Schemes will not be able to claw back £2bn in VAT under a controversial European court ruling - but the battle’s not over yet

It has been a long time coming, but the European Union’s Court of Justice (ECJ) has given its verdict on the Wheels VAT case.

As they will continue to pay around £100m a year in value added tax, the outcome is a disappointing one for pension schemes.

The National Association of Pension Funds joined together with Wheels Common Investment Fund in 2008 to bring the case against HM Revenue and Customs, arguing that pension funds counted as “special investment funds” and were therefore exempt from paying VAT on investment management services.

Schemes could have backdated claims for compensation of that VAT to 1990

If the case had been successful, schemes could have backdated claims for compensation of that VAT to 1990. According to the NAPF that would have allowed schemes to claw back £2bn from their fund managers to help plug their yawning deficits.

The judgment has been met with disappointment throughout the industry.

Surely there can’t be any more room for nails in the coffin for DB schemes

Silverman Sherliker partner Jennie Kreser tweeted: “Surely there can’t be any more room for nails in the coffin for DB schemes.” Although the decision does not make schemes’ positions any worse, it has snuffed out the hope of a retrospective £2bn VAT reprieve. NAPF chief executive Joanne Segars was outraged, arguing “pension funds were set up to be vehicles that are free from tax, and they should not be paying these VAT charges”.

Lorraine Parkin, head of indirect tax at Grant Thornton said: “The purpose of the VAT exemption provided by the directive is to facilitate investment in securities for small investors by means of collective investment undertakings”.

The ECJ found that other types of collective investment vehicle, for example unit trusts, would be exempt from paying the VAT in question. The sticking point in the case was that occupational pension schemes are not open to the public because they constitute an “employment related benefit” made available to specific employees by their employers.

As Clyde & Co associate Jack Wheeler remarked, this is an “unreal” distinction since “if you can take out an ISA or buy some shares, the chances are that you’re going to have access to a pension scheme”.

The reasoning in Wheels does offer some hope to money purchase schemes

Like other investors, a sponsor is taking a risk in funding the scheme, but only with a view to discharging the legal obligation it has made to its members.

In that situation the employer, and not the ultimate beneficiary, assumes the risk, unlike in other types of fund. However, Mayer Brown tax consultant Peter Steiner said: “The reasoning in Wheels does offer some hope to money purchase schemes” because “their return does depend on the performance of the assets in the scheme”.

The European court is due to resolve a similar point in the Danish ATP case in 2014, which Steiner said could “shed a ray of sunshine on money purchase schemes”.

So even at the end of this five-year action the story is not over.

The European Commission is in the process of reviewing the VAT Directive, and Segars said the NAPF will “be making strong representations as to why the management of pension funds should be VAT exempt under the proposed change to the current VAT regime”.

This battle may have been lost, but the NAPF and other industry bodies will continue to look for more ways to unburden struggling schemes.