Martin Pooley Ltd Director Martin Pooley TOMS VAT ConsultantRegd office 91 Church Lane Norwich NR4 6NY Regd in England no 9094756

01603 662277 07831 339720 martin@pooley.co.uk www.pooley.co.uk_______________________________________________________________________

TOMSGUIDE TO THE

TOUR OPERATORS MARGINSCHEME FOR VAT

Martin Pooley Ltd Director Martin Pooley TOMS VAT ConsultantRegd office 91 Church Lane Norwich NR4 6NY Regd in England no 9094756

01603 662277 07831 339720 martin@pooley.co.uk www.pooley.co.uk_______________________________________________________________________

TOMSGUIDE TO THE TOUR OPERATORS

MARGIN SCHEME FOR VAT

I am an independent accountant specialising in the Tour Operators’ Margin Scheme and am well known in the travel trade and HMRC. Until 1992 I was a tax partner in KPMG.

I have often been asked by clients for some notes on TOMS so I have written this guide. It should be read in conjunction with HMRC Notice 709/5.

What is TOMS? Suppose you pay a hotel in Paris £100 for accommodation and sell it to a customer for £120. You cannot reclaim the input tax in the £100 without registering in France. You do not want to pay output tax on £120 or your margin will disappear. The solution is to do nothing in France and pay output tax on £20 in the UK.

TOMS has been made unnecessarily complicated so it is misunderstood and disliked.

One result is that it is easy to pay too much TOMS. In my experience, many operators overpay TOMS and the scope for repayment claims should not be underestimated.

These notes are no substitute for advice on a particular situation. No liability can be accepted for action taken or not taken on these notes.

HMRC have said that TOMS will only apply to UK destinations if there is a no deal Brexit. No TOMS on non UK margins. Instead operators may have to register and pay sales VAT in other member states. The advantages of TOMS will then become obvious.

Copyright Martin Pooley 2019

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THE TOUR OPERATORS MARGIN SCHEME

CONTENTS

ParagraphTOMS in one page 1Introduction 10When does TOMS apply? 21How does TOMS differ from normal VAT rules? 33The annual calculation 38The provisional percentage and annual adjustment 53The 1996 increase, VAT on margin on EU transport 60Using a transport company to mitigate the 1996 increase 65Agency, another solution to the 1996 increase 72Inhouse supplies 77Market value for inhouse supplies 91Non EU destinations, worldwide or EU only method 94Supplies to other businesses 99Previous rules for B2B supplies 107Kingdom of Spain decision 111Place of supply rules 118Agency supplies not in TOMS 123Input tax 132VAT rate changes 140Simplified annual calculations 145Purchases in foreign currencies 150Reps and guides 154Rent to rent 156Self billing and travel agents’ liability on commissions 159Brexit 162Reform of TOMS 166Simplification of TOMS 175Credit card charges 180Personal insurance 181De minimis exemption 182Tax points 183VAT invoices 185Discounts 187Notice 709/5 189Further reading 194EU law 195

Does TOMS apply to this transaction? https://www.pooley.co.uk/TOMS_flowchart.pdf

Excel spreadsheet https://www.pooley.co.uk/toms_notes_excel.pdf showing a typical P&L a/c, the derivation of the TOMS numbers from the P&L a/c, the resulting annual TOMS calculation, the margin reconciliation, the Newco mark up calculation and how to calculate the provisional payments next year

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TOMS in one page

1 You should use TOMS if you are based in the UK and buy in and resell accommodation, passenger transport, car hire, trips/excursions, guides or airport lounges as principal to a consumer. TOMS is better than registering for VAT in every member state in which you supply travel services.

2 TOMS is based around the year-end calculation. Think of it like a corporation tax computation. It makes you pay UK VAT on the margin on EU destinations. You cannot reclaim UK or foreign input VAT on the corresponding costs of sales so the overall effect is that you pay VAT on the selling price of EU accommodation etc.

3 The margin apportioned to non EU destinations is not liable to tax. Example:Sales EU and non EU destinations 1,500,000Cost of sales EU destinations 400,000Cost of sales non EU destinations 600,000Total cost of sales 1,000,000Total margin 500,000Margin on EU destinations = 500,000 x 400,000/1,000,000 200,000Liability at 20%/120% = 1/6 x 200,000 33,333

4 Compare with payments on account & adjust in the first return after the year end:Liability year ended 31 December 2018 above 33,333Paid on account during 2018 say 30,000Adjustment required in first return after year end (presumably 03/19) 3,333

5 The annual calculation works out the standard-rated margin as a percentage of sales. You apply this percentage to departures to estimate your liability in the next year:Standard-rated margin in 2018 above 200,000Sales in 2018 above 1,500,000Provisional percentage to use in 2019 = 200,000/1,500,000 13.33%Sales value of departures in first quarter of 2019, say 300,000Estimated standard-rated margin in quarter = 13.33% x 300,000 40,000Provisional payment for first quarter of 2019 = 1/6 x 40,000 6,667

6 The margin apportioned to EU passenger transport became taxable in 1996. The typical increase in the TOMS liability was about 50%. You can avoid this increase by setting up a transport company with its own VAT number, TRA ATOL etc. It buys the transport and sells it to the tour operator at the price that reduces the TOMS liability to what it would have been under the old rules. HMRC agree. See para 60.

7 There are many special situations eg agents, inhouse and B2B supplies.

8 However TOMS is essentially unchanged since 1988, apart from the transport company scheme and B2B supplies. But the Commission is looking at reforming TOMS and the UK may Brexit and make changes so who knows for the future?

9 The basics. Check that the margin in your TOMS calculation reconciles to the gross profit in the accounts: para 51. Check your EU non EU split of costs: para 94. Check you have picked up the provisional VAT declared in the year correctly.

10 TOMS in two words: Ask Martin.

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Introduction

11 The Tour Operators’ Margin Scheme for VAT (TOMS) is not that bad. You have to do a complicated calculation at the year-end but it is no worse than a corporation tax computation. TOMS is just more specialised and therefore poorly understood.

12 Why do we need TOMS? Suppose a UK tour operator buys in a hotel room in France and flights from an airline and sells a package holiday. The operator is selling accommodation in France and under general principles of VAT should register in France, account for (pay) output TVA on the selling price of the accommodation and deduct the input TVA paid to the hotel. But what is the selling price of the accommodation? How much VAT should the operator pay? Where? And what about the flights?

13 TOMS is an EU wide simplification measure intended to avoid these problems and to protect tour operators from having to register in other member states of the EU. The rationale is clear for cross border holidays but TOMS is mandatory even if the holiday is UK only and even if the supply is not a holiday but eg a business trip.

14 Under TOMS, tour operators pay output VAT on their margin not on their selling price and they pay it in the member state in which they are established not in the destination. They do not register for VAT in destination and cannot deduct input VAT on the corresponding direct costs, even if the destination is in the UK. In effect they pay VAT on the selling price and VAT has achieved its objective of taxing the consumption.

15 For those unfamiliar with VAT, it is vital to distinguish VAT on your sales which is due to HMRC (output tax) from VAT on your purchases which you can deduct (input tax). Your VAT return is the difference between the two. Except if TOMS applies and your output tax is based on your margin and your input tax is based on your overheads.

16 TOMS uses a cost based apportionment system relying on the annual accounts. The margin apportioned to EU destinations is standard-rated. Example: £Sales of EU accommodation 120Cost of EU accommodation 100Margin 20VAT at 1/6 thereon 3

17 Note that the sales and cost of sales are both VAT inclusive so the rate of VAT is not 20% but 1/6 (20%/120%).

18 This cost based apportionment assumes that the tour operator makes the same percentage margin on all products. If margins differ significantly between products, this assumption can affect the liability. For example:

If the percentage margins inside and outside the EU are different when it may, rarely, be beneficial to elect to use the EU only method (para 95).

Where a mixture of supplies with different liabilities is sold in a package. For example if you supply bought in transport with inhouse accommodation.

19 This approach has advantages, in particular most operators pay less because they include non EU destinations, but it makes it more difficult to see what is going on. If TOMS were calculated transaction by transaction it would require more detailed record-keeping but the VAT on each transaction would be easy to understand.

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20 For a fuller understanding of TOMS you should read EU law Articles 306-310 of the Principal VAT Directive Dir 2006/112 (para 198). As usual, EU legislation is clearer than UK legislation and references to Articles in these notes are to the Principal VAT Directive. You could then read The VAT (Tour Operators) Order 1987 (SI 1987/1806) but for most the starting point will be HMRC Notice 709/5/09 issued in 2009 and last revised in 2019 (“709/5”). TOMS is essentially as it was when it was first introduced in the UK in 1988 (Leaflet 709/5/88) apart from the extension of TOMS to the margin on EU transport (para 60) and the treatment of supplies to other businesses which changed in 1996, 1998 and 2010 (para 99). Then there is the Kingdom of Spain: para 111.

When does TOMS apply?

