Children’s clothing is zero rated. But where a child has one foot larger than the other, the pair of shoes can be zero-rated if the smaller shoe qualifies as a child’s size (boys 6 1/2 and girls; generally, size 3).
Monthly Archives: January 2025
VAT: Supply of self-contained apartments covered by TOMS? The Sonder UT case
Latest from the courts
In the Upper Tribunal (UT) case of Sonder Europe Limited (Sonder) the issue was whether apartments leased to Sonder and used to provide short-term accommodation to corporate and leisure travellers were supplies of a designated travel service via the Tour Operators’ Margin Scheme (TOMS) and whether the bought-in supply was used for the direct benefit of travellers (as required by TOMS).
Background
Sonder leased apartments from landlords on a medium to long-term basis and used them to provide accommodation to travellers on a short-term basis (one night to a month; the average stay being five nights). Sonder furnished some apartments as well as undertaking occasional decorating and maintenance.
The sole issue was whether these supplies are covered by TOMS. TOMS is not optional.
Initially in the FTT it was decided that output tax was due via TOMS. This was an appeal by HMRC against that First Tier Tribunal (FTT) decision.
The issue
Whether VAT was accountable using TOMS – on the margin, or on the full amount received from travellers by Sonder.
Legislation
TOMS is authorised by the VAT Act 1994, section 53 and via SI 1987/1806.
Arguments
Sonder contended that the supply was “for the direct benefit of the traveller” as required by the VAT (Tour Operators) Order 1987 and that the accommodation was provided “…without material alteration or further processing”. Consequently, TOMS applied. The FTT decided that Sonder did not materially alter or process the apartments.
HMRC maintained that the FTT decision was based on the physical alternations made rather than the actual characteristics of the supplies. Consequently, these were not supplies covered by the 1987 Order and output tax was due on the total income received for these services.
Decision
The UT upheld HMRC’s appeal and decided that TOMS did not apply n these circumstances The UT found that the FTT’s decision was in error in that it did not have regard to whether the services bought in were supplied to it for the direct benefit of travellers. Furthermore, the short-term leases to occupy property as holiday accommodation were materially altered from interests in land for a period of years supplied by the landlords.
The services received by Sonder from the landlords were not for the direct benefit of the travellers and Sonder’s supplies were not for the benefit of the users without material alteration and further processing. Consequently, there was not a supply of bought-in services, but rather an ‘in-house’ supply which was not covered by TOMS.
To the UT, the position was even clearer in relation to unfurnished apartments. Sonder acquired an interest in land for a term of years in an unfurnished apartment. It furnished the apartment and then supplied a short-term licence to a traveller to occupy as holiday accommodation. What was supplied to the traveller was materially different to what was supplied to Sonder.
Commentary
Another illustration of the complexities of TOMS and the significant impact on a business of getting the rules wrong. The fact that the UT remade the decision demonstrates that different interpretations are possible on similar facts. Moreover, even slight differences in business models can result in different VAT outcomes.
VAT: Chatbots failure
Further to our article on HMRC using chatbots, reports have emerged that they are working less than 50% of the time and that the resolution rate is only 21% even once a connection is established.
It is clear that the attempt to move services online has caused significant issues for taxpayers and advisers.
A recent survey by the Association of Chartered Certified Accountants discovered that nearly 9 in 10 business owners (89%) said poor levels of service at HMRC is having a negative impact and causing a ‘huge roadblock’.
This is even more infuriating for people wishing to contact HMRC because the issue has been exacerbated by the restricted access to HMRC telephone helplines and the closure of the VAT registration helpline used by taxpayers and accountants.
VAT: Digital platform reporting
VAT and digital platforms
Via section 349 of the Finance (No.2) Act 2023, measures were introduced which require certain UK digital platforms to report information to HMRC about the income of sellers of goods and services on their platform. HMRC then exchange this information with the other participating tax authorities for the jurisdictions where the sellers are tax resident.
Under the Organisation for Economic Co-operation and Development (OECD) rules, digital platforms in participating jurisdictions will be required to provide a copy of the information to the taxpayer to help them comply with their tax obligations.
Now HMRC have recently (last month) issued a new series of guidance , or updated guidance, on digital platform reporting, which are:
Selling goods or services on a digital platform
This Guidance explains the details a business needs to give to digital platforms when selling goods or services in the UK. A section on what information sellers will receive from online platforms has been added.
