VAT Basics
Taxable supply
It is sometimes useful when considering a transaction to “go back to basics” for VAT purposes. There are certain tests to determine whether a supply is taxable, and these are set out below. Broadly, the tests establish whether UK VAT is payable on a sale and they determine whether an entity is “in business”, that is; carrying on an economic activity.
A transaction is within the scope of UK VAT if all four of the following conditions are satisfied:
There is a distinction between the two types of supply as different VAT treatments may apply. Generally, everything that is not tangible goods is services. However, if no goods or services are actually provided, there is no supply. Indeed, if there is no consideration for a supply, in most cases it is not a taxable supply.
There are quite complex tests to consider when analysing the “place of supply”, especially where services are concerned. If the place of supply is outside the UK then usually no UK VAT is due, however, the supply may be subject to VAT in another country.
A taxable person is any legal entity which is, or should be, registered for VAT in the UK.
Business
The term “business” is only used in UK legislation, The Principal VAT Directive refers to “economic activity” rather than “business” and since UK domestic legislation must (well historically) conform to the Directive both terms must be seen as having the same meaning. Since the very first days of VAT there have been disagreements over what constitutes a “business”. I have only recently ended a dispute over this definition for a (as it turns out) very happy client. The tests were set out as long ago as 1981 and may be summarised as follows:
So, if these tests are passed a taxable supply exists. The next step is to establish which VAT rate applies. In an often quoted comment from the judge in the Morrison’s Academy Boarding Houses Association 1978 STC1 Court Of Session case “…In my opinion it will never be possible or desirable to define exhaustively ‘business’ ”. Which what it lacks in helpfulness, makes up for in candour.
There was something of a deviation from the Lord Fisher tests in the Longbridge Court of Appeal case, however, that appears to be a blip and HMRC seem to have reverted to Lord Fisher in subsequent hearings on the same topic. A bit of a: watch this space area of VAT.
Recent cases on business
Recent case law on this issue here and here and HMRC Internal guidance on the Lord Fisher tests here
Commentary
Tip: It is often easier to consider what isn’t a taxable supply to establish the correct VAT treatment. Specific examples of situations which are not taxable supplies are; donations, certain free supplies of services, certain grants or funding, some compensation and some transactions which are specifically excluded from the tax by legislation, eg; transfers of going concerns (TOGC).
I think that it is often the case that the basic building blocks of the tax are overlooked, especially in complex situations and I find it helps to “go back to the first page” sometimes.
The government has announced that the VAT rate for domestic electricity will be reduced from 5% to zero from 1 October 2026 in advance of winter costs.
It is stated that the government expects that suppliers will pass the VAT reduction on to their customers (including those on fixed tariffs).
The VAT cut, from 5% to 0%, is estimated to reduce CPI inflation by around 0.10 percentage points and RPI by around 0.14 percentage points.
This action is estimated to cost around £850 million in 2026-27 on the basis of estimated electricity prices and will be funded by the cancellation of the Digital ID programme.
VAT on the purchase or lease of a mobile phone
If a business provides its employees with mobile phones for business use, it can treat the VAT it incurs on purchasing or leasing a phone as input tax. This includes line rental charges where applicable, regardless of whether private use is allowed.
VAT on mobile phone call package and other charges
Business only
If a business incurs a recurring fixed monthly fee covering a package of calls, SMS and data, HMRC accepts that all the input tax incurred is recoverable.
If a business does not allow its employees to make private calls, all of the VAT incurred on call charges is input tax. HMRC accepts this where the business has clear rules prohibiting private use and enforces those rules.
HMRC accepts minimal private use as insignificant for VAT purposes and will not prevent the business from recovering all the VAT incurred on calls and mobile phone packages as input tax.
Charges for private calls
If a business charges employees for private use of their mobile phone it may treat the VAT incurred on that use as input tax but must account for output tax on the amounts charged.
If a business allows private use without charge, it must apportion the VAT incurred and recover only the part that relates to business use.
Method of apportionments
Businesses can choose any apportionment method that suits their circumstances, provided it produces a fair and reasonable result.
VAT on broadband connections
Where a business enters into a contract and pays for a fixed monthly charge for a broadband connection either mobile or cable to an employee’s home to enable them to work remotely, input tax can be recovered on the cost of providing the connection. This also applies to routers, installation charges and call bundles.
Some private use usually occurs, eg; entertainment packages or out of bundle charges etc. In such cases an apportionment should be made to restrict input tax recovery to only the business use of the service.
Mobile phone or broadband costs bought by the employee.
Where a business pays for a mobile, broadband or a package contract entered into by an employee with the service provider, no input tax is recoverable by the business. This is because the contract for the supply of services is between the provider and the employee, meaning the supply is made to the employee rather than to the business.
HMRC Notice 700/65 has been updated. The ‘Business entertainment’ section has been amended to confirm persons who are, and are not, employees for the purpose of the recovery of input tax incurred on business entertainment.
