Informal consultation on changes to the VAT partial exemption regime

Transcription

1 Informal consultation on changes to the VAT partial exemption regime Joint response by the Charity Finance Directors Group and the Charities Tax Reform Group Introduction 1. The Charity Finance Directors' Group (CFDG) was set up in 1987 and is an umbrella charity that specialises in helping charities to manage their finance-related functions. CFDG's 1150 plus members are responsible for the finances of charities with a wide variety of income levels. Between them our members manage some 10 billion in charity income per year. CFDG is working to promote public confidence and good management within charities. Visit for further information. 2. The Charities Tax Reform Group (CTRG) represents nearly 400 charities of all types and sizes. The group was set up in 1982 and it has since become the leading voice for the sector on taxation issues. Visit for further information. 3. The CFDG and CTRG welcome the opportunity to respond to this informal consultation on changes to the VAT partial exemption regime. We have consulted many of our members about the potential impact of the proposals and, as a result, wish to make the following representations. General comments 4. The CFDG and CTRG note that HM Revenue & Customs (HMRC) is proposing two key changes to the partial exemption regime. The first is to introduce a method declaration which would require businesses to declare that their proposed special method is fair and reasonable before HMRC give approval for its use. The second change is the introduction of an option for businesses to seek and HMRC to approve or direct a special method that also deals with input tax recoverable against out of country supplies. 5. The comments below focus entirely on the first of these proposed changes, which of the two measures is likely to have the biggest impact for the charity sector. CFDG, 3rd Floor, Downstream Building, 1 London Bridge, London SE1 9BG E: mail@cfdg.org.uk T: F: CTRG, 1 Millbank, London SW1P 3JZ E: info@ctrg.org.uk T: F:

2 Charities and partial exemption 6. Charities are very different from commercial concerns, both in terms of their legal structure and status and the activities that they undertake. Whereas over 90% of commercial VAT registrants are fully taxable, charities are, if VAT registered, overwhelmingly partial exempt. This is an inevitable consequence of their activities and legislation on exempt welfare outputs. 7. Whereas 85% of commercial partially exempt VAT registrants use the standard method, over 60% of partially exempt charities use a special method which have been agreed with HMRC 1. Again, this is inherent in what charities do as they engage in diverse activities not essentially driven by financial benchmarks but all need to allocate VAT inputs on central resources and, now, fundraising costs. 8. The principle of use which underlies the theory of partial exemption is particularly difficult for charities where the connection between income and expenditure is much less coupled than in a commercial concern. All the above means that charities will be particularly affected by the proposed changes to the partial exemption regime. 9. At the meeting between CTRG representatives and HMRC officials from the consultation team on 29 June, HMRC indicated that the vast majority of charities fall within the 19,000 partial exemption businesses with special exemption methods (of a total of 20,000) that are not complicated (i.e. they have one pot ) and that last for at least ten years. This compares to the remaining approximately 1,000 businesses, who have complicated special methods that last for three years or less. 10. The consultation clearly indicates HMRC s intention to retain partial exemption special methods in principle, which is something that the CFDG and CTRG warmly welcome given the importance of special methods to charities. Position of charities 11. We note that the position of charities is not mentioned specifically in the consultation document and the HMRC presentation on 2 May 2006 which opened the consultation process scarcely mentioned the charity sector. Subsequently, at the meeting between CTRG representatives and HMRC officials from the consultation team on 29 June, HMRC confirmed that the proposals are in no way targeted at charities and have not been prompted by the actions of charities. 12. The CFDG and CTRG are however concerned about the impact of the proposed changes on all charities, but particularly smaller, less well resourced charities and regionalised charities (many charities have a head office responsible for the core functions of the charity and co-ordinating the 1 Charity VAT Survey: Summary of Findings, Deloitte & Touche LLP, January 2006,

