VAT and value shifting

Update: HMRC has now announced that no legislative changes will be made and has instead published additional guidance on how it expects consideration to be apportioned between items within a bundle of services or goods, see “VAT and value shifting: new guidance”.

HMRC has published a consultation document, "VAT and Value Shifting", consulting on changes to be made to the way in which the consideration for a bundle of separate supplies is apportioned for VAT purposes. There is concern that the current rules allow manipulation of the values apportioned to the different elements of the bundle to achieve inappropriate VAT savings. Accordingly, the government is intending to introduce more prescriptive rules to prevent such manipulation.

Any changes are most likely to impact the retail sector where goods of differing VAT liabilities may be sold in bundles. However, the change in rules may in practice impact all businesses which are required to apportion consideration for a bundle of supplies, including those in the telecoms, publishing and finance sectors.

Background

The current VAT rules in VATA 1994 s.19(4) provide that where "a supply of any goods or services is not the only matter to which a consideration in money relates, the supply shall be deemed to be for such part of the consideration as is properly attributable to it." Accordingly, where there is a bundle of supplies for a single consideration, the consideration must be apportioned between the supplies properly. The apportionment of the consideration to the various elements is particularly important where those elements have different VAT liabilities.

The current law does not prescribe that any particular method should be used. HMRC policy is that businesses can use cost-based methods, (actual) market value-based methods or any other method that produces a "fair" result. However, this can lead to different tax results for very similar bundles. In particular, HMRC guidance specifically deals with two methods of apportionment: one is based on cost and the other on market value. However, HMRC is now concerned that cost-based apportionments can be manipulated to increase the cost of the zero rate, reduced rate or exempt supplies in order to reduce the amount of VAT accounted for on the bundle. In addition, where businesses use estimates of the market value of items, which are not sold separately, and therefore have no actual sale price, it can be difficult to demonstrate the true market value of the items, leading to significant uncertainty.

Accordingly, the Government intends to legislate to prevent inappropriate value shifting. Although the change is primarily intended to prevent unfair VAT apportionments, all businesses selling bundled supplies will have to follow the new rules. The intention is to provide legal certainty and make the calculation of VAT for mixed supplies more straightforward, thus levelling the playing field for all businesses.

The consultation does not consider the VAT treatment of single composite supplies.

Proposed changes

The Government intends to introduce mandatory valuation methods. Cost-based apportionments will not be permitted where items sold in bundles are also sold separately, and therefore their individual sale prices are known. Estimates of market value will not be permitted at all and use of cost will be mandatory for items which are not sold separately and therefore their actual market value is not known.

Where each item in a bundle is also sold separately by the supplier, an apportionment based on the separate sale price of each item will be mandatory.

Where one or more items in a bundle are also sold separately and one or more of the other items in the bundle are not sold separately, the consideration must be apportioned using a combination of sale price(s) where known and cost(s) where the sale price(s) is not known. However, where the difference between the total consideration for item(s) where the sale price is known and the total consideration for the item(s) where the sale price is not known (the remainder) is greater than the total consideration for item(s) where the cost is not known, the remainder must be used. This means that the consideration must therefore be apportioned between the known sale price(s) and the greater of:

• the remainder of the consideration and;
• the cost of the item(s) not sold separately.

Where none of the items in a bundle are also sold separately, cost-based apportionments will be mandatory.

The consultation also makes clear that if for any reason a single consideration for multiple mixed supplies was not liable to be apportioned to items held out as "free" within the bundle, the provisions in VATA 1994 Schedule 6 would apply to require output VAT to be accounted for on the basis of a deemed supply. (Though in most cases the recent Marks & Spencer case makes it clear that items in a bundle described as "free" are actually supplied for part of the consideration attributable to the whole bundle.)

Comments

The consultation makes it clear that the government has decided to bring in these changes and is merely consulting on the design and detail of the legislation to be brought forward. Accordingly, the broad principle of the proposal is set, but businesses are requested to comment on how best these can be written into UK law, to draw attention to any issues that the new rules may present and highlight whether greater clarity is required in some areas. Businesses are also invited to provide suggestions of other ways to tackle the issue of value shifting more generally.

This is certainly an opportunity for affected businesses to engage actively as the devil will very much be in the detailed design of these rules. It is not clear at this stage that a "mechanical" set of rules will operate more fairly and will not be open to manipulation - in the absence of further anti-avoidance measures. Questions remain over the identification of cost and actual sale price of items and it may be that very detailed provisions will be needed to identify these figures covering a range of different scenarios.  

The consultation is open for comments until 30 March 2021 and comments should be sent by email to valueshifting@hmrc.gov.uk