SPEED READ From 1 January 2010 the default rule for the place of supply of services shifted from where the supplier is located to where the recipient is established. For financial services businesses this has had a number of effects, the most significant of which are as follows. First, the changes have brought an increased number of services within the scope of the reverse charge, creating an additional VAT cost for businesses with limited VAT recovery. This will be a particular concern from 4 January 2011 when the standard rate of UK VAT increases to 20%. Second, the introduction of European Sales Lists for Services (‘ESLs’) has resulted in a new layer of compliance for a sector not currently set up to report this kind of statistical data. Moving forward, to deal with the additional burdens brought to the financial services sector businesses will need to carefully consider the VAT treatment of services, both those that are bought in from outside the UK as well as those provided to recipients in the EU.
Background
You have been approached by a large financial services business, Money Services Company Limited (MSC). MSC understands that changes to the VAT treatment of cross-border services have taken effect from 1 January 2010, but is unsure of the implications for MSC.
The following background to the companies’ current activities and potential future income streams is available:
The business provides a global money transfer service for private individuals. The business has branches in Poland, Australia, China and South Africa, as well as subsidiaries in France and Germany. Where non-UK subsidiary companies are set up the money transfer services are handled locally for regulatory purposes.
However, the branches have very little in the way of human or technical resources. Where a local branch structure is used, the money transfer service is provided from the UK. The money transfer business operates through the use of a network of agents in each country in which MSC has a presence.
Members of the public go to one of MSC's agents to transfer money to a recipient in another country, and based on the face value of money received for transfer, a commission is taken by MSC as payment for the money transfer service. MSC's agents receive a percentage of that commission as payment for their services. Additionally, MSC in the UK makes management charges to all of its non-UK establishments.
MSC's parent company is established in the US, and manages two US funds, which are not marketed to investors outside of the US. The parent company has a UK branch which provides advisory services on potential investments in the UK and EU market to the US parent company. The UK money transfer business and the UK branch of the US parent are VAT registered as a group in the UK.
The US business is considering setting up an additional investment vehicle in the EU to focus on the EU and UK market, this investment vehicle is expected to be UCITS compliant. At the moment it is expected that the fund will most likely be a SICAV established in Luxembourg. Some of the sub-funds will be marketed to retail investors and some will be marketed to institutional investors. Currently the business is considering establishing an investment management team within MSC in the UK as this company is already FSA regulated, and managing the SICAV from there.
The following information on services received from outside the UK by MSC and the UK branch of the parent company is also available:
MSC receives management services from its parent company in relation to which MSC has not been required previously to account for the reverse charge.
MSC in the UK also receives IT services, including electronically supplied support and updates in relation to its money transfer business from the United States. These services are provided to MSC as a whole and are therefore used in each of MSC's overseas branches as well as the UK.
In addition to this MSC receives administrative and support services from a shared service centre. These services are supplied to the parent company in the United States and its branch in the UK. The UK branch of the parent company then recharges MSC for these services.
Further services are supplied to MSC in the UK in relation to MSC's branches, including legal and professional advisory services.
For the investment management business it is currently envisaged that the majority of services necessary, including Bloomberg and IT support, will be purchased by MSC within the UK and, where necessary, legal and advisory services will be received from Luxembourg.
VAT issues
With effect from 1 January 2010 there are two different main rules for determining the place of supply of services, one where services are supplied to consumers (‘B2C’) and another where the services are provided to other businesses (‘B2B’).
This is significant, as the main rule (the default rule) for B2B services has changed from being supplied where the supplier belongs (and therefore subject to the VAT regime in that jurisdiction) to where the recipient belongs. The implications of this change are that, unless subject to an exception, the treatment of services must be determined in accordance with the VAT rules in the recipient's jurisdiction.
The services should be treated as being outside the scope of VAT in supplier's jurisdiction, but where the services provided would ordinarily be subject to a positive rate of VAT in the recipient's jurisdiction the recipient must account for a reverse charge on the value of the services provided. Where such services are provided the supplier will also have additional reporting requirements in the form of European Sales Lists (ESLs). In some jurisdictions the recipient of these services will also be obliged to report the value of services received on reverse charge sales lists.
Where the service provided would be exempt from VAT in the recipient's jurisdiction the supplier is not obliged to report the value of sales on his EC Sales List.
