DfE backs HMRC’s crackdown on VAT in subcontracting

The Department for Education is backing HMRC’s decision to collect VAT on subcontracting management fees.

The tax office has launched a major investigation into subcontracting to find out why primes have not been applying a mandatory 20-per-cent charge to their top-slices.

The crackdown, which involves a team of around 20 special investigators, has rocked a sector which may now face tens of millions in additional costs.

Many confused providers, who until recently had no idea about the rule, have engaged tax experts to calculate potential liabilities, though colleges are clinging to the belief that they may yet be exempt, and the Association of Colleges is backing them up.

The DfE, however, is one body with its mind made up.

“The rules are clear – VAT must be paid on management fees,” a spokesperson said.

The rules are clear – VAT must be paid on management fees

HMRC rules state that while vocational training is exempt from the tax, management services in subcontracting relationships are not.

Julian Gravatt, the deputy chief executive at the Association of Colleges, believes the department’s statement “oversimplifies a complex situation” and wants its members to tread with caution.

He recognised that management fees charged by colleges are “taxable in principle”.

But he also pointed out that paragraph 4.4 of VAT notice 701/30 muddies the water. It indicates that supplies of education and vocational training by “eligible bodies” including colleges can be “exempt” from VAT.

He stressed that eligibility for payment “depends on some fine distinctions”, and each case needs to be “judged on its circumstances”.

“Education and training are underfunded,” he added. “No-one will benefit if HMRC officials overstretch themselves in interpreting complex legislation.”

FE Week has sought clarification from HMRC, which was unequivocal in its response.

“The provision of education and services that are closely linked and essential to that education are exempt, if provided by an eligible body such as a college,” it said, adding that management services are not regarded as “closely related services” and are therefore subject to VAT.

FE Week understands that HMRC plans to investigate up to six years of unpaid VAT and will attempt to claim all of it back.

No-one will benefit if HMRC officials overstretch themselves in interpreting complex legislation

This could rise to 12 years if evidence is found that prime providers knew about the charge and failed to apply it anyway.

Substantial fines are also likely, according to one VAT expert.

Evidence seen by FE Week suggests the VAT rule is unknown to most providers, and has not been applied for years, meaning that hardly any of it has been paid.

West Nottinghamshire College, which subcontracted nearly £17 million in provision last year, has been liaising with its financial advisors and is “confident” its subcontracting arrangements “meet the requirements for VAT accounting”.

Eastleigh College, which subcontracted over £17 million worth of training in 2016/17, said it has always taken “external specialist advice” and its view on VAT and HMRC compliancy “has not changed”.

Neither would confirm if they have ever charged VAT on management fees.

Around a £1 billion of funding is subcontracted every year across the ESFA post-16 funding streams, which FE Week estimates would generate around £40 million per year in VAT for HMRC.