V@ update - August 2024

Welcome to the August 2024 edition of RPC's V@, a monthly update which provides insightful analysis and news from the VAT world relevant to your business.

News

1. Draft legislation has been published which, when enacted, will remove private school fees from the scope of the exemption from VAT.  The accompanying Revenue & Customs Brief 8 (2024) provides further information.
   
   
2. Following the lowering of the Bank of England base rate from 5.25% to 5%, HMRC has announced a corresponding reduction to its interest rates, to have effect from 20 August 2024.
   
   
3. HMRC has published a video about the risks of using mini umbrella companies in supply chains.

Case reports

Supply of hair extensions did not qualify for zero-rating

The director of the appellant company devised a system, called the 'Kinsey System', for hair augmentation and wig adaptation that was supplied specifically to women who were suffering from significant hair loss.  It involved colour-matching, the manufacture of custom-made wigs, and the interweaving of any existing hair into the wig using a crochet hook so as to integrate the existing hair into the wig.  The wig was anchored in place using fine connections rather than using traditional wig adhesive.  The appellant considered that the supply of the wigs and the attachment/maintenance services associated with them fell within item 3, schedule 8, Value Added Tax Act 1994 (VATA 1994) and accordingly was zero-rated. 

HMRC disagreed, and issued assessments and notices of amendment to the appellant company totalling over £240,000.  The appellant appealed these to the First-tier Tribunal (FTT), along with VAT returns that had not yet been adjusted for periods from July 2023 to January 2024, inclusive.

Schedule 8, Group 12, VATA 1994, provides that the following supplies are zero-rated:

"2.   The supply to a disabled person for domestic or his personal use, or to a charity for making available to disabled persons by sale or otherwise, for domestic or their personal use, of–

(a)  medical or surgical appliances designed solely for the relief of a severe abnormality or severe injury;

…

(g)  equipment and appliances not included in paragraphs (a) to (f) above designed solely for use by a disabled person

       (h) parts and accessories designed solely for use in or with goods described in paragraphs (a) to (g) above;

…

3. The supply to a disabled person of services of adapting goods to suit his condition.

…

5. The supply to a disabled person or to a charity of a service of repair or maintenance of any goods specified in item 2, 2A, 6, 18 or 19 and supplied as described in that item.

Notes

(3) Any person who is chronically sick or disabled is “disabled” for the purposes of this Group.

(4) Item 2 shall not include aids (except hearing aids designed for auditory training of deaf children), dentures, spectacles and contact lenses but shall be deemed to include –

(a) clothing, footwear and wigs”.

VAT Notice 701/7 (Reliefs from VAT for disabled and older people) states:

"A person is ‘chronically sick or disabled’ if they are a person with a:

physical or mental impairment which has a long-term and substantial adverse effect on their ability to carry out everyday activities

condition which the medical profession treats as a chronic sickness, such as diabetes.

It does not include an elderly person who is not disabled or chronically sick or any person who’s only temporarily disabled or incapacitated, such as with a broken limb".

In the view of the FTT, the Kinsey System could not be described as 'the supply to a disabled person of services adapting goods to suit his condition'.  It was not a wig, or the adaptation of a wig, but rather a 'labour-intensive system allowing for a semi-permanent transformation'.  In addition, significant hair loss or baldness in women was not, in itself, a disability (although it could occur in those with disabilities such as hair loss caused by certain cancer treatments).

The FTT therefore dismissed the appeal.

Why it matters: This decision provides an interesting discussion of what constitutes 'disability', for the purposes of zero-rating.

The decision can be viewed here.

Mobile phone allowances supplied when purchased not when used

Lycamobile UK Ltd (Lycamobile) provided 'Plan Bundles' of mobile phone services to customers in the UK.  These included allowances for telephone calls, texts and data, as well as some other ancillary services.

Typically, a customer would use their given allowances across the whole period of the contract and might not use the allowance in full by the end of the period of the contract. Lycamobile argued that, for VAT purposes, the services contained within each Plan Bundle were only supplied as and when the customer used them. This would mean that VAT would not arise at the point of sale (but rather at the point of use) and would be reduced if customers did not make use of their full allowances.

HMRC challenged this treatment and argued that the service was in fact supplied at the point of purchase. Therefore, the full consideration received for each Plan Bundle should be taken into account for VAT purposes, regardless of usage. However, HMRC agreed that, in some cases, this would be reduced to the extent the usage did not involve a standard-rated supply.

