Our charity and not-for-profit clients have, over the years, asked us many questions about VAT. Here we look at a small selection of those more frequently asked questions.
We would stress, however, that this only covers a very small selection of the VAT issues affecting the charity and not-for-profit sector and we would recommend that advice is always sought, even if just to ensure you are able to rest easy knowing that you have reviewed your position.
We are only a small local charity, can’t we buy things we need VAT-free?
Although the Government has introduced a number of specific reliefs from VAT to help the charity sector, the truth is that many of your costs will include VAT. Unfortunately, you will probably be unable to reclaim much of this. The focus for you will be to ensure that your various suppliers apply the reduced or zero-rate of VAT where they can, to reduce your VAT costs overall.
But we’re not running a business. Does VAT really apply to us?
Unfortunately yes it does. VAT is a tax on individual sales of goods or services. So whenever you sell something in return for payment, even though you might not make any profits, you are probably within the VAT system and have to deal with all its obligations.
I’ve never dealt with VAT before. Is it something we can do ourselves or do we need help?
It is a sad fact but the charity sector is forced to grapple with some of the most complicated areas of VAT. That is not to say that you are unable to deal with it yourself, but we would recommend that a specialist adviser helps you understand the VAT issues that affect your organisation and set up your accounting systems in the right way to produce the information you need. Going forward, you will probably be able to deal with the routine VAT returns by yourself. However, to ensure you are protected from a nasty VAT bill later on, we would always recommend seeking advice when anything unusual needs addressing or you are considering a new project.
HMRC have written to us saying that we are in business and owe VAT. Have we done something wrong?
This is one of the most common problems for the charity sector, when they have a source of income that is believed to be free of VAT but HMRC holds a different view. Often you haven’t done anything wrong, it could simply be that the contract or funding agreement was not drafted with VAT in mind and is therefore not as clear as it could be; allowing HMRC the opportunity to challenge the VAT treatment. It often revolves around grant-funded activities where there can be a fine line between a grant and payment for services provided under a contract. On the one hand, a grant is free of VAT, whereas services under a contract could be subject to VAT at 20%. Obviously, there is a big difference here, particularly if the person providing the grant is unable to reclaim the VAT. Conversely, charging VAT will enable you to reclaim VAT you pay out on associated expenditure, so being in the VAT system might actually be good news! Where the person providing the grant can reclaim any VAT you might charge, Local Authorities for example, then it is in your interest to work under a service contract rather than a grant-funded arrangement. These and other similar areas need careful consideration to not only get the VAT position right, but also make it work in the best way for the charity in question.
One of our trustees thinks we may have non-business issues and partial exemption. This is all getting complicated. Are they different things or can we deal with them together?
The first question for you to consider is whether your activities are carried on in the course of business for VAT purposes. Non-business activities will generally not allow you to reclaim any VAT paid on associated costs. Furthermore, any business activities could be subject to VAT at 20%, 5%, 0% or even exempt from VAT. This is partial exemption and, again, exemption from VAT prevents VAT paid on associated expenditure from being reclaimed. Determining whether your activities are business or non-business, taxable or exempt is crucial before you even start to work out how much VAT you can reclaim.
How do I work it out?
The short answer is that there is no set process. Once you have determined the VAT treatment of your activities, you then have to carry out partial exemption and business vs non-business calculations to work out how much VAT you can reclaim on your costs. The two can be dealt with quite separately but to simplify things HMRC do allow both to be dealt with in one process. You need to come up with a method of apportioning your expenditure between the different activities. The relative value of income streams is one method (proxy) that is often used and is the legal default method for partial exemption calculations, but you can agree something quite different with HMRC if it better reflects how you use your costs. These calculations can be very subjective and are unfortunately the cause of many disputes between not-for-profit organisations and HMRC.
We let out some rooms, for example to local mother and toddler groups, and just recoup our costs. HMRC are saying that’s a business activity and want VAT from the building works we had completed some years ago. But we didn’t pay VAT. Can that be right?
We talked about non-business activities above preventing you from reclaiming VAT on associated expenditure. Non-business activities have a considerable upside however in that they can qualify you to receive many types of goods and services free of VAT, including building works. At the time, the view was taken that your hiring out of the rooms for charges set at a level to simply recoup your costs remained a non-business activity for VAT purposes. This view has been followed by the Courts in many such disputes with HMRC, although HMRC has a tendency to ignore the Courts’ decisions when it suits them. HMRC are arguing that you have supplied services in return for payment which is a business activity for VAT purposes. The fact that the income was exempt from VAT doesn’t matter, because either it could mean that your builder should have charged you VAT at the time or you have changed your activities and HMRC can charge you VAT on a proportion of the original building costs. Where a builder relied upon the non-business certificate you provided at the time, HMRC will sometimes demand the VAT from the charity involved, as they are doing here. More recent disputes in this area are going to the Court of Appeal which will hopefully provide final guidance on whether a commercial motivation test has any relevance to VAT.
We want to rent some office space for our team giving out grants but the landlord wants to charge VAT which will make it very expensive.
Provided you will use the office for non-business purposes, you can give the landlord a certificate to that effect which will prevent them charging VAT on the rent. However, they may not be happy with that as it may result in VAT problems for them, so we suggest that you broach the subject carefully before formally confirming the situation. In some situations, landlords might be more willing to reduce the rent but keep it VATable, rather than remove the actual VAT charge itself.
We own our building and need to undertake building works but adding 20% VAT to the costs will mean we need more funding. The charity down the road says they got all their building works VAT-free. Can we do that?
If you want to simply renovate your building then there may be little that can be done about the VAT. If you want to construct an extension or annexe, however, provided it can be structured as a self-contained annexe and subject to certain conditions, you may be able to arrange its build free of VAT. You will need to be careful, however, as HMRC are strict on the type of annexes they will allow to be built free of VAT and you will need to consider the VAT implications from the very first stage of seeking planning permission to ensure that everything ties up together.
We have always treated our trading as business activities but HMRC are saying it is non-business and want us to pay back all of our input VAT back.
This often happens when a charity is providing goods or services that are free of VAT such that it is in a regular or even permanent refund situation as regards its VAT returns. HMRC will argue where they can that the activities are actually non-business to try and block your input VAT refund claims. The message really is to think about your contracts in advance and make them as robust as possible and drafted clearly as sales contracts with goods or services provided in return for payment. The key is a ‘direct and immediate link’ between the goods or services provided and the payment received, even if the payment comes from a third-party.
Some of our corporate sponsors are quite generous and we want to give them some rewards for their donations such as a number of tickets to an event or an award named after them. The money they give us is still ok isn’t it?
This is an area of real difficulty and one that has resulted in many charities owing significant sums of VAT. The simple rule is that if the donor is given no more than a simple acknowledgment of their support, then the donation is not seen as payment for anything and is free of VAT. As soon as you display their brand or logo, or name an award after them, they are seen as receiving advertising services from you and the whole sum could be subject to 20% VAT. This also applies to free tickets to the event which are seen as a supply of services by you in return for the money. In some situations, where you can identify the price of the goods or services and the amount of the donation on top, HMRC may allow VAT to be applied just to the actual payment leaving the additional donation free of VAT, but this would need to be examined carefully to avoid an unpleasant additional VAT bill.
The next step
For more information, or to find out how our VAT consultants can help you further, please contact one of our VAT advisers at your nearest location, or complete our contact form.