VAT on disbursements and recharges

It is very common to get it wrong between the two. A recharge expense is one that is incurred in the process of performing one's services but has been agreed to be paid for by the client. A disbursement, on the other hand, is an expense which you have paid on behalf of the client. In the case of disbursement, the payer acts as an agent when settling the amount due to the supplier, gets the invoice in the customer’s name and collects the exact sum paid.

The difference between reimbursement (recharge) and disbursement is significant from the VAT point of view as reimbursements are subject to VAT, while disbursements are outside the scope of VAT. 

If a business is trading very close to the VAT registration threshold, an incorrect classification of expenses could mean that the threshold is breached sooner than anticipated.

HMRC defines ‘disbursements’ as ‘a payment made to suppliers on behalf of your customers’.

‘To treat a payment as a disbursement all of the following must apply:

• you paid the supplier on your client’s behalf and acted as the agent of your client
• your client received, used or had the benefit of the goods or services you paid for on their behalf
• it was your client’s responsibility to pay for the goods or services, not yours
• you had permission from your client to make the payment
• your client knew that the goods or services were from another supplier, not from you
• you show the costs separately on your invoice
• you pass on the exact amount of each cost to your client when you invoice them
• the goods and services you paid for are in addition to the cost of your own services.’

Disbursement examples

1. Mr A, an accountant, completes an annual return online at Companies House for a corporate client, and then recharges the company for the related filing fee. If the fee is separately itemised on the invoice issued by the accountants, and no ‘profit’ is made, then the fee charged by Companies House is a VAT-free disbursement because the annual return is the responsibility of the client.

2. A solicitor paying the stamp duty land tax (SDLT) on behalf of his client: this is clearly a client’s expense, as SDLT is the buyer’s responsibility not the solicitor’s. This is undoubtedly a disbursement.

Reimbursement/recharge example

Reimbursement of an agent by a principal is not consideration for the supply of services. However, where a person supplying goods or services includes the cost of the supplies to him in his charges to the third party, those costs are part of the consideration. If a solicitor or accountant travels to see a client or to attend court, the travel costs are not a disbursement. From HMRC’s point of view, those extra costs are reimbursements and as a result VAT should be added to them as they represent costs that the business incurs itself and are not disbursements.

Business must treat any recharge of such costs as further consideration for the main supply. This is important, as supplies, such as rail travel, which are zero rated purchased, must be recharged at the same VAT liability as the main supply of consultancy services, which are standard-rated. Thus, any recharge of these expenses follows this liability and standard-rating applies.

This only matters if the supply is not liable to VAT and the supplier can pass on the disbursement without adding VAT.

If the supply is standard-rated, it makes no difference:

1. whether the payer acts as an agent, gets the invoice in the customer’s name and collects the gross amount; or
2. whether he gets an invoice in his name, recovers the input tax and charges-on plus VAT.

…because either way, the VAT ends up with the customer.

Thus, if an accountant/solicitor travels by train to court on behalf of a non-taxable client, his client could save VAT by sending him the zero-rated return rail ticket.

An example of the elements of a disbursement invoice is below:

(Assume that the standard rate of 20% applies to all transactions.)

Court cases

In Brabners LLP v The Commissioners for Her Majesty’s Revenue & Customs, [2017] UKFTT 666 (TC), the First-tier Tribunal considered whether electronic property search fees should be treated as part of overall client bills (and thus subject to VAT), or represented disbursements (outside the scope of VAT).

It was found that because the solicitors were using the information as ‘part and parcel’ of its overall service, the search fees should not be treated as disbursements.

The solicitors were not simply acting as a middle man to collect the search fee from the client; they used the results as part of their advice to clients. HMRC has confirmed that VAT would not be chargeable by either the search company or the solicitor if they passed it on ‘without analysis or comment’. However, if the firm provides advice or makes a report on the basis of the search, HMRC’s view is that the fee will form part of the charges for its services.

However, a distinction should be drawn between this case and Barratt, Goff and Tomlinson (A firm) v HMRC (Law Society Intervening) [2011] UKFTT 71 (TC), a case which was referred to in the Brabners judgement above. In Barratt, the obtaining of medical records was a disbursement because the solicitor could only obtain the documents with the client’s consent, and the client was considered as the ‘owner’ of the information within the document. The solicitor was ‘merely an intermediary used to facilitate payment'. 

In the case of Ellon Car Clinic Ltd [2017] (TC5813)  the First-tier Tribunal considered whether a garage which had subcontracted MOT tests to an MOT approved centre had acted as agent for the car owners, or whether output tax was due on the full fee charged by the garage to their clients.

The company was not licensed to carry out MOT tests on customers’ vehicles, so subcontracted these tests to other garages, paying between £40 and £54.95 per test. It charged its customers a standard fee of £49.95 (no VAT), which HMRC assessed as being subject to 20% VAT. The company did not itemise the test fees as a separate entry on its sales invoices.

HMRC assessed output tax on the full fee, on the basis that the invoices did not meet the conditions of a disbursement.

However, the judge found that every customer knew that the company could not supply an MOT test. Even if the terms of the invoice did not show the involvement of the second garage, an agency arrangement was evident and the supply was clearly between the testing garage and the customer.

This was a partial victory for the company, as it was found that the only taxable element of the supply in relation to the MOT tests was the element which exceeded the amount actually paid. No output tax was due on deals where the company made a loss.

HMRC has now updated its guidance in order for garages to understand how to avoid the trap of being treated as principals. It clearly states ‘provided the unapproved garage charges on the exact amount it has been charged by the test centre and shows this separately on the invoice to its customer, it may treat this element as a disbursement and also outside the scope of VAT (assuming, of course, that all the other conditions set out in VTAXPER39000 are met)’.