HMRC has published updated guidance VAT Notice 723A which sets out how a business established outside the UK can claim a refund of VAT incurred here, and how to reclaim VAT incurred in the EU VAT if a business is established in the UK.
More details of how to make post-Brexit VAT claims here.
VAT Basics
As part of our guides to VAT basics, we take a brief look at partial exemption and how it affects a business.
The first point to make is that partial exemption is often complex and costly. In some cases it may be avoided by planning and in others it is a fact of life for a business which needs to be managed properly.
Background
The VAT a business incurs on its expenditure is called input tax. For most businesses this is reclaimed from HMRC on VAT returns if it relates to standard rated or zero rated sales (referred to as “taxable supplies”) that that business makes. Exempt supplies are not to be confused with non-business income which are dealt with under a different regime.
However, a business which makes exempt sales may not be in a position to recover all of the input tax which it incurred. A business in this position is called partly exempt. Generally, any input tax which directly relates to exempt supplies is irrecoverable. In addition, an element of that business’ general overheads, e.g.; light, heat, telephone, computers, professional fees, etc are deemed to be in part attributable to exempt supplies and a calculation must be performed to establish the element which falls to be irrecoverable.
Input tax which falls within the overheads category must be apportioned according to a so called; partial exemption method. The “Standard Method” requires a comparison between the value of taxable and exempt supplies made by the business. The calculation is; the percentage of taxable supplies of all supplies multiplied by the input tax to be apportioned which gives the element of VAT input tax which may be recovered. Other partial exemption methods (so called Special Methods) are available by specific agreement with HMRC. A flowchart which illustrates the Standard Method of apportionment is below.
Which businesses are affected?
Any business which receives income from the following sources may be affected by partial exemption:
This list is not exhaustive.
* Most businesses which do not routinely make exempt supplies usually encounter exemption in the area of land and property and it is an easy trap to fall into not to consider VAT when involved in property transactions. This is one area where VAT planning may be of assistance as it is possible in most situations to deliberately choose to add VAT to an exempt supply to avoid a loss of input tax. This is known as the option to tax, and it is considered in more detail here.
De Minimis relief
There is however relief available for a business in the form of de minimis limits. Broadly, if the total of the irrecoverable directly attributable (to exempt suppliers) and the element of overhead input tax which has been established using a partial exemption method falls to be de minimis, all of that input tax may be recovered in the normal way. The de minimis limit is currently £7,500 per annum of input tax and one half of all input tax for the year.
As a result, after using the partial exemption method, should the input tax fall below £7,500 (£625 per month) and 50% of all input tax for a year it is recoverable in full. This calculation is required every quarter (for businesses which render returns on a quarterly basis) with a review at the year end, called an annual adjustment carried out at the end of a business’ partial exemption year. The quarterly de minimis is consequently £1,875 of exempt input tax which represents spending of under £10,000 net; not a huge amount.
Should the de minimis limits be breached, all input tax relating to exempt supplies is irrecoverable.
The value for the de minimis limit has been in place for over 25 years (when it was increased by a huge £25 per month) and it is rather ridiculous that it has not been increased to reflect inflation. This, coupled with the fact that the VAT rate has increased significantly means that the relief which was once very useful for a business has withered away to such an extent that partial exemption catches even very small businesses which I am sure goes against the original purpose of the relief.
In summary – for a business exemption is a burden not a relief. It represents a real cost in terms of tax payable, time and other resources, in addition to uncertainty. We often find that this is an area which HMRC examine closely and one which benefits from proactive negotiation with HMRC.
HMRC has issued a call for evidence in respect of land exemption. HMRC acknowledges the complexity of the existing VAT rules on land and property and would like to hear views from businesses on the application of the current rules, and whether these rules could be simplified.
The application of VAT on land and property transactions is complicated. A range of different rates and exemptions can apply depending on the facts and circumstances of individual situations and the precise treatment of a transaction or project is often open to interpretation.
Complexity
The paper identifies a number of reasons why this area is extremely complicated:
The Option to Tax
The option to tax legislation enables a business to tax some supplies of land that would otherwise be treated as exempt from VAT. The usual rationale behind making such a choice is to be able to recover the VAT incurred on costs and overheads of a business, or to meet the conditions of a Transfer of a Going Concern (TOGC).
Suggestions
The document then suggests some ideas for simplification:
The first suggestion would result in many businesses incurring irrecoverable input tax which would be a direct cost, so this appears very unattractive.
The second seems a better option, but would bring new housing into the VAT net and I doubt that this would play out very well with the public.
The final suggestion would certainly simplify matters but would add VAT costs to entities which cannot recover any/all input tax, eg; charities, financial service providers, insurance companies, education bodies, health and welfare organisations and cultural services.
The document states that “The Government wants UK businesses to operate in the best possible environment and remain both productive and competitive”.
It remains to be seen whether the suggestions above (or other proposals put forward) will achieve this, but removing choices for a business (regardless of whether simplification is actually realised) is rarely a good idea and I wonder if simplification could be reached in other ways. If you have an interest in this area, please respond to this call as input is valuable for all parties.
