HMRC has published a new Revenue and Customs Brief 2(2022) which replaces Revenue and Customs Brief 12 (2020): VAT early termination fees and compensation payments.
It introduces a revised policy on early termination payments and compensation fees. Following representations from industry the Brief issued in September 2020 was suspended in January 2021. HMRC has reviewed the policy in the light of those representations and is adopting a revised policy which will take effect from 1 April 2022. The new policy will result in fewer early termination payments being subject to VAT than in the 2020 guidance.
The new Brief also advises businesses that adopted the treatment outlined in Brief 12 (2020) on what action they should now take.
Background
Whether a payment is for a VAT supply depends on whether anything is being done in return for a consideration. Where a party agrees to do something in return for a fee there is a supply. How that fee is described does not affect whether there is a supply for VAT. What matters is whether something is done and if there is a direct link between what is done and the payment received, and reciprocity between the supplier and the customer (see VATSC05100).
Previous HMRC guidance stated that when customers are charged to withdraw from agreements to receive goods or services, these charges were not generally for a supply and were outside the scope of VAT.
Following the Court of Justice of the European Union (CJEU) judgments in Meo (C-295/17) and most recently in Vodafone Portugal (C-43/19), it is evident that some of these charges are additional consideration for the supply of goods or services. Most early termination fees and some cancellation fees are therefore liable for VAT if the goods or services for which the fees have been paid are liable for VAT, even if they are described as compensation or damages.
The main impact of the revised policy is that fees charged when customers terminate a contract early will be regarded as further consideration for the contracted supply. For example, if a customer is charged a fee for exiting a mobile phone contract early, or if they terminate a car hire contract early, it will be liable for VAT.
The new guidance can be found at VATSC05910, VATSC05920 and VATSC05930.