The U.K.'s exit from the European Union without an agreement could derail a legal gamble by BlackRock Inc. to lower taxes for customers of its Aladdin unit, a platform powered by artificial intelligence for investment analysis.
BlackRock wants a ruling that would allow it to apportion the tax-exempt and taxable use of the platform. But with just three months to go before Brexit, the dispute between the U.K. government and the company’s U.K. arm has been referred to the European Court of Justice.
The timing of the referral means a ruling isn’t likely until after the country exits the single market—and U.K. courts wouldn’t have to follow the EU’s decision if there isn’t an agreement, tax practitioners said
The U.K. is scheduled to leave the EU March 29, and prospects for an agreement on the terms of the U.K.'s future relationship with the bloc look increasingly unlikely, given the opposition by British lawmakers to Prime Minister Theresa May’s proposed Brexit plan.
The tax dispute isn’t just a technical battle for BlackRock. The company has big ambitions for Aladdin, which raked in about $677 million in revenue during 2017. It sells the software to other fund managers, pensions, and family offices that collectively manage $15 trillion of assets.
BlackRock argues that it shouldn’t have to pay value-added tax (VAT) on services used in its management of tax-exempt funds. But due to a quirk of how VAT is applied, companies are charged when they purchase the service and not on how they use a service.
Reducing the amount of tax due on the service could help it sell the service at a better price. The Aladdin unit’s revenue has grown on average 12 percent a year for the past five years and BlackRock hopes to grow it further.
Her Majesty’s Revenue and Customs (HMRC) argues that it can only tax the supply and not the use of the service. The solution is to sell the service in separate transactions rather than have the government publish new guidance on how to apportion usage when a service is bought once but used in different ways, some of which are tax exempt, the tax agency says.
It’s not just BlackRock facing uncertainty around post-Brexit CJEU opinions. Other cases currently awaiting a CJEU opinion that could fall after the U.K. leaves the single market include a VAT dispute involving Healthspan, the U.K’s largest mail-order vitamin supplier. There are other smaller matters too, such as one involving Amoena, which sell mastectomy bras.
High Court Costs
Cases like BlackRock can take years to get through courts and have high legal costs for firms. For example, the five tax opinions published by Europe’s highest court in December were referred by other courts on average 16 months before the opinion was published.
The time and cost could prompt firms to choose faster settlements with HMRC, said BDO tax director Dawn Register.
“It’s likely that Brexit will only add to the length of time an appeal takes. This will mean increased costs, which will deter many companies and individuals from pursuing appeals in the first place,” she said.
Approximately 1,900 HMRC staff members are working on EU withdrawal plans. The extra Brexit squeeze on HMRC’s already limited resources could lead to further delays in tax appeal cases, she added.
Following the U.K. court’s Dec. 20 referral, it isn’t clear exactly when the EU court will publish its opinion, but according to Antje Forbrich, a director at U.K.-based accounting firm Blick Rothenberg, it stands to reason that it would be after the U.K. leaves the bloc. “It’s not just this BlackRock case, almost everything that is in front of the CJEU at the moment will likely be delivered after Brexit,” she said.
Courts in EU member countries must refer to the block’s high court if they believe that there isn’t enough European case law to make a decision. In October the court took the unusual step of censuring a French court for failing to do it.
“Our courts have to do this because the CJEU’s powers come from the law and that’s why we are still referring these cases regardless of the political situation and the timing of Brexit,” said Anne Holt, indirect tax partner at RSM UK.
However, in the absence of a deal, these opinions will become “relevant but not binding,” she added.
The BlackRock case is an example of a situation in which the U.K. courts didn’t have enough precedents set by the EU court. This meant the U.K. court couldn’t rule without first referring it to the EU court.
“BlackRock’s argument is that for there to be a level playing field with companies that are allowed to recover VAT related to management” of the funds, “then they should be allowed to recover their VAT also,” Forbrich said.
BlackRock also argued that the services are “single supply,” meaning that there is only a single taxable event where VAT is applied.
Forbrich said the point is important because if they are single supply, and apportionment isn’t possible, then the entire service to both special investment funds and other funds could also be recoverable under U.K. rules.
An earlier U.K. court ruling, in 2017, went against BlackRock—not because the VAT on services related to the management of special investment funds wasn’t exempt, but because it wasn’t possible under EU law to apportion the exempt and non-exempt parts of the service, when calculating VAT for single supply.
BlackRock appealed the decision and argued that existing case law didn’t provide enough clarity on the issue for a decision to be made. The appeal was then forwarded to the EU court.
BlackRock declined to comment because the case is ongoing.