3 work of regional offices or branches). It should be recognised that most charity VAT registrants with special methods are actually quite small. 13. Smaller charities are in a vulnerable position for a number of reasons. Due to a lack of financial resources they often do not have access to professional advice nor are they staffed to the extent of many commercial organisations (let alone large banks, financial institutions, property companies and insurers which we believe to be the real target of the proposed changes to the partial exemption regime). Awareness of the special exemption regime, and any changes to it, is also likely to be lower in such charities where staff are often volunteers or working part-time on the financial records of the charity. 14. It should also be appreciated that even those charities that can afford professional advice are reluctant to spend charitable funds on such advice and could be criticised for doing so, as charities have a legal duty to spend their funds on their charitable objectives. The CFDG and CTRG therefore recommend a de minimus amount whereby retrospection will not apply on grounds of immateriality. 15. Since many charity VAT registrants are small, and therefore the VAT at risk is low, it is likely that HMRC will devote relatively little time to their method applications, secure in the knowledge that they could subsequently be revoked, and might not in fact review them for some years. This situation would leave the charity exposed to an even greater retrospective charge if an honest mistake had been made and there was an over-recovery of VAT in HMRC s view. 16. The CFDG and CTRG would urge HMRC to look into ways of addressing these concerns relating to smaller charities. For example, HMRC could consider permitting all or some (e.g. smaller) registrants to operate under the present system and thus obtain definitive approval for their special methods before operating them. Fair and reasonable 17. We understand that the proposals are designed to allow HMRC to re-assess previously approved special methods in circumstances where the method does not produce a fair and reasonable outcome and/or the business concerned knew (or should have known) that the method is not fair and reasonable. 18. Both the CFDG s and CTRG s members are however very concerned that the phrase fair and reasonable is ambiguous and open to interpretation, and will therefore lead to more uncertainty. This problem is compounded by the fact that there appears to be no guidance as yet which assists the tax-payer in this respect. By signing a method declaration, a charity or indeed a business would have to accept ownership of the phrase fair and reasonable even though it is not sufficiently precise or clear

4 Retrospective action 19. The ability of HMRC to retrospectively re-assess a previously approved method also prompted concern from our members in that VAT registered charities may find themselves operating with what amounts to a provisionally sanctioned special method which HMRC may then subsequently revoke ab initio, subject to the three year cap. In situations where there has been an over-recovery of VAT, the charity concerned would then face a substantial back charge plus any applicable interest. 20. Such a situation presents a unique problem for charities since they are generally companies limited by guarantee, in other words they do not have access to share capital and they have low reserves. Most charities habitually spend what they receive and would be criticised by their regulator, the Charity Commission, and indeed donors if they did otherwise. This stems from the fact that charity trustees are under a general legal duty to apply charity funds within a reasonable time of receiving them. 21. The CFDG and CTRG hold that guidance is needed to help charities understand the precise circumstances that would trigger such a retrospective action by HMRC. This guidance would need to indicate that retrospective revocation of a special method would be unusual and would not normally occur in the absence of evidence of a deliberate or reckless attempt to deceive or manipulate the result. 22. There is also concern that this power to revoke a special method ab initio is unilateral and does not apply to the tax-payer. In other words, a charity is not given a similar opportunity to revise its special method with the benefit of hindsight in situations where there is potentially an under-recovery of VAT. HMRC justifies this on the basis that a registrant should be able to foresee developments and consequences in its business in a way HMRC cannot. In the charity sector however, the trustees (i.e. the people responsible for the general control and management of the administration of a charity, the equivalent of the directors of a business) are typically volunteers who do not work in the charity full-time and may not primarily be financial people. This clearly places charities at a disadvantage. 23. Related to this point is the concern that our members have about the role of trustees and other employees in charities in general. The proposed changes would make the work of both charity trustees and other employees more onerous, and could therefore lead to good candidates being deterred from coming forward. Many charities rely on the important contribution of volunteers, without whom the charity would not be able to pursue its charitable objectives with the same effectiveness. Other points 24. At the meeting on 29 June, CTRG and HMRC discussed the non-business / business apportionment. HMRC were unable to provide immediate reassurance that a retrospective assessment could not examine the apportionment in circumstances where a method is considered to be incorrect due to an overstated non-business / business apportionment

5 The CFDG and CTRG asks that the position be clarified as to whether any apportionment analysis is out of the scope of the proposed measures detailed in this consultation and so the analysis could not be subject to any retrospective assessment. In our view, a special method override notice (SMON) should not be allowed on the basis of a business / non-business calculation. 25. The CFDG and CTRG recommend that HMRC consider the possibility of establishing standard special methods for charities with a menu of options for charities to choose from. Examples of special methods appropriate for charities could also be included in the guidance notes accompanying the changes to the partial exemption regime. Conclusion 26. The CFDG and CTRG have generally been reassured that the proposed changes are not targeted at the charitable sector. However, concerns remain among our members and the wider charity sector about the proposed measures. We hope that these concerns will be taken seriously and HMRC will be able to take appropriate action to address them. In particular, we urge that the special position of charities is recognised with appropriate guidance notes made available about the impact of the measures on the sector. The CFDG and CTRG would be happy to comment on any draft guidance produced by HMRC. 27. While no material loss of revenue to the Exchequer appears to be in question from the charitable sector, a very material risk to individual charities may arise from the proposals. The proposed measures would also result in added complications for charities, an outcome that would not be supportive of the partnership the Government is seeking from the voluntary sector. CFDG & CTRG July