A common day-to-day question is whether input tax incurred on entertainment is claimable. The answer to this seemingly straightforward question has become increasingly complex as a result of; HMRC policy, EU involvement, and case law.
I have looked at this subject in more depth here and this article also includes a helpful flowchart.
HMRC has published new VAT Road Fuel Scale Charges (RFSC) which apply from 1 May 2026 to 30 April 2027.
These provide details on the charges from 1 May 2026 to be used on a business’ VAT return and must be used from the start of the next prescribed accounting period beginning on or after 1 May 2026.
RFSC
A scale charge is a way of accounting for output tax on road fuel bought by a business for cars which is then put to private use. If a business uses the scale charge, it can recover all the VAT charged on road fuel without having to identify specific business and private use. The charge is calculated on a flat rate basis according to the CO2 emissions of the car.
A business will need to calculate the correct RFSC based on a car’s CO2 emissions, and the length of its VAT accounting period. This will be either one, three, or twelve months. The CO2 emissions figure may be found here if the information is not available in the log book.
More on motoring expenses here.
HMRC has updated its guidance on How VAT affects charities. This includes details of a new relief from 1 April 2026 for VAT registered businesses donating goods to a charity (Section 5.5).
A VAT-registered business can zero-rate the donation of goods to a charity or its trading subsidiary provided that the goods are to be offered for sale.
From 1 April 2026, businesses do not have to account for VAT when they donate goods to a charity for:
Goods may be donated without incurring a VAT charge when:
Before 1 April 2026 businesses were required to account for VAT on a deemed supply when goods forming part of their assets were donated to a charity and input tax had originally been recovered on their purchase.
More on VAT and charities here.
Crowdfunding is the practice of funding a project or venture by raising many small amounts of money from a large number of people, typically via the internet on specifically designed platforms and is an alternative to traditional ways of raising finance. The model is usually based on three parties: the project initiator who proposes the idea or project to be funded, individuals or groups who support the idea, and a moderating organisation (the “platform”) that brings the parties together to launch the idea.
Crowdfunding is a major, growing source of funding for startups, charities, and creative projects, with the global market predicted to grow annually by around 15% from 2026 to 2033 with platforms like Kickstarter, Seedrs, Crowdcube, and GoFundMe being major players.
VAT Treatment
The VAT treatment of supplies that might potentially be made is no different to similar financing arrangements, for example; sponsorship, donations and investments made through more traditional routes. Whether a recipient of crowdfunding is liable to charge and pay VAT depends on the facts in each case.
Examples
Donations
Goods and/or services
Combination
Investment
Royalties
Loan-based
VAT registration
If income from the sources above which are deemed to be subject to VAT exceeds the VAT registration limit (currently £90,000 in any twelve-month period) the person, in whichever legal identity, such as; individual, company, partnership, Trust etc will be liable to register for VAT. If income is below this limit, it will be possible, but not mandatory to VAT register. The benefits of voluntary registration here.
Input tax recovery
If VAT registered, any input tax incurred on costs relating to crowdfunding is usually recoverable (see here for exceptions). However, if the costs relate to donations or some types of investment then input tax claims are specifically blocked as they would relate to non-business activities. If exempt supplies are made, attributable input tax is generally blocked unless it is de minimis.
Commentary
There can be difficulties in establishing the tax liability of crowdfunding and in a broader sense “sponsorship” in general. However, experience insists that the biggest issue is initially identifying that there may be a VAT issue at all. If you, or your clients are involved in crowdfunding, or have sponsors, it would be prudent to review the VAT treatment of the activities.
This is a common myth, and while charities and Not-For-Profit entities (NFPs) do enjoy some VAT reliefs, they are also liable for a number of VAT charges.
Charities have a very hard time of it in terms of VAT, since not only do they have to contend with complex legislation and accounting (which other businesses, no matter how large or complicated do not) but VAT represents a real and significant cost.
By their very nature, charities carry out “non-business” activities which means that VAT is not recoverable on the expenses of carrying out these activities. Additionally, many charities are involved in exempt supplies, eg; fundraising events, property letting, and certain welfare and educational services, which also means a restriction on the ability to recover VAT on attributable costs.
These two elements are distinct and require separate calculations which are often very convoluted. The result of this is that charities bear an unfair burden of VAT, especially so since the sector carries out important work in respect of; health and welfare, poverty, education and housing etc. Although there are some specific reliefs available to charities, these are very limited and do not, by any means, compensate for the overall VAT cost charities bear.
Another issue is legal uncertainty over what constitutes “business income” for charities, especially the VAT status of grants. It is worth bearing in mind here the helpful comment in the EC case of Tolsma translated as: “…the question is whether services carried on by [a person] were carried on for the payment or simply with the payment”.