21 A taxpayer has to decide the VAT treatment of every transaction on its merits. TOMS applies to your transaction if and only if (i) you are making one or more margin scheme supplies (para 23) and (ii) you do so as principal (not as agent: para 123) and (iii) you buy in these supplies (they are not inhouse: para 77) and (iv) you sell these supplies to a consumer (not wholesale ie to another business for resale by them: para 99). See flowchart at https://www.pooley.co.uk/TOMS_flowchart.pdf

22 TOMS applies even if a margin scheme supply is sold singly ie there is no need for there to be a package. TOMS applies to UK destinations just as much as to destinations in other countries, EU or non EU, although the margin apportioned to non EU destinations is not liable to TOMS. When you have identified all the transactions that are in TOMS you aggregate them and do one annual calculation. Many tour operators will find all their sales are in TOMS so they just take totals from the P&L.

23 TOMS only applies to a transaction if it includes one or more margin scheme supplies. HMRC say that six types of service always fall into this category: accommodation, passenger transport, hire of means of transport, trips or excursions, services of tour guides and use of special lounges at airports (709/5 para 2.9).

24 HMRC say that other supplies such as catering, theatre tickets and sports facilities will also fall in TOMS but only if they are bought in and resold as part of a single transaction together with one or more of the supplies listed at 2.9 (709/5 para 2.10). HMRC say “as part of a package” but the word package is avoided as it has a special meaning under the Package Travel Regulations.

25 EU case law confirms that as per UK practice TOMS should apply to single supplies of accommodation or passenger transport (Alpenchalets Resorts). However it also suggests that other single supplies should not fall under TOMS in which case the list at 709/5 para 2.9 should be reduced to these two items.

26 TOMS only applies to a transaction where you act as a principal ie not when you act as a disclosed agent. Agency is a particularly difficult area and if there is any doubt about the position, take proper advice. See para 123 for agency in more detail.

27 TOMS applies if you make bought in supplies as opposed to inhouse supplies. Inhouse supplies are supplies from your own resources or where there is “material alteration”. If for example you own coaches, employ drivers, pay hotels and sell coach tours, the hotel is bought in but the coach transport is an inhouse supply. You include the whole transaction in TOMS because the hotel is a TOMS supply. If you supply coach

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only and use your own coaches, it is not in TOMS and is normal passenger transport. Conversely if you supply coach only and the coach is bought in, it is in TOMS. See para 77 for more on inhouse supplies.

28 TOMS only applies to supplies to the consumer ie traveller. If you sell to another business for resale by them, eg your client is another tour operator, your client is not the traveller and your supply is wholesale and is not in TOMS. Normal VAT rules apply instead. The place of supply rules need to be looked at very carefully in particular.

29 If you make wholesale supplies there is the option to take advantage of the Kingdom of Spain decision ie chose EU law over UK law. Para 111.

30 If you are selling through a travel agent, you will normally be selling to the traveller not to the agent though these traditional lines are increasingly blurred. If you sell to another business and they use it for their staff or to entertain clients, your client is seen as the consumer so the transaction is in TOMS not wholesale.

31 Until 31 December 2009 there were various choices in relation to supplies to other businesses but now UK law offers no choice. Some operators have yet to realise that these rules have changed.

32 TOMS is designed for tour operators providing holidays but many other businesses are also caught by TOMS eg travel agents acting as principals, seat only operators, organisers of sporting events, training courses, incentive travel or conferences and hotels supplying additional services such as car hire, transport or excursions.

How does TOMS differ from normal VAT rules?

33 Under normal VAT rules, the value of a supply is the amount the customer pays but under TOMS it is the margin. So a normal taxpayer charges customers VAT on sales (output tax), accounts to HMRC for the output tax, pays suppliers VAT on purchases (input tax) and reclaims the input tax. Under TOMS, the taxpayer accounts to HMRC for output tax on the margin and on the full value inhouse supplies via the annual calculation. Input tax on bought in costs is not deductible. Input tax on overheads is deductible as is input tax on inhouse costs. The margin is estimated monthly or quarterly and calculated precisely once a year. When considering when to register or deregister, a tour operator should look at the TOMS margin not at the gross sales (709/5 para 4.1).

34 Under normal VAT rules, the time of supply (or tax point which determines when the output tax is payable) is usually when an invoice is issued, payment is received or the service is completed (earliest of the above). Under TOMS, the time of supply is the date the holiday starts. This is called departure date which makes sense if you are an outbound operator but is confusing if you sell inbound. This is also the usual accounting policy for income recognition for tour operators. Tour operators’ accounts need to allocate sales to the correct period and to match the costs of sale in the same period, not just for TOMS purposes.

35 Alternatively, you can use the earlier tax point rules in 709/5 paras 4.14 & 4.15. Why anyone would want to do so is unclear. You pay the tax earlier though you do not know how much to pay and your VAT is out of line with your accounts. Para 183.

36 Under normal VAT rules, the place of supply (which determines which

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government is entitled to collect the output tax) for accommodation is where the property is located (Dir 2006/112, Art 47), for transport where it takes place proportionate to the distances covered (Art 48), for car hire where it is put at the disposal of the customer (Art 56) and for catering where it is physically carried out (Art 55). So most tour operators’ supplies would be taxable in the destination country, if there were no special scheme for them. Under TOMS, the place of supply is instead the member state where the operator is established. So that is one VAT return to complete instead of up to 28.

37 Under normal VAT rules, the liability of the supply (rate of output tax) depends on the nature of the supply etc. Under TOMS, the liability depends on the destination. The margin on non EU holidays is zero-rated. In addition, under the transport company scheme, the UK liability depends on the nature of the underlying cost (para 65).

The annual calculation

38 The UK has implemented TOMS as an annual cost based apportionment calculation. It takes the gross profit in the statutory accounts, adjusts it and apportions it pro rata to the costs of sale. Depending on the destination, the margin apportioned to it is either standard-rated or zero-rated.

39 The margin apportioned to non EU destinations is zero-rated. This gives non EU destinations a price advantage over EU destinations and is a fundamental flaw in TOMS. An EU designed tax should not disadvantage EU destinations against the rest of the world. Just think of what this does for employment in the EU and for our carbon footprint. It would be very unpopular but it would make sense if TOMS were payable on non EU margins. This could be one of the major changes to TOMS when it is updated.

40 The margin apportioned to EU accommodation is standard-rated. Similarly for EU meals, car hire, excursions etc.

41 The margin on transport to EU destinations is standard-rated but was zero-rated under UK law until 1996. The change was forced on the UK to bring it into line with EU law. HMRC have approved methods to mitigate this increase and most tour operators with EU programmes have set up transport companies to do so. See para 65.

42 TOMS costs are loosely described as zero-rated when the margin apportioned to the costs is zero-rated and as standard-rated when the margin apportioned to them is standard-rated. You should think in terms of the VAT liability on the sale not on the purchase. Similarly for inhouse supplies: when a coach operator pays for a coach to be serviced the supplier will charge VAT, which the coach operator can reclaim, but the cost of servicing the coach is part of the zero-rated inhouse costs. The selling price attributed to the inhouse passenger transport (ie cost plus margin) is zero-rated. Do not confuse this terminology with the rate of VAT charged by the supplier.

43 You are expected to apply this destination criterion when completing the annual calculation: “Total the VAT-inclusive purchase prices of the standard-rated designated travel services …” (709/5 section 9, step 2). But UK law fails to define “standard-rated designated travel services” doing nothing to dispel the terminology confusion.

44 The annual calculation follows a standard layout. HMRC Leaflet 709/5/88 used algebra (A, B, C etc). Subsequent Notices 709/5 use numbered steps instead though the logic is the same. Algebra is easier to use and persists in HMRC Information Sheets so

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hybrid language is used in these notes: A(1) means A in the 1988 algebra and step 1 in the latest Notice. The numbering in the Notices has changed over the years while the algebra has remained the same which is another reason for preferring algebra.

45 A(1) = sales, before deducting agents’ commissions, TOMS output VAT or any overseas output tax. TOMS VAT is normally deducted from turnover in the accounts and agents’ commissions are sometimes also deducted from turnover. The income for TOMS is the gross amount paid by travellers including surcharges for payment by credit card or for changes to the holiday. This income should be reduced by deducting any insurance at selling price and any compensation payments to clients.

46 Cancellation income was long seen as outside the scope of VAT, like insurance claims and compensation received, based on case law. See the ECJ decision in Eugenie les Bains. Accordingly it was excluded from the sales for TOMS purposes. However following subsequent cases in the ECJ, HMRC have changed their policy so that for cancellations notified on or after 1 March 2019, you are expected to include cancellation income in sales in TOMS. See HMRC Brief 13 (2018).

47 HMRC change in policy may leads to a test case. If the amounts are significant you may wish to protect your rights should it eventually be held that the change in policy was incorrect. Take advice if the amounts are significant. You could for example include cancellation income in sales in TOMS ie pay more (to avoid the risk of penalties or interest) and then depending what happens to any test case make a repayment claim for the difference every 4 years (to avoid the 4 year time limit). When HMRC refuse the repayment you appeal to the Tax Tribunal and queue the case behind the test case.

