Following recent judgments of the Court of Justice of the European Union, HMRC has updated its position on the VAT treatment of some compensation payments. 

The cases prompting the clarification involved the VAT treatment of consumer charges for the early termination of Broadband contracts for MEO and Vodafone Portugal. HMRC has since published Revenue & Customs Brief 12/20 to reflect its updated position on the VAT treatment of early termination fees and similar compensation payments.

Historically, it was accepted that such payments could be treated as outside the scope of UK VAT. As such VAT was not accounted for on such income. HMRC has now advised that businesses that charge customers to withdraw from agreements to supply goods or services will need to account for VAT on the income.

Although the cases mentioned above focus on one specific type of early termination fee, it appears that HMRC is interpreting the decisions very broadly and will mean VAT is due on early upgrade fee charges from telecom providers, asset finance lease termination fees, liquidated damages clauses and breach of contract charges.

This change to a longstanding VAT practice has been announced at a time when many businesses are looking to renegotiate or exit contracts and the impact could be substantial. Furthermore, whilst such changes normally take effect from a current or future date, in this case HMRC has advised the change has historic effect. Affected businesses are required to consider such transactions spanning the last four years, the default error correction period for VAT adjustments

We would recommend that businesses who have received or paid such income since 2 September 2016, and therefore may be affected by the changes, should speak with a member of the Johnston Carmichael VAT team before making adjustments to ensure your charges are captured by the updated HMRC guidance.

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Please don't hesitate to get in touch with me, or one of our VAT specialists, if you would like to discuss this further.