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Compensation payments can be big news. The VAT treatment of compensation payments usually not so much.
However, HMRC have just issued their long-awaited revised guidance on the VAT treatment of compensation payments, particularly those made on the termination of a contract.
Historically, HMRC have typically treated payments made to terminate an agreement as being outside the scope of VAT, essentially seeing them as ‘compensation’ (not being consideration for a supply but a payment made to compensate a party for loss).
Payments that became due when a contract is breached had also generally been treated as outside the scope of VAT.
However, in September 2020, following two high-profile ECJ VAT cases on termination payments, HMRC issued a Revenue & Customs Brief (12/20) to announce that in light of these cases, they had reviewed their policy and would be changing it to bring more payments within the scope of VAT.
The cases HMRC cited were those in MEO and Vodafone Portugal, both relating to charges made to customers who terminated their agreements. The ECJ ruled in both cases that these were payments for services (essentially payment for the goods and services the customer had contracted to receive) and thus subject to VAT, rather than outside the scope of VAT compensation payments.
HMRC’s initial guidance was vague as to which types of payment they would be seeking to bring within the scope of VAT, and it also suggested that the changes would be retrospective.
Unsurprisingly, this resulted in a backlash from taxpayers and their advisors, and HMRC announced that they would further review the position and provide further guidance at a later date.
That guidance is now with us, and it is clear that termination payments will now typically be seen as further payment for the goods and services that were contracted for (in line with MEO and Vodafone Portugal) rather than being treated as outside the scope of VAT.
One positive development announced by HMRC (which had already been indicated early in 2021 after initial suggestions that changes would have retrospective effect) is that any changes will not now have to be applied until 1 April 2022.
HMRC have also confirmed that charges for the late return of hired goods (e.g. car hire) are to be considered further payment for the hire and subject to VAT (although those of us who remember the JG Leigh video hire case of will not be surprised by this).
Dilapidation Payments Have Been Spared
Although the general thrust of the revised policy is to bring certain ‘compensation’ payments into the scope of VAT, there are some important exceptions. For example, one of the key areas of concern was the treatment of dilapidation payments (payable at the end of a property lease if the property is not returned to the landlord in the agreed condition), which many feared would become subject to VAT. HMRC have confirmed that in most cases such payments will not be caught by their revised policy and will remain outside the scope of VAT (although HMRC may not follow this approach if they consider values have been distorted to gain a tax advantage).
PCNs just won’t go away
One area that remains uncertain is that of deterrent parking charges. Those who have kept abreast of HMRC’s policy on parking-related transactions will know what a mess this has been over the years, not least the VAT treatment of Parking Charge Notices (‘PCNs’), the tickets issued by parking operators when a motorist has breached parking terms and conditions.
After many years of litigation, HMRC’s current policy is that PCNs are outside the scope of VAT (effectively compensation for breach of contract). Their guidance has always stated, however, that if a parking operator imposes a charge for ‘overstays’ (e.g. free for 3 hours but £70 if you stay for longer) the £70 is subject to VAT. However, this would only apply where the terms and conditions “make it clear that the driver can continue to use the facilities after a set period upon payment of the further amount without being in breach of the contract.” All but the most careless parking operator therefore makes sure that any such charge would only be imposed as a breach of terms and conditions, so this exception never applies.
This policy remains in place after HMRC’s review of compensation payments (ref VATSC06140 and VATSC05840), but we are aware that the European Court of Justice may have just thrown a spanner in the works (in the case of Apcoa Parking Danmark case – C‑90/20) by ruling that PCNs are subject to VAT.
The Apcoa case has been running for a while and HMRC will have been aware of it while they were reviewing their policy on compensation payments (the EC Advocate General’s Opinion suggesting that PCNs should be subject to VAT was released in June 2021).
Of course, because the UK has now left the EU, the Apcoa judgement has much less weight than it might have had, but it will be interesting to see whether HMRC use its findings as an excuse to impose VAT on PCNs, although it does contradict HMRC’s current revised policy.
I expect there to be many more similar cases in future, as HMRC’s revised policy is put to the test.
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