Pivotal VAT ruling for FE college services
The Colchester College upper tribunal ruling will have a deep and lasting impact on all further education (FE) colleges in the UK, as James Johnson explains.
The FE sector delivers a combination of complex business and non-business services which can be a recipe for VAT conflict. Colchester Institute Corporation (the College) v HMRC  UKUT 368 was the lead case for a group of FE Colleges so the decision has wide impact.
The College was successfully argued at the upper tribunal (UT) that payments of output tax due to HMRC under the Lennartz principle were wrongly paid, as the services supplied by the College were deemed to be exempt business rather than non-business.
The Lennartz Principle
FE Colleges have typically sought to recover VAT on capital costs under a mechanism known as Lennartz (after an EU court case). Using this mechanism, VAT is recovered up front on costs such as input tax, then as a building is put to use, a formula is used to calculate output tax payable to HMRC.
In this instance in 2008, the College undertook a major construction project recovering over £2.25m VAT and making Lennartz payments as output tax on its VAT return. In 2014 it stopped Lennartz payments, making a case that its supplies were exempt business and that the Lennartz output tax should never have been paid. HMRC rejected its claim for overpaid output tax, so the College appealed to the first-tier tribunal (FTT). The FTT dismissed the appeal so it appealed to the UT.
The College provides education at both further and higher level to over 11,000 students and roughly half of its students are aged 16 to 18. It is treated as an eligible body for VAT purposes.
Most of its funding comes from three government agencies but for the purposes of this appeal mainly from the Education Funding Agency (EFA) and the Skills Funding Agency (SFA). Both agencies used formulas for calculating how much the College could claim. However, neither funding agency stipulated what courses any student should take.
The FTT had ruled that there was no consideration received by the College for the funding it received, and there was no business activity.
The College argued that the FTT had erred in law when reaching this decision. In particular, the College argued that there was a link between the funding from both the EFA and SFA and that lump sum payments could indeed be deemed as consideration for VAT purposes. The FTT was wrong to find that the lack of any link between the funding made and costs incurred meant it could not be consideration.
The UT was left with one question, whether there was a supply of services for consideration.
Upper Tribunal decision
The FTT in considering the agreements in place decided that these were neutral in their impact on the case, but the UT found that they were anything but neutral in that they contained four features that were essential to any understanding of what was happening:
- The College had to use the funds for the purposes set out in the agreements, which included a list of courses on a government website, and they could not use funding for other purposes.
- Funding was subject to a formula rather than negotiation and was linked to the outputs of the College regarding numbers, courses and types of student.
- There were clawback arrangements should the College not use all the funding received.
- The College submitted monthly data and reports to the funding agencies showing how the funds were being used for individual students.
The FTT had erred in law and relied on the wrong test. The College had supplied education services of a business nature, albeit exempt. There was a direct link between the funds paid by the agencies and the education delivered to students.
The UT also rejected the College’s appeal that input tax claimed under the original Lennartz claim should not be offset against the overpaid output tax because it fell out of time under the four-year limits.
What is the impact on FE Colleges?
There will be a substantial impact on FE colleges around the UK, which may prove problematic in the long term.
All such FE colleges will now have to negotiate partial exemption models that reflect exempt outputs against what were formerly seen as grants, but are now deemed exempt consideration. Furthermore some colleges may lose out on VAT exemptions for non-business use such as fuel costs and new build projects.
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James has over 30 years experience in VAT having trained with HM Customs & Excise he has worked in practice, including a Big Four firm as well as running his own consultancy. He also has extensive experience in public sector VAT, as well as previously advising the Federation of small businesses.