48 The other letters are used as follows:B(2) = standard-rated costs eg EU accommodation + EU transport from January 1996.C(3) = zero-rated costs eg non EU costs + EU transport to December 1995.D(4) = inhouse standard-rated costs eg your own hotel in the UK.E(5) = inhouse zero-rated costs eg your own coaching.E(6) = inhouse exempt costs eg your own EFL operation.F(7) = inhouse non UK costs eg your own ski chalet in France.B(8) = agency costs where the margin is not readily identifiable but is SR eg car hire.C(9) = agency costs where margin is not readily identifiable and not SR eg insurance.G(10) = total cost of sales eg B+C+D+E+F or steps 2 through 9.Most operators only need three numbers (A(1), B(2) and C(3)) and most examples in this note use only these numbers. Inhouse supplies (D(4), E(5 & 6) & F(7)) and agency costs (B(8) & C(9)) are unusual.

49 Example: a typical annual calculation without inhouse supplies £000Sales for year A(1) 1,600Standard-rated EU costs B(2) 700Zero-rated non EU costs C(3) 300Cost of sales G(10) = B(2)+C(3) 1,000Margin H(11) = A(1)-G(10) 600Standard-rated margin J(12) = H(11) x B(2)/G(10) 420TOMS for year K(20) = (1/6) x J(12) 70Total VAT for year T(30) = K absent inhouse D(4) 70Declared in year V(31) 65Annual adjt due to HMRC W(32)=T(30)-V(31) 5Provisional % to estimate TOMS next year = J/A 26.25%

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This apportionment pro rata cost is fundamental to TOMS however unrealistic it may be.

50 See https://www.pooley.co.uk/toms_notes_excel.pdf for an Excel spreadsheet showing how the annual calculation relates to the accounts and including inhouse supplies.

51 It is important to check the annual calculation by reconciling the TOMS margin to the gross profit in the accounts. The main differences are usually travel agents` commission if deducted in arriving at gross profit in the accounts (agents’ commission is not deductible in TOMS: instead operators can reclaim the input VAT on the commission, which is better), the insurance commission (it is exempt so insurance is excluded from income and costs in TOMS), cancellation income (to 1 March 2019) and output tax eg TOMS which is normally deducted from turnover in the accounts.

52 The rest of the calculation is used to derive sales values etc and to show the intervening stages but is not needed to work out the annual liability. For readers who like algebra, the annual TOMS liability is K(20) = (1/6) x B(2) x (A(1)/G(10)-1), assuming there are no standard-rated UK inhouse supplies ie that D(4) = 0. If there are, such as a hotel owned in the UK, the additional liability is P(21) = (1/6) x D(4) x A(1)/G(10). The model assumes that the same gross profit margin applies to all the direct costs.

The annual adjustment and provisional percentage

53 When the operator completes the annual calculation and compares the liability with the provisional payments in the year, they will have underpaid or overpaid and must adjust the difference. This annual adjustment is to be made in the first return following the year end. In most cases this gives 4 months to do the calculations. For example, if an operator prepares accounts to 31 December 2018 and makes quarterly VAT returns to the same date, the annual adjustment based on the 2018 accounts should be made in the return for March 2019 which is due by 30 April 2019 (7 May 2019).

54 Alternatively, if the operator makes monthly returns, the 2018 adjustment belongs in the January 2019 return. This gives 2 months to complete the calculation which may not be long enough in which case the operator should make an adjustment in the January return based on the latest information, eg draft accounts, and make any additional adjustment when the accounts are finalised. The additional adjustment belongs in the January 2019 return so if it is more than the de minimis for error corrections, normally £10,000, it should be disclosed separately to HMRC. Late adjustments are to be avoided if possible. If you have underpaid, HMRC will charge interest and possibly penalties. If you have overpaid, you may have trouble persuading HMRC to process the adjustment.

55 If the operator makes quarterly returns but they do not coincide with the year end, the period available will be 2 or 3 months eg if the year-end is 31 December 2018 and a return ends on 31 February 2019, the 2018 adjustment should go in that return. If your VAT returns do not coincide with the year end, log onto your VAT account and bring them into line. This makes the calculations easier and gives you longer to do them. The annual adjustment for the previous year should be excluded from the payments for the current year when they are compared with the final liability (common mistake).

56 If the rate of VAT changes during the year you need an average VAT fraction to complete the annual calculation. HMRC have in the past presented this as two separate 32 step calculations, one for the period before the change in rate and one for the period

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after. However, it is easier to use an average and essential to do so if you are calculating the transport mark up. My spreadsheet with an average comes to the same result as HMRC’s approach with 2 separate calculations. Para 140.

57 The annual calculation is carried out at the end of the year and operators estimate the output tax in the intervening returns. When they complete the annual calculation they work out a provisional percentage. During the following year they apply the provisional percentage to the sales value of TOMS departures in each quarter or month so the provisional standard-rated margin is the same proportion of sales as the previous year. Apply the VAT fraction to this margin to get the provisional TOMS payable.

58 If the VAT rate changes the provisional TOMS payable is the provisional margin multiplied by the VAT fraction based on the rate of VAT at the date of departure. HMRC want you to use their provisional % for the margin rather than just calculate last year’s TOMS as a percentage of sales because the latter approach would not cope with changes in the rate of VAT. See para 140 for rate changes in more detail.

59 Going through the usual boxes on the tour operator’s VAT return: Box 1 = VAT fraction x provisional percentage x sales departures in the period

+ annual adjustment, if it is the first return after the year end Box 4 = input tax on overheads and inhouse costs but not bought in costs Box 6 = estimated margin, not sales, less output tax Box 7 = overheads, not cost of sales

Inhouse supplies are more complicated. See the third work sheet in my spreadsheet for a complete analysis. In practice these statistics are not important.

The 1996 increase, VAT on margin on EU transport

60 The treatment of EU transport changed in 1996. Until 31 December 1995, under UK law the margin apportioned to EU transport was zero-rated (the old rules). This was contrary to EU law and the UK had to change its law. From January 1996, the margin apportioned to EU transport is standard-rated (the new rules).

61 Example: the 1996 increaseAccountsSales 1,600EU accommodation standard-rated 400EU transport ZR 1995, SR 1996 300Non EU costs zero-rated 300Total cost of sales 1,000TOMS Old rules New rulesSales A(1) 1,600 1,600Standard-rated costs B(2) 400 700Zero-rated costs C(3) 600 300Total costs G(10) =B(2)+C(3) 1,000 1,000Margin H(11) = A(1)-G(10) 600 600Standard-rated margin J(12) = H(11) x B(2)/G(10) 240 420VAT @ 1/6 K(20) = (1/6) x J(12) 40 70

62 The effect of standard-rating the margin on EU transport depends on the programme. An operator supplying no EU transport was not affected. For a typical EU programme of transport and accommodation it increased the liability by about 50%.

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63 VAT on transport would have been politically difficult in the UK so HMRC agreed three ways of reducing the impact of the 1996 change. Most operators should find it possible to use one of these to eliminate the additional VAT. The three options for mitigating the 1996 increase are as follows:

Use a transport company. Para 65. Act as agent for the transport supplier. Para 72. Convert bought in flights to inhouse transport. Not discussed.

64 The first method is used by most tour operators selling programmes including EU flights. The second is suitable for an operator who sells packages including cross channel ferries but not much in the way of flights. The third is rarely applicable. See Information Sheet 03/96 (no longer on HMRC website but copy available from me).

Using a transport company to mitigate the 1996 increase

65 The idea is to set up a new company ("Newco") to buy the transport from the coach company, airline or other supplier, sell it to the tour operator (“Oldco”) at a profit and so reduce Oldco’s TOMS liability. HMRC accept Newco is wholesaling transport and that those sales are zero-rated under general VAT rules. See HMRC Information Sheet 1/97 (no longer on HMRC website but copy available from me). However, pressure from the EU may force the UK to withdraw the transport company scheme.

66 The more margin earned in Newco the less TOMS is payable in Oldco. HMRC say that they will not attack the Newco mark up provided it does not reduce the TOMS liability below the level that would have applied under the old rules. It is therefore necessary to do the calculation both ways each year, under the old rules and the new rules, and to keep a record of the costs before any Newco mark up. In practice, if you are using the transport company scheme it is much easier to do all the calculations under the old rules and confine the transport mark up to the year end process.

67 The mark up can be found by trial and error or formula. Use my spreadsheet at https://www.pooley.co.uk/toms_notes_excel.pdf or my algebra published in Information Sheet 1/97. Using the simpler formula in Information Sheets 1/97 and 2/96 will give the wrong answer in certain cases ie if D(4) is not zero. Check you get the same liability under the old rules with no Newco mark up and under the new rules with a mark-up.

68 Example: Without Newco With NewcoAccounts Oldco Oldco NewcoSales 1,600 1,600 *704EU accommodation standard-rated 400 400 0EU transport ZR 1995, SR 1996 300 *469 300Non EU transport zero-rated 150 *235 150Non EU hotels zero-rated 150 150 0Total cost of sales 1,000 1,254 450TOMS Old rules New rules New rulesSales A(1) 1,600 1,600 1,600Standard-rated costs B(2) 400 700 869Zero-rated costs C(3) 600 300 485Total costs G(10) 1,000 1,000 1,254Margin H(11) = A-G 600 600 346Std-rated margin J(12) = H x B/G 240 420 240

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VAT @ 1/6 K(20) = (1/6) x J 40 70 40

* = A 56% mark up on transport in Newco ensures the liability under the new rules equals what it would have been under old rules. The mark up varies with the results but not with the rate of VAT. See the example in the spreadsheet on my website.