HMRC issued three VAT assessments for a total of some £51m in relation to the sale of Plan Bundles for the VAT periods 07/12 to 08/19.

Lycamobile appealed those assessments to the FTT.

The FTT was asked to determine the appeal in principle, as the parties were of the view that they would be able to agree between themselves:

1. the precise quantum of the VAT due; and
2. whether the third assessment (in the amount of £26,386,932 for VAT periods 03/17 to 08/19) was made to HMRC's best judgment.

On the central issue, the FTT found that the supply was for the Plan Bundles rather than the individual services.  It therefore concluded that VAT arose at the point of sale, rather than the point of usage. At the point of sale, the customer knew what they were entitled to use and it did not matter whether or not they decided to fully utilise their entitlement. VAT was therefore payable on the full consideration for the Plan Bundles. This was subject to the minor exception that a subsequent adjustment should be made to reflect the extent to which the services were used in non-EU countries under various promotions, or additional services.

Why it matters: This decision could have a significant impact on Lycamobile's business and it may have a wider impact on other mobile network operators. The decision contains a considerable amount of helpful discussion regarding the nature and timing of a supply and therefore will be of general interest to VAT practitioners.

The decision can be viewed here.

Certain supplies of management services to alternative investment funds were exempt from VAT

CCLA Investment Management Ltd (CCLA) provided fund management services, specifically to 13 investment funds (the Funds), which included charities, Church of England entities, and local authorities. The Funds were broken down into three categories, namely, six Charities Official Investment Funds (COIFs); six Church of England Central Board of Finance Funds (CBF); and one Local Authorities’ Property Fund (LAPF). Historically, the services provided by CCLA to the Funds were treated as fully taxable for VAT and CCLA had accounted to HMRC for output tax on the services and deducted input tax.

CCLA subsequently changed its view and argued that the services should have been treated as exempt supplies for VAT purposes, specifically as fund management services supplied to “special investment funds” (SIFs) (or equivalent) for the purposes of Art 135(1)(g) of the Principal VAT Directive (2006/112/EC) (PVD). CCLA therefore applied to HMRC for a refund of the output tax charged on the services supplied to the Funds (less the input tax previously deducted). There was no issue of unjust enrichment because it was CCLA's intention to account to the Funds for any VAT refunded. HMRC refused CCLA's application and it appealed to the FTT. The periods for which VAT was reclaimed by CCLA were the VAT quarters ending November 1994 to November 1996 and also from November 2003 up to October 2020 (all pre-Brexit). The amount of output tax in dispute was over £70m plus interest.

The main question for the FTT to determine was whether any of the Funds qualified as SIFs and therefore fell within the relevant exemption.

Investment funds that are constituted as ‘Undertakings for Collective Investment in Transferable Securities’ (UCITS) qualify as SIFs. A fund that is not a UCITS may benefit from the SIF exemption if it is equivalent to a UCITS, or sufficiently comparable so as to be in competition with a UCITS. Many non-UCITS funds are treated as Alternative Investment Funds (AIFs) and subject to the regulatory framework of the Alternative Investment Fund Managers Directive (AIFMD). The COIFs and the LAPF were AIFs, whilst the CBF funds fell outside the scope of AIFMD.

In the view of the FTT, in order for the management of the Funds to qualify for the SIF exemption, it was necessary for them to be subject to sufficiently comparable legislation to the regulation of UCITS. HMRC argued that for the exemption to apply, the Funds had to be directly regulated by the Financial Conduct Authority (FCA). However, the FTT rejected this argument and held that regulation under AIFMD was sufficiently comparable to UCITS. In addition, the Funds also had to meet other conditions and, in particular, they had to be subject to the same conditions of competition and appeal to the same circle of investors that use UCITS.

The FTT concluded that the COIFs were exempt from VAT from July 2014 onwards, but the services provided by the CBF and the LAPF funds were not exempt. The appeal was therefore allowed in part. As the decision did not cover the input tax position, the quantum of the refund to which CCLA is entitled, remains to be agreed between the parties.

Why it matters: This decision will no doubt be of interest to the fund management sector. It confirms that, at least prior to the end of the Brexit transition period, there was scope to treat fund management services supplied to some AIFs as exempt from VAT (where previously these would traditionally have been regarded as taxable). However, the post-Brexit position is less clear.

The decision can be viewed here.