Freeserve.Com Plc, R (on the application of) v Customs & Excise & Anor

MR JUSTICE EVANS-LOMBE: In this case, the claimant, "Freeserve", is an Internet service supplier. America Online, "AOL", is also an Internet service supplier. At all material times and, indeed, throughout its life, as I understand it, AOL has been situated in the United States. It has been supplying its customers with telecoms supplies in a composite package conferring a means of access to the Internet, but also containing a varied number of information sources which are available to buyers of the package. It is a substantial competitor of the claimant and any other companies conducting similar businesses to the claimant in the United Kingdom. Indeed, as I understand it, it is or has been the only substantial foreign-based competitor in this field.

Freeserve come to this court for judicial review of the decision by the Commissioners of Customs & Excise, evidenced by a letter of 13th March of last year, and also by a business brief of 14th March of last year, not to proceed against AOL pursuant to the provisions of Section 73 of the Value Added Taxes Act 1994 in respect of VAT on telecoms services supplied by AOL to customers in the United Kingdom between 1st June 2001 and 1st July of this year.

I said that the decision was evidenced in the letter of 13th March, but it is correct to say that that letter makes no reference at all to AOL. In order to realise that it did in fact evidence a decision not to proceed against AOL, it would be necessary for the reader to have the further information about AOL's position as the only foreign-based supplier of telecoms services which I have just described.

The grounds upon which judicial review are sought are now twofold. It is, first, said that the Commissioners in arriving at their decision not to proceed against AOL took account of an irrelevant matter; namely, the fact that, as at 13th March, there was imminently in view a change of the law governing the imposition of VAT on telecom supplies as a result of a European directive.

Secondly, it is said that the letter and the business brief, directed to the same subject, revealed that the Commissioners were setting themselves too high a threshold when deciding whether, on the strength of the case capable of being constructed on the material available to them, they should proceed to assess AOL for the payment of VAT on telecoms services supplied in this country.

The application is opposed by the Commissioners who deny that there were any such errors in the Commissioners in arriving at the decision in question; and, secondly, that, in any event, assuming that there were such errors, Freeserve have no standing (i.e. they do not disclose a sufficient interest) to justify them coming to this court to seek declarations of invalidity in respect of the decision of the Commissioners; and that, accordingly, if there were errors, they are simply to be treated as mistakes by a statutory body for which no remedy is immediately available in the courts, certainly not at the suit of Freeserve.

It is necessary to outline very briefly the relevant VAT law. It is no part of this court's job in deciding this case to come to any conclusion whether AOL is or was in fact liable to VAT in respect of supplies of telecom services between 1st June 2001 and 1st July of this year.

The general rule as to the imposition of VAT is that, when a supplier makes supplies from outside the UK, he is not bound to account for VAT on that supply of services to a UK consumer. There is one relevant exception to that rule: such rule does not apply in respect of the supply of telecom services from outside the United Kingdom. This emerges from the 6th European Council Directive of 17th May 1977, paragraph 9(2)(e) and 9(3)(b).

The substantial facts behind the issue in this case are agreed. It is agreed that the AOL package available to UK consumers included telecoms services but also a service by way of the provision of various forms of information. But, notwithstanding this, the AOL package that it supplied to United Kingdom consumers is to be treated as a single supply for VAT purposes. It follows, it is agreed, that whether VAT was due on those supplies of services to UK consumers depends on whether the predominant service in the package was the supply of telecoms services so that the other provision of services is to be treated as ancillary to that supply.

This emerges from the application of the decision of the European Court of Justice and the House of Lords in the Card Protection Plan case, reported at [1999] Appeal Cases and in particular at page 627, paragraph 32.

Finally, it is agreed that, with effect from 1st July of this year, all Internet supply packages, from whatever source and, in particular, from sources outside the European Union to United Kingdom consumers, shall pay VAT on the package, that is the price which the whole package commanded, regardless of whether that package contains telecoms services and other services as well. This emerges from Council Directive 2002/38EC, promulgated on 7th May of last year. This is the Directive which it is said the Commissioners placed unlawful reliance upon when deciding not to proceed against AOL.

From 10th October of 1997, the policy of the Commissioners with relation to telecoms suppliers established outside the UK and supplying mixed packages was not to require those packages to be subjected to a charge for VAT in respect of supplies to UK customers.

However, that policy changed consequent on the decision in the Card Protection Plan case to which I have referred. That decision seems to have precipitated a policy review by the Commissioners which extended over a substantial period of time in which they reviewed VAT policy with relation to the supply of telecoms services.

