper Tribunal (Tax and Chancery Chamber): Warren J and Judge Charles Hellier held that section 39(5) of the Finance Act 1997 barred the claim domestically but had to be disapplied because insufficient notice had been given. They held that section 80 of the Value Added Tax Act 1994 did not apply. No citation was stated.
• First-tier Tribunal (Tax Chamber): BT appealed HMRC's refusal. Three preliminary issues were transferred to the Upper Tribunal. No citation was stated.