Applying the 2010 changes described above to MSC's scenario a number of issues are likely to arise. In order to analyse these issues we will review the scenario from the following three angles:
Treatment of supplies made by MSC
Money transfer services: Where MSC receives a commission for money transfer services provided to members of the public the VAT treatment of the service will not change. The place of supply of the service will remain as the UK for services supplied by MSC in the UK to its UK customers, as well those supplied by MSC's branch in Poland, as the place of supply of the service remains determined by the location of the supplier (under s 7A (2) (b)VAT Act 1994). Consequently, these services should be treated as exempt supplies within the UK and MSC will not be entitled to recover any of the associated VAT incurred.
This will alter slightly where the services are supplied to consumers located outside the EU. As financial service are being supplied to consumers established outside the EU, VATA 1994 Sch 4A para 16 will apply meaning that the place of supply shifts, and the services become treated as being made in the country in which the recipient belongs. Therefore these services would be treated as being outside the scope of UK VAT. In addition to this it would be possible, under SI 1999/3121 Art 3(a), for MSC to recover associated VAT incurred on costs.
Management services: The VAT treatment of management services provided by MSC to its branch and subsidiaries in other EU countries will change with effect from 1 January 2010. Previously these services would have had a place of supply of the UK, and, on the basis that the substance of the services provided by MSC could not be characterised as being a ‘reverse charge service’ under VATA 1994 Sch 5 (such as consultancy services), the supply would be treated as subject to UK VAT at the standard rate.
However, where these services are supplied intra-branch there would have been no VAT implications as supplies within the same legal entity are disregarded for VAT purposes.
As the services are supplied to recipients that are in business (B2B), the 2010 changes will have an impact. The main difference is that the place of supply of the management services charged to MSC's subsidiaries will no longer be the UK, but instead will be the recipient's country. The effect of this will be that instead of having to charge and account for UK VAT on the supply of management services MSC should treat these supplies as being outside the scope of UK VAT.
MSC will need to consider that if these services would be treated as subject to a positive rate of VAT in the recipient's country (this is likely in the case of management services) then there will be a requirement for MSC to complete EC Sales Lists in respect of these supplies. As with the pre-2010 treatment the intra-branch supplies will be disregarded as they take place within a single legal entity.
Fund management services: First, (following the amendments to the fund management exemption of 1 October 2008) the management of each sub-fund must be examined separately to determine whether it meets the criteria for VAT exemption, or whether it should be treated as a standard rated supply. It must be emphasised that the UK rules (set out briefly below) while informative, are not determinative as the VAT treatment will depend upon how the services supplied are regarded in the recipient's country.
Were the fund management services supplied in the UK, the steps to determine whether the services provided by MSC should be treated as exempt from VAT would be as follows:
If the services meet all of the above criteria, and the percentage of shares held by UK investors exceeds 5% of the total shares held by retail investors (the 5% de minimis provision), then the services would be treated as exempt in the UK. Consequently, were these services to be received in the UK no reverse charge would be applied.
If the above criteria are not met and the investments are deemed to be marketed to institutional investors then the services would be treated as subject to UK VAT at the standard rate.
It is anticipated that MSC will provide management services to two sub-funds, one of which will be marketed to retail investors and another which will be marketed to institutional investors. Therefore, MSC would need to identify whether the services it provides in relation to the sub-fund marketed to institutional investors would attract a reverse charge in Luxembourg.
As MSC intends to provide these services to the SICAV established in Luxembourg it will be necessary for MSC to determine whether the SICAV is considered to be in business for VAT purposes in order to establish whether the B2B or B2C rules should be applied.
If the SICAV cannot be treated as being in business for VAT purposes, and the B2B rules cannot be applied, MSC should charge and account for UK VAT.
If it is determined that the SICAV can be treated as being in business for VAT purposes and consequently the B2B rules apply, then MSC will need to apply the Luxembourg equivalent of the tests outlined above to identify whether its supplies would be treated as being exempt or taxable in Luxembourg to confirm whether ESLs must be completed.
