Helping you prosper
Charities typically have multiple income sources. Determining the VAT treatment is important from a risk and compliance perspective. However, determining the correct treatment is rarely straightforward. This article explores the typical VAT challenges facing the charity sector.
Understanding business activities
In 2022, HMRC updated the definition of business activities. This change moved away from older case law (the Lord Fisher tests) in favour of two simplified criteria derived from recent court cases:
- Does the activity result in a supply of goods or services for a consideration?
- Is the supply made for the purpose of obtaining income?
If both these tests are met, then the activity is within the scope of VAT (if the place of supply is the UK).
Key considerations
There are several matters to consider when applying these tests, including (but not limited to):
- Test 1 – requires a legal relationship between the supplier and recipient and the provision of consideration
- Test 2 – includes supplies made at or below cost – there is no requirement to make or intend to make a profit.
VAT treatment of common funding sources
Grants and donations
Where money is freely given, this is outside the scope of VAT. This means the donor (or a third party) receives no benefit in return for the monies.
Example
A corporate sponsor gives £1,000 to a charity. In return for the funding, the charity agrees to acknowledge the funding by placing the sponsor's logo on its website. This is within the scope of VAT as the monies are conditional on the placement of the logo.
Fundraising
There are several rules governing the VAT treatment of fundraising activities. These should be considered to ensure the VAT consequences are fully understood, and any reliefs are maximised.
Example
If a charity requires a minimum donation to take part in an event, this amount is within the scope of VAT. An example where a minimum donation is required to take part in a charity parachute jump.
Public sector funding
This is an increasing issue as some public sector bodies move to a procurement model when distributing funds. This can result in a change to the VAT treatment.
Example
A local authority provides grants for community activities. It changes the grant provision to a procurement exercise, and the monies are awarded through a contract. This contractual arrangement is likely to be a taxable supply for VAT purposes.
Reliefs
There are a limited number of reliefs available to charities that remove the requirement to account for VAT on income. These include the secondment of staff to other charities, which can be outside the scope of VAT if the criteria are met. Goods donated for sale can be zero-rated for VAT purposes.
Example
Donated goods sold through a charity shop can be zero-rated. There are conditions, including but not limited to the goods being available for purchase by the public.
Consequences
Registration
The compulsory VAT registration threshold is currently £90,000. This limit is calculated based on the turnover of taxable supplies (including zero-rated items). If you exceed this threshold temporarily, you may request an exception from HMRC, though approval is discretionary and strictly prospective.
VAT recovery
Where business income is received, this can create an entitlement to VAT recovery. The amount of recovery must be established, and non-business and any exempt activities must be considered. This can result in the requirement to make a fair and reasonable apportionment of VAT incurred.
Note: Income outside the scope of VAT (like pure grants) doesn't automatically restrict recovery. The determining factor is how the incurred VAT is actually used.
Summary
VAT is likely to be an issue for all charities, either in respect of income and the mandatory treatment, or in respect of VAT costs on expenditure. Whether it’s managing income treatment or maximising recovery on expenditure, HMRC expect reasonable care to be applied, which will always be a fundamental governance requirement.
The next step
UHY’s specialist VAT team, led by partner Sean Glancy and director Lisa Burnside, has extensive experience advising non-profits on governance and financial resilience. For any VAT-related inquiries, please get in touch.
