Foreign Property APS v Secretary of State for Health

LORD JUSTICE SIMON BROWN: I will ask Lord Justice Laws to give the first judgment.

LORD JUSTICE LAWS: This is an appeal (with permission granted by Lady Justice Arden on consideration of the papers on 2nd January 2003) against the judgment of His Honour Judge Simpson given in the Mayor's and City of London Court on 28th October 2002, when he dismissed the appellant's claim for £26,929.54 in respect of value added tax said to be due on payment of rent between March 1999 and June 2000 under a lease of premises in Praed Street, London W2.

The appellant is the landlord by succession under the lease, having taken an assignment of the reversion by a transfer dated 27th October 1998 from the original landlord, City Growth Estates Ltd. The lease had been executed on 22nd November 1990 and the respondent Secretary of State was the original tenant.

In order to lay out the issues in the case as clearly as I can, it is convenient to go first to the relevant value added tax legislation before looking at the material provisions in the lease. The primary legislation is contained in the Value Added Tax Act 1994. Section 1(1) provides that VAT shall be charged on the supply of goods or services in the United Kingdom. Section 4(2) provides:

Section 19(2) provides:

By section 31(1):

Schedule 9, Part II, Group 1, item number 1 is:

Thus the grant of a lease is a supply of services by the lessor to the lessee, but it is an exempt supply so that the landlord is not liable to account to the Commissioners for VAT. However, provisions contained in Schedule 10, paragraph 2 of the Value Added Tax Act allow the maker of such a supply in certain circumstances to waive the exemption. Lest it seems strange that anyone should wish to waive an exemption from tax, I should say that it may be an advantageous step, depending of course on the supplier's circumstances, because it will entitle the supplier to reclaim from the Commissioners, as what is called input tax, the VAT which he has had to pay included in the price of supplies made to him.

Schedule 10, paragraph 3(1)(a) provides that an election under paragraph 2 shall have effect from the beginning of the day on which the election is made or of any later day specified in the election.

Schedule 10, paragraph 3(6) provides:

The only other provision of the Value Added Tax Act which I need set out is part of section 89:

On 10th May 1999 the appellant gave notice to the Commissioners of its election to waive exemption in respect of the lease of the Praed Street premises. Accordingly, by force of paragraph 3(6) of Schedule 10, the appellant thereupon became liable to account to the Commissioners for VAT on the rent received from the respondent tenant; that rent being the consideration for the supply which consisted in the letting of the property. By section 89 the relevant amount of VAT was to be added to that consideration unless the lease otherwise provided, and any provision in the lease was not to be taken so to provide unless it referred specifically to VAT or to section 89.

It is time to turn to the lease itself. I should notice first that the yearly rent was payable by four quarterly payments in advance on the usual quarter days. There are then three relevant provisions. Clause 3(2) is headed "outgoings" and clause 3(2)(A) obliges the tenant:

Clause 3(31) obliges the tenant:

Clause 5 is headed "Provisos" and clause 5(10) is sub-headed "Value Added Tax on Rents, etc". It provides:

I should say that Schedule 6A, paragraph 2 of the 1983 Act referred to in that provision was the predecessor of paragraph 2 of Schedule 10 of the 1994 Act and the successive provisions were in all material respects the same.

On the facts of the present case, the appellant landlord did not supply the relevant copy documents to the tenant at the same time as notification of its election was given to the Commissioners. The documents were in fact not supplied until just over a year after the election was made.

At length I may identify the issue in the case. The appellant says that on these facts the effect of the last sentence of clause 5(10)(i) is merely to postpone their right to recover the value added tax which upon election they were obliged to pay to the Commissioners until they supplied the documents referred to in clause 5(10), whereupon they became entitled to recover the VAT back to the date of election.

The respondent tenant by contrast submits that upon supply of the documents he is, by force of clause 5(10)(i), only liable to account to the appellant for VAT becoming due then and thereafter, and is subjected to no liability whatever in respect of the VAT due from the appellant to the Commissioners in respect of the period from the election to the supply of the documents. The difference between these two positions is represented by the claimed figure of £26,929.54, as to which as a matter of calculation I understand there to be no dispute.

