The VAT treatment of electronic search fees recharged by solicitors to their clients has caused a great deal of concern since the First-Tier Tribunal (FTT) published its decision in HMRC v Brabners LLP in September 2017.
What is the issue?
Essentially, the issue is whether a law firm obtaining an electronic search uses it in the course of providing services to its client or whether it simply acts as a conduit in obtaining the search on the client’s behalf. The former would result in the recharge being subject to VAT, as further consideration for the solicitor’s services, whilst the latter would be a disbursement and, therefore, outside the scope of VAT. In the Brabners case, the FTT took the view that VAT should be charged. This was despite the longstanding concession which allows postal searches to be treated as disbursements.
Recent developments regarding search fees
Since the FTT’s decision, the Law Society has met with HMRC and on 30 May 2018, it published Interim guidance for law firms. HMRC are understood to have confirmed to the Law Society that they do not intend to change their existing guidance on this issue. In summary, the guidance says:
– If the search is passed on to the client without comment or analysis, the fee may be treated as a disbursement.
– If the firm uses the search itself, for example in providing advice or a report, the fee will form part of the consideration for its services and will be subject to VAT.
Whilst this goes some way to address the uncertainty, it does not go far enough. In particular, it is not clear in what circumstances HMRC will see searches as being used to provide ‘advice’. In the Brabners decision, the FTT expressed the view that:
“…silence from the Appellant as to the searches which it had done and their results would be taken by most clients as an ‘all-clear’”
It is possible that HMRC could take the view that the absence of any comment from the solicitor concerning the searches obtained is, nevertheless, ‘advice’.
The Law Society guidance also states that HMRC intend to review the existing concession which allows postal searches to be treated as a disbursement. HMRC have withdrawn many concessions in recent years, following the decision of the House of Lords in HMRC v Wilkinson ( UKHL 30). It remains to be seen whether the postal search concession will survive.
Given the continued uncertainty surrounding this issue, the safest course of action in most cases will be to charge clients standard rate VAT on electronic search fees, in future. This will mean that, where suppliers charge VAT to a law firm, this will be reclaimable on the law firm’s VAT return, subject to the normal VAT recovery rules being satisfied (e.g. holding a valid VAT invoice addressed to the law firm). In such circumstances, the VAT position will be neutral for the law firm (i.e. VAT reclaimable = VAT payable). However, where a supplier does not charge VAT, adding 20% VAT to the recharge will increase the cost to the client, although given the relatively small individual amounts involved, this may not be commercially sensitive.
Given that HMRC believe there has not been any change in policy, it has to be assumed that they expect VAT to be accounted for on historic transactions in accordance with that policy. Potentially, the VAT treatment of electronic search fees in the past four years will need to be revisited. Past contact with HMRC on the subject of disbursements, such as VAT inspections, rulings or other correspondence should be reviewed, so that it can be taken into account when assessing the historic VAT position. Law firms should consider what, if any, action is required in order to address historic issues and to minimise the risk of VAT, interest and penalty liabilities arising.
The retrospective application of HMRC’s policy remains a serious risk for law firms and advice should be sought on what action to take. The Law Society would like to hear from any firms contacted by HMRC regarding historic transactions.
For advice on the implications for your firm, please contact Sean Turner VAT Senior Manager