VAT recovery on deal costs restricted

The Supreme Court has unanimously dismissed an appeal by a company that had argued it was entitled to recover the input Value Added Tax (VAT) on professional fees it had incurred in connection with the sale of its shares in a subsidiary, which it had made to help finance a new project.

The full judgment can be found here: Revenue and Customs v Hotel La Tour Ltd [2025] UKSC 46.

The Supreme Court agreed with the Court of Appeal's reasoning and application of the case law in holding that the advisory costs were directly and immediately linked to an exempt supply - the share sale – and that, therefore, the input VAT on those costs was irrecoverable, regardless of the wider commercial purposes that the sale proceeds financed.

The ruling reinforces a restrictive approach to input VAT recovery: a direct and immediate link between the professional costs and a share disposal will necessarily block any consideration of a business’ wider operations and commercial purposes when entering the sale transaction.

A company, Hotel La Tour Limited (HLT), owned a subsidiary, Hotel La Tour Birmingham Limited (HLTB). Both HLT and HLTB were members of the same VAT group, which carried on a taxable business of providing hotel accommodation. HLT provided management services, intra-group, to HLTB, which operated a luxury hotel in Birmingham.

In 2015, HLT decided to develop a new hotel in Milton Keynes. To help finance the project, HLT sold its shares in HLTB to a third-party purchaser. To assist with the sale transaction, HLT obtained marketing research, legal and tax services. HLT incurred costs totalling c.£382,900 plus c.£76,800 VAT.

HLT claimed recovery of the input VAT on the basis that the disposal of the shares in HLTB was part of its wider taxable business activities and helped financed the development of the new Milton Keynes hotel. His Majesty’s Revenue and Customs (HMRC) rejected the claim, concluding that the fees were directly and immediately linked to an exempt transaction (the share sale) so that HLT was not entitled to repayment of the input VAT.

HLT appealed against that conclusion and won hearings in the First‑tier Tribunal (FTT) and the Upper Tribunal (UT). Both Tribunals held that there was a direct and immediate link between the share sale and HLT’s downstream taxable general economic activities. Both Tribunals concluded that the link was not broken by the share sale.

However, in overturning the decision of the UT, the Court of Appeal, held that both the FTT and the UT had failed to apply the direct and immediate link test properly by disregarding the existence of the exempt share sale. Since there was a direct and immediate link between the fees incurred and the exempt share sale, the input VAT was irrecoverable. In short, the services could not be treated as overheads linked to the company's general economic activities because it was only possible to make that connection where either (a) there was no direct and immediate link with a specific transaction, or (b) the specific transaction (for which the inputs were incurred) was outside the scope of VAT. On this basis, in this case, HLT’s wider business purposes were irrelevant.

HLT appealed to the Supreme Court. The Supreme Court heard the appeal in June 2025 and delivered its judgment on 17 December 2025.

The point at issue in the case was deceptively straightforward: could HLT recover the input VAT charged on the professional fees it incurred to assist with the sale of its shares in HLTB.

However, the VAT treatment of transaction costs is a complex area that can, consequentially, result in significant uncertainty. In addition, since professional fees on major transactions can often be considerable, it is an area where the ability (or otherwise) to recover input VAT can have a material impact on the economics of any deal. Getting the analysis wrong can result in substantial costs.

For VAT purposes, a business may have multiple activities: some that are taxable, some exempt, and some out-of-scope. For the purposes of determining the entitlement of a business to recover input VAT charged on professional services received, it is necessary to determine to what the professional services relate.

The case touches on several aspects of the law as it relates to the deductibility of input tax on transaction costs. However, most importantly, the case considers the basic principle that a taxpayer can deduct input tax to the extent that the services on which that input tax was incurred are used for the purposes of making taxable supplies. It follows that input tax incurred on services used for the purposes of making an exempt supply (such as a transaction in shares) cannot be recovered; they are a real 'cost' to the taxpayer.

The case, then, hinged on how to decide what the services, obtained by the taxpayer (and on which that input tax was incurred), were used for. The case-law in this area is extensive, and has evolved greatly, but it essentially focuses on the need to establish a 'direct and immediate link'; that is, the right to deduct input VAT requires that there must be a 'direct and immediate link' between the services obtained and a taxable transaction. That is a fact-specific question considering of all the circumstances surrounding the transactions at issue.

The question at the heart of this case was, then, how the 'direct and immediate link' test should be applied. There were (very broadly) two possibilities:

• First: it is, as the FTT and UT decided, necessary to consider whether there is a wider right to deduct input VAT on services obtained for an exempt disposal of shares because the disposal, and therefore those services, can be shown to be linked to the taxable person's wider general economic activities (in this case financing a new development)?
  
  
• Alternatively, second: is it, as the Court of Appeal held, an either/or test? Does a finding of fact that there is a 'direct and immediate link' between the professional fees incurred and an exempt share sale automatically mean that the input VAT must be irrecoverable?

The Supreme Court has unanimously sided with the Court of Appeal.

The FTT and UT decisions relied on a 'costs component' analysis of the transactions. Both Tribunals relied on the fact that the price for the disposal of the shares in HLTB was fixed and had not been increased to repay the costs of the professional services received. On that basis, both Tribunals had been able to conclude that there was no direct and immediate link between the inputs and the share sale.

The Court of Appeal ruled that the FTT and UT had not applied the case law properly, and the Supreme Court has upheld the Court of Appeal analysis that pricing mechanics are irrelevant to determining a link.

The taxpayer also advanced arguments that the differing VAT recovery treatment of exempt (share sale) transactions and out‑of‑scope (fund raising) transactions offended the VAT concept of 'fiscal neutrality'. The Supreme Court rejected those arguments ruling that fiscal neutrality does not override the classification of exemptions in the legislation. Other arguments based on the taxpayer's 'purpose', and the existence of the VAT grouping, also failed.

The Supreme Court’s judgment settles – at least for now – a contentious area of VAT law that has wide significance for corporate transactions.

Although the taxpayer in the case is likely to feel a little aggrieved, the general position can now be summarised as follows: where input VAT arises on services that are, as a matter of fact, directly and immediately linked to:

• a taxable transaction, deduction will be allowed;
• an exempt transaction, deduction will be denied, and no further analysis is possible; and
• an out-of-scope transaction, the inputs may be attributed to the business' general activities and deduction will be allowed to the extent of its taxable activities.

It is worth noting that, where the transaction involves a sale to a non-UK buyer entity, the share sale is treated (under a special set of 'specified supplies' rules) as being outside-of-the scope of VAT. As a result, the VAT incurred on professional fees by the seller will (potentially) be recoverable.

Businesses need to be aware of the consequences of the ruling in this case. They should reassess deal structures and their assumptions on the deductibility input VAT on the professional fees they incur on transactions, and plan accordingly.

We advise businesses on their VAT position across all corporate transaction types, including share sales and acquisitions. We can help stress‑test deal structures and advise on appropriate VAT planning to minimise costs.

For more information on this topic or how we can help please get in touch with a member of our tax team.