Get it Right First Time or Face Tax Consequences

When managing taxes, there can be few errors as expensive as failing to register for VAT if you should have done so, as a recent case shows. One area of potential confusion is when there is an agency involved which arranges for someone to provide services or goods to someone else and attends to the billing and collection of income in exchange for an agency fee or commission of part of the selling price. In such cases, the whole selling price is remitted to the agent, but only a part is retained.

The issue then can be – what is the turnover of the agency for VAT purposes? Is it the gross amount invoiced to the end user or the agency fees or commission to which it is entitled?

Unless you are extremely careful with your contractual wording, a potential disaster could lie ahead, as a leading case illustrates.

It involved a woman who for many years had provided cleaners for holiday parks. A routine visit by HM Revenue and Customs (HMRC) in 2007 led them to conclude that she should have been registered for VAT from 1999, so the VAT liability they claimed on the turnover for the missing years was very substantial. HMRC can go back up to 20 years in the case of a failure to register for VAT, whereas corrections of mere errors on earlier VAT returns are capped at four years.

The owner of the cleaning agency argued that her turnover was not the whole sum charged to the client but only her agency fee, which was deducted from the payment made to the cleaner concerned.

Crucial to the decision was the fact that if there was a dispute over the quality of the cleaning services provided, the first point of recourse was to the cleaning agency, not the cleaner who carried out the work.

This was fatal to the owner's case and HMRC's VAT assessment was upheld. The sales were deemed to be made 'gross of VAT'…and in businesses where the main cost is labour, there will be very little input VAT to deduct.

If she had written her agreement with the end users to make it crystal clear that their contract was directly with the cleaner, the VAT liability could have been avoided.