Taxation – Grouping turns away ‘exempts’

The long-awaited Customs & Excise consultation document on VATny McClenaghan. grouping has finally been published.

The document holds little cheer for those who hoped the growing delay in publication suggested Customs was backtracking on its original proposal.

The basic thrust of the proposal is that VAT grouping should be restricted to fully taxable companies. This would mean companies would not be permitted to form, join or remain in a VAT group if they were involved in any exempt activities such as finance, insurance, betting and gaming, or if they were not entitled to register for VAT in their own right.

Intra-group transactions ignored

VAT grouping has two major advantages for companies: first, all of the companies in a VAT group need file only a single VAT return. The second is that all transactions between members of the group are ignored for VAT purposes. Typically a VAT group can have anywhere between 10 and 100 members.

The proposal will lead to a significant increase in VAT compliance costs for those groups forced to disband since each company in the group will now have to file its own VAT returns.

In addition, companies will have to start charging VAT on transactions which are currently ignored. This will cause major problems in the finance and insurance sectors.

Many VAT groups use a single-service company to employ all staff working for the various members of the group. The service company recharges the salary costs to other group members and this is ignored for VAT purposes.

Where the company which receives the services is partly exempt, the Customs’ proposal will force the service company to charge VAT on the salary recharges.

This, in effect, manufactures VAT on salary costs which are in themselves free of VAT.

Many groups will restructure so that each partly exempt company employs its own central services staff. Alternatively, groups will change the contracts of employment of the staff in question so they are jointly employed by all of the companies.

As a result, the ‘additional’ VAT revenue will disappear but the companies involved will suffer administrative inconvenience and additional compliance costs.

The proposed requirement, that companies not entitled to register for VAT in their own right should not be members of a VAT group, is likely to adversely affect commercial and industrial plcs by forcing their holding and intermediate holding companies to leave their groups. In such cases, VAT on those costs which are borne by holding companies, such as corporate stewardship costs and merger costs, will become irrecoverable.

Most large trading groups can currently recover VAT incurred on these activities by sheltering it against the taxable turnover of the VAT group as a whole.

Customs has always been unhappy about this state of affairs and, in the past, has made two attempts to try to prevent holding companies recovering this VAT. The grouping proposal provides it with an opportunity to resolve the issue in a different way.

Exceptions exist for part-exempt

On a more positive note, Customs is proposing that a company with some exempt turnover would not have to leave a VAT group provided this did not exceed a pre-determined de minimis level.

Customs has asked for suggestions as to what this de minimis level should be.

In addition, Customs is also considering a disregard for one-off exempt supplies such as property disposals.

The department has also asked for comments on its proposals to be sent in by 30 September. It has promised to publish a report in the autumn on the results of this consultation exercise.

All companies in the UK are likely to be adversely affected by this proposal either now or in the future. However, the consultation document provides very little explanation as to why this proposal is needed.

The government must think again, but it will only do so if every company which is likely to be affected takes the time and trouble to write to Customs or their members of parliament to point out why the proposal is ill-founded and misconceived.

Tony McClenaghan is head of indirect tax at Deloitte & Touche.

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