69 Newco will earn a margin on the transport and can be charged a management charge for services from Oldco to put the margin back where it belongs. HMRC assisted in the design of the transport company scheme and continue to support it. Despite this support, there may be corporation tax implications eg if there are losses brought forward. There may also be bonding and licensing implications but these and other wider tax and commercial implications of using Newco are beyond the scope of these notes.

70 The main points on the transport company are as follows: Newco should be VAT registered and not in a VAT group with Oldco. Newco should have a TRA ATOL (if flights are involved). Transport suppliers should be informed that they are dealing with Newco. Transport suppliers should invoice Newco . Newco and Oldco should draw up a contract for the sale of transport. Newco and Oldco should draw up a contract for the management charge. Non EU transport should normally go through Newco, not just EU transport. The TOMS liability is calculated from the accounts, under the new rules, so the

transport mark up must go through the accounts for the saving to be achieved. Any corresponding management charge from Oldco to Newco is liable to VAT. See HMRC Information Sheet 1/97 (no longer on HMRC website but copy

available from me).

71 The annual adjustment may or may not be material to the accounts but you should not finalise the accounts until you know the mark up in Newco and you cannot work out the mark up without doing the annual calculation. Therefore optimising the Newco saving depends on doing the annual calculation before you finalise the accounts.

Agency, another solution to the 1996 increase

72 HMRC say that agency supplies are outside TOMS provided: the agency agreement is genuine - in particular, a true agent would not be

expected to take any significant commercial risk ie the agent should not commit to buy before selling

agents do not act in their own name - an arrangement whereby the principal remains undisclosed to the customer would not satisfy this condition

there is documentary evidence to support any agency agreement ie both parties must agree, preferably evidenced in writing, and

clear statements are included in the terms and conditions of the contract with the customer that the transport is supplied as agent and naming the principal.

73 HMRC will accept operators act as agent for the transport provider if they satisfy the conditions above. The commission earned is then taxed under general principles, not TOMS, and if it is for arranging transport the commission is usually zero-rated.

74 However, most airlines will not accept that tour operators are acting as their agent when packaging a net fare in a holiday (for bonding reasons). So the agency route to mitigating the 1996 increase is not open to most tour operators selling flights. The

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agency route is generally used by tour operators selling rail or ferry packages.

75 Where the agency commission is readily identifiable the cost and selling price of the agency supply can be deducted from the accounts totals before the annual calculation is carried out. In practice however, if an operator charges an inclusive price for a mixture of eg ferry transport sold as agent and accommodation sold as principal, it is not clear how much of the selling price is for the ferry so this adjustment cannot be made. If the ferry agency commission is not readily identifiable, the cost should be included in zero-rated costs in the annual calculation after 1996 as in 1995 and earlier years. See Information Sheet 4/96 (no longer on HMRC website but copy available from me) and Notice 709/5 para 6.7. The cost of agency supplies for which the commission is not readily identifiable is included at step B(8) if the commission is standard-rated or at C(9) if the commission is not liable to UK VAT.

76 Adopting an agency structure will fundamentally change the operator’s contractual relationships with customers and suppliers. There are wider commercial and legal implications and it is not to be done lightly. Most tour operators selling flights will not be able to use the agency solution as explained above.

Inhouse supplies

77 Inhouse supplies are when you provide the service from your own resources, eg you own coaches & pay the drivers rather than buying in coaching from a coach company. Or you may run your own ski chalets or your own hotels. In addition, HMRC say that if the operator buys in services but packages them together so that what he sells is different from what he buys, an inhouse supply is being made.

78 If a transaction involves inhouse supplies but no bought in supplies, TOMS does not apply to the transaction in question. Normal VAT rules apply instead. Eg a coach operator sells coach holidays but also sells coach only: the latter is passenger transport and is not in TOMS. Or if you sell inhouse coach transport plus admission eg a day trip, TOMS does not apply to the day trip as there is no bought in margin scheme supply.

79 If a transaction involves both bought in margin scheme supplies and inhouse supplies, it is included in the annual calculation and TOMS works out any VAT due on the inhouse supply. Inhouse supplies are not TOMS supplies although the output VAT on them is calculated by the TOMS formula.

80 In theory, following the ECJ decision in MyTravel, from 1 January 2010 inhouse supplies are taxed at market value, under normal rules outside TOMS (para 91). In practice in the holiday sector most inhouse supplies continue to be taxed on the assumption that the selling price of the inhouse content is the cost plus average margin determined by the annual calculation. This is one area where practice in the B2B sector differs from the B2C holiday sector.

81 Normal VAT rules apply to inhouse supplies rather than TOMS rules. In particular, normal place of supply rules apply so that there is, for example, no UK liability on the selling price apportioned to non UK inhouse accommodation. Inhouse supplies fall into four categories dealt with in turn below, corresponding to steps 4, 5, 6 and 7 in the calculation dealt with in turn below.

82 D(4) If the operator owns and runs a hotel in the UK and includes it in a

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holiday in TOMS, the supply is inhouse and the calculation taxes the selling price of the hotel, not the margin. Unless the new market value rules apply, the selling price is assumed to be cost plus margin calculated pro rata. As the full selling price is taxed, input tax attributable to the costs is deductible. The hotel is a standard-rated UK inhouse supply and the costs appear at D(4) in the calculation. Because other figures are VAT inclusive, VAT is added to the VAT exclusive costs (at the normal rate, currently 20%).

83 E(5) If a coach operator provides coaching as part of a holiday in TOMS, the supply of transport is inhouse and zero-rated. Similarly for airlines and other providers of passenger transport. The operator is seen as acting as a provider of transport rather than buying in and selling on. Unless the new market value rules apply, the selling price is assumed to be cost plus margin calculated pro rata. As the full selling price is taxed, input tax attributable to the costs is deductible. Such transport is a zero-rated UK inhouse supply and the costs appear at E(5) in the calculation.

84 Although the UK zero-rates domestic transport other member states may not. The place of supply of transport is where it takes place so coach operators may be required to pay VAT on the distances covered in other countries. River cruises similarly. This local VAT is normal VAT, like the VAT a hotel would charge, is not TOMS, is not deductible and is not contrary to EU law (as Art 48 says that: the place of supply of transport is where it takes place). If an operator buys a river cruise in EU waters from a supplier who is established outside the EU and does not charge local VAT, there may be a reverse charge ie additional irrecoverable input tax. This has caused problems in Germany in the past in particular but the rules change and specialist local advice is recommended.

85 E(6) If an operator runs a school teaching EFL (English as a Foreign Language) the supply is an inhouse exempt supply. Unless the new market value rules apply, the selling price is assumed to be cost plus margin calculated pro rata. As the supply is exempt, input tax attributable to the costs may not be deductible. Partial exemption calculations are needed to determine how much input tax is deductible, assuming the operator is VAT registered. Many EFL operators are not registered.

86 F(7) Where an operator owns and runs eg a hotel in another country and includes this in a holiday in TOMS, the supply is inhouse and outside the scope of VAT. The operator of the hotel is presumably liable to register in the other country so the income is not taxed in the UK. Unless the new market value rules apply, the selling price is assumed to be cost plus margin calculated pro rata. The hotel is an inhouse supply that is outside the scope of UK VAT, ie treated as zero-rated, and the costs appear at F(7). Add notional VAT to these costs at the local rate applicable if VAT registered locally and accounting for output VAT on the corresponding sales to the overseas authorities.

87 HMRC say that if the operator buys in services but there is material alternation so that what he sells is different from what he buys, an inhouse supply is being made. The usual example is a conference organiser who rents rooms, employs speakers, hires audio visual machinery, produces hand-outs and provides lunch. However this category of inhouse supplies is less clear than when the operator owns the resources. In addition, just because a conference is inhouse does not make any associated transport or accommodation inhouse. The transport and accommodation remain in TOMS (709/5, para 7.13).

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88 Unless the market value rules apply, the selling price is assumed to be cost plus margin calculated pro rata. Depending on the place of supply rules (remember that the general rule for the place of supply of B2B services is where the customer is established so the place of supply may not be the same as the destination), the inhouse supply may be a standard-rated inhouse supply and the costs appear at step D(4) (plus notional VAT ie 20% if in the UK) or outside the scope of UK VAT, ie treated as zero-rated, and the costs appear at F(7) (add notional VAT to overseas costs at the rate applicable locally if VAT registered locally and required to pay local output VAT on the sales).

89 There is very little authority, in statute or case law, on what constitutes an inhouse supply or what the costs of an inhouse supply are for TOMS purposes. The guidance in section 7 of 709/5 does not have the force of law but is a reasonable starting point in most cases. The list of costs in 7.7 is inconsistent with the Devonshire Hotel decision.

90 However it is easy to get lost in the detail and it helps to remember the purpose of the exercise. In the most common case of an operator supplying holidays consisting of zero-rated inhouse coach transport plus bought in hotel accommodation, for example, the purpose is to determine the margin earned on any hotels in the EU. A little algebra shows that the annual calculation gives TOMS payable K = the VAT fraction (1/6) x the average gross profit as a % of cost (A/G-1) x the cost of the hotels (B). So the only number which is debatable is the gross profit %. The gross profit shown by the financial accounts may be a better guide to the appropriate % than complicated TOMS calculations based on coach miles which do not have the force of law. Unless of course you decide to use market values instead of the cost plus model (below).

