The UK tax authority HM Revenue and Customs (HMRC) has announced a change in the value added tax (VAT) treatment of expenditure on business entertaining. Since VAT was introduced in the UK in the UK almost forty years ago, the VAT on expenses relating to entertaining UK customers has not been recoverable by businesses, and since 1988 the same restriction has applied to VAT on expenses incurred in entertaining overseas contacts and customers.
However HMRC has now issued “Revenue and Customs Brief 44/10” which notifies VAT-registered businesses that the UK government will change the law to remove the restriction on recovering VAT paid on expenses of entertaining overseas customers.
Where a VAT registered business in the UK has paid VAT on purchases and expenses relating to its taxable sales, it can recover this VAT on its quarterly VAT return. This is deducted from the amount of VAT the business has charged to its customers to arrive at the amount of VAT that should be paid over to HMRC. However if expenses relate to non-business items the VAT element of the expenses cannot be recovered by the business.
The UK government now considers that the block on recovering VAT on entertaining business customers is inconsistent with European Union law as interpreted in recent cases in the European Court of Justice. For this reason, HMRC will take a look at any claims now made in respect of recovering VAT that was previously restricted in relation to entertaining overseas customers.
This change in policy has been primarily caused by the decision of the European Court of Justice (ECJ) in the joined cases of Danfoss and AstraZeneca. The facts were that a business had incurred VAT in relation to providing free meals to staff and to business contacts. The business recovered the VAT incurred and the ECJ was requested to rule on whether there should be a charge for private use, because the persons receiving the meals were not doing so wholly for business purposes.
The ECJ decided that as a general principle no charge for private use should be made where the meals were provided for strict business purposes. The Court considered that the provision of the meals was part of the process of organising business meetings. The food provided was relatively basic and the people receiving the meals did not have the choice of where and when to eat, the meals being provided purely in relation to the business meeting.
In another case known as Julius Filibeck Sohne also heard by the ECJ the Court decided that, in determining whether a private use charge is appropriate, it is necessary to consider if it is necessary for the business to provide particular goods or services so as to pursue its business activity and make taxable supplies. Although this case was concerned with the provision of transport to staff rather than business entertaining, HMRC considers that the case involved a “necessity test” that should also be applied to entertaining overseas customers.
HM Revenue and Customs therefore consider that the “strict business test” applied in the Danfoss and AstraZeneca decision and the “necessity test” applied in the Julius Filibeck Sohne case can be applied to situations where a business is entertaining overseas customers. Based on these tests a business can arrive at a conclusion as to whether the VAT in connection with the business entertaining expenses is recoverable.
Where the business entertainment provided contains a private element and should give rise to a private use charge, HMRC considers that the VAT should be treated as irrecoverable. The VAT on business entertaining should only be recovered in their view if it is incurred in relation to making taxable business supplies and the entertaining expenses are reasonable in scale and character.
HMRC usefully provide some examples of situations where the rules might need to be applied. Where overseas customers are entertained in a staff canteen or similar location in connection with a business meeting, this is considered to be consistent with the ECJ decision and the VAT would be recoverable as it has a business purpose.
Where a business meeting with overseas contacts is not held at the business premises but at another location, the same principles would be applied by HMRC. Where basic refreshments are provided to facilitate the business meeting, no private use charge would be needed. Where the business entertaining goes this beyond basic level, the company should consider disallowing some of the VAT on business entertaining expenses.
Corporate hospitality events including general entertaining such as trips to sporting events or night clubs would be situations where HMRC would not permit deduction of the VAT incurred. These events would not be considered to have a strict business purpose, and the expenses would not be considered to be necessarily incurred by the business in making its supplies, even where there is participation by actual or potential customers from overseas.
These changes in the UK VAT provisions are occurring at a time when the UK needs to strengthen its economy and an important element in this economic growth is to increase exports. The change in the VAT treatment of business entertaining expenses may give a small but welcome boost to UK business as it looks to reach out to potential contacts and customers abroad.
Source:
HM Revenue and Customs www.hmrc.gov.uk
Peter Hann - Peter Hann is a UK Chartered Accountant based in Croydon, UK who holds an advanced diploma in international taxation and is involved in ...
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