There was, however, some discussion in the course of argument this morning as to the mechanics by which VAT falls to be calculated. In the period in question here, after the appellant's notice of election the appellant was liable to pay VAT to the Commissioners at the rate of 17.5% of the rent. If the appellant succeeds in this appeal it appears that it may have overpaid, since in that event the consideration moving from the tenant would, given section 19(2), have fallen to be treated as inclusive of VAT. Thus if the rent were say £100, VAT would have come out of that figure rather than be calculated on top of it. This has some bearing as I shall show on the issues of construction upon which the appeal turns.

The judge below agreed in the result with the respondent tenant. He cited a lengthy passage from the speech of Lord Hoffmann in Investors Compensation Scheme Ltd v West Bromwich Building Society [1998] 1 WLR 896, 912-913, upon which apparently both sides had relied. This is, if I may respectfully say so, a well-known text dealing with the modern approach to the construction of contracts. It demonstrates (I do not presume to summarise it) that the law now places heavy emphasis on the need to approach the task of interpretation in the light of the whole surrounding factual picture reasonably available to the contracting parties.

The essence of the judge's reasoning was as follows:

The appellant by Mrs Hamilton, whose submissions have been as lucid as they have been economic, seeks to attack the judge's reasoning and conclusions essentially along the following lines:

I may turn to my conclusions.

I agree with the judge. I acknowledge that the respondent must point to a provision in the lease which disapplies section 89(1) of the Act. Otherwise, whatever one might think of the equity of the position, the statute increases the consideration (that is the rent) by the amount of the VAT due following the landlord's election to waive exemption, whether or not the tenant knows of the election. But in my judgment such a provision is supplied by clause 5(10)(i) read with clause 3(31).

I will refer first to clause 3(31). It bites "whenever any sum is payable by the Tenant on which Value Added Tax ... is payable"; that is to say VAT payable by the landlord. Here the sum in question was the rent due in respect of the period between the landlord's election and the supply of the documents under clause 5(10). Because of the election VAT was payable by the landlord in respect of the same period; and without more clause 3(31) would, on the faces of it, have obliged the tenant to pay it; or, so to speak, it would have confirmed the section 89 obligation to pay the VAT by way of an increase in the consideration constituted by the rent.

One then goes to clause 5(10). I repeat the last sentence of clause 5(10)(i) for convenience:

I agree with the judge that clause 3(2)(A) does not assist the landlord. The reference there to value added tax is, as the respondent has submitted in counsel's skeleton argument, intended to avoid argument that clause 3(2)(A) relieves the tenant of any obligation to pay VAT.

Some assistance is afforded to my conclusion by clause 5(10)(ii). As was pointed out in the course of argument, the requirement to supply a VAT invoice within three days of the receipt of rent sits ill with the suggestion that the closing words of clause 5(10)(i) contemplate a postponed liability on the part of the tenant.

There is a further point arising from the circumstance (to which I have referred) that if the documents had been supplied contemporaneously with the notice of election, the consideration by way of rent would have been inclusive of VAT. But in that case it is difficult to see how the tenant's liability in relation to that VAT could have been got out of clause 3(31) at all. Under that clause on any showing the liability is to pay to the landlord VAT in addition to the rent. Thus, clause 3(31) cannot assist the appellant where on the appellant's argument the tenant's liability for VAT is postponed under clause 5(10), any more than it could assist it if such liability were current. One is simply left with clause 5(10) which displaces the obligation to pay VAT on current rent where no documents have been supplied, and there is nothing to restore that obligation if the documents are supplied late.

These conclusions seem to me to march with the application of any reasonable business sense to the interpretation of the lease and, if it be relevant, which perhaps it is not, to one's ordinary sense of fairness. The landlord here should have supplied the documents on time pursuant to clause 5(10). I would dismiss the appeal.

LADY JUSTICE ARDEN: I agree that this appeal must be dismissed.

The point of construction which is raised is a short point. The judge's approach was to hold that clause 3(31) applied only if the tenant was bound to pay VAT when he paid rent. It seems to me that clause 3(31) does not say that the payment of VAT must necessarily accompany the payment of rent. Accordingly, if Mrs Hamilton for the appellant is correct in her submissions that clause 5(10) merely defers the obligation to pay rent until the necessary documentation has been produced, this result would not, in my judgment, be precluded by clause 3(31).