Market value for inhouse supplies

91 When TOMS was introduced in 1988, all inhouse supplies were included in TOMS at cost ie TOMS assumed that the selling price was cost plus the average margin. Following the ECJ decision in MyTravel the UK was forced to introduce market values and from 31 December 2009 there is a complicated market value calculation at section 8 of 709/5. See HMRC Brief 27/09. The principle is that the market value of the inhouse supply is deducted from the selling price of the TOMS supplies and is liable to VAT under normal rules whilst the costs attributable to the inhouse supplies are not included in TOMS. In MyTravel, the company was selling flights on a seat only basis as well as in package holidays and it was relatively easy to take the market value of the flights from the selling price of the package to get the sales value of the TOMS supply. In practice HMRC opposed the use of market value and it is usually difficult to identify the market value as precisely as in MyTravel so most inhouse supplies continue to fall under the cost plus rules. The market value rules are beyond the scope of these notes.

92 In the Welsh’s Coaches Ltd case, the VAT Tribunal rejected the market values put forward by the company for the coach element of the package holiday, based on prices for similar journeys quoted by National Express. Coach tour operators may also sell private hire or make other coach only supplies but these supplies will rarely be comparable with the coaching included in a tour. For example, a private hire contract is for the supply of a whole coach and the hirer takes any risk that the coach is half empty whereas package holidays are sold seat by seat and the tour operator takes the risk that the holiday does not sell. The coach operator is unlikely to publish a price at which they would be willing to, for example, pick up one individual from a collection point, take them to the coach depot, drive them to a hotel in Cornwall and back a week later and to provide excursions in the intervening days but no hotel room. National Express will

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only do the city to city part and will probably charge more than the coach tour operator allows in the costings so that if market values could be established the coach operator would pay less TOMS. This is what you would expect as return follows risk and the coach tour operator takes no risk on hotel rooms and all the risk on the coach going out half empty.

93 Other practical problems with inhouse supplies are as follows: Is it beneficial to have a high cost (eg zero-rated transport or supplies outside

the scope of UK VAT) or a low cost (eg UK standard-rated inhouse)? It would be desirable to aim for consistency of approach.

The corresponding VAT treatment in other countries: other member states may not use the same criteria as the UK to determine what is inhouse and will invariably use a different method to determine the value of the supply.

How to deal with coaching costs when the operator uses the same vehicles for private hire. HMRC say the costs should be apportioned on mileage but this undervalues the transport element. More valuable coaches tend to be bought for tours and may only be used for private hire when not required for tours. In many ways it would be more logical to include private hire in TOMS.

How to treat subsidiaries incorporated in foreign countries: sometimes a ski chalet in France may be owned by a subsidiary, a French legal entity.

How to deal with local sales eg ski packs sold in resort by a chalet operator: is it fair to tax them under TOMS if they are included in the local VAT return?

The addition of notional VAT to inhouse costs (step 7 of section 9 of Notice 709/5): there is more than one rate of VAT in France, for example.

Non EU destinations, worldwide or EU only method

94 After the accession of Croatia in July 2013, the EU consists of 28 countries: Austria, Belgium, Bulgaria, Croatia, Cyprus (excl the part under Turkish control), the Czech Republic, Denmark (excl the Faroes), Estonia, Finland (excluding the Åland Islands), France (incl Monaco but excl Guadeloupe, Martinique, Réunion, St Pierre and Miquelon & French Guiana), Germany (excl Busingen and the Isle of Heligoland), Greece (excl Mount Athos), Hungary, Ireland, Italy (excl the communes of Livigno and Campione d’Italia and the Italian waters of Lake Lugano), Latvia, Lithuania, Luxembourg, Malta, Netherlands, Poland, Portugal (incl the Azores and Madeira), Rumania, Slovakia, Slovenia, Spain (incl the Balearic Islands but excl the Canaries, Ceuta & Melilla), Sweden and the UK (incl the Isle of Man). It excludes Norway, the Canaries (though part of Spain) and the Channel Isles (though part of the UK). Other territories which are excluded but which cause confusion include Andorra, Cape Verde, Gibraltar, Greenland, Iceland, Liechtenstein, Montenegro, San Marino and the Vatican City. Montenegro & Serbia may join the EU by 2025 and the UK may leave meanwhile.

95 Holidays in non EU destinations are not liable to TOMS. There are two ways to achieve this in the annual calculation. Under the worldwide method, holidays in non EU destinations are zero-rated ie the margin apportioned to non EU costs is zero-rated. The calculation uses worldwide sales and costs of sales and assumes the margin is proportional to the costs ie that the same percentage mark up applies in all destinations. The other way to do the calculation is to use only EU income and costs. Holidays enjoyed entirely in non EU destinations are ignored. Holidays enjoyed partly in the EU and partly outside are included in the calculation and the non EU costs of those holidays are zero-rated. The percentage margin on non EU destinations is generally lower than on EU destinations so the worldwide method usually produces a lower liability than the EU

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only method. But this is not always so. For example, margins in Turkey have at times been higher than in Greece. See the test case in Simply Travel.

96 Example: EU only or worldwideEU only + Non EU = Worldwide

TOMS £000Sales A(1) 1,200 400 1,600EU costs B(2) 700 0 700Non EU costs C(3) 0 300 300Total costs G(10) 700 300 1,000Margin H(11) 500 100 600Standard-rated margin J(12) = H x B/G 500 420TOMS K(20) = (1/6) x J 83 70

In this example the worldwide calculation gives a lower liability. This is normal.

97 Operators can change from one method to the other if they notify HMRC a year in advance. Despite this being an obligation to gamble, it is clear from several test cases that advance notification is a condition of changing from one method to another.

98 If you change from one method to the other, you need to consider the effect on the provisional percentage. If you use the EU only method you have a higher percentage but you apply it to less turnover. When you change to the EU only method, you will not have an EU only provisional percentage from the previous year unless you do the calculation both ways. You should avoid applying a worldwide percentage to the EU turnover or you will underpay and get an unpleasant surprise when you make the annual adjustment. Similarly when you change back you should avoid applying the EU only percentage to worldwide turnover or you will overpay. HMRC policy is that you elect to change at one year end but that nothing changes in practice until the following year end ie you continue to use the old provisional percentage until the following year end.

Supplies to other businesses

99 TOMS is intended primarily to apply to holidays. Holidays are sold to consumers not to businesses. TOMS does not apply to wholesale supplies ie to any transaction whereby a business sells transport, accommodation etc to another business who then sell it on. The test case was Norman Allen Group Travel Ltd. It bought in accommodation in France and sold it to a tour operator based in Japan who added flights and sold a package to Japanese holidaymakers. In 1996 the VAT Tribunal decided that TOMS did not apply to Norman Allen’s wholesale sales. There were different approaches in other member states but in principle following the changes in the UK in January 2010 and similar changes in other member states, all member states should have been following the same approach as the UK ie excluding wholesale supplies from TOMS.

100 The ECJ overturned this approach in the Kingdom of Spain decision in 2016: para 111. Under EU law wholesale suppliers fall under TOMS. The UK has not come into line and meanwhile UK wholesalers can choose which rules to apply.

101 Assuming operators choose not to follow the Kingdom of Spain decision, normal VAT rules apply to their wholesale supplies. For example, the place of supply of accommodation is where the property is located. So if the wholesaler sells UK

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accommodation it accounts for output VAT and claims input VAT in the normal way. If it sells non UK accommodation it has no UK liability and wholesalers obtained TOMS repayments following the Norman Allen decision in 1996.

102 TOMS applies to sales to other businesses for their consumption eg for their staff or provided to their customers without charge. So business travel, incentive travel and conferences are often caught by TOMS. This is a serious problem: the operator cannot reclaim input tax and cannot give the customer a VAT invoice so the customer cannot reclaim VAT. This was covered by a concession until 2010: para 3.3 709/5/04.

103 Organisers of UK conferences etc may therefore wish to fall outside TOMS and continue to use normal VAT rules. Hitherto the customer may have contracted with the organiser but in future the customer should enter into a separate contract direct with the hotel. The organiser acts as agent. The customer needs a VAT invoice from the hotel satisfying the usual requirements eg showing the customer’s name and address. There is no objection to an organiser paying these bills on behalf of the customer, batching them up and passing them onto the customer together with a summary of the deductible VAT but the organiser must not reclaim the hotel VAT nor issue a VAT invoice for the hotel to the customer. This is the hotel bill back scheme. See HMRC Brief 21/10.

104 Organisers should beware of attempting to act as the agent of the hotel etc without considering the wider implications. Changing from principal to agent is a fundamental change in the business. The terms & conditions and contractual arrangements need to be consistent. If the organiser is acting as the agent of the hotel, the organiser is working for the hotel, not for the customer, and may not be able to truly serve the best interests of the traveller. Think about what happens when you go to an estate agent looking for a house: the agent is working for the vendor, not for you.

105 If the place of supply is in another country, the wholesaler may be required to register for VAT in that country and if the other country is in the EU, HMRC may report this to the authorities in the other country.