On 15th February of 2001, a business brief was published giving notice that the VAT treatment of mixed packages from outside the European Union would now possibly be liable to VAT if it could be demonstrated that the provision of telecoms services was the predominant part of any package of services supplied.

The Commissioners published this change of policy in a business brief to give the trade notice of that change, notifying them that the policy would change as from 1st June of 2001. Notwithstanding that change of policy, AOL were not thereafter assessed to VAT. This caused concern, and had already caused concern to Freeserve, amongst other UK competitors of AOL, who brought pressure to bear in various forms so that the decision not to charge AOL to VAT should be reviewed.

Amongst the papers is a letter of 27th July of 2001 expressing that concern and asking for a review, and I am told that an important meeting, was held on 7th August 2001 with this in view. There has been, it is agreed, an extensive enquiry by the Commissioners into the affairs of AOL to determine whether in fact, under the existing law, they should be subjected to VAT in which Freeserve and AOL have cooperated with the Commissioners.

In the result, however, the letter of 13th March was written. It was written to Mr Melville of Freeserve. It is necessary for me to read the letter in full because its terms are significant. The letter is written by the then First Secretary to the Treasury.

Under the heading "VAT treatment of Internet service packages", it continues:

The following day the Commissioners published a business brief which dealt with the same subject matter and was headed "VAT clarification of treatment of Internet service packages". It is dated 14th March 2002 and is number 06 of that year's business briefs. I do not need to read the whole of it, but the fourth paragraph is the subject matter of an issue in the proceedings.

It reads as follows:

In the course of these proceedings, the Commissioners have filed evidence, most particularly the witness statement of Mr Tume, which is dated 20th January 2003. He deals with the review between paragraphs 14 and the end of that statement.

Because Mr Tume's evidence is important to the issues with which I have to deal, I shall read the whole of those passages into the judgment. He starts at paragraph 14:

In addition to that evidence, there was before the court a witness statement from a Miss Watkinson of AOL, who gave further and more detailed account of the policy review and her part in it.

It is of note that paragraph 17 of Mr Tume's witness statement accepts that the imminent change in the law applicable to telecoms supplies from outside the European Union was part of the decision not to proceed against AOL to recover VAT.

I now turn to consider the first ground upon which it is said that the Commissioners were in error so that their decision not to proceed against AOL is unlawful.

In Wade & Forsyth on Administrative Law, 8th Edition, at page 377, the following passage appears under the heading "Relevant and irrelevant considerations", and I start in the middle of the first paragraph:

Mr Pannick submits that, to show that a decision has been vitiated by an irrelevant reason being taken into account, it is not necessary to establish that that reason was the sole or even the predominant reason for the decision. It suffices that it be shown that the reason played a substantial part in the decision arrived at. He cites the authority of the Queen v Broadcasting Complaints Commission, [1985] 1 QB, page 1153 and in particular page 1177. I accept that submission.

He further submits that paragraph 17 of Mr Tume's witness statement establishes that the prospect of an imminent law change was a reason, and he submits a substantial reason, for the decision in a question which was otherwise finely balanced. I accept that submission also. It follows, therefore, that it is next necessary to consider whether the fact of the imminent law change was or was not irrelevant to the decision whether to proceed against AOL.

Before doing so, I must examine the statutory background to the power which the Commissioners would exercise if they elected to proceed against AOL.

Section 58 of the Value Added Taxes Act 1994, under the heading "General provisions relating to the administration and collection of VAT", provides:

Schedule 11(1) provides:

The power to assess traders whom the Commissioners suspect have been providing services which are chargeable to VAT is contained in Section 73 of the 1994 Act, subsection 1 of which reads as follows:

The question, therefore, for this court on this issue is: was it irrational, in a Wednesbury sense, for the Commissioners to take account of the imminent arrival of new legislation in coming to a decision not to proceed against AOL?

Mr Pannick submits that the letter and business brief show that the Commissioners were driven to their decision by the future law change and gave scant consideration of the merits under existing law of the case to charge AOL to VAT. He submits that the letter is a contemporaneous document which records the making of that decision in terms. He compares that with Mr Tume's evidence in his witness statement which describes how the Commissioners arrived at a decision not to proceed by assessing the strength of the case which they were able to construct on the information available to them.

He submits that the evidence of Mr Tume is inconsistent with that in the letter and that I should prefer the letter. He drew my attention to the decision of the Court of Appeal in Ex-Parte Ermakov, reported at [1996] 2 All ER, page 316. It is sufficient for me to read the headnote to the report:

As will be seen from the headnote, this was a housing case decided against the background of a statutory requirement that a would-be applicant for or occupier of, housing, seeking housing protection from a local authority, was entitled to be given a decision whether the authority would or would not house him and, if not, the reasons for their not doing so.