It covers:
- who is a seller
- information which must be provided
- reporting by platforms
- information to be received
- selling online and paying tax
Check if you need to carry out digital platform reporting
This guidance provides information on:
- what qualifies as a digital platform
- who should register
- how to register
- what needs to be reported
- information required for reporting
- carrying out due diligence
- when to report
- penalties
Register to carry out digital platform reporting
This sets out:
- who should register
- what you need to do
- how to register
- after you have registered
Managing digital platform reporting
This provides guidance on:
- submitting reports to HMRC
- ongoing account management
- when to report
- how to add or change a platform operator
- how to add or change a reporting notification to tell HMRC if you are a reporting or excluded platform operator
- how to add or change a reporting notification about the type of due diligence you choose
- changing contact details
- how to add team members
- how to inform HMRC that another platform operator will report for you (assumed reporting)
What is outside the scope of VAT, and what does it mean?
Put simply, income which is outside the scope (OSC) of VAT is UK VAT free. It means that either there has been no supply in respect of that income (non-business, or ‘NB’), or if there is, it has a place of supply (POS) which is outside the UK. Although VAT free, OSC is distinct from exempt or zero-rated supplies and has a different impact for the entity involved in NB activities.
So, here I consider the different types of OSC income and how it affects the VAT position of the recipient of such a payment.
Charity
Charities and NFP organisations often receive income from various sources and often receive NB income which is OSC. This income is often donations for which the donor does not receive anything (there is no consideration provided by the charity). An organisation such as a charity that is run on a non-profit-making basis may still be regarded as carrying on a business activity for VAT purposes. This is unaffected by the fact that the activity is performed for the benefit of the community. It is therefore important for a charity to determine whether particular transactions are business or NB activities. This applies both when considering registration (if there is only NB activity a charity cannot be registered and therefore cannot recover any input tax) and after registration. ‘Business’ has a wide meaning for VAT purposes – an activity may still be business if the amount charged does no more than cover the cost to the charity of making the supply or where the charge made is less than cost. If the charity makes no charge at all the activity is unlikely to be considered business. A common area of complexity for charities when considering whether their activities are in the course of business is receipt of grant funding (please see below).
Grants
There is no ‘standard’ VAT treatment of grants. The VAT outcome depends on the precise facts of each specific agreement. The most important test is whether the grantor receives any consideration in return for the payment. It may be that the donor recognises the good work a body does and wishes to contribute (akin to a donation) which is OSC. Alternatively, the recipient of the grant may be obliged to provide something in return (a supply which is not OSC). A helpful way of looking at this is to consider, not what the recipient does with grant money, but what it does for it.
Inter-company charges
Charges between VAT group members are OSC. Moreover, charges between non-VAT-grouped companies may also be OSC. These are commonly called ‘management charges’ and the VAT treatment depends on a number of facts. It is often the case that a management charge is used as a mechanism for transferring “value” from one company to another. If it is done in an arbitrary manner with no written agreement in place, and nothing identifiable is provided the income is likely to be OSC. Otherwise, it is likely to be a taxable supply. What is important is not how a management charge is calculated, but what the supply actually is (if it is one). The calculation, whether based on a simple pro-rata amount between separate subsidiaries, or via a complex mechanism set out in a written agreement has no impact on the VAT treatment. As always in VAT, the basic question is: what is actually provided?
Place of supply not the UK
If the POS is outside the UK, then the resulting payment for that supply is OSC. The POS rules can be complex and care must be taken in identifying the correct country to declare output tax (this may include the use of the OSS). In some instances, the Reverse Charge is applied. Input tax incurred in relation these supplies is recoverable, subject to the normal rules, and this distinguishes this type of supply from some of the others discussed here.
Transfer Of a Going Concern (TOGC)
A TOGC is deemed to be neither a supply of goods nor services, so consequently, it is OSC. Input tax incurred in respect of the costs of making a TOGC are considered an overhead of the business for partial exemption purposes, so it is not automatically disallowed because it relates to a ‘non-supply’.
Supplies by a non-taxable person
Sales by a business person who is not liable to be VAT registered.
Insurance etc
A payment between persons, which is paid under a contract of indemnity, is OSC, because it does not represent consideration for a supply, eg; sums paid under an insurance policy.
Private transactions
These transactions between individuals or gifts received are OSC.
Statutory fees
These are OSC, an example of such fees are: the London congestion charge, MOT testing, some road tolls, and parking fines.
Input tax recovery
VAT incurred on costs directly relating to OSC activities is not input tax and cannot be recovered (there are no de minimis limits). This is separate to partial exemption and a business/NB calculation is required before a partial exemption calculation is carried out, so it is a two-tier exercise. It may be possible to combine these two calculations, but that is an article for another day.