106 The VAT treatment outside the UK is not covered in this note. Following the changes in the UK on 31 December 2009 and similar changes in other member states, wholesalers may have been liable to register for VAT in other countries where the property was located, transport took place etc. Operators making wholesale supplies outside the UK should take advice country by country. Remember that the whole point of TOMS was to protect tour operators from having to make multiple VAT registrations. This seems to have been forgotten in 2010, which is a pity.

Previous rules for B2B supplies

107 The treatment of supplies to other businesses was different until 31 December 2009. See HMRC Brief 27 (2009). Three special situations benefitted from special rules which have been withdrawn under pressure from the EU:

Wholesalers who wanted to stay in TOMS. Supplies to other businesses for their consumption. Supplies of UK educational trips to Local Authority schools.

There were also changes in 1996 and 1998 after the Norman Allen decision.

108 Some wholesalers wanted to stay in TOMS when HMRC changed the rules for wholesalers in 1996. This might have been because their wholesale sales were only a

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small part of their operations or because their wholesale sales were in the UK and they did not want to or could not operate normal VAT procedures ie calculate output tax by transaction and obtain and retain tax invoices for all purchases. Or if they bought from unregistered suppliers, eg home stay accommodation, TOMS gave a lower liability. Accordingly, wholesalers were allowed to opt to remain in TOMS, subject to obtaining permission from HMRC. This was a rare scenario. This concession was withdrawn from 31 December 2009.

109 Supplies such as conferences and business travel, where travel or accommodation is supplied to another business and they do not resell it, fall into TOMS. But under TOMS the operator cannot issue a VAT invoice and the VAT is lost. So para 3.3 of 709/5/04 allowed such operators by concession to use normal VAT rules instead of TOMS. In the case of UK supplies, HMRC permission was required to opt out so they should have a record. In the case of supplies elsewhere in the EU, a condition was that the organiser was registered for VAT and accounted for output VAT on sales in the other member state which made it unattractive and the concession was very rarely used for supplies outside the UK. This concession was withdrawn from 31 December 2009.

110 Local authority schools can reclaim VAT. Until 2010 tour operators excluded educational UK trips for such schools from TOMS. These special rules for supplies to local authority schools were withdrawn from January 2010: 709/5/09 para 3.4. This change increased the cost to local authorities of educational trips bought from tour operators using TOMS. Now local authorities may be able to save VAT by going direct to hotels etc. However, some specialist school operators may not fall into TOMS eg if they run their own sites. Their inhouse supplies are equivalent to those of a hotel so the supplies do not fall under TOMS and they can continue to use normal VAT rules.

Kingdom of Spain decision

111 Sales of travel services to another tour operator, for resale by them, have been regarded as outside TOMS under UK rules since 1996: para 99. Most but not all member states followed the same rules. The European Commission took infraction proceedings against 8 member states who did not, including Spain. In 2013 the ECJ found against the Commission and the decision is known as the Kingdom of Spain decision.

112 The ECJ decided that suppliers to other tour operators do fall under TOMS. So the Commission changed tack and took cases against Germany and Austria to require them to include wholesale supplies in TOMS. In principle other member states are now following the example of Spain.

113 Following the case against Germany, Germany will in future include B2B supplies in TOMS and the TOMS calculation will be transaction by transaction. Similar changes are under way in eg Austria and Belgium.

114 The UK shows no sign of complying. See HMRC Brief 05/14 available from https://www.gov.uk/government/publications/revenue-and-customs-brief-5-2014-tour-operators-margin-scheme The Commission have not taken proceedings against the UK, probably because of Brexit. EU law over-rules UK law so UK taxpayers can choose. However it might be unwise to try to cherry pick the decision. As Brief 05/14 says “It is open for any business to apply direct effect and operate TOMS in accordance with the Court’s decisions.” Partial accordance may not be acceptable.

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115 The ECJ also held that the TOMS liability should be calculated transaction by transaction, not by means of global calculation like the 32 step year end calculation required by Notice 709/5. This is no surprise as VAT is a tax on (individual) transactions and there is nothing in Arts 306 - 310 to authorize departure from this basic principle.

116 The ECJ also said that there was no reason why tour operators’ invoices should not show the TOMS output tax charged, in accordance with normal VAT principles. Where the supply is B2B the customer has a right to a VAT invoice. Interestingly, if this were enforced, it would tell the customer how much margin the operator had made.

117 If the Kingdom of Spain decision were applied in the UK it would have several consequences for TOMS:

Operators would have to collect sales and costs by transaction. Then they would have to carry out a large number of simple TOMS calculations instead of complicated one.

The transport company scheme would cease to work. The transport company would become liable to TOMS on its mark up on EU transport.

Inbound wholesalers would be required to use TOMS rather than the beneficial rules applying to many UK based wholesalers since the change in the place of supply rules in 2010.

Non EU destinations would be omitted from TOMS rather than included in a worldwide calculation. This would increase the TOMS liability in most cases where an operator supplies both EU and non EU holidays: para 95.

Place of supply rules

118 The place of supply rules determine in which country any particular transaction is liable to VAT. There are particular rules for accommodation (where the property is located), passenger transport (where it takes place), car hire (where it is made available) and catering (where the service is carried out). There are also particular rules for cultural, artistic, sporting, scientific, educational, entertainment or similar services (where they take place but, in the case of B2B supplies, this only applies to rights of admission rather than eg organising a whole event).

119 Other supplies follow the general place of supply rules and the general rule for B2C services may be familiar: where the supplier is established. For example, ski-hire supplied to a consumer in resort in France is liable to French TVA.

120 The general rule for B2B services is, from January 2010, where the customer is established. For example, ski hire supplied in a French resort to a UK based tour operator is not liable in France. This change has significant implications. If the customer is established outside the UK, the supply is outside the scope of UK VAT. If the customer is established in another member state, the customer has to operate the reverse charge procedure and the supplier has to complete an EC Sales Listing (ESL).

121 The bulk of tour operators’ costs normally comprise transport, accommodation, car hire & restaurants all of which remain taxed in destination under their particular place of supply rules. So most costs of most holidays were not affected by the 2010 change.

122 However operators buying in services which are not covered by a particular place of supply rule and are as a result no longer taxed in resort may have to reverse charge

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themselves UK VAT on the cost. They show output tax due to HMRC and equal and opposite input tax. Normally input tax is deductible so the reverse charge is a non event but under TOMS input tax on direct costs is not deductible. Uncertainty remains.

Agency supplies not in TOMS

123 In the traditional model, a holiday was sold by a travel agent on behalf of a tour operator. The agent earned a commission from the tour operator. The commission was liable to VAT which was paid over to HMRC by the agent and reclaimed by the tour operator. The traveller knew that their contract was with the tour operator not with the travel agent. The travel agent did not use TOMS. The tour operator paid TOMS based on the selling price paid by the traveller, before deducting the agent’s commission. Few companies acted as both agent and principal so the two different roles were clear.

124 This model is still valid but the demarcation lines between agents and principals have broken down. Some operators are selling direct to consumers without using travel agents. Some are acting as agents rather than as principals to save VAT and bonding. Some travel agents are offering dynamic packaging and falling into TOMS. So it is now necessary to be clear about the precise contractual relationships and what they mean for TOMS, and for bonding, insurance and other purposes.

125 If a tour operator also makes supplies as a disclosed agent, the agency commission should be excluded from TOMS and charged to VAT under general principles. The commission may be exempt (eg arranging insurance), zero-rated (eg arranging zero-rated passenger transport), outside the scope of UK VAT (eg arranging non UK accommodation) or standard-rated (the default position eg arranging UK car hire). This assumes that the commission is readily identifiable so that the cost and selling price of the agency transactions can both be excluded from the calculation.

126 However, it is not always possible to identify the amount of the commission. For example, many operators sell ferry transport as agent and include the ferry in the package price. How much is the commission in this case? If the amount of the commission is not readily identifiable, the net cost (ie the selling price of the agency supply less the unknown commission) is included in the calculation at step 8 or 9, depending whether the commission is standard-rated (eg on UK car hire or accommodation) or zero-rated (eg on ferry transport or non UK accommodation). See para 2.14 of 709/5.

127 Some travel companies structured their business as the agents of suppliers, eg overseas hotels, instead of as principals. This was appropriate for businesses specialising in accommodation only. It reduced the TOMS liability because the commission received from the hotels was outside the scope of UK VAT and in practice the corresponding overseas liability, if any, was lower. This practice grew with the bed banks to the point at which HMRC could no longer ignore it and they stated that they saw it as tax avoidance.

128 Accordingly, HMRC took a test case, International Life Leisure Ltd. The VAT Tribunal ruled in 2006 that ILL were liable for TOMS. Note that ILL were not supplying accommodation only and were voluntarily accepting responsibility under the Package Travel regulations. ILL did not appeal further and costs were awarded to HMRC. However this emphatic win for HMRC did not last.

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129 The Med Hotels (Secret Hotels2 Ltd) case went the other way. The Lower Tax Tribunal decision went in favour of HMRC. The Tribunal had little sympathy with Med Hotels, probably because it seemed that the overseas hotels were only paying VAT on the net sales price they received from Med Hotels (they did not know the gross amount) so the margin was not being taxed anywhere. Med Hotels won their appeal to the Upper Tax Tribunal but HMRC won in the Court of Appeal in July 2012. Med Hotels appealed to the Supreme Court. In 2014 the Supreme Court found for Med Hotels.