It will be seen that the court's decision was that, against that statutory background, it would not permit an authority effectively to alter the reasons which it had given pursuant to its statutory obligation by the later adducing of evidence disclosing different and lawful reasons for refusing to house the applicant.

That statutory background seems to me to mean that this case cannot be cited in support of the proposition that a letter such as the letter of 13th March -- which cannot be properly described in any sense as a decision letter, but can only be treated as evidence of a decision having been arrived at and of some of the bases for that decision -- must be read to the exclusion of evidence adduced subsequently on behalf of the decision maker as to the circumstances in which the decision was actually arrived at.

In the present case, Mr Pannick was compelled to concede that there was and had been an assessment by the Commissioners of the strength of the case against AOL under the existing law, and that that assessment must have at least played a part in the decision not to proceed against AOL. It is that process of assessing the strength of the case under the existing law which Mr Tume describes in his witness statement, and it is also described in the witness statement of Miss Watkinson.

I cannot accept that Mr Tume's evidence is to be disregarded. Indeed, if one examines the letter itself, there are indications in the letter that just such an assessment had actually taken place.

It follows, therefore, that I should proceed on the basis that there was an assessment of the strength of the case under the existing law which the Commissioners went through and which played a part in the decision not to proceed against AOL, and that the imminence of a law change also played a part in that decision. The question then arises whether the imminence of the law change was in fact an irrelevant consideration and ought not to have formed part of the decision.

In arriving at a conclusion on this issue, it is necessary to bear in mind the statutory background under which the Commissioners were being asked to decide whether or not to proceed against AOL. I have set out the statutory background when I drew attention to Section 58 of the 1994 Act and schedule 11 to that Act and to the provisions of Section 73. From these, it seems to me to emerge clearly that the Commissioners were under a duty to consider the policy which they were to pursue in respect of foreign telecoms supplies on a much broader front than simply within the ambit of whether there should be an assessment of AOL to VAT. When I say broader front, I mean considerations outside the peculiarities of the package which AOL was providing to its customers. They were bound to look at the administration of VAT as a whole.

It seems to me that a matter which bulked large in the minds of Freeserve and of the Commissioners was the fact that in the UK the market for telecoms services did not present a level playing field, and it is of importance to note that the letter from the First Secretary to the Treasury to Mr Melville of 13th March highlights this.

There are, of course, ways in which, in the absence of a change in the law, the playing field could have been levelled at the instance of the Commissioners. The bumps in the playing field were, of course, that AOL, not being subject to VAT, were at a substantial competitive advantage over other ISPs operating in the United Kingdom and subject to such tax. They could have proceeded against AOL to recover VAT, involving the exercise of their discretion under Section 73 initially to assess AOL to VAT. The Commissioners anticipated that would inevitably have led to an appeal to a Tribunal and thereafter to the court and upwards. At the end of the day, it might have been established that, notwithstanding the doubts of the Commissioners, AOL would have been found to be liable to pay VAT on its supplies.

There is an alternative use for launching what would, in effect, become litigation; namely, that if the resulting case is lost by the Commissioners, the result would highlight the unequalness of the playing field. That could be used as a means of persuading the legislature, either here or in Europe, to legislate so as to bring a level playing field into existence.

However, of course, if that was already in the process of being done, and the Commissioners were on notice that that was the case, the incentive to pursue a claim against AOL for VAT would be substantially reduced. It, therefore, must have been, it seems to me, a relevant consideration, as to whether the costs of litigation consequent on assessing AOL under Section 73 was a worthwhile commitment of the Commissioners' resources, that in the near future the playing field would be levelled by the new European Directive on the taxation of supplies of telecoms services. It was certainly not irrational in the Wednesbury sense to do so.

I note in passing the Mr Pannick submitted that an important consideration for the Commissioners was the fact that it appears that some £100 million worth of VAT was at stake. Strictly speaking, of course, the fact that there was a large sum of money at stake was itself an irrelevant consideration if the only matter for consideration was the strength of the case against AOL.

I am not prepared to treat the fact that the Commissioners appear to have placed reliance, even significant reliance, on the imminent arrival of new EC legislation, in the VAT on telecoms services field as necessarily irrelevant to their decision not to proceed against AOL.

Once it is decided that that consideration is relevant, it then becomes a matter of the weight to be given to that element in arriving at the decision, and that, it seems to me, is a matter for the authority exercising the discretion, in this case the Commissioners.