Responses should be sent by 3 August 2021 by email to landsimplification@hmrc.gov.uk.
Latest from the courts
Following the Supreme Court decisions in Life Services Ltd and The Learning Centre (Romford) Ltd HMRC have published guidance in Revenue & Customs Brief 9 (2021).
NB: This guidance applies to bodies in England and Wales only – Scotland and Northern Ireland have different rules.
The relevant cases concerned the VAT liability of day-care services provided by private bodies to vulnerable adults in England. They confirmed that HMRC’s interpretation of the legislation is correct; that providers of day-care must be charities, public bodies or regulated by the relevant authority (“approved, licensed, registered or exempted from registration by any Minister or other authority pursuant to a provision of a public general Act”) in order to be able to exempt these services.
The legislation is: The VAT Act 1994, Schedule 9, group 7, item 9.
It is understood that there were a significant number of claims stood behind the Supreme Court cases and these will now fail.
HMRC state that providers who have not accounted for VAT on supply of these services must do so with immediate effect.
Commentary
This is a further example of the VAT complexity in the provision of health and welfare services. It has always been an area ripe for disputes and such bodies and their advisers would be prudent to review the tax treatment of their supplies. There are usually two discrete areas of potential problems; whether services are business or non-business, and if business – do they fall within the various exemptions found at Schedule 9, group 7, items 1 to 11.
Latest from the courts
In the First Tier Tribunal case of The Door Specialist Limited (TDSL) the issue was whether an HMRC assessment for overclaimed input tax was correct.
Background
The appellant recovered input tax on the import of goods (doors). The company did not sell the doors, but simply gave the goods (no consideration provided) to a separate company called Just Doors (JD). It was JD who made the sales of the doors to third party customers. TDSL and JD were under common ownership but no VAT group in place at the relevant time. TDSL was VAT registered as it made separate, unrelated taxable supplies of property rental
Arguments
HMRC contended that as there was no onward taxable supply of the doors by TDSL, no input tax was recoverable per The VAT Act 1994 section 24 (1). TDSL relied on HMRC’s published guidance (Notices 700 and 700/7) in relation to gifts and proposed that it would be proper to assess for output tax on the “supply” to JD rather than denying the input tax claim.
Issues
The issues may therefore be summarised as whether;
Further cases on economic activity/business here, here and here
Decision
It was decided that as there was no direct and immediate link between the purchase of the goods and any onward taxable supply in the course of business or economic activity by TDSL (as required by the outcome of the cases of BAA Ltd JDI International Leasing Ltd) the disallowance of the input tax was appropriate. The advancement of the business gifts contention did not assist the taxpayer as this was not an economic activity in itself. The appeal was therefore dismissed.
Commentary
A clear example of not considering the VAT implications when carrying out transactions. This tax cost could have easily been avoided if TDSL had sold the doors to JD. As both parties were fully taxable, there would have been no VAT hit. Business gifts and promotional activities are also often a complex area of VAT and as one former colleague once remarked “If you have a marketing department you have a VAT issue”.
As a result of enquiries from businesses and trade representatives, HMRC has announced that output tax is due on electric vehicle (EV) charging.
The use of EV charging points is becoming more common in public places. HMRC has clarified the rules in specific cases, and confirm:
Output tax
Supplies of EV charging through charging points in public places are charged at the standard rate of VAT. There is no exemption or relief .
NB: There is a reduced rate of VAT for supplies of small quantities of electricity, known as ‘de minimis’. However, the de minimis provision only applies if the supply of electricity is all of the following:
Consequently, the de minimis provision does not apply to supplies of EV charging as this is done at charging points in public places, eg; car parks, petrol stations and on-street parking, and not to a person’s house or building.
Input tax
A business may recover the input tax incurred in charging its EVs if all of the following apply:
If an employee charges an EV (which is used for business) at home (s)he cannot recover the input tax as the supply is made to the employee and not to the business.
If an employee charges an employer’s EV (for both business and private use) at the employer’s premises the employee will need to record the business and private mileage. Recovery of the full amount of VAT for the supply of electricity used to charge the EV is permitted (including the electricity for private use). However, output tax will be due on the charge on the amount for private use. Alternatively, a business may recover VAT on only the business element.
HMRC has updated the valuation table: Road Fuel Scale Charges (RFSC) from 1 May 2021 to 30 April 2022 here.
RFSC
If a business reclaims VAT incurred on road fuel, it will be required recognise the private use element of the fuel.
The RFSC simplifies accounting for VAT on the private use of fuel by motorists. The RFSC is calculated according to a car’s CO2 emissions and the fixed charge is added to output VAT, on the VAT return (in effect, the business supplies to fuel to the individual). The use of this charge is optional, the alternative is to keep detailed mileage records.
A quick RFSC calculator/ready-reckoner is here.