130 The final position remains uncertain. HMRC is seeking leave to appeal to the ECJ. Meanwhile they have lost similar Tribunal cases against Opodo, Alpharooms, HotelConnect, Hotels4u and Lowcost Holidays. A complete resolution of this issue may be interrupted by Brexit and might need to explore the differences between the common law approach to agents (used in eg the UK and several former colonies) and the civil law approach (used in most other EU member states) ie case law vs codified statute.

131 Meanwhile HMRC can be expected to follow through and to ask bed banks and other UK based agents to pay TOMS in future unless they can show that the principal is accounting for tax on the full selling price. However, it remains possible to be an agent and to avoid TOMS eg if you sell car hire or accommodation as the agent of a supplier and they take the money from the traveller and pay you your commission.

Input tax

132 When you look at an iceberg you only see 10% of the problem. Most of the iceberg is under the water. TOMS is similar. If the operator pays £100 for a hotel room in Scotland and charges the traveller £120 then TOMS at 1/6 of the margin is £3.33. If the supplier charged VAT at 20%, which the operator cannot reclaim because of TOMS, then the underlying input tax is £16.67 ie five times as much as the TOMS liability. To understand the true TOMS burden on tour operators you need to consider input tax.

133 Input tax is particularly significant in the UK inbound sector. Some wholesalers can reclaim input tax on UK hotels under an anomaly on the place of supply rules. France and certain other member states charge lower rates of VAT on hotels. Inbound specialists using bed and breakfast accommodation may incur no input tax. These anomalies are reflected in the market prices in those sectors.

134 TOMS blocks input tax on costs when the costs are allowed against the margin. It is obvious that a UK based operator cannot reclaim input tax on French hotels. But a coach operator based in London may reclaim input tax on hotels in Scotland, forgetting that it is blocked by TOMS. Coach operators making this mistake will find out the hard way that input tax is more significant than output tax under TOMS.

135 Coach operators who buy new coaches reclaim the input tax. HMRC will usually query the repayment claim and ask to see the VAT invoices from suppliers. HMRC may take the opportunity to review the returns and one common mistake is to omit to account for the output tax on any second-hand coaches sold in part exchange. Or HMRC may review past TOMS calculations and pressure the operator to concede adjustments by refusing to process the repayment for the new coaches until the operator does so. Tour operators may be vulnerable to HMRC when looking for a large repayment.

136 VAT is generally chargeable on purchases and the lowest standard rate permitted by EU law is 15% though only two member states come in below 20%: Germany (19%)

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and Luxembourg (17%). Lower rates apply to certain services eg France, Spain & Italy charge 10% on passenger transport & hotel accommodation. The UK continues to zero-rate passenger transport which is out of line with most other member states and gives rise to the transport company anomaly (para 65).

137 If a tour operator is not charged VAT by an EU supplier it should ring alarm bells. For “other” services ie those not covered by a particular place of supply rule (accommodation where the property is located, passenger transport where it takes place, catering where it is carried out, car hire where it is made available & admissions where the event takes place), the supplier may have applied the general place of supply rule for B2B services (where the customer is established). In this case the operator will often be expected to reverse charge ie account for 20% UK VAT as if they had sold the service to themselves. The output tax is payable to HMRC in the usual way but is the input tax deductible? Not if the cost is allowed against the margin in TOMS. So beware of “other” services where an EU supplier does not charge local VAT.

138 If the supplier has applied the general place of supply rule their invoice should mention the reverse charge (so the purchaser will be on notice) and the supplier should have completed an EU Sales List (so the information will be available to HMRC when they visit the UK operator). Tour operators should have in place a bought ledger procedure designed to identify any reverse charges.

139 Remember that you need a valid UK VAT invoice to reclaim VAT. If you pay commission to a UK travel agent you need a self-billing agreement because travel agents rarely issue VAT invoices. If you pay commission to an overseas agent or an OTA, the working assumption is that there is no input tax to claim; Booking.com, Airbnb etc.

VAT rate changes

140 TOMS uses the VAT fraction because sales and purchases are both VAT inclusive. The rate of VAT was 17.5% (VAT fraction 7/47) from 1 April 1991 until 30 November 2008 when it was cut to 15% (VAT fraction 3/23) and then went back to 17.5% on 31 December 2009. It was increased to 20% from 3 January 2011 (VAT fraction 1/6). The examples in these notes assume the VAT fraction 1/6 throughout as does the standard spreadsheet. When the rate changes you need to consider the effect on the annual calculation and on your provisional payments (see in turn below).

141 If your accounting period straddles a rate change, you should do one annual calculation for the whole year but use an average VAT fraction. The VAT fraction should normally be a weighted average of the VAT fractions based on the sales in the two periods (on a departures basis). This gives the same answer as doing separate annual calculations for the two periods, analysing sales between the periods and apportioning the year’s costs pro rata sales for the two periods, as suggested by HMRC, but is easier.

142 However if your sales mix between EU and non EU destinations varies significantly between the two periods or you make significantly different margins at different times of the year, this averaging method may not give a fair and reasonable answer. You may want to do two separate calculations using actual sales, actual costs of sales and the different VAT fractions although this is not what HMRC suggest.

143 If you make standard-rated inhouse supplies eg your own UK hotel (D(4)), you will have reclaimed any VAT on the inhouse costs so the costs in the accounts are net of

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VAT and you have to add VAT to bring them into line with the rest of the annual calculation as required by step 4 of section 9, 709/5. There is no HMRC guidance on the rate change and step 4: it is suggested that you gross up at step 4 by using a weighted average VAT rate, again based on the sales in the two periods. However if your business is seasonal, again you may want to do two separate calculations.

144 The provisional payments are easy: use the VAT fraction applicable on the date of departure and the provisional % from last year’s annual calculation. You may have to split a quarter’s sales into months if the quarter straddles a rate change but the main point is that the provisional % from the previous year’s annual calculation does not depend on the rate of VAT in the following year.

Simplified annual calculations

145 709/5 para 5.5 introduces and section 11 details a simplified annual calculation. If the supplies are all standard-rated (whether bought in or inhouse), the liability is the VAT fraction x the difference between the sales and the cost of bought in travel services. This is helpful where all the supplies are to EU destinations (including the UK) and there are standard-rated inhouse supplies eg they run their own UK hotel. It avoids the need to value the inhouse supplies (whether at cost plus or at market value). This is possible because a little algebra or a numerical example will show that the liability is the same irrespective of the value adopted for inhouse supplies.

146 If this sounds too theoretical, do the full 32 step calculation. All your costs are SR ie at steps 2, 4 & 8 so that steps 3, 5, 6, 7 & 9 should be zero. Now try changing step 4 ie the cost of the inhouse SR supplies. You will find that the liability step 30 does not change. So it does not matter what the cost/value of the inhouse supplies is. So it might as well be zero. So you can just ignore it and use the simplified annual calculation.

147 However it is not simple to decide when the simplified calculation applies and it is safer not to use it unless you know what you are doing. The full calculation will always give the right answer whereas the simplified calculation may give too great a liability if it is used when it does not apply.

148 The draftsman of 709/5 fell into precisely this trap. Section 13, TL4, para 1 requires operators to use the simplified annual calculation where “all such supplies are liable to VAT at the same rate”. If all the supplies are zero-rated eg the tour operator only sells holidays in non EU destinations the simplified annual calculation should not be used. In this scenario TL4 is contrary to EU law and should be ignored. In practice HMRC agree and do not expect you to use the simplified annual calculation where all the supplies are zero-rated (709/5 para 5.5). In this case the correct liability is of course zero, not 1/6 x the non EU margin as suggested by the simplified calculation.

149 Other points on the simplified calculation: Any operator using a transport company to mitigate the 1996 extension of TOMS

to EU transport needs to do the full calculation to calculate the Newco mark up. If the simplified calculation is used and an operator reverts to making supplies

with different liabilities, it will be important to remember to change back or the operator will overpay.

Purchases in foreign currencies

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150 Purchases in foreign currencies have to be translated into sterling to get the costs in the accounts and TOMS. In practice the effect on the TOMS liability is not usually significant but there are considerable theoretical problems with HMRC rules. 709/5, section 13, TL2 says operators must use one of 5 methods summarised as: (a) the Federation of Tour Operators’ rate at the time of costing, (b) the commercial rate of exchange at the time of costing, In the case of the first two options you must publish the rate in your brochure (c) the rate published in the Financial Times on the date you make payment, (d) the rate applicable to the purchase of the foreign currency used to pay for the supplies and (e) the rate of exchange published by HMRC for the period you paid for the supplies.

151 Each of these methods has its problems. And as there is a choice of methods but no default method (unlike in the case of non EU destinations), where does a tour operator who has hitherto complied with none of HMRC’s methods stand?

152 Another criticism of these rules is that they do not correspond with recognised accountancy standards. Assets and liabilities denominated in foreign currencies are normally translated at closing rates in the accounts at the year end and the resulting adjustment appears as an FX difference somewhere in the accounts. In practice most tour operators use the cost of sales as shown by the accounts, including the FX difference. Provided the operator is consistent in using the accounts figures, HMRC may not challenge this approach. This is the practical solution to the problem and within the spirit of method (d) even if it does not foresee revaluation of year end assets and liabilities.

