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HMRC internal manual

VAT Finance Manual

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Financial derivatives: futures contracts

Introduction

A futures contract is an agreement to buy or sell a fixed quantity of a particular currency, commodity or security for delivery at a fixed date in the future at a fixed price agreed at the date the agreement was reached. Futures contracts provide an opportunity for people to hedge (see VATFIN6400) to offset specific risks or to speculate (with the intention of profiting from changes in the prices of futures contracts).

A financial future is an agreement to buy or sell financial services such as currencies, interest rates or securities.

Please see section VATFIN6600 for contracts traded on LIFFE.

Terms associated with futures trading

When looking at businesses that deal in futures contracts you may come across such terms as:

  • forwards contracts
  • actuals / physicals and
  • spot goods.

These terms are explained in the glossary at VATFIN9000.

Determining whether a contract is a financial derivative

To help determine whether a contract is a financial derivative you should consider:

  • the underlying - is the trading derived from a financial instrument (e.g. shares) or something else (e.g. a commodity)
  • Is the supply one of goods or services? (see VATSC03000 to help you decide this)
  • Are the parties members of a commodity exchange listed on the Terminal Markets Order (‘TMO’)? (Section 4 of VAT Notice 701/9 Commodities and Terminal Markets will help you ascertain this.)

Liability

Financial futures fall under either item 1 or item 6 of Group 5 and are therefore exempt from VAT. You would need to determine the correct item if there are intermediary services involved (see VATFIN7000).

Item 1 contracts

These include short-term interest rate futures, FT-SE 100 and other index futures, and other cash-settled contracts. These contracts are treated in the same way as dealings in money or securities for money. The supply of such a contract for a consideration as principal is exempt under Item 1, Group 5, Schedule 9 of the VAT Act 1994. Where such a contract runs to maturity there is no further supply for VAT purposes. Cash settlements under these contracts are not consideration for a supply and must be excluded from partial exemption calculations and VAT returns but see VATFIN6500 for other types of contracts.

Item 6 contracts

These include gilts, T-bonds, Bunds (German Government Bonds) or other securities (not being securities for money). Futures contracts based on deliverable item 6 securities fall under item 6. Where the contract does not provide for delivery of the underlying security (i.e. they are cash settled) they are item 1 contracts.

The supply of either an item 1 or item 6 contract as principal is exempt. If the purchaser belongs outside the EU, the supply is outside the scope of VAT and input tax may be recovered.