However, clause 3(31) does not apply if the VAT is merely payable out of the rent. So if, as Mrs Hamilton accepts would be the position if the lease does not pay for the payment of VAT in addition to rent, the landlord has to pay VAT out of the rent which the tenant pays, clause 3(31) does not apply because there is no "additional sum".

Mrs Hamilton submits that the word "payable" on the second occasion it is used in clause 3(31) means "payable by the landlord" not "payable by the tenant", as the respondent contends. I am content to proceed on the basis that Mrs Hamilton is correct in this submission, as it is unnecessary to decide the point.

This case all turns on the meaning of the concluding words of clause 5(10). Does it constitute an "other" provision for the purpose of section 89(1) of the Value Added Tax Act 1994 in respect of VAT chargeable in respect of any period during which the landlord has not served the relevant documentation? The judge held that if Mrs Hamilton was right, the final words of this provision would be superfluous. I do not consider that this is so because they are necessary if the effect is to defer the obligation, just as much as they are necessary if the effect is to eliminate any obligation to pay. Moreover, it may be that the obligation of the tenant to pay value added tax in addition to rent can only be spelt out of this lease by implying an obligation into the concluding words of clause 5(10).

Mrs Hamilton is clearly right in saying that attention must be paid to the fact that the relevant words begin with the word "until". This word has a temporal connotation. It means "before the relevant time that". But even that leaves the sentence ambiguous. Since VAT is a potentially recurring amount, is the effect of this sentence in question that only VAT which becomes payable after the relevant time is payable by the tenant; or does it mean that all VAT which would but for the clause have become immediately payable shall become immediately payable by the tenant when the condition in the "until" clause is fulfilled?

Mrs Hamilton makes the point that the background against which the parties would have contracted is that the landlord could at any time have waived his exemption from VAT so that VAT would become payable on the rent. It is a legitimate interest of the tenant that he should not be bound to pay VAT until all appropriate documentation has been served on him, but this interest could be met either by Mrs Hamilton's construction or by the tenant's construction, albeit with different results.

However, there are as it seems to me a number of pointers which favour the tenant's construction. First, on the landlord's case the tenant may receive a late demand, as in this case. The tenant may be surprised to find that he has a substantial liability of which he did not know at the relevant time. He might have sought to agree a surrender with the landlord if he had known. The failure to provide documents is purely the fault of the landlord and there is no reason to believe that the parties would have agreed to put in a term to protect the landlord in this event. These factors all form part of the commercial background against which the lease should be construed on the principles set out in the ICS case.

Second, linguistically, if the landlord is right and deferral was intended, the clause would more naturally have been drafted in positive terms such as "an addition sum in respect of VAT in respect of each payment of rent shall forthwith become payable on the landlord serving on the tenant" the appropriate documents.

Third, clause 3(31) is qualified by clause 5(10). The opening words of clause 5 make it clear that the provisions in clause 5 are provisos, and Mrs Hamilton accepts that the provisos in clause 5 apply to all the covenants in the lease.

Fourth, clause 5(10)(ii) provides for the issue of a tax invoice within three days of the payment of rent. This applies even if the final words of clause 5(10)(i) apply. This means that in the period of any suspension, a tax invoice must nonetheless be served. It is accepted that that would have to show VAT as having been paid equal to 0.14875 per cent of rent and the balance as rent. Mrs Hamilton points out that the tenant may therefore not be as prejudiced as the judge thought because if he is a trader and can use the input shown in that invoice he has a financial benefit. The landlord is certainly prejudiced, but that is the result, as I have said, of his own fault. The significant point in clause 5(10)(ii) is that it is inconsistent with the notion of any deferral under clause 5(10)(i).

Finally, Mrs Hamilton does not rely on clause 3(2)(A) as imposing an obligation to pay VAT on the tenant by reason of its being an obligation on the landlord. That point has not been argued in this case. She does rely on the clause in respect of the obligation which it imposes on the tenant to pay taxes in respect of the premises. But this again only succeeds if VAT is payable by the tenant on this argument, and that leads back to the arguments addressed above. Therefore I do not consider that this clause can add to the submissions which have already been made in support of the appeal.

Accordingly, I would dismiss the appeal.

LORD JUSTICE SIMON BROWN: I agree with both my Lord's and my Lady's judgments. The appeal must therefore be dismissed.