The Commissioners for Her Majesty's Revenue and Customs v Secret Hotels2 Limited

For VAT purposes, the legal and commercial character of a relationship governed by written agreements must first be determined by construing the parties’ rights and obligations. Subsequent conduct cannot aid interpretation, although it may establish a sham, rectification, variation, replacement contract or an incomplete written record.

Under article 306 of the Directive 2006/112/EC, contractual obligations are considered alongside all economic and commercial realities. English agency and the EU concept of an intermediary are closely aligned, but they are not necessarily identical. Where accommodation is supplied directly by a hotelier to a customer through a disclosed agent, and economic reality accords with the documents, the agent acts solely as an intermediary and the travel agents’ margin scheme does not apply.

The Commissioners for Her Majesty's Revenue and Customs v Secret Hotels2 Limited concerned the VAT treatment of an online business which marketed hotel accommodation. The Commissioners assessed the company for £7,119,702 under the Tour Operators Margin Scheme. The company contended that it acted as agent for disclosed hotelier principals and therefore fell outside the scheme.

The First-tier Tribunal dismissed the company’s challenge in [2010] UKFTT 120 (TC). The Upper Tribunal allowed its appeal in [2011] UKUT 308 (TCC), but the Court of Appeal restored the assessment in [2012] EWCA Civ 1571.

The central questions were whether the contractual documentation and commercial reality established that the company acted as principal or agent, and whether the resulting relationship fell within article 306.1(a) or article 306.1(b) of the Directive 2006/112/EC.

Held, unanimously, allowing the appeal. Lord Neuberger delivered the judgment, with which Lord Sumption, Lord Reed, Lord Hughes and Lord Hodge agreed.

1. Where written agreements are intended to govern the parties’ relationship, their legal and commercial nature must be determined by interpreting those agreements, unless they are shown to be shams. The court must consider the language, the agreement as a whole, circumstances known to both parties and commercial common sense. The parties’ chosen label is not conclusive. Subsequent conduct cannot be used to interpret the written terms, although it may prove a sham, rectification, variation, replacement agreement or that the writing recorded only part of the contractual relationship: paras 31–35.

2. The accommodation agreement and website terms established that the hotelier supplied accommodation directly to the customer through the company as agent. The gross sum belonged to the hotelier, while the excess over the net sum constituted the company’s commission. An agent may determine its own commission. Contractual protections reflecting commercial strength and concern for goodwill did not convert the relationship into one of purchase and resale: paras 36–44.

3. The company’s business practices did not displace that contractual characterisation. Handling complaints, arranging alternatives, retaining certain charges, receiving invoices for net sums and reserving rooms were compatible with agency or represented limited breaches or variations which did not alter the relationship’s nature. Its incorrect VAT accounting did not establish that it acted as principal: paras 45–50.

4. For article 306 of the Directive 2006/112/EC, the national court must consider the travel agent’s contractual obligations, all details of the case and the economic and commercial reality. The customer contract is the starting point, but the supplier contract and the parties’ whole relationship must also be examined. The concepts of an intermediary and an English-law agent are similar, although intermediary has a potentially wider meaning. Parties remain free to structure transactions to reduce taxation, subject to rules governing abusive or artificial arrangements: paras 53–57.

5. Because the company acted as agent for disclosed hotelier principals and that characterisation reflected economic reality, it acted solely as an intermediary under article 306.1(b). The special VAT scheme therefore did not apply. The First-tier Tribunal had adopted an unsustainable legal analysis, and the Court of Appeal’s order could not stand. The Court discharged that order and restored the Upper Tribunal’s order: paras 51–59.

1. United Kingdom Supreme Court: In [2014] UKSC 16, the Court unanimously allowed the company’s appeal, discharged the Court of Appeal’s order and restored the Upper Tribunal’s order.
2. Court of Appeal: In [2012] EWCA Civ 1571, the court allowed the Commissioners’ appeal and held that the First-tier Tribunal had been entitled to characterise the company as a principal.
3. Upper Tribunal: In [2011] UKUT 308 (TCC), Morgan J allowed the company’s appeal, holding that the contractual arrangements established an agency for disclosed hotelier principals and that the business practices did not alter that conclusion.
4. First-tier Tribunal: In [2010] UKFTT 120 (TC), the tribunal dismissed the company’s appeal against the VAT assessment, concluding that it supplied accommodation as principal.