Court of Appeal clarifies VAT partial exemption methodology in casino dispute

The Court of Appeal has upheld a decision that the standard turnover-based method for calculating residual input tax recovery provides a fair and reasonable result for a central London casino, rejecting arguments for a floorspace-based alternative.

Background and dispute

Hippodrome Casino Ltd ("HCL") operates a Las Vegas-style entertainment venue offering both exempt gambling services and standard-rated hospitality and entertainment. As a partially exempt trader, HCL incurred residual input tax on overheads including rent, maintenance, utilities, and marketing that related to both taxable and exempt supplies.

HCL sought to displace the standard method prescribed by regulation 101 of the VAT Regulations 1995 through a standard method override ("SMO"), proposing instead a floorspace-based calculation. This allocated overhead costs according to the physical space dedicated to taxable activities (bars, restaurants, theatre) versus exempt activities (gaming areas). The resulting difference in recoverable VAT exceeded £500,000 annually for several years between 2012-2018.

HMRC rejected the proposal, arguing that HCL's floorspace method was fundamentally flawed because it assumed exclusive use of hospitality and entertainment areas for taxable supplies, when the economic reality showed significant "dual use" supporting the gambling business.

Upper Tribunal's findings

The Upper Tribunal set aside the First-tier Tribunal's decision favouring HCL, finding material errors of law. Critically, the FtT had failed to address HMRC's dual use arguments or explain why those areas should be allocated solely to taxable supplies. The UT found that bars, restaurants and entertainment spaces were economically used to support and promote gaming, constituting genuine dual use rather than independent taxable activities.

The UT rejected HCL's floorspace method as failing to guarantee a more precise determination than the standard method, as required by EU case law (BLC Baumarkt, Volkswagen Financial Services). It held the standard method remained applicable by default.

Court of Appeal decision

Lady Justice Whipple, delivering the leading judgement, dismissed all grounds of appeal. The Court held that the UT had correctly identified and applied the relevant legal principles.

On methodology, the Court confirmed that the standard method under Article 174 of the Principal VAT Directive represents the default position, displacing it only where an alternative guarantees greater precision. The burden rests on the taxpayer to demonstrate this. Contrary to HCL's submissions, no two-stage process requiring isolated analysis of the standard method exists—comparison with the proposed alternative is inherent in the statutory framework.

The Court rejected arguments that tribunals must permit rolling reviews or provide guidance on alternative methodologies where a proposed SMO fails. Once HCL's floorspace method was found critically flawed, the standard method continued by operation of law.

Regarding the business entertainment restriction under Article 5 of the Value Added Tax (Input Tax) Order 1992, the Court held that the restriction applies to all input tax used for business entertainment before standard method apportionment, not merely the proportion ultimately attributable to taxable supplies. This prevents the Input Tax Order from being rendered nugatory in partial exemption situations.

Implications

The decision reinforces that the standard method enjoys presumptive validity as legislatively mandated. Taxpayers seeking SMOs face a substantial evidential burden to demonstrate that alternative methodologies more accurately reflect economic reality. Arguments about "dual use" of premises require careful analysis beyond superficial allocation by physical space or customer footfall.

The judgement clarifies the interaction between partial exemption calculations and business entertainment restrictions, confirming that such restrictions operate at the initial stage when identifying residual input tax, not after apportionment between taxable and exempt supplies.

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