The recently issued First-Tier Tax Tribunal (FTT) decision in the case of Realreed Limited raises the interesting question of determining when a taxpayer’s behaviour is ‘careless’ for the purposes of applying penalties in cases where an error has arisen and HMRC’s approach generally in terms of the VAT treatment of the supplies in question.
Realreed owns a property, Chelsea Cloister, containing 235 self-contained serviced apartments, which it lets to third parties. Related services such as maid service, dry cleaning, Wi-Fi, luggage storage and linen changes, were at all times provided by Chelsea Cloisters Services Limited (CCSL), a company under common ownership with Realreed.
Realreed was providing the accommodation element only. The question before the FTT was whether the supplies of accommodation were VAT exempt. Realreed believed so and treated them historically, or subject to VAT at the standard rate. This is now HMRC’s preferred analysis on the basis that the supplies were of hotel accommodation, or similar.
HMRC had carried out multiple VAT inspections of Realreed over the years. Despite this HMRC never challenged the VAT treatment of its supplies. This was the case until HMRC issued a liability decision dated 14 February 20. They took the view that Realreed’s supply of accommodation is subject to VAT at the standard rate. Subsequently, HMRC raised VAT assessments in the sum of £4.572m. HMRC also issued a penalty for careless behaviour, which was later suspended. Realreed objected to HMRC’s assertion that its behaviour was careless. Had HMRC attempted to enforce the careless penalty, this would have been at a cost of £685,800 to Realreed.
In relation to the VAT liability, the underlying question before the FTT was whether Realreed’s supplies are removed from the VAT exemption that applies to certain supplies of land and property. This was because its supplies are ‘the provision in an hotel, inn, boarding house or similar establishment of sleeping accommodation’. Realreed’s contention was that it made supplies of accommodation only and if evaluated separately from CCSL’s supplies of services. Realreed’s supply contained none of the additional elements involved in supplies of an establishment similar to a hotel, inn or boarding house.
Although the FTT accepted that Realreed was only supplying the property element of the serviced accommodation, it concluded that the ancillary services provided by CCSL should be taken into account when considering whether Chelsea Cloister was an establishment similar to a hotel. As a result, the FTT took the view that because the majority of Realreed’s customers stayed for less than 28 days, in conjunction with the additional services supplied by CCSL, Chelsea Cloister was establishment operating in competition with hotels.
Whilst the VAT liability issue will be of interest to anyone operating in the accommodation sector, the penalty appeal is likely to be of wider interest and should be carefully considered by all businesses. The penalty was suspended by HMRC meaning the outcome of the penalty appeal had no financial impact on either party. Where a penalty is suspended it is only payable by the taxpayer if conditions laid out by HMRC are not met. Nevertheless, Realreed wanted to pursue this point, asserting that HMRC was not entitled to issue a penalty in the first place, because Realreed’s behaviour could not be considered careless.
HMRC had carried out multiple inspections over the years without querying the VAT treatment of Realreed’s supplies. Realreed’s submission was that it acted reasonably and diligently, and submitted VAT returns consistently with what it believed to be the correct VAT treatment, endorsed by HMRC’s actions during previous inspections. HMRC never challenged the VAT treatment, nor did it recommend seeking specialist advice on the proper VAT treatment of supplies. As a result Realreed took the view it was reasonable to derive substantial comfort from the outcome of HMRC’s inspections and it had no reason to think it had done anything wrong.
The FTT found that whilst the business has not fundamentally changed since 1991, there were sufficient changes in its operation that a person taking reasonable care would wonder whether the VAT position has changed. The last evidence of Realreed taking professional advice on the VAT position dates back to 1991. As VAT is a fast-evolving tax, the FTT thought it would be unreasonable to assume the VAT treatment of a specific supply would not evolve over 30 years. The FTT held that Realreed did not take any professional advice after 1991, it did not carry out any internal analysis and betrayed no intellectual curiosity about its VAT affairs. Realreed simply accepted the advice from 1991 and did nothing since to validate this advice in subsequent years.
The FTT concluded that Realreed didn't exercise the level of diligence and care that a reasonable taxpayer would take. As a result the penalty, whilst no longer having any financial impact on Realreed, was correctly issued by HMRC.
This case raises the question of how much comfort can be taken from a VAT inspection where queries are not raised as to VAT treatments applied and should be viewed as a reminder to any business that believes it is safe from VAT assessments and penalties because it has a history of “clean” VAT audits.This puts taxpayers in a difficult position because there is no guarantee that HMRC will not seek to challenge any particular VAT treatment at a later date.
It is recommended that businesses refresh VAT accounting policies and procedures regularly. Where there are any areas of ambiguity, guidance should be sought. Support from ETC Tax or HMRC via a non-statutory clearance application is recommended. Please do get in touch for further assistance.