Treatment of supplies received by MSC
Services supplied by money transfer agents: Where a percentage of the commission for money transfer services is paid to MSC's agents in each country the VAT treatment will depend upon whether the payments are made cross-border within the EU and also upon the way in which the services are characterised. As the payments are made in consideration for services provided to MSC, a business registered for VAT in the UK, the VAT treatment of the services provided will depend on whether the services would be subject to VAT if supplied in the UK.
If the services provided by the agents would be treated as a money related service to MSC in the UK, then the services would be viewed as exempt. Consequently, MSC would not be required to account for any reverse charge in respect of these services.
However, if the agreement between MSC and its agents is worded such that a separately identifiable element of the services relates to administrative or customer services, it is likely that an element of the consideration would be standard rated if provided in the UK. MSC would then need to consider whether it would need to apply the reverse charge to part of the payment and consequently suffer an amount of irrecoverable input VAT.
Therefore, MSC may wish for the contract with agents to constitute a single supply of money transfer services. If properly structured, MSC will then not bear an additional VAT cost through the reverse charge.
Management services received from US parent company: Prior to 1 January 2010 these services provided that they could not be characterised as consultancy or another service previously classified as falling under VATA 1994 Sch 5, would have been treated as supplied where the supplier is located under the old default rule.
The implications of this were that no reverse charge would apply. This would have been attractive for MSC, which as a partly exempt business would have been unable to recover all of its input VAT including that incurred under the reverse charge, thereby creating a VAT cost.
Following the 2010 changes the above treatment will no longer apply. As MSC is receiving the services for the purposes of its business in the UK, the place of supply of the services will be the UK. As the management services supplied would be subject to VAT at the standard rate in the UK, MSC would be required to apply the reverse charge. This results in an increased VAT cost for MSC as it is not entitled to full recovery of this VAT.
Electronically supplied IT support services: As MSC will be using the electronically supplied support services for business purposes its treatment of these services will not be altered by the changes that took effect from 1 January 2010.
The electronically supplied IT services are not subject to any exception to the main rule for the place of supply of B2B services. Consequently, when MSC purchases these services from the US it must apply the reverse charge. This will result in a cost to MSC as it is partly exempt. However, as these services are also used by MSC's branches established outside the EU (in Australia, China and South Africa) the use and enjoyment provisions should be applied to MSC's benefit. To the extent that the electronically supplied IT services are used by MSC's branches outside the EU the reverse charge will not apply, having the effect that the impact of the input VAT restriction on the reverse charge will be lessened.
Shared service centre: The treatment of the charges made to MSC in respect of shared service centre costs are likely to be impacted by the 2010 changes. Prior to 1 January 2010 administrative services such as these were treated as supplied where the supplier is located, and consequently not subject to a reverse charge.
The purchasing structure enabled the United States parent company to negotiate and control the services supplied, these services could then be passed on to its UK branch (as part of the same legal entity) and ultimately, via an intra VAT group supply to MSC in the UK. Prior to 1 January this structure did not trigger a VAT liability, as the services in question were not reverse chargeable VATA 1994 s 43(2A) would not require the reverse charge to be accounted for.
However, following the 2010 changes, the services should now be treated as supplied where received and have become reverse chargeable. The implication of this is that MSC's receipt of these services will now fall within the scope of the anti avoidance provisions in s 43(2A) (re intra VAT group transactions).
Consequently, if this purchasing structure is maintained, MSC will be required to account for the reverse charge in respect of the intra-group supply of shared service centre support. As MSC is partly exempt the additional irrecoverable VAT it will suffer as a result of the imposition of the reverse charge will create an additional cost, and may make this purchasing structure less attractive now.
Other legal and professional services: Other legal and professional services purchased by MSC from suppliers outside the UK will continue to be subject to the reverse charge as MSC is purchasing these services for business purposes.
Changes to reporting and compliance obligations
EC Sales Lists: One of the other major changes that has been introduced as part of the 2010 changes is an obligation for businesses which provide services to EU businesses to file ESLs. Prior to 1 January 2010 this obligation existed only for businesses making sales of goods to EU businesses.
The introduction of this new reporting requirement will present many services businesses with some difficulties. First, in order to complete the ESL businesses will need to establish whether their services are subject to a reverse charge in the country of receipt, this will particularly be an issue in the financial services sector, as there are subtle variations to the way in which exemptions are applied in different Member States.