HMRC has issued new guidance on the amount of input tax claimable when an element is attributable to NB activities. If an entity is involved in both business and NB activities, eg; a charity which provides free advice and also has a shop which sells donated goods, it is unable to recover all of the VAT it incurs. VAT attributable to NB activities is not input tax and cannot be reclaimed. Therefore, it is necessary to calculate the quantum of VAT attributable to business and NB activities. That VAT which cannot be directly attributed is called overhead VAT and must be apportioned between business and NB activities. There are many varied ways of doing this as the VAT legislation does not specify any particular method. It is important to consider all of the available alternatives. Examples of these are; income, expenditure, time, floorspace, transaction count etc (similar to those methods available for partial exemption calculations). Any calculation must be fair and reasonable.
Overall
OSC income should not be recognised in the value box of VAT returns and it does not count towards the VAT registration limit. It is likely to negatively affect the recipient’s input tax recovery position. The distinction between business and non-business is crucial and will significantly impact on an entity’s overall VAT position.
Further reading
The following articles consider case law and other relevant business/NB issues:
Lajvér Meliorációs Nonprofit Kft. and Lajvér Csapadékvízrendezési Nonprofit Kft
VAT: Property – The Option To Tax Guide
VAT Bsics
Opting To Tax commercial property
Opting to tax provides a unique situation in the VAT world. It is the only example of where a supplier can choose to add VAT to a supply….. or not.
What is an option to tax (OTT)?
The sale or letting of a property is, in most cases, exempt (VAT free) by default. However, it is possible to apply the OTT to commercial property. This has the result of turning an exempt supply into a taxable supply at the standard rate. It should be noted that an OTT made in respect of a residential property is disregarded and consequently, the supply of residential properties is always exempt (unless it is the first time sale of a new build – in which case it is zero-rated).
Why opt?
Why would a supplier then deliberately choose to add VAT on a supply?
The only purpose of OTT is to enable the optor to recover or avoid input tax incurred in relation to the relevant land or property. The OTT is a decision solely for the property owner or landlord and the purchaser or tenant is not able to affect the OTT unless specific clauses are included in the lease or purchase contracts. Care should be taken to ensure that existing contracts permit the OTT to be taken. Despite a lot of misleading commentary and confusion, it is worth bearing in mind that the recovery or avoidance of input tax is the sole reason to OTT.
Once made the OTT is usually irrevocable for a 20-year period (although there are circumstances where it may be revisited within six months of it being taken – see below). There are specific rules for circumstances where the optor has previously made exempt supplies of the relevant land or property. In these cases, HMRC’s permission must usually be obtained before the option can be made.
What to consider
The important questions to be asked before a property transaction are:
- Was VAT incurred on the purchase price?
- Is the purchase with the benefit of an existing lease (will the tenant remain?) if so, it may be possible to treat the transaction as a VAT free TOGC (see below)
- Is the property subject to the Capital Goods Scheme (CGS here)?
- Is it intended to spend significant amounts on the property, eg; refurbishment?
- What other costs will be incurred in respect of the property?
- If renting the property out – will the lease granted be full tenant repairing?
- Will the tenant or purchaser be in a position to recover any or all VAT charged on the rent/sale?
These are the basic questions to be addressed; further factors may need to be considered depending on the facts of a transaction.
Input tax recovery
Input tax relating to an exempt supply is usually irrecoverable. In fact, a business only making exempt supplies is unable to register for VAT. A guide to partial exemption here. So input tax incurred on, say; purchase, refurbishment, legal costs etc would be lost if a property was sold or rented on an exempt basis. In order to recover this tax, it must relate to a taxable supply. If an OTT is taken, the sale or rent of the property will be standard rated which represents a taxable supply. VAT on supply = input tax claim.
Two-part process
The OTT is a two-part process.
- The first part is a decision of the business to take the OTT and it is prudent to minute this in Board meeting minutes or similar. Once the decision to OTT is taken VAT may be added to a sale price or rent and a valid tax invoice must be raised.
- The second part is to formally notify HMRC. If the OTT is straightforward the form on which this is done is a VAT1614A. Here. In some cases, it is necessary to obtain HMRC’s permission in which case separate forms are required. HMRC guidance here – para 5.
There can be problems in cases where the OTT is taken, but not formally notified.
Timing
It is vital to ensure that an OTT is made at the correct time. Even one day late may affect the VAT treatment. Generally speaking, the OTT must be made before any use of the property, eg; sale or rent. Care should also be taken with deposits which can trigger a tax point before completion.
Disadvantages
As mentioned above (and bears repeating) the benefit of taking the OTT is the ability to recover input tax which would otherwise fall to be irrecoverable. However, there are a number of potential disadvantages.
- opting a commercial property may reduce its marketability. It is likely that entities which are unable to recover VAT would be less inclined to purchase or lease an opted property. These entities may be; partly exempt business, those not VAT registered, or charities/NFP organisations.
- the payment of VAT by the purchaser may necessitate obtaining additional funding. This may create problems, especially if a VAT charge was not anticipated. Even though, via opting, the VAT charge is usually recoverable, it still has to be paid for up-front.
