VAT changes could hit charities

As announced in Revenue & Customs Brief 39/09, the ‘charitable building’ concession (ESC 3.29), will be withdrawn on 1 July 2010.

The changes

HMRC has previously said VAT did not have to be paid on the acquisition or construction of a new building if it was being used "at least 90 per cent" for charitable purposes, based on either floor space or staff time spent on charitable activities.

Charities wishing to take advantage of the zero-rate available for the construction of, and the acquisition of, a building intended for use solely for a relevant charitable purpose (‘RCP’) must satisfy the ‘solely’ requirement of the legislation. They will now be able to do so, without need of Extra Statutory Concession (ESC) 3.29, provided the building concerned is intended to be used 95 per cent or more for a ‘RCP’ using any method to measure use providing it is fair and reasonable.

There will be a transitional period of 12 months from 1 July 2009 in which charities have a choice of using either ESC 3.29 (subject to the conditions set out below) or the new interpretation of ‘solely’ to determine whether they can take advantage of the zero-rate.

Who does it affect?

Any charity that commissions the construction of, or buys a new building they intend to use predominately for a non-business purpose.

What happens if a charity opts to use ESC 3.29?

The ‘charitable building’ concession (ESC 3.29) enabled charities to meet the ‘solely’ requirement of the legislation provided the building was intended to be used 90 per cent or more for a ‘RCP’ as measured by one of three specific measures (time, floor space or headcount).

Further information on the application of ESC 3.29 can be found in Section 17 of Public Notice 708 – VAT: Buildings and construction available from HMRC's National Advice Service on 0845 010 9000.

What is the latest time a charity can rely on ESC 3.29 before the end of the transitional period?

The law requires that, in order for the construction or the acquisition of a charitable building to be zero-rated, a certificate must be issued to the builder or vendor stating that the building in question is intended to be used solely for qualifying purpose, before the supply takes place.

If you are considering issuing a certificate in the above circumstances, HMRC will only consider the certificate to be valid in the following circumstances:

• The supply of construction servicesThis must relate to a meaningful start to the construction of the building and must have been made before 30 June 2010.The works must be expected to progress to completion without interruption (demolition or site clearance works will not be accepted unless construction starts immediately afterwards).
• The acquisition of a building A meaningful deposit (for example, exchange in contracts) must have been paid to the vendor before 30 June 2010 (options to purchase – irrespective of intention are not acceptable).
If a charity opts to use the concession, you will have to use one of the three methods of calculating qualifying use (RCP) laid down in the concession and so will not be affected by these changes. The change will probably make some charity projects unviable. Without this concession (ESC 3.29), it is likely that many charities will not be able to acquire buildings free of VAT.The 90 per cent concession is invaluable to further education colleges because the teaching of students aged over 19 is regarded as a business activity.
HMRC had also introduced a new requirement for charities to monitor their buildings' use for at least 10 years and pay tax if it carried out more business activities in the property than was initially anticipated. HMRC has said it is “willing to help” charities affected by the recent withdrawal of a key VAT concession, in response to fears that it will bring a significant extra cost to charities. 
What if a charity opts to use the revised interpretation of 'solely'? 
You will not be tied to the methods of calculating qualifying use of a building that are prescribed in ESC 3.29. Any method, provided that it is ‘fair and reasonable’ can be used to calculate qualifying use. If your building is able to meet the revised interpretation of ‘solely’, its construction or acquisition will qualify for zero-rating by statute and not by concession. As a result, the ‘change of use’ provisions of Schedule 10 VATA 1994 mentioned above will apply. HMRC expects the use of buildings to be reviewed at least once per year and the method used should normally be the same as the one originally securing the zero-rating. Further information on the ‘change of use’ provisions can be found in Section 19 of Public Notice 708 – VAT: Buildings and construction. 
What is a 'fair and reasonable' method of calculating qualifying use of a building?
 HMRC considers any method to be ‘fair and reasonable’ provided that it:
• accurately reflects the extent that the building is used for charity business and charity non-business purpose
• and its application should not be unduly burdensome for the charity and its accuracy should be relatively easy to check by HMRC
While there are methods prescribed in ESC 3.29, that is, time, floor space and headcount, it doesn’t necessarily follow that these are always fair and reasonable. While this would not exclude charities from applying these methods, they must at all times consider whether they are fair and reasonable. Over the next year, HMRC intend speaking to charity representative bodies to identify different methods that can be reproduced in guidance for charities to consider using after 1 July 2010. In the meantime, any charity wishing to rely on 'solely' to have their buildings zero-rated and wants help over whether their method is fair and reasonable is invited to contact the Charity Helpline on 0845 302 0203.
Further information
If you are still unsure as to whether the building you are having constructed or are purchasing qualifies for zero-rating or not, you can telephone the Charity Helpline on 0845 302 0203. CHarities Finance Directors Group CFDG) chief executive Keith Hickey had expressed his concern in July over the changes to the Extra Statutory Concession. However, he has now met HMRC and who assure him that while they will not be offering a “tax planning service”, it is willing to help those charities which can prove they are over the 90 per cent mark to reach the required 95 per cent. HMRC also emphasised that for most charities which reach 90 per cent, the flexibility of methodology under the new rules should allow them to pass the new test. In doing so, charities may use a combination of methods to satisfy the rules, as long as HMRC doesn’t believe the methodology to be “unmanageably complex”. 
Original concession 'illegal' 
HMRC point out that it made the changes, which come into force after a 12-month transitional period from 1 July 2009, as the original concession was illegal. It cites the precedent of a 1992 rating office case in which 6 to 8 per cent of the land was used for animal feeds, where the Court of Appeal said that while there may be a de minimis level it would not be that high. HMRC admitted that relevant parties such as CFDG could and should have been briefed in advance, and will be issuing guidance on ESC 3.29 in September, at which time there will be a chance for charities to comment.