Private schools look to soften blow of VAT on fees as Labour plan hits enrolments

Private schools are seeing falling enrolments this academic year, according to a report by the Independent Schools Council due out this week.[1]

The ISC’s annual census will show a 2.7 per cent drop in new starters, and the body – representing about 1,400 independent schools - has said Labour’s pledge to remove the VAT exemption for fees is turning parents away from private education, and expects numbers to drop further this autumn. The ISC also warned that private schools, pupils and families face ‘major disruption’ from the tax imposition.

John Rainsford, Business Tax Director at professional services and wealth management firm Evelyn Partners, comments on the tax battle lines that could emerge as schools look to mitigate the impact of a VAT imposition and whether parents could be caught in the crossfire:

“Fee-paying schools are very seriously considering the impact of having to apply VAT on their charges, especially given the need for schools to plan their budgets years in advance. The addition of VAT to education - which is expected to include boarding charges as being ‘closely related’ supplies - will represent a fundamental change to a sector which has always been exempt from VAT, where no VAT was charged on income or recovered on expenditure.

“The knock-on impact on the added financial burden for parents and guardians could be significant.  Many schools though are considering ways to reduce costs: being able to recover VAT incurred on expenditure, so that normal annual fee increases can be minimised, might help absorb some of the added charges when VAT is added.

“The possibility of pre-empting the imposition of VAT by parents paying school fees in advance of the General Election has been a hot topic. While many more independent schools seem to be introducing payment in advance (PIA) arrangements, it has always been common for schools to operate systems where parents can prepay the fees months or years in advance of being due. These can be attractive to those parents and guardians who are able to make advance payments, as they can take advantage of any reductions offered by the school and appreciate the certainty that future fees have been paid for.

“As a fundamental principle, VAT only becomes due at the ‘time of supply’, otherwise known as ‘the tax point’.  Where there is a supply of services, the tax point is normally the date when the service has been completed. However, under the VAT legislation, where the supplier receives payment (or issues a VAT invoice) in advance, then that earlier date is the deemed tax point.  This means that if a school receives payment in advance (eg. under PIA arrangements), then this creates a tax point, where the VAT treatment at that date is applicable. Therefore, under the normal rules, if school fees are paid when the supply of education is exempt, then no VAT would apply, even if the services are provided after any introduction of VAT.

“Labour has suggested it will seek to block any arrangements which they believe avoid VAT and it is possible - as was the case when the standard rate of VAT increased from 17.5% to 20% in 2010 - they could introduce ‘anti-forestalling’ measures, intended to ensure that VAT is due on payments made before any change in the VAT legislation. However, when there was an increase to the rate of VAT, the anti-forestalling provisions were only effective from the date the changes were announced by the government. In this case, that could at the earliest and in theory be the day after a victorious Labour form the next government.

“Even if any anti-avoidance provision is used, this would not be expected to apply before a change in the VAT treatment is announced, but that’s not to say that a new government would not seek to introduce retrospective legislation if they take the position that advance payments are part of an avoidance scheme. This would be highly unusual, and while there have been examples where retrospective legislation has been introduced which allowed HMRC to go back and collect certain taxes, they are few and never in respect of VAT.

“There are also existing rules in place (as outlined in VAT Notice 700/8) which require disclosure of tax avoidance schemes which are intended to give a ‘VAT advantage’, but it would be strange if these provisions are used to suggest the arrangements are artificial when the current VAT rules are fully complied with.

“There has been the suggestion that Labour could challenge prepayment schemes on the basis the payments are a deposit from which the school can draw down in due course and not actually deemed to be fees in advance of a supply. Although deposits held as security (e.g. where held in an escrow account) do not create a tax point, it is difficult to see how HMRC could seek to use the argument that the payments represent deposits to challenge the exempt treatment of advance payments, especially if the payments are attributed to specific school term periods.

“It has also been reported that Labour would seek to stop schools using the ‘Capital Goods Scheme’ to claw back a proportion of VAT incurred on qualifying large capital projects undertaken by the school in the previous 10-year period - such as new classroom accommodation or a new library, which continued to be used post any introduction of VAT.  This too would require a change to a well-established VAT provision and it is difficult to see how this would only be targeted to the education sector.”

The ISC report this week will also reveal the latest average change in private school fees: Evelyn Partners' financial planning experts can provide perspective on what families can do to navigate a VAT-induced jump in school fees and whether to take advantage of ‘payment-in-advance’.

NOTES

[1] The Times, Saturday 11 May:

Labour’s VAT plans blamed for fall in private school entries (thetimes.co.uk)