- an OTT will increase the amount of SDLT payable when a property is sold. This is always an absolute cost.
Transfer of a Going Concern (TOGC)
I always say that advice should be taken in all property transactions and always in cases of a TOGC or a possible TOGC. This is doubly important where an opted building is being sold, because TOGC treatment only applies to a sale of property when specific tests are met. A TOGC is VAT free but any input tax incurred is recoverable, so this is usually a benefit for all parties.
Revoking an Option To Tax
- The cooling off period – If an OTT has been made and the opter changes his/her mind within six months it can be revoked. This is as long as no tax has become chargeable on a supply of the land, that no TOGC has occurred, and the OTT has actually been notified to HMRC. There are additional considerations in certain cases, so these always need to be checked.
- No interest has been held for more than six years – An OTT is revoked where the opter has not held an interest in the opted building for a continuous period of six years. The revocation is automatic, and no notification is required.
- 20 years – It is possible to revoke an OTT which was made more than 20 years ago. Certain conditions must be met, and advice should be taken on how such a revocation affects future input tax recovery.
Summary
Property transactions are high value and often complex. The cost of getting VAT wrong or overlooking it can be very swingeing indeed. I have also seen deals being aborted over VAT issues. Of course, if you get it wrong there are penalties to pay too. For these reasons, please seek VAT advice at an early stage of negotiations.
More on our land and property services here
New HMRC publications: VAT on cladding remediation work
In the aftermath of the horrific Grenfell fire, a lot of buildings require unsafe cladding to be replaced.
A new Brief clarifies HMRC’s policy on the deduction of VAT incurred on cladding remediation works which are carried out on existing residential buildings. It sets out:
- the reason VAT costs are incurred when carrying out remediation works to residential buildings with fire and safety defects
- the circumstances in which the VAT incurred in providing remediation works can be recovered
Broadly, the distinction is whether the work qualifies as snagging. If it does, the VAT treatment follows the liability of the original building work – zero rated if the original construction was of a zero-rated new residential building, ie; they are supplied in the course of construction of a qualifying building.
If not snagging, the remedial work will be standard rated.
If the work is standard rated, it may be recoverable by the recipient in certain circumstances.
Snagging
HMRC’s definition of snagging is “the carrying out of remedial works to correct faulty workmanship or replace faulty materials”. Normally, it is carried out by the original developer under the terms of the original contract. This means it is not seen as a separate supply of construction services. Snagging covers faults that are:
- found soon after the building is completed
- still covered by the building contract
More details on snagging here.
Furthermore, HMRC has published Guidelines for Compliance GfC11. This guidance covers HMRC’s existing policy on the VAT treatment of remedial works and includes:
- the definition of snagging
- an explanation of when you can recover input tax
- examples to help you work out the VAT treatment of remedial works
- examples of documents and evidence you should keep
- information about correcting a submitted return
HMRC state that its policy has not changed.
How to apply for a VAT Partial Exemption Special Method
Partial Exemption
Businesses which makes exempt supplies may be partially exempt (depending on the de minimis limits). A partially exempt business will be prohibited from claiming all of its input tax. A calculation is required to determine the amount of a claim which is blocked. The majority of businesses use what is known as “the standard method” with an annual adjustment.
Partial Exemption Special Method (PESM)
However, use of the standard method is not mandatory and a business can use a “special method” (a Partial Exemption Special Method, or PESM) that suits a business’ activities better. Any PESM has to be “fair and reasonable” and it has to be agreed with HMRC in advance. When using a PESM no rounding of the percentage is permitted and it has to be applied to two decimal places.
HMRC says fair and reasonable means it must be:
- robust, in that it can cope with reasonably foreseeable changes in business
- unambiguous, in that it can deal, definitively with all input tax likely to be incurred
- operable, in that the business can apply it without undue difficulty
- auditable, in that HMRC can check it without undue difficulty
- fair, in that it reflects the economic use of costs in making taxable and exempt supplies
Types of PESMs
The following are examples of special methods:
- sectors and sub-sectors
- multi pot
- time spent
- headcount
- values
- number of transactions
- floor space
- cost accounting system
- pro-rata
- combinations of the above methods
How to apply
You will need to provide documents with your application. These include:
- a proposal document
- a worked example of the proposal
- the latest annual adjustment calculation
- a declaration — check Appendix 1 of VAT Notice 706 for what to include in your declaration
- any additional documents
More information on the documentation a business needs provide is set out in Appendix 2 of PN706
Apply online
You will need to either:
- sign in with your Government Gateway user ID and password (if you do not have a user ID, you can create one when you first try to sign in)
- use your email address to get a confirmation code that you can use to sign in
This is done here
A glossary of partial exemption terms may be found here.