Charity VAT Review - Tied in red tape

All governments love to interfere. Ever since the hearth and window taxes of a few hundred years ago, the state has realised it can tax the everyday lives and business of citizens. Now, we have a plethora of taxes imposed not only on starting a business, but on making it successful, employing staff, the correct disposal of waste products and even the energy used to produce the products in the first place.

Routinely, every year, the chancellor is urged to simplify the complexity of the taxation system and reduce the sheer volume of paperwork, regulatory requirements and administrative headaches of trying to run a small business. Many small businesses have been quoted as saying that lower headline tax rates are all very well, but if the government would just get out of the way, they could get on with running their affairs.

This plea for simplifying the regulatory climate has been echoed by many organisations with members across all sectors. In turn, each successive government sets out its case and commits itself to tax-system simplification and the reduction of tax burdens. As becomes apparent every year, little changes in reality and the regulations seem to increase in a never-ending fashion.

This is never more evident than in the charity or not-for-profit sector, where many volunteer organisations find themselves treated by Customs & Excise in the same brutal fashion as any other revenue target.

Cooper Lancaster Brewers has recently carried out a survey of the VAT issues faced by the not-for-profit sector. Several key financial and organisational issues arose which this article looks at and compares with the government’s Budget announcements and the review of charity taxation, to see if the problems are really being addressed.

Firstly, the bad news. While the not-for-profit sector benefits from #200m of VAT reliefs each year, it also suffers the cost of #460m of irrecoverable VAT as well. We should not expect the Treasury to give up this revenue easily. If we also consider that the constraints of European law provide an easy get-out by genuinely restricting what changes the government is allowed to make to domestic VAT legislation, it seems that fundamental rethinks are unlikely.

The primary difficulties arising for the charitable sector stem from the requirement to apply the principles of a ‘business tax’ to its activities, many of which may not be carried out with any commercial motives at all. Remember that VAT is a European tax, and that the UK’s network of charities and not-for-profit organisations is somewhat unique among our European neighbours.

In short, if a charity is providing something in exchange for a consideration, then it is in business for VAT purposes and must then run the gamut of analysing its activities into business and non-business categories. Further analysis is required to group business activities into those subject to VAT at 0%, 5% and 17.5%, and those exempt from VAT. After which, VAT incurred on overheads must be allocated depending on the category of activity.

The registration threshold, now set at #51,000 per annum, following the Budget, is currently under review. While it would seem reasonable to maintain the current annual inflationary increases, European thinking is against this. Indeed, the UK has by far the highest registration threshold of all the EU member states, and the pressure is to reduce it in order to bring us more into line.

If this were to occur, the impact upon small businesses and the not-for-profit sector would be significant. Many charities will find themselves thrust unwillingly into the spotlight, exposed to the full might of VAT legislation and case law as administered by revenue-sniffing VAT inspectors.

Regrettably, the review does not address these fundamental concerns of red tape, complex legislation and the sheer financial burden of compliance.

To the government’s credit, it has acknowledged that the mess of reliefs applying to the not-for-profit sector, and the general inconsistency in taxation as it applies to fund-raising events is long overdue for modernisation. This is being taken forward together with a general updating where progress and technology have overtaken the original scope or intention of the legislation.

In our survey, many organisations said they knew they needed to engage professional advisers, but the likely cost dissuaded them from doing so.

Worryingly, a significant percentage sought advice from Customs. Many will have suffered as a consequence, not because of any under-hand motives, but simply that Customs’ role is not to act as advisers but to control and collect the revenue. The legislation will simply be applied to the circumstances in question, where, often, straight forward changes made in advance could dramatically reduce the VAT costs.

One major area of difficulty expressed in the survey concerned the distinction between donations and sponsorship. Where a donor provides funds in return for nothing more than a simple acknowledgement of support, the receipt of funds is outside the scope of VAT. If any benefits are provided, however – such as advertising, free tickets to an event, the right to exhibit at an event, and so on – then the whole amount received is treated as sponsorship and is subject to VAT. This rule is applied rigidly by Customs, even where the value of the benefits given in exchange for the funds is insignificant.

For example, if a corporate donor provides #25,000 for an event, and asks that its logo is included in all the event documentation – and can it have a few free tickets? – the benefits might be valued realistically at only a few hundred pounds. VAT will actually be due on the entire #25,000, however, and will represent a significant cost to the charity, unless invoiced in advance as #25,000 plus VAT.

It is a concern that, in the review, Customs and the Inland Revenue seek to portray themselves as the charity’s friend, with publications, helplines, and ‘specialist advisers offering advice on a full range of tax issues. I suppose Rottweilers can be friendly on occasions, but I still wouldn’t ask them for tax advice.

Simon Newark is a VAT specialist at Cooper Lancaster Brewers.