Specific applications: Services incidental to supplies of goods: credit charges
General - the granting of credit on a supply of goods or services or the provision of instalment credit finance in a hire purchase agreement is an exempt supply provided that a separate charge is made and disclosed to the recipient of the supply.
Premature ending of an agreement governing a supply of goods - where an agreement is ended prematurely (e.g. due to early settlement, or default and repossession of the goods) a trader may claim that the original credit charge has been reduced. The method commonly used by credit traders to apportion instalments between payment for the goods and for the credit is known as the “Rule of 78”. This is explained fully below. You can accept this method or any other method that traders use consistently as a means of determining the element of exempt credit, providing the apportionment is on a fair and reasonable basis.
Penalty charges - if a penalty is imposed upon customers for late payment, the penalty does not represent consideration for any supply and is outside the scope of VAT.