Many charities depend on donations which, due to the economic climate have fallen in value at a time when there is a greater demand on charities from struggling individuals and organisations.
What can be done?
We have considerable expertise in the NFP sector and would be pleased to discuss any areas of concern, or advise on ways of reducing the impact of VAT on a charity.
More detail on VAT and Charities for guidance
Business activities
It is important not to confuse the term ‘trading’ as frequently used by a charity to describe its non-charitable commercial fund-raising activities (usually carried out by a trading subsidiary) with ‘business’ as used for VAT purposes. Although trading activities will invariably be business activities, ‘business’ for VAT purposes can have a much wider application and include some or all of the charity’s primary or charitable activities.
Registration and basic principles
Any business (including a charity and NFP or its trading subsidiary) which makes taxable supplies in excess of the VAT registration threshold must register for VAT. Taxable supplies are business transactions that are liable to VAT at the standard rate, reduced rate or zero rate.
If a charity’s income from taxable supplies is below the VAT registration threshold it can voluntarily register for VAT but a charity that makes no taxable supplies (either because it has no business activities or because its supplies or income are exempt from VAT) cannot register.
Charging VAT
Where a VAT-registered charity makes supplies of goods and services in the course of its business activities, the VAT liability of those supplies is, in general, determined in the normal way as for any other business. Even if VAT-registered, a charity should not charge VAT on any non-business supplies or income.
Reclaiming VAT
This is usually a two stage process (a combined calculation is possible but it must have written approval from HMRC – Notice 706 para 7) . The first stage in determining the amount of VAT which a VAT-registered charity can reclaim is to eliminate all the VAT incurred that relates to its non-business activities. It cannot reclaim any VAT it is charged on purchases that directly relate to non-business activities. It will also not be able to reclaim a proportion of the VAT on its general expenses (eg; telephone, IT and electricity) that relate to those non-business activities.
Once this has been done, the remaining VAT relating to the charity’s business activities is input tax.
The second stage: It can reclaim all the input tax it has been charged on purchases which directly relate to standard-rated, reduced-rated or zero-rated goods or services it supplies.
It cannot reclaim any of the input tax it has been charged on purchases that relate directly to exempt supplies.
It also cannot claim a proportion of input tax on general expenses (after adjustment for non-business activities) that relates to exempt activities unless this amount, together with the input tax relating directly to exempt supplies, is below the minimis limit.
Business and non-business activities
An organisation such as a charity that is run on a non-profit-making basis may still be regarded as carrying on a business activity for VAT purposes. This is unaffected by the fact that the activity is performed for the benefit of the community. It is therefore important for a charity to determine whether any particular transactions are ‘business’ or ‘non-business’ activities. This applies both when considering registration (if there is no business activity a charity cannot be registered and therefore cannot recover any input tax) and after registration. If registered, a charity must account for VAT on taxable supplies it makes by way of business. Income from any non-business activities is not subject to VAT and affects the amount of VAT reclaimable as input tax.
‘Business’ has a wide meaning for VAT purposes based upon Directive 2006/112/EC (which uses the term ‘economic activity’ rather than ‘business’), UK VAT legislation and decisions by the Courts and VAT Tribunals. An activity may still be business if the amount charged does no more than cover the cost to the charity of making the supply or where the charge made is less than cost. If the charity makes no charge at all the activity is unlikely to be considered business.
An area of particular difficulty for charities when considering whether their activities are in the course of business is receipt of grant funding.
The VAT a business incurs on running costs is called input tax. For most businesses this is reclaimed on VAT returns from HMRC if it relates to standard rated or zero rated sales that that business makes. However, a business which makes exempt sales may not be in a position to recover all of the input tax which it incurred. A business in this position is called partly exempt. Generally, any input tax which directly relates to exempt supplies is irrecoverable. In addition, an element of that business’ general overheads are deemed to be in part attributable to exempt supplies and a calculation must be performed to establish the element which falls to be irrecoverable.
Input tax which falls within the overheads category must be apportioned according to a so called; partial exemption method. The “Standard Method” requires a comparison between the value of taxable and exempt supplies made by the business. The calculation is; the percentage of taxable supplies of all supplies multiplied by the input tax to be apportioned which gives the element of VAT input tax which may be recovered. Other partial exemption methods (so called Special Methods) are available by specific agreement with HMRC. There is also a de minimis relief.
My flowchart may be of use: partial exemption flowchart
Summary
One may see that this is a complex area for charities and not for profit entities to deal with. Certainly a review is almost always beneficial, as are discussions regarding partial exemption methods.
Please click here for more information on our services for charities.
Relevant charitable purpose
A relevant charitable purpose building is used by a charity for non-business purposes.
For VAT purposes, activities that do not make a profit, or activities where any profit is only used to further the aims and objectives of the charity, can still be classed as business activities.
Relevant residential purpose
A relevant residential purpose building is used by a charity for non-business purposes. It is: