Illegality cuts both ways

The European Court has come to the rescue of traders in a couple of cases in which countries tried to restrict VAT relief to people who were acting lawfully. For example, in the UK you are not allowed to sell insurance unless you are properly authorised to do so – after all, you are taking people’s money on the promise that you will pay up if something happens to them, and there has to be someone to make sure that you don’t just disappear with their premiums. It’s now the Financial Services Authority, and it used to be the Department of Trade.
Insurance policies are exempt from VAT under EU law. These days, you pay Insurance Premium Tax on many insurance policies, but you don’t pay VAT. When the UK VAT rules were first written, this exemption was included – as it had to be – but it was restricted to sales of insurance by authorised insurance companies. The argument was that only “proper” insurance ought to be exempt. If the company wasn’t authorised to sell insurance, it was hardly insurance at all – it might well be a worthless bit of paper.
Card Protection Plan sell a package of benefits to their customers, which include the service of registering all your credit cards so you can cancel them with one phone call if you lose your wallet (except that I kept my CPP contact card in the wallet as well so I couldn't find the phone number, bother). They also insure your luggage if you lose it. They had an insurance policy which covered their risk of customer claims, and they effectively sold on an insurance-type product to their customers. That is, it was a promise to pay them up to an indemnity limit if certain things happened.
Customs wanted VAT on CPP’s income. They argued that it couldn’t be exempt as insurance, because CPP wasn’t an insurance company. After years of wrangling through the UK courts, the case went to the ECJ, where the judges said it was simple: it was a contract of insurance, so it was exempt. If it broke national laws on financial regulation, the authorities could fine the company, put it out of business, put the directors in the pillory – but they couldn’t make the company pay VAT, because the EU law said that insurance was exempt.
Customs took this defeat in their usual way. They changed the rules so that insurance is exempt whether it’s lawful or not; and they pointed out that anyone claiming the exemption without the proper authorisation will be fined, put out of business and put in the pillory (well, maybe not the last – but the Financial Services Authority surely still has thumbscrews somewhere in the vaults).
The ECJ came to the same decision about a German gambling den – the German authorities wanted to exempt gambling only if it was in accordance with the law. But gambling is exempt, and they could not charge VAT on it in any circumstances.