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HMRC internal manual

VAT Partial Exemption Guidance

Other Partial Exemption (PE) issues: Lennartz treatment: background - the history of Lennartz and its interaction with PE


In 1991 the ECJ decided in the case of Lennartz (C-97/90) that a taxpayer making both business and non-business use of a capital goods asset has, in principle, a right to treat it entirely as a business asset and make full, immediate deduction of VAT on its purchase. This is because the non-business use of goods forming part of the assets of a business is deemed to be a taxable supply of services (under Article 6(2) of the Sixth VAT Directive) and so is a business activity, liable to output tax. So a business can claim the VAT in full “up front” and then account for VAT on the non-business use of the goods over their economic life (as opposed to apportioning the VAT incurred up front between business and non-business use under VATA 94, s.24(5)). This is known as the “Lennartz mechanism”. For details about the operation of this mechanism, including the valuation of the supply and the output tax charge, see VIT 

Following the subsequent ECJ case of Seeling (C-269/00) HMRC also accepted that the Lennartz mechanism is available for the purchase of land, buildings and civil engineering works with mixed business and non-business use, where those goods are allocated wholly to the business, even when the property asset is created or enhanced by the receipt of construction services such as a major refurbishment or extension (see Business Brief 15/05 and the earlier Business Brief 22/03).

HMRC sought to exclude property assets from the Lennartz mechanism by legal changes made in budget 2003. The ECJ case of Charles and Charles-Tijmens (C-434/03) made it clear that these legal changes were ultra vires and thus ineffective. Business Brief 15/05 therefore announced that Lennartz can again be used on property assets and that retrospective adoptions back to the point the law changed can be made.

All the ECJ cases were of otherwise fully taxable businesses. The additional input tax created by the adoption of the Lennartz mechanism was thus always fully deductible. However the Lennartz mechanism creates additional input tax, not additional deductible input tax, and that input tax needs to go through the business’s normal partial exemption method. Partly exempt businesses that use the Lennartz mechanism will need to consider the effect of their partial exemption method on any claim. If the current method does not facilitate the Lennartz mechanism, HMRC will consider proposals for a new or revised PESM.

Normal considerations apply so acceptable methods must result in a fair and reasonable attribution of input tax to taxable supplies for all the trading activities within the VAT registration. Methods that give a good result for the Lennartz sector but do not achieve a fair and reasonable result overall should not be approved.