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Predominant purpose

Concluding my look at VAT and financial services with an assessment of the factors that make a service exempt

Last week, I “predominantly” considered flow diagram C in the guidance notes on VAT and adviser remuneration.

This dealt with arrangements where payment was by way of adviser-charging for an ongoing service only. Flow diagram A deals with payment for an initial and ongoing service wholly or partly through commission and flow diagram B deals with payment for an initial up-front service paid for through adviser charging. So, neither A nor B deals with payment solely for an ongoing service.

Each of the flow diagrams (A, B + C) considers and deals with situations where there was not a separate charge for advice or for intermediation (that is, arranging the purchase of a financial product), in other words, the charge made was for the provision of both financial advice and the purchase of a financial product.

In such circumstances the VATability of the payment will, according to the recent HMRC/ABI guidance, depend on the “predominant purpose” of the supply.

It is essential to note that what is the predominant service in any supply is a question of fact and cannot be chosen solely to achieve the best result. This means that merely stating in a contract that the main or only reason for the payment (however made) is for arranging a financial product whereas, as a matter of fact, the main supply was that of advice, for example, a full report with a simple to implement product will not mean that the payment will be exempt.

A helpful factor in enabling a VAT-exempt result (that is, the predominant supply being the arranging of a product) is a clear initial statement by the client that they are encouraging the adviser specifically to meet a definite and clear product need, for example, to arrange life insurance to meet IHT, and that is what the adviser does.

So the flow diagrams in the guidance notes seem to make it reasonably clear that:

  • If there is a charge made specifically (and only) for arranging the purchase/sale of a financial product (and especially if the client specifically requests that the adviser arranges a specific product) then the amount paid – however it is paid (that is, by adviser fee or commission) will be VAT-exempt.
  • If there is a charge made specifically (and only) for giving advice the charge will be subject to VAT.
  • Where a composite fee is paid and a specific agreement in regard to advice or product purchase is not made, then the predominant purpose will rule the day. This will be determined as a matter of fact, regardless of whether the adviser’s payment is made by way of commission payment or by way of adviser charge. It is the purpose, not the method of payment, that is all important.

As the guidance notes were originally drafted, in regard to the payment for ongoing service only paid through an adviser charge (that is, the position covered in flow diagram C) then there is an important initial determinant and that is whether the payment is made as an ancillary part of an existing single contract that, at outset, anticipates and results in (as a matter of fact) a VAT-free supply. In order for the single contract to be VAT-free, the predominant purpose of the contract must be the arranging of a financial or insurance product with the review services as an ancillary part of that contract. VAT freedom further requires that the payment for all of the services under the contract (initial and ongoing) is made at the same time as the contract is entered into.

If the payment for the ongoing service is not part of a VAT-free single contract, the customer purchased a financial product as a direct result of the advice given and a separate charge for the advice was not agreed then there will, once again, be a need to determine, based on the facts, what was the predominant service provided.

When considering the whole issue of “predominant purpose” it is, however, important to consider, based on the facts, whether there has been a single or multiple supply.

The European Court of Justice and the House of Lords decisions in the case of Card Protection Plan confirms the way in which businesses are required to decide whether they are making single or multiple supplies for VAT purposes.

The decision recognised that there are a variety of situations in which the predominance question can arise and therefore it laid down a number of tests intended to cover most circumstances. The same tests are to be applied in every case and they are to be applied as a package with no single factor being decisive.

The tests are to be applied to two stages

1: Identify the essential features of the transaction. This involves identifying what the customer is actually receiving. Is the customer receiving two or more supplies, each distinct and independent from the other, or is the customer receiving one supply made up of a number of contributing component parts?

2: Is there a principal supply to which the other services are ancillary? If stage one does not identify separate supplies, it is necessary to consider whether any of the parts can properly be regarded as a principal supply to which the other goods or services are ancillary (that is, they do not constitute an aim in themselves but rather a means of better enjoying the principal supply).

Where there are two or more distinct supplies, each independent of the other, each part of the consideration is liable to tax at the appropriate rate.

Where there is one principal supply to which the other services are ancillary, the whole transaction will follow the tax treatment of the principal supply, that is, as the predominant purpose.

Factors that indicate separate supplies may include optionality, pricing and customer awareness.

In conclusion, it is fair to say I think that the latest guidance notes provide useful reaffirmation that VAT freedom or chargeability substantially depends on the purpose and nature of the supply and not the means by which the payment was made.

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