Whether or not giving significant weight to the imminent arrival of new legislation from the EC was a legitimate thing for the Commissioners to do seems to me again to turn on Wednesbury considerations; in other words, it must be demonstrated that it was irrational for the Commissioners to give significant weight to that matter. I see no basis for such a suggestion, see Queen v Somerset County Council Ex-parte Fewings [1995] 1 WLR at 1050.

I turn to consider the second matter alleged to constitute an error undermining the decision of the Commissioners: this is that the letter and the business brief of March of last year revealed that the Commissioners were setting for themselves too high a threshold which had to be got over before they would institute a process of assessment under Section 73 against AOL. The high point of this submission are the words "unambiguously predominated" contained in the letter of 13th March.

The relevant sentence in the letter appears in the third paragraph on the first page of the letter, discussing the customs review. The sentence reads:

The relevant passage in the business brief is in that part of it which I read out earlier in this judgment, the relevant sentence being:

Assuming for the moment that those passages are to be read as the Commissioners setting for themselves a threshold which must be crossed before an assessment against AOL was to be launched, it seems to me plain that if a test of unambiguousness or a test of clear predomination was set by the Commissioners before VAT recovery processes are initiated, that would constitute the Commissioners setting for themselves too high a threshold. It would not be correct policy for the Commissioners to confine themselves to cases of that strength before they launched enforcement proceedings.

But it is not suggested that in fact, this was the policy of the Commissioners reflected in other cases apart from AOL. The evidence of Mr Tume demonstrates clearly that in fact, the Commissioners were doing no such thing. It follows, it seems to me, that if and insofar as there is a conflict between the evidence of Mr Tume and the evidence of the letter and the Business Brief, I should disregard the evidence of the letter and follow that of Mr Tume's statement. I am not prepared to proceed on the basis that the Commissioners were pursuing one policy for AOL and another in respect of all other claims for VAT where use of the power conferred by Section 73 was required.

In actual fact, I doubt very much that the drafter of the letter, in using the phrase that he did, intended his words to be used as a measure of the standard of proof required by the Commissioners before they operated the machinery of Section 73. The text of the business brief seems to me, to illustrate the fact that in taxing matters, and, in particular, in VAT taxing matters, the burden of proof rests on the Commissioners to establish circumstances justifying a charge to VAT.

I accept Mr Pleming's submission that in fact, the letters are not to be read, when one examines the context in which the words "unambiguously" and "clearly predominated" appear, as a description of a threshold being set by the Commissioners for the exercise of Section 73.

For these reasons, it seems to me that it has not been established that the Commissioners committed the two errors alleged in arriving at their decision, in or about March of last year, not to proceed against AOL to enforce VAT in respect of telecoms services provided by AOL to United Kingdom's consumers between 1st June 2001 and 1st July 2003.

In those circumstances, the question of the standing of Freeserve to bring these complaints does not arise, and I hope that counsel who have given me very helpful submissions on this issue will forgive me if I do not go into it in any detail.

Suffice it to say that had I found that the complaints of Freeserve were substantiated, I would still have not given Freeserve standing to pursue them by way of these proceedings. The decision of ex parte ICI to which I was referred, reported in volume 60 of Tax Cases, page 1, is the leading case of exceptions to the rule that one taxpayer has no right to bring judicial review proceedings against the taxing authorities with relation to the tax affairs of another.

In that case of course, it was demonstrated to the court that ICI had a peculiar interest in the impact of the decision that had been taken by the taxing authorities, because it could be demonstrated that ICI's cost base would be directly affected by that decision. ICI was ex hypothesi alone, therefore, in being able to pursue its complaint by way of judicial review. That the applicant is solely at risk as a result of the decision complained is not a necessary requirement for there to be an exception to the general rule.

However, it is not without importance, it seems to me, that if Mr Pannick's submissions were correct, any competitor of AOL, wherever situated, would, at least in theory be able to come to this court and complain, or could have come to this court and complained, that AOL were not being subjected to VAT. Each could point to the competitive advantage of AOL in not being subjected to VAT as against other UK ISPs, and presumably non-UK ISPs.

It is also in my view significant that the level playing field, which was in fact the object of the new European legislation, is now in place, and to the extent that the absence of VAT conferred on AOL the ability to undercut the prices of their UK competitors, that advantage has now disappeared. It does not seem to me to follow that, because they have what may be £100 million in their pocket as a result of their not being assessed for the period up to 1st July of this year, can realistically be said to confer on them a competitive advantage which now exists and will hereafter continue.

For these reasons, had I concluded that there was a sustainable complaint undermining the decision by the Commissioners not to proceed against AOL, I would still have not been prepared to find that Freeserve had standing to pursue their complaint. In the result however, I have found the complaints to be without foundation. It follows that these proceedings must be dismissed.