Is it input tax: how to apply the Lennartz mechanism
How to calculate the value of Lennartz mechanism supplies
The value of the deemed supply under the Lennartz mechanism should be based on the full cost to the business of making the goods available for private use. Articles 26(2) and 75 of the Principal VAT Directive and paragraphs 5(4) and 9 of Schedule 4 VAT Act 1994 refer.
The full cost is all the VAT bearing costs of acquiring the goods, excluding the VAT itself.
The cost of obtaining the goods is then spread over a period called the economic life, now five years or sixty months for all goods (ten years for most immovable property up to 31 December 2010).
The cost attributed to a particular VAT return period is then multiplied by the percentage of private use in that period to give the full cost of the deemed supplies of making the goods available for private in that VAT return period. These supplies are deemed to be made on the last day of the period (VAT Regulation 81(2)). As a result output VAT on them is to be accounted for on the VAT return for that period.
At the end of the economic life the whole of the cost of the goods will have been taken into account in calculating deemed supplies. At this point the deemed supplies cease. This ensures that private use of the goods is not excessively taxed. VAT (Special Provisions) Order (SI1995/1268) Article 10A ensures that no output tax charges are due for periods after the economic life expires.
When does the economic life of goods start and end?
The economic life starts on the day of the first use of the goods and runs continuously for five years unless there are periods of no use.
How to calculate the value of the deemed supply
The value of the deemed supply for the private use of a business asset should be worked out using the formula below. This is subject to A being amended due to periods of no use (see below). The formula will give the value of the supply for a VAT return period; normally one, three or twelve months.
A x (C x U per cent)
A is the number of months in the VAT return period during which the private use happens and which fall within the economic life of the goods.
B is the number of months of the economic life of the goods. This is normally sixty months. However, the period may be shorter if, for example, the goods are due to be disposed of in say three years’ time.
C is the full VAT bearing cost of the goods (excluding VAT itself).
U per cent is the extent of private use in the VAT return period expressed as a percentage of the total use made of the goods during the VAT return period.
There is no prescribed method for working out the private use percentage of the goods. However, the method used must arrive at a fair and reasonable figure. It must also demonstrably reflect the actual use of the goods, which may change and must be monitored from period to period.
U per cent is based on actual use of the goods. Where, for example, goods are used ten days for private purposes, and ten days for business purposes in a ninety day VAT return period, U per cent will be 50 per cent.
Periods of no use after the start of the economic life of goods
A deemed supply only arises where there is actual private use of goods within a VAT return period. So where goods are used exclusively for business purposes within a VAT return period no deemed supply arises in respect of those goods.
It therefore follows that where there is no use at all of goods within a VAT return period no deemed supply will arise, even though the goods are still being held for future mixed business and private use.
To address this VAT Regulation 116F adjusts “A” in the basic formula set out in the section of this manual that tells you how to calculate the value of the deemed supply.
Under normal circumstances “A” will be the number of months in the VAT return period. This is usually three months. However, where a VAT return period is preceded by one in which no use happened “A” must be increased to reflect not only the number of months in the current period but also the number of months in the previous no use period or periods.
When do Lennartz output tax charges stop?
- at the end of the economic life of the goods, normally sixty months.
- on the sale of the goods. Lennartz goods are by definition an asset of the business. When that asset is sold it must be treated as a business supply for VAT purposes. Where appropriate output tax must be declared on the full selling price. No further Lennartz deemed supplies can arise since the goods are no longer an asset of the business. Effectively this brings to an end the economic life.
- on the disposal of the goods for no consideration. In this case there may be a deemed supply of the goods under VAT Act 1994 Schedule 4 Paragraph 5(1) at their market value at the time. The market value is what it would cost to purchase goods of similar age and condition. See VAT Act 1994 Schedule 6 Paragraph 6.
- on taking the goods into wholly private use so they no longer form part of the assets of the business. In this case there may be a deemed supply of the goods under VAT Act 1994 Schedule 4 Paragraph 5(1) at their market value at the time.
- on deregistration. In this case there may be a deemed supply of the goods under VAT Act 1994 Schedule 4 Paragraph 8 at their market value at the time.
Any business that decides to apply the Lennartz mechanism should be fully aware of the implications and requirements following its decision. The requirements are:
- output tax must be accounted for in each accounting period in which private use of the goods occurs; and
- records must be kept showing how the relevant goods have been used.
A business should be aware that apportioning the VAT incurred could give it a more favourable treatment in the case of goods which go up in value. This is because on the sale of the goods VAT will only be due on the business proportion.