Selling services online: help clients get the VAT right

High profile tribunal cases

There have been some high-profile VAT tribunal cases about services and internet trading, which has seen many businesses encounter a problem with HMRC. In most cases, HMRC has won the appeals, which has created an unexpected output tax liability for many sellers. Your clients will want to avoid having any unwanted VAT bills, so it’s important to ensure they are getting the treatment right.

For example, in the case of Fenix International Ltd (see Follow up ), the key issue was whether the company was making supplies (relating to software development) as a principal or agent via its Only Fans website. In other words, was VAT due on 100% of the fees paid by subscribers to use the site, or only the 20% amount received by the company as a commission charged to the self-employed content creators? With the latter outcome, the content creators would be making supplies to site users rather than Fenix. The VAT involved exceeded £11 million and HMRC won the appeal. The European Court of Justice supported HMRC’s approach with a decision announced in February 2023.

Pro advice. Part of the reason that HMRC invested a lot of time and energy into this case was because the content creators were not VAT registered (in most cases) as they traded below the compulsory turnover threshold. Your clients are more likely to be challenged by HMRC if their business model involves “sticking” tax, i.e. there will be a net boost to the Treasury coffers if a different model is adopted.

Example. Betty hosts a website that hires out expensive handbags, which are owned by private individuals who want to earn extra money. Betty charges them a 25% commission on each deal. It is important that Betty decides at the planning stage of her venture whether she is agent or principal, i.e. if the VAT registration threshold will be based on 25% or 100% of the sales.

Pro advice. Betty must also consider the VAT position if she has any customers who are based outside the UK, which might involve her needing to charge VAT in an EU country. It might be wise to only trade with UK owners and hirers.

How do your clients decide?

Each website arrangement is different but there are two key issues to consider as the site owner, which will usually lead to the correct VAT outcome.

Customer perception. Who does the final customer consider they are dealing with when they hand over their payment? For example, if there is a problem with the quality of the service would the website owner be liable to compensate the customer, or the business selling the services?

Contracts. The agreement made between the various parties usually indicates which party is acting as agent and principal. Your clients should ensure their contracts are clearly worded and make the relationship between the various parties very clear.

To give a practical example, most hotel/accommodation booking sites involve a supply of agency services by the online marketplace. The marketplace is not acting as principal in providing hotel accommodation and the site owner will receive a 20% to 25% commission from the hotel, which is its income for output tax purposes. The supply of accommodation is between the hotel and the guest, and any complaints about the room will be sorted out by the hotel and not the website owner.

Pro advice. Payment arrangements and the movements of money are not the key issues as far as VAT is concerned. It is all about who is supplying what and to whom.

Let’s have a look at a case relevant to these circumstances.

Essay writing

All Answers Ltd (AA) (see Follow up ) lost First-tier and Upper Tribunal cases in 2018 and 2020 about whether it was supplying essays and written coursework to students/customers rather than the self-employed writers. AA retained two thirds of the fee paid by students, with the writers keeping one third. AA argued in the earlier appeals that the writers were supplying services to the students and it provided an agency service to the writers. HMRC and both tribunals disagreed; AA was the principal rather than the agent.

The latest appeal focused on a revised contract between AA and the writers which, the company claimed, completely changed the legal relationship and also the commercial reality of the deal because the contract - updated in October 2016 - stated that the writer retained the copyright of all work supplied to customers and therefore AA could only be acting as agent. In other words, output tax was payable by AA on two thirds of the fee. The contract also included a specific paragraph that it was the job of the writer “to provide the work to the customer.”

The Tribunal agreed with HMRC that the contractual change did not affect the commercial reality of the deal, namely that AA supplied essays to the customers and the writers provided a completed essay to AA. There was no contract between the writer and the customer. The appeal was dismissed.

Pro advice. The word “obligation” is an important indicator of an arrangement. The Tribunal considered which party had the obligation to provide the customers with a piece of written work that met their needs and that was AA rather than the writer. Your clients should also consider their obligations on their websites.

What about international sales?

An extra complication with many website supplies of services is that your clients must also consider the place of supply rules if overseas customers are involved in a deal. The VAT outcome will usually be different according to whether customers are business to business (B2B) or business to consumer (B2C).

Example. John is based in the UK and registered for VAT. He has designed a piece of software that he is promoting on a website based in America. In some cases, the website owner will buy the software from him directly; in other cases, he will allow an “associate” business to promote the software, with the “associate” receiving a commission based on sales achieved. John’s software will also be sold directly to customers through the website, potentially both B2B and B2C sales.

John will need to consider each arrangement and the place of supply rules. If most of his income is earned from non-UK business customers, this income will be outside the scope of VAT under the general B2B rule, i.e. not subject to UK VAT.

Pro advice. The starting point with B2C sales is that your clients will charge 20% VAT on their fees. This is the general B2C rule for services. However, there are many exceptions to this general rule, so they must consider each trading arrangement separately.

Pro advice. Your clients might need to charge the rate of VAT that applies in EU countries for a service, which will either mean registering for VAT in that country or, more easily, the one stop shop (OSS) scheme. With the OSS, all EU tax is declared on a single monthly return, and your clients can choose which country they register with for the scheme. It makes sense to choose Ireland or the Netherlands because of the common language.

Online sales of goods

If your clients sell goods through their website, the VAT issues tend to be straightforward. For example, the VAT liability of Betty selling a handbag is the same if it is sold online to a UK customer as it is in a high street store, i.e. the sale is standard-rated.

An extra complication with online sales is that your clients might make a separate charge to their customers for delivery. The basic principle here is that the VAT liability of any delivery charge is the same as for the goods if the intention is for the goods to be delivered to the customer, as will be the case for most online sales. In other words, the delivery charge for a zero-rated book will also be zero-rated.