VAT focus The financial services exemption

1 ~ 24 May 2013 The rst step is to identify which services qualify for the nancial services exemption and which follow the normal rules. What qualifies?!ere is a formal list of the nancial services which qualify for exemption in the legislation (VATA 1994 Sch 9 Group 5, re"ecting art 135(1)(b) (g) of the EC VAT Directive 2006/112/EC). HMRC s interpretation of qualifying nancial services is set out in Notice 701/49. Rather than dryly listing the exempt supplies given in the legislation and HMRC s interpretations, this article will take the reader through common scenarios which show the basic principles in practice. Example 1: Loans (and other supplies of credit)A company lends money to customers. What are the VAT implications? !e supply of credit to a UK customer quali es for exemption under VATA 1994 Sch 9 Group 5 item 2.

2 A supply of credit is not restricted to loans. A common example is an instalment plan, in which the customer pays more for the goods as a result of the cost of credit. !e important VAT test for instalment plans is whether the charge for credit ( interest) is separately identi ed. If it is, the supply of that credit is exempt. Otherwise, the supply of credit is not exempt and the consideration received from the customer will be taxed at the appropriate rate for the supply of the goods. A more complex example arises if a separate nance company is involved. Expensive equipment can be purchased on nance from retailers via an instalment plan. !e package is o#en provided by a separate company. Careful analysis of the transaction is needed: the retailer might have supplied the equipment to the nance company (not to the customer), with the nance company making the nal supply of both equipment and credit to the customer.

3 !is last point is important for business customers, who will need a full VAT invoice from the true supplier ( the nance company, not the retailer) if they intend to claim any input VAT. In the above examples, the customer belongs in the UK or elsewhere in the EC. In practice, it will be important to enquire whether the customer taking a loan from the UK lender belongs outside the EC. If so, the supply of credit would not be exempt, but would not be standard rated either. !e supply would fall outside the scope of UK VAT (VATA 1994 Sch 4A para 16(2)(e)). !e lender will still charge no VAT on the supply of credit, but it will also be entitled to recover input tax on related costs. Example 2: Financial intermediary servicesA company introduces a borrower to a lender.

4 Can the company exempt its introduction services ? !e supply of nancial intermediary services can qualify for exemption under VATA 1994 Sch 9 Group 5 item 5. Intermediaries are more commonly known as agents, brokers or introducers, but the exemption is to be interpreted narrowly and note 5 helps to achieve this: .. intermediary services consist of bringing together, with a view to the provision of nancial services , (a) persons who are or may be seeking to receive nancial services , and (b) persons who provide nancial services , together with (in the case of nancial services falling within item 1, 2, 3 or 4) the performance of work preparatory to the conclusion of contracts for the provision of those nancial services , but do not include the supply of any market research, product design, advertising, promotional or similar services or the collection, collation and provision of information in connection with such activities.

5 In this example: !e borrower satis es condition (a). !e lender satis es condition (b). !e introduction was made for the purposes of a loan, which we know from example 1 quali es as a nancial service under item 2. Even if the loan is never nalised between the parties, the introduction was made with a view to the provision of a loan and can therefore still qualify for the exemption . !e di%culty in this example lies in the nal part of note 5. We know that lending falls under item 2 and therefore preparatory work will be an additional test in this case. What is preparatory work? !e EC VAT Directive 2006/112/EC refers to the granting and the negotiation of credit and the management of credit by the person granting it (art 135(1)(b)).

6 !e introducer can therefore claim exemption if, as preparatory work, they negotiate terms between the lender and the borrower. In practice, HMRC accepts that helping a client to ll in an SPEED READ How does a taxpayer determine which of its supplies are exempt, which are taxable, and which are zero-rated or outside the scope of VAT? This article begins with a cross-reference to the lists of services which qualify for exemption , and provides practical examples analysing different types of supply: loans, financial intermediaries, financial advice (mixed supplies) and shares. Finally, three recent real-world cases are summarised, highlighting how the courts apply VAT concepts to supplies in the financial services industry. Kevin Hall is a VAT consultant at Gabelle LLP.

7 After graduating from Oxford, he qualified as an ACA and has specialised in VAT since 1998. He provides clear, practical advice on VAT issues involving property, cross-border transactions, financial services , mixed supplies, aircraft/yachts, margin schemes, etc. Email: tel: 020 7182 focusThe financial services exemption1824 May 2013 ~ form, checking it and forwarding it to the lender can qualify as preparatory work (VAT Manuals VATFIN7250), but excludes basic administrative and clerical work. It is worth observing that, although intermediary services qualify for exemption under various headings in the legislation including item 6, the requirement for preparatory work does not apply to item 6. Intermediary services relating to item 6 (supplies of shares, stocks and other securities) are therefore exempt even without preparatory work.

8 Perhaps less obvious is that exemption is not available for intermediary services relating to items 8 (bank accounts, etc.) or 9 (various types of investment management). Once again, it is important to enquire whether any overseas parties are involved. If so, the company might have a valuable opportunity to recover input tax on related costs. If the intermediary s client belongs outside the EC, the nancial intermediary service is not exempt, but falls outside the scope of VAT. !e intermediary will charge no VAT on its supply, but will also be entitled to recover input tax on related costs. If the client belongs within the UK or elsewhere in the EC, the nancial intermediary s services will be exempt. However, consideration should be given to the underlying nancial service facilitated by the intermediary.

9 If this underlying service is supplied to a customer which belongs outside the EC, the intermediary will be entitled to recover input tax on related costs. Example 3: Financial advice and mixed suppliesWhat happens if a nancial adviser provides nancial advice to his client, then introduces a lender to that client and negotiates the terms of a loan? In example 2, we found that the introduction service (with preparatory work) is exempt. Financial advice is not listed in VAT legislation as an exempt supply and should therefore be standard rated. However, one of the most complex issues in VAT at present is the concept of mixed supplies. !e idea is that two supplies, which independently have di&erent rates of VAT, together form a single supply with a single rate of VAT.

10 A signi cant recent change for nancial advisers and intermediaries was the retail distribution review (RDR). Although VAT law did not change, HMRC rewrote its guidance in this area to recognise that the supply of nancial advice and nancial introductions were o#en a single supply from the customer s point of view. HMRC considers the following example in its VAT Manuals (VATFIN7665), in which nancial advisers: 1 gather information about the customer (fact- nd);2 carry out research to nd suitable investment options;3 provide the customer with reports, nancial health-checks and forecasts;4 recommend speci c investment products to the customer, including the prices at which these can be arranged;5 act between the product provider(s) and the customer with a view to arranging the sale of the retail investment products agreed with the customer.