Policy paper

Revenue and Customs Brief 22 (2015): changes to VAT regulations following judgment in the case of Le Credit Lyonnais (C-388/11)

Published 11 December 2015

Purpose of this brief

This brief gives notice of changes to UK legislation following the decision of the Court of Justice of the European Union (CJEU) in Le Credit Lyonnais. You can read the full text of the decision on the curia.europe.eu website.

Readership

Partly-exempt businesses with establishments both within and outside the UK will need to be aware of these changes. Financial institutions, such as banks and insurers, are most likely to be affected.

Background

In Le Credit Lyonnais the CJEU found that the VAT Directive could not be interpreted so as to allow a company to take into account the turnover of its foreign branches when calculating how much input tax it can deduct in the member state where it has its principal establishment, using a ‘single pot’ calculation. It also found that a sector in a partial exemption method could not be based on a geographic location.

To reflect that decision, the March 2015 Budget announced our plans to exclude supplies made by overseas branches from partial exemption methods. As a result of feedback on the subsequent consultation, we have narrowed the scope of changes to those set out below.

We exposed draft regulations to implement the necessary changes for a limited consultation in October 2015. We have revised the draft regulations in response to comments received.

Changes to the VAT Regulations 1995

Regulation 101 will be amended to make it clear that the value of supplies made from establishments outside the UK cannot be taken into account by businesses using the standard method.

Regulation 102(1A) will be amended to make it clear that:

• where a sectorised method is used, each sector within it must reflect the use to which VAT-bearing costs are put in the business and in that sector, the structure of the business and the type of activity undertaken by that sector
• the value of supplies made from establishments outside the UK can only be taken into account in a sectorised method

Changes will be made to Regulation 103 to mirror the changes to Regulation 102.

Operative date of the changes

Changes to Regulation 101 will have effect in relation to any ‘standard method’ longer period beginning on, or after, 1 January 2016.

Changes to Regulation 102 will have effect in relation to any methods approved or directed by HM Revenue and Customs (HMRC) on, or after, 1 January 2016.

Changes to Regulation 103 will have effect in relation to VAT prescribed accounting periods beginning on, or after, 1 January 2016.

What this means

Regulation 101 (standard method)

The value of supplies made by overseas establishments will be excluded from the standard method.

Businesses that make supplies from overseas establishments and currently use the standard method will no longer be able to recover related input tax on the basis of ‘use’ under Regulation 101 and a number of options will apply, as follows:

• where such a business continues to use the ‘standard method’ it will need to apply the UK recovery rate when recovering input tax used to make supplies from overseas establishments
• where such a business continues to use the standard method, and the difference between the result of using that method and using a method which fairly reflects the use of the tax bearing costs exceeds £50,000 (or £25,000 in the case of group undertakings), it will need to account for the difference because of the effect of the standard method override set out in Regulations 107A - 107F
• such a business can apply to use a special method
• where such a business continues to use the standard method and there is a material difference between the result of using that method and using a method which reflects the extent input tax is used in support of overseas supplies (whether a difference is material will depend on the circumstances of the particular business, such as the amount of VAT incurred and the difference in VAT recoverable), we will expect that business to apply to use a special method pursuant to Regulation 102 even if the standard method override is not engaged. In the absence of such an application we may direct the use of a special method

Regulation 102 (special methods)

Methods that are not based on sectors cannot include the value of supplies made from overseas establishments. For partial exemption special methods, a business may only have a method based on sectors where:

• each sector within it reflects the use made of goods and services in the business and in that sector, the structure of the business and the type of activity undertaken by that sector

Regulation 103 (foreign and specified supplies)

Where a business has a special method that does not attribute input tax in respect of the foreign and specified supplies it makes, it will need to reflect the changes to Regulation 103 in prescribed accounting periods beginning on or after 1 January 2016.

Calculations that are not based on sectors cannot include the value of supplies made from overseas establishments

For Regulation 103 a business may only have a calculation based on sectors where:

• each sector that it is based on reflects the use made of goods and services in the business and in that sector, the structure of the business and the type of activity undertaken by that sector

Record-keeping

In practice, HMRC will expect a business to keep sufficient records to demonstrate how it allocates its VAT-bearing costs to the parts of the business represented by sectors and how it uses those costs in each sector.

Further information

Guidance will be updated to reflect these changes. In practice HMRC expects few businesses to be affected, since most businesses that make supplies from overseas establishments already use a special method that is compliant with the new legislation.