Royal Opera House – Recovery of VAT
The case concerned the recovery of VAT on production costs, i.e. costs used in creating an opera or ballet, such as sets and costumes. The grant of a right of admission to a theatrical, musical or choreographic performance is exempt from VAT when it is supplied by an eligible body. Suffice it to say for the purposes of this article that the ROH is an eligible body, and its supplies of ticket sales to its operas and ballets were therefore exempt.
VAT on costs used in making exempt supplies cannot be recovered, so on the face of it VAT would not be recoverable on the production costs, as VAT is only recoverable on costs used in making taxable supplies.
However, following the earlier case of Mayflower Theatre Trust it was accepted that the costs were partly recoverable because in addition to being used in creating the production, they were also used in creating the programmes. The sale of programmes is a zero-rated supply and as a zero-rated supply is a taxable supply a measure of VAT recovery was therefore unlocked.
The reasoning behind this was that programmes contain photographs of the cast on stage in their costumes and so the sets and costumes are a cost component of a programme in the same way that printing and typesetting costs are.
The ROH, however, sought to argue that the production costs were also used in making other taxable supplies in the hope of increasing the recoverable proportion of VAT on the production costs. It argued that the production costs were also used in making 1) supplies of taxable catering, 2) ice cream sales, 3) shop sales, 4) venue hire sales and 5) production work for other companies.
HMRC rejected these claims and the case proceeded to a hearing before the First-Tier Tax Tribunal (FTT).
The FTT rejected the arguments that the production costs were linked to supplies in 3-5, but based in part on the 2015 decision in the Chester Zoo case accepted that the costs were used in part in making the supplies of catering and ice cream.
The same cultural exemption which applies to supplies of a right of admission to an opera or ballet also applies to admission to a zoo, and Chester Zoo had successfully argued that the animals were at the heart of the zoo and all of its supplies were interlinked, such that costs relating to the upkeep of the animals were used in making other supplies such as catering.
The ROH argued that opera and ballet were central to everything they did and that it was economically realistic that the production costs were essential for the ROH to make its supplies of catering. On this basis the FTT accepted that the production costs were used in making the supplies in 1 and 2.
HMRC appealed the judgement to the Upper Tribunal who have overturned the FTT’s decision and agreed with HMRC that the production costs are not used in making the supplies of catering including those of ice cream.
There is case law precedent that a 'but for' test is insufficient to unlock the recovery of VAT, i.e. one cannot say 'but for the existence of the opera/ballet we would not make supplies of catering because people would not be on our premises, therefore the production costs are used in making supplies of catering'.
In order for the VAT on costs to be recoverable there has to be a direct and immediate link between the costs and the taxable supplies. A direct and immediate link can arise where the costs are used in making both the exempt and taxable supplies, such as with the programme costs where production costs are used in creating sets and costumes which feature in the programmes, as well as being used in the performances. But that is clearly not the case here as the production costs might help attract people to the Opera House and result in supplies of catering being made, but they are not used in making them.
Alternatively, you can have a direct and immediate link with the overall economic activity of the business as a whole, but only where the costs are overhead costs and only indirectly become a cost component of the taxable supplies.
But as that is not the type of cost we are dealing with here, the Upper Tribunal held that the FTT had made an error in law. It said that whilst the FTT had correctly identified that a 'but for' test was not the right test, it had then proceeded to effectively apply one by linking production costs to the taxable supplies which it could not do unless it was dealing with overhead type costs.
Our understanding is that a number of other theatres had VAT claims standing behind the ROH, so the result will clearly come as a disappointment to them. I personally have some sympathy with the ROH in regards to linking the production costs to the supplies in category 5 since the ROH has a not insignificant business of hiring out costumes and sets it has created for its productions to other theatres and so these costs would seem to me to be clearly used in these taxable hires in the same way they are used in making programme sales.
It remains to be seen whether the ROH will appeal, and the judgement clearly implies that Chester Zoo may now be bad case law.
If you should have any questions, please contact Phil Salmon, VAT Partner, or your usual haysmacintyre contact.