Understanding VAT on disbursements
Understanding VAT on Disbursements: When Can Fees Be Treated as Outside the Scope of VAT?
For businesses that incur expenses on behalf of clients, understanding the VAT treatment of these costs is essential. Relevant cases include legal disbursements in the course of property conveyancing transactions, but it also applies to many disbursements in general. VAT treatment depends on specific conditions that must be met for costs to be treated as disbursements and, therefore, outside the scope of VAT.
What Are Disbursements?
In the context of VAT, a disbursement is an expense that a business pays on behalf of its client, acting as the client’s agent. If certain conditions are met, these costs can be passed to the client without VAT, as they are considered outside the scope of VAT. Common examples include services like MOT tests, court fees, or postage costs.
Conditions for VAT-Free Disbursements
If you’re arranging a service on behalf of your client and want to pass this expense on as a disbursement, it must meet the following criteria:
- Client Responsibility: The client is the one liable for paying the third-party provider (e.g., an MOT test centre) for the service. The client authorizes you to make the payment on their behalf.
- Transparency: The client must be aware that the service will be provided by a third party. For example, a garage arranging an MOT test must inform the customer that the actual testing will be done by a separate test centre.
- Itemised Invoice: The expense must be separately itemized when invoicing your client. This ensures clarity and transparency in distinguishing between your own services and the third-party services arranged on their behalf.
- Exact Amount Charged: You can only recover the precise amount you paid to the third-party provider. No markup or added fees can be included in this specific item if it’s to be considered a disbursement.
- Additional Service Requirement: The third-party services must be clearly additional to the core service you provide. For instance, a garage’s primary service may be vehicle maintenance, with the MOT as an add-on service arranged for the client.
Charging for Additional Fees and Services
If you add any markup or charge a service fee for arranging the test or third-party service, this additional amount is not a disbursement. Instead, it represents consideration for the arranging service you’re providing. As such, it would be taxable at the standard VAT rate of 20%, separate from the disbursement itself.
Example Scenario
Consider a garage that arranges an MOT test on behalf of a customer and follows all the conditions above. The MOT test fee paid to the test centre would be outside the scope of VAT if it is passed on exactly as a disbursement. However, if the garage adds a small fee for the convenience of arranging the MOT, that fee is not outside the scope of VAT and would incur VAT at the standard rate.
Understanding these distinctions ensures compliance and clarity for both the business and its clients. For businesses, adhering to these rules means more accurate invoicing and a clear approach to VAT when handling disbursements.
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