Memorandum by Local Authority National
VAT Consultative Committee (MARKETS 28)
By Ian Harris, VAT & Taxation Advice
Officer, Leicester City Council
I refer to the Committee's current enquiry into
traditional retail markets and, in particular, the question of
what can be done to ensure their survival, something which, I
believe from the evidence so far, is agreed to be desirable.
It seems generally agreed by respondents to date
that one of the key factors in ensuring the flourishing and survival
of traditional retail markets is the need for local authority
market operators to invest in their market facilities. The point
of this response is to draw the attention of the Committee to
a major constraint in VAT law, as interpreted and applied by HMRC
to local authorities, that acts as an effective barrier to such
I am the VAT and Taxation Advice Officer at
Leicester City Councilwhich, incidentally, runs one of
the largest markets in the UKbut also a member of the CIPFA
VAT Committee, a high level body by which senior local authority
VAT practitioners meet quarterly with senior staff from Policy
HQ Division of HMRC. For completeness, I am also chair of the
Midlands Unitary Authorities VAT and Tax Group and the Leicestershire
Local Authorities VAT Group, being thereby a member of the Local
Authority National VAT Consultative Group and, ex-officio, of
both the Central Counties VAT Liaison Group and the West Midlands
Local Authority VAT Group. I would, therefore, claim to bring
considerable expertise and experience to this subject in the widest
The attached paper, completed after some two
years of research, was submitted by me to HMRC under the auspices
of the CIPFA VAT Committee in September 2007. The paper considers
the effective barrier to investment in detail, including a possible
resolution thereto. For simplicity, however, the position may
be summarised as follows.
The issue concerns the ability of a local authority
to fully recover VAT on expenditure incurred in connection with
the operation of its market, both on day-to-day running costs
and, more pertinently, on capital investment costs.
A local authority is permitted to recover, from
HMRC, VAT incurred on expenditure in the following three circumstances:
1. where it is incurred in connection with the
making of VATable supplies of goods or servicesthis is
the "normal" VAT position familiar in the private sector;
2. where it is incurred in connection with the
carrying out by a local authority of its statutory public service
functions other than by way of businessthis is further
to a political commitment made by the Government on the introduction
of VAT that it would not fall as a burden on the Rates (sic);
3. where it is incurred in connection with the
making of supplies of goods or services which are exempt from
VAT ("VAT-exempt" supplies), providing such "exempt-attributable
VAT" incurred is "insignificant"HMRC interpret
this to mean:
less than £7,500 per annum, providing
this is less than half of all the VAT incurred by the local authority,
less than 5% of all the VAT incurred
by the local authority,
whichever is the greater.
These latter limits, however, are de-minimis
limits resulting in effective "cliff edge" impact where
breached; where exempt-attributable VAT incurred by the authority
remains below the limit it continues to be fully recoverable but
if exempt-attributable VAT incurred by the authority exceeds the
limit, all exempt-attributable VAT incurred thereby is then irrecoverable.
For most local authorities to breach the de-minimis
limit is prohibitive in terms of the consequent cost of irrecoverable
VAT which would then arise. Consequently all local authorities
invest considerable time and effort in managing the position,
in particular closely monitoring expenditureespecially
capital expenditure to be incurred in connection with the
making of VAT-exempt supplies in order to ensure exempt-attributable
VAT remains below the de-minimis limit. And there are examples
of local authorities choosing not to pursue desirable projects
as the result would be to breach their de-minimis limit.
In the context of markets, the problem arises
because HMRC view the granting of a right to stand a stall in
a market as amounting to a licence to occupy land and, as such,
exempt from VAT. Accordingly, all VAT incurred by a local authority
in connection with its market is exempt-attributable and so counts
against its de-minimis limit.
Whilst VAT on day-to-day running costs of a
local authority market are generally containable, it is less likely
that VAT on significant capital investment costs at a market can
be contained within the authority's de-minimis limit. As a consequence,
local authorities have been forced to downgrade, defer over a
longer timescale or even cancel altogether desired capital investment
works designed to improve their markets in order to ensure that
the de-minimis limit is not breached (the attached paper gives
examples at Leicester and Northampton).
HMRC's response to this is that the local authority
can exercise what is called an option to tax on its market. This
"converts" the erstwhile VAT-exempt licence to occupy
land into a VATable supply. Consequently, VAT then incurred on
the marketincluding on capital investmentis fully
recoverable as relating to the making of VATable supplies.
However, opting to tax a market also results
in market stall tolls then becoming liable to VAT. Evidence suggests
that only a minority of market traders are registered for VAT
and thus charging VAT on their stall tolls amounts to an increased
cost likely to drive the trader to relocate to an alternative
unopted (and so unimproved) market if not to cease trading altogether.
Alternatively, if tolls are "pegged", the local authority
loses that proportion of income from stall tolls declarable as
VAT, currently approximately 13% (15/115ths) which is equally
undesirable if indeed financially viable at all.
Whilst some local authorities have opted their
markets as a consequence of desired on unavoidable improvement
works being undertaken and the absence of any alternative mitigation
strategy, this has invariably been done on the insistence of the
finance function and against the opposition of the market manager.
The solution identified in the attached paper
relies on the fact that a local authority undertaking its statutory
public service functions other than by way of business may fully
recover all associated VAT incurred.
To be treated as a non-business activity in
this context, it is established case-lawincluding under
the jurisprudence of the ECJthat three criteria must be
1. The activity must be undertaken by a body
governed by public law (a "public body")this
is taken as read for a local authority.
2. The activity must be subject to a special
legal regime, ie it must be governed by specific statutory or
regulatory powers applicable to a public body but which would
not apply to a private sector entity seeking to undertake that
3. Treatment as non-business must not lead to
a significant distortion of competition with the private sector
undertaking comparable activities.
It is submitted in the attached paper that there
is a clear special legal regime governing the operation of a market
by a local authority. Even if Charters and historic local Acts
of Parliament are not accepted to constitute suchand this
is arguablemost, if not all, local authority markets are
now run under Part III of the Food Act 1984. This refers explicitly
to the "market authority", defined in Section 61 to
mean any local authority which maintains a market established
or acquired under Section 50 or the corresponding provisions of
any earlier enactment (eg Section 13 of the Markets and Fairs
Clauses Act 1847 or Section 49 of the Food and Drugs Act 1955).
And, for the avoidance of doubt, "local authority" is
further defined as meaning a district council (including a metropolitan
borough or non-metropolitan unitary district council), London
borough council or parish or community council.
It appears clear to the author, therefore (and
to most other local authority VAT practitioners), that local authority
markets are subject to a special legal regime.
As to the question of significant distortion
of competition, as other respondents have stated in evidence already,
there is much to suggest that markets are in fact complementary
to other parts of the retail sector and not in competition therewith.
Certainly in the narrower context of competition
for the provision of facilities to trade, it is argued that there
cannot possibly be said to be competition between a market trader
seeking to stand a market stall and a shopkeeper seeking the lease
of a shop unit.
These submissions put, however, were rejected
by HMRC last year. It is the view of most local authority VAT
practitioners, however, that HMRC's rejection of the arguments
were and are ill-founded and susceptible to challenge. To date,
no such challenge has been pursued due to other developments in
the local authority VAT field; it is though possible that this
situation may be about to change with a number of authorities
desirous either of instigating significant capital investment
on their markets or securing a retrospective refund of VAT declared
on opted markets contemplating litigation.
The purpose of this submission, therefore, is
to apprise the Committee of an effective barrier to much desired
investment in local authority markets arising as a result of HMRC's
interpretation of VAT law, a interpretation which is nonetheless
open to question but which, it seems, will require litigation