Latest from the courts
In the Northumbria Healthcare NHS Foundation Trust (The Trust) First Tier (FT) case the issue was whether pay and display car park charges were subject to VAT considering the status and activities of the Trust.
Background
The Trust provided parking for staff and visitors at the 14 sites for which it was responsible. The question was whether output tax was due on the parking charges. The Trust submitted a claim for overpaid VAT considering that either:
HMRC rejected the claim on the grounds that car parking is a standard rated supply and The Trust appealed against this decision.
It was agreed that The Trust, in carrying out its statutory activities (NHS medical services) is not in business (no economic activity) and therefore the services were outside the scope of VAT. Some private medical services were also supplied, and it was common ground that these were exempt.
Decision
The court found that:
Commentary
We are aware of a number of cases stayed behind this appeal and there will be disappointment, but little surprise (I suspect) at the outcome. Car parking is a significant source of income for hospitals, medical centres and clinics etc, but this case made it clear that there is no difference in VAT terms between hospital parking and other commercial car parks.
HMRC has announced that bodies covered by The VAT Act 1994, Section 33 such as; Local Authorities, Academies, Transport Authorities and the Police can use Postponed Accounting for imports.
Normally, a body cannot account for import VAT on its VAT return if it import goods that it knows will be used solely for non-business purposes. However, this no longer applies to a body that is eligible to reclaim import VAT through a VAT refund scheme (Section 33). Section 33 entities when completing its customs declaration, should select the “making an immediate payment or using a duty deferment account” option.
Section 33 bodies
These entities have special VAT treatment which is effectively the opposite of normal VAT rules. To avoid a cost to the taxpayer, these entities are permitted to specifically recover input tax that relates to non-business activities. Nobody said that VAT was straightforward and in these cases, the VAT rules are inverted!
We act for many Local Authorities and Academies. Please contact us should you, or your clients, have any queries on this matter.
VAT Tax Point Planning
If a business cannot avoid paying VAT to the HMRC, the next best thing is to defer payment as long as legitimately possible. There are a number of ways this may be done, dependent upon a business’ circumstances, but the following general points are worth considering for any VAT registered entity.
A tax point (time of supply) is the time a supply is “crystallised” and the VAT becomes due to HMRC and dictates the VAT return period in which VAT must be accounted for. Very broadly, this is the earliest of; invoice date, receipt of payment, goods transferred or services completed (although there are quite a few fiddly bits to these basic rules as set out in the link above).
The aims of tax point planning
1. Deferring a supplier’s tax point where possible. It is sometimes possible to avoid one of these events or defer a tax point by the careful timing of the issue of a tax invoice.
2. Timing of a tax point to benefit both parties to a transaction wherever possible. Because businesses have different VAT “staggers” (their VAT quarter dates may not be the co-terminus) judicious timing may mean that the recipient business is able to recover input tax before the supplier needs to account for output tax. This is often important in large or one-off transactions, eg; a property sale.
3. Applying the cash accounting scheme. Output tax is usually due on invoice date, but under the cash accounting scheme VAT is only due when a payment is received. Not only does this mean that a cash accounting business may delay paying over VAT, but there is also built in VAT bad debt relief. A business may use cash accounting if its estimated VAT taxable turnover during the next tax year is not more than £1.35 million.
4. Using specific documentation to avoid creating tax points for certain supplies. If a business supplies ongoing services (called continuous services – where there is no identifiable completion of those services) if the issue of a tax invoice is avoided, VAT will only be due when payment is received (or the service finally ends). More details here.
5. Correctly identifying the nature of a supply to benefit from certain tax point rules. There are special tax point rules for specific types of supplies of goods and services. Correctly recognising these rules may benefit a business, or present an opportunity for VAT planning.
6. Generate output tax as early as possible in a VAT period, and incur input tax as late as possible. This will give a business use of VAT money for up to four months before it needs to be paid over, and of course, the earlier a claim for repayment of input tax can be made – the better for cashflow.
7. Planning for VAT rate changes. Rate changes are usually announced in advance of the change taking place. There are specific rules concerning what cannot be done, but there are options to consider when VAT rates go up or down.
8. Ensure that a business does not incur penalties for errors by applying the tax point rules correctly. Right tax, right time; the best VAT motto! Avoiding penalties for declaring VAT late is obviously a saving.
9. Certain deposits create tax points, while other types of deposit do not. It is important to recognise the different types of deposits and whether a tax point has been triggered by receipt of one. Also VAT planning may be available to avoid a tax point being created, or deferring one.
10. And finally, use duty deferment for imports. As the name suggests, this defers duty and VAT to avoid it having to be paid up front at the time of import.
Always consider discussing VAT timing planning for your specific circumstances with your adviser. It should always be remembered that it is usually not possible to apply retrospective VAT planning as VAT is time sensitive, and never more so than tax point planning.
I have advised a lot of clients on how to structure their systems to create the best VAT tax point position. Any business may benefit, but I’ve found that those with the most to gain are; professional firms, building contractors, tour operators, hotels, hirers of goods and IT/internet businesses.