In addition to this there can be difficulties in extracting the necessary information from the business's accounting system, as it will be necessary to report the value of sales in each reporting period for each customer (identified by VAT registration number).
While it is understood that from 2010 the so-called ‘force of attraction’ (the provisions under which some Member States require that, should a branch exist in their jurisdiction, transactions must be reported through that branch even where the branch in question does not actually make the supply) should be effectively removed, at the moment there is some disagreement between Member States as to whether the force of attraction can still be triggered if the branch has a certain level of involvement in the transaction.
MSC will also need to bear in mind that the French and German subsidiaries will also have a requirement to complete EC Sales lists and that the filing requirements and deadlines are likely to differ from those of the UK. Consideration will need to be given as to whether these will be completed locally.
Time of Supply: Businesses receiving services that are subject to the reverse charge should also be aware that the time of supply and consequently that date on which the reverse charge should be reported, has also changed.
From 1 January 2010 a reverse charge tax point in respect of single supplies of services will crystallise on the earlier of the date on which the services have been performed/completed or the date on which payment is made. In the case of continuous supplies of services, as there is no completion/performance date, a tax point will occur at the end of each billing/payment period (for example this may be monthly or quarterly). Where a continuous supply has a billing period in excess of one year long a compulsory tax point will be created on 31 December.
The changes to these rules may lead to some difficulties for MSC, as it should identify the date on which its reverse chargeable services are performed in order to apply and account for the reverse charge on its VAT return.
Solutions/alternatives
Services supplied: Services supplied by MSC previously subject to UK VAT may now be treated as outside the scope of UK VAT, with the reverse charge being applied if appropriate in the country of receipt. MSC may consider reviewing the agreements under which its services are supplied, particularly where management services are supplied to France and Germany where the VAT that would be applied under the reverse charge would be higher than the UK VAT previously charged.
It may be possible that on review of the contract some of the services supplied by MSC in the UK to its subsidiaries may relate to the transfer of money, and could therefore be treated as exempt in the recipient country meaning that the reverse charge will not apply to the full value of the service.
Before supplying services to the SICAV in Luxembourg MSC should establish whether the SICAV is considered to be in business for VAT purposes, as this will determine whether the B2C or B2B rules will apply. As the SICAV itself is likely to have very low VAT recovery through trading mostly in securities with European counterparties, it may be beneficial for the corporate group as a whole to ensure that the agreement is drafted such that it meets the criteria for VAT exemption in Luxembourg.
Services received: It may be advisable for MSC to review some of its purchasing structures in light of the 2010 rules. Particularly in relation to the services received from the shared service centre, as the advantages previously available have been extinguished by the anti-avoidance provisions in s 43(2A) of the VAT Act 1994 being brought into affect by the 2010 changes. As a result of this MSC may wish to revisit this agreement with a view to determining whether any of the services provided under it may be treated as either exempt or falling under the use and enjoyment provisions and are used by MSC branches located outside the EU.
Reporting and compliance obligations: MSC should also consider confirm, either with advisers or contacts in Member States where its services are received, whether the reverse charge would apply to its services so that EC Sales lists can be completed correctly. In addition to this, VAT numbers will need to be recorded and changes may need to be made to MSC's accounting systems to ensure that EC sales information can be captured and reported accurately.
While the rules for the time of supply in respect of reverse chargeable services have changed, HMRC has stated in recent guidance that it is appreciated that it may be difficult for businesses to determine a ‘performed’ date separate from the date of the invoice received. Also, HMRC accepts that in the majority of cases the invoice date will coincide with the date the services are performed, and that unless it results in manifest distortion this can be applied by businesses.
Summary
In order for a business to be considered to have fully implemented these changes discussions will need to have taken place within business units to determine exactly the nature of the services supplied, to establish how the services should be treated under the new rules.
In addition to this changes will need to be implemented to processes and accounting systems to ensure that reporting requirements can be met. It may be advisable for financial services businesses to seek advice to establish the treatment of their services in recipient countries to ensure that only services that are reverse chargeable are reported on EC Sales lists.
Gabby Chappell is a Manager in Grant Thornton's London VAT team, with over five years experience in the financial services sector gained at both HMRC and in practice. She has experience in advising a range of businesses across the financial services and insurance sectors. Email: gabby.chappell@gtuk.com; tel: 020 7728 2971
