Charities often operate as part of an informal group structure, made up of other charitable companies, trusts or trading companies. As costs incurred by one entity are often charged to another, charities should be aware that such arrangements can give rise to unexpected VAT costs.
Charities which jointly employ staff, for example between their trading arm and a delivery arm, must be careful of such issues. As previously reported in Third Sector, a VAT tribunal has ruled that a company which had claimed to jointly employ staff with another was in fact making a supply of services, and that VAT was due on the payments received even though they were described as wages. This could affect many charities which believe that they are jointly employing staff with their subsidiaries.
Although there has been no public statement suggesting that there has been a departure from HM Revenue & Customs' stated policy that there is no supply of staff for VAT purposes between joint employers, our experience suggests that HMRC is looking closely at the treatment of cross-charges between group companies (such as those for staff costs).
Any cross-charges between entities that are not part of a VAT group are potentially subject to the standard rate of 20 per cent. This is particularly important in cases where the 'supplier' is not VAT registered, and in such cases the registration limit should be monitored to ensure that it is not exceeded inadvertently. If a cross-charge arrangement dates back several years and the supplier has not registered, there is a risk of a late registration penalty of up to 15 per cent of the VAT due during that period.
Where the supplier is registered for VAT but failed to account for the tax, HMRC can raise an assessment for the past four years (and longer in the case of fraud). In the case of a 'careless error', a penalty of up to 30 per cent of the potential lost revenue can also be imposed.
The existence of cross-charges may not be obvious, because they may appear only as an accounting entry, rather than as a result of an invoice or monetary payment. A simple book entry or an adjustment to the accounting records can be enough to create a taxable supply on which VAT may be due. There may also be circumstances where, even when no such adjustment is actually made, the VAT rules might deem a standard-rated recharge to have been made. Although staff costs are a typical example of cross-charges, management services provided between entities, and costs incurred by one entity and passed on to another may also trigger a liability.
Charities within a group structure should regularly review their recharging arrangements to ensure that any potential tax costs are identified at an early stage.
Andrew Robinson is a tax director at Grant Thornton