153 Under FRS 102 you may be required to revalue forward contracts at the year end and make a hedging adjustment. This adjustment should reverse out at the beginning of the following year and should not be included in the costs in TOMS. The cost of future purchases of currency will affect the margin in the year in which the holiday is supplied.

Reps and guides

154 The treatment of reps, guides, couriers or tour managers is often muddled. The principle is that purchase costs are allowed in TOMS if they are for the direct benefit of the traveller (Art 308). HMRC may seek to disallow the cost of reps on the basis that they “only” meet & greet at the airport and or in resort though there is no basis for this. Purchases exclude salaries, as they do not attract VAT, so it is clear that the salaries of reps should be disallowed (do not confuse this with the inclusion of drivers’ salaries in the cost of inhouse supplies – this is an attempt to value the selling price of the inhouse supply as cost plus margin). Reps tended to be employees in 1988 but may now be bought in. If the services of reps are bought in from other businesses or from self-employed individuals, there is an argument that the cost is allowable under EU law. Meeting & greeting the traveller would appear to be for the direct benefit of the traveller whatever HMRC may say. HMRC say the cost of more specialist guides “is often a supply in its own right” (para 6.10) ie presumably a direct cost and therefore allowable in TOMS or as an inhouse cost if the person concerned is employed by the operator.

155 Whether a particular supply eg guide is bought in or inhouse is a separate question but it is difficult to see how guides in isolation can create an inhouse supply. Accordingly it is rare to see inhouse guide costs in a TOMS calculation. The position is different if for example you run a ski chalet in France, employ guides, provide

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equipment, are registered for TVA and include the guiding supply in your TVA returns.

Rent to rent

156 The rent to rent sector has grown rapidly. Owners of houses who are going overseas for a year or two may want to let their house while they are away. Or owners of second homes. Traditionally it would be let for residential use for several months, the rent received would be exempt and the owner would not be liable to register for VAT. The owner might use an agent or let it themselves. With the advent of Booking.com and the sharing economy it may now be feasible to let it for short holiday lets, at much higher prices per night. These holiday lettings are normally standard-rated but this does not matter to the owner if they are below the limit and not registered for VAT.

157 But short lets are a lot more work than long lets. Owners do not have the expertise to do it themselves, especially finding customers, so businesses have sprung up to manage the holiday accommodation lettings for the owner. Some of these businesses will act as agent and charge the owner a commission in which case the owner may remain below the limit and not need to consider the VAT treatment of the rents received. But it is common for the owner to let the property to the manager for a year or two and for the manager to sublet as principal. So does the manager come under TOMS? The big advantage of doing so is if the rent paid to the owner is a deduction against the margin in TOMS which should halve the VAT liability.

158 So TOMS will often be attractive and is widely used but this is a new area and there is scope for misunderstandings. Some points to consider:

HMRC policy on when TOMS applies to rent to rent has yet to become clear. Conflicting rulings may be given. The more the sector grows the more incentive HMRC have to say normal VAT rules apply.

Do not register for VAT before you are over the limit (margin > £85,000). Property owners do not come under TOMS. If you set up a company to play

piggy in the middle and convert holiday rentals to TOMS you could be attacked. Similarly if you set up several companies so that each remains below the limit. What is the criterion to be seen as the owner? Would a 5 year lease from the

freeholder make the manager the owner and prevent TOMS applying? 10 years? Is the manger making an inhouse supply (para 77)? HMRC policy on inhouse

supplies has developed sector by sector and has yet to become clear in this sector. What should constitute “material alteration” for rent to rent operators? If you provide a cleaning service, add linen, pay gas/water/electric, pay rates and carry out minor repairs, are you still under TOMS? Ultimately each case will be decided on its individual merits.

What costs are allowable against the margin? The more costs that are allowable the lower the margin but the more likely that there is material alteration.

Is the rent to the landlord exempt? If the landlord is not registered and is below the limit it may not matter. But if VAT is chargeable, under TOMS the manager will be unable to reclaim it.

Can the Flat Rate Scheme apply? Does the reduced rate apply for lettings over 28 days? What about business customers who want VAT invoices?

Self billing and travel agents’ liability on commissions

159 Many operators sell through travel agents. The agents charge the operators commission and deduct their commission from the amounts they remit to the operator.

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Without self billing the normal system would be for the agents to send the operators a VAT invoice but under self billing it is the operator who raises the VAT invoice and sends it to the agent. The operator’s paperwork is simplified and they get the input tax deduction sooner than they might otherwise. The travel agent is liable to account for the tax shown on the self billing invoice. Self billing agreements are common in tour operators though they are nothing to do with TOMS.

160 HMRC’s prior approval is no longer required before a taxpayer can use self billing but the general conditions set out in VAT Notice 700/62 have to be observed. If a taxpayer does not comply with these conditions they need VAT invoices from the agents before they can claim input tax. The operator must keep the names, addresses and VAT numbers of agents who have agreed to self billing and sign self billing agreements meeting the conditions in 700/62.

161 Travel agents’ commission is zero-rated if they sell flights as agent of the airline. Their commission is standard-rated if they sell holidays as agent of the operator (whether the holiday is to an EU or non EU destination). Travel agents may also sell seat only for a tour operator or consolidator (a consolidator will normally be a tour operator for this purpose not an agent). The VAT liability on agents’ commissions on seat only sales changed. Prior to the 1996 change to TOMS, seat only sales were seen as flights and the commission was zero-rated. From January 1996 seat only sales are seen as holidays and the commission is standard-rated. See Business Brief 2/96 and Information Sheet 6/96.

Brexit

162 The Government needs the money so it assumed that the UK will retain VAT. VAT is governed by EU law. The Principal VAT Directive Dir 2006/112 Art 307 says TOMS only applies to tour operators established in a member state. If Brexit happens, the UK will no longer be a member state so TOMS as we know it will automatically cease to apply to operators established in the UK. HMRC have said they will replace it with a UK version. The form of its replacement will depend on the form of Brexit.

163 If we get a soft Brexit and the UK continues to adhere to EU VAT rules, it might be agreed with the EU that all concerned should continue to apply TOMS as if the UK remained in the EU. The EU is looking at reforming TOMS and the UK would then have little or no say in the new rules. Meanwhile more of the same, presumably.

164 At the other extreme, in the event of a no deal Brexit, HMRC have published a Statutory Instrument saying that the UK would continue to collect TOMS but only on UK destinations. Travel services enjoyed in non UK destinations would not be liable to UK VAT. http://www.legislation.gov.uk/uksi/2019/73/made. See also impact assessment https://www.gov.uk/government/publications/hmrc-impact-assessment-for-the-movement-of-goods-if-the-uk-leaves-the-eu-without-a-deal/hmrc-impact-assessment-for-the-movement-of-goods-if-the-uk-leaves-the-eu-without-a-deal-second-edition

165 The consequences of this approach could include: Destinations in the EU becoming cheaper, compared with the UK, encouraging

travellers to go abroad and costing the UK economy money. The Government losing TOMS revenue on EU destinations: TOMS is reckoned

to collect about £350 million pa including UK destinations so the loss would be a bit less than the figure on side of Boris’ bus but still enough to be missed.

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UK based operators sending clients to EU destinations would no longer enjoy the protection of TOMS: remember that the point of TOMS is to avoid having to register for VAT in other member states and pay VAT on the sales value of the travel services enjoyed in the member state to the government in that state. It is not clear what other member states will do in practice. It could be very tiresome.

None of these consequences look positive for the travel sector.

Reform of TOMS

166 There has long been discussion of possible reform of TOMS by the EU. KPMG produced a comprehensive report for the European Commission in 2017. It was particularly concerned about the effect of TOMS on B2B supplies ie the loss of input tax: https://ec.europa.eu/taxation_customs/sites/taxation/files/travel_agents_special_vat_scheme_en.pdf

167 The biggest defect in the UK scheme is its complexity. The obvious way to simplify the UK scheme would be to abolish the annual calculation and for TOMS to be calculated transaction by transaction. For each sale to an EU destination the operator would identify the sales and the direct costs and the TOMS would be 1/6 of the difference. Each transaction by transaction calculation would easy and this approach is in accordance with the Kingdom of Spain decision (para 111).

168 However, this would increase most liabilities. There are several reasons: It would presumably stop the transport company scheme: para 65. It would exclude non EU destinations: para 95. Some costs might be difficult to allocate and be disallowed.

169 It would also be more work for tour operators as they would need to record sales and costs transaction by transaction. Some costs could be difficult to be split. So it may be unwelcome but operators should understand that it is normal to calculate VAT transaction by transaction. TOMS has obscured this inconvenient truth for over 30 years.

170 One obvious change would be to include wholesale supplies consistent with the Kingdom of Spain decision (para 115).

171 There are also defects inherent in EU legislation. Two major defects are mentioned, one affecting the holiday sector and the other affecting supplies to businesses.

172 The obvious defect, as it affects the holiday sector, is the advantage given to non EU destinations over EU destinations. This encourages holidaymakers to fly further, generates more greenhouse gases and exports jobs from the EU. Justifying it by the destination principle much loved by VAT experts does not make it sensible policy.

173 The obvious defect in TOMS, as it affects supplies to businesses or the meetings incentive and conference sector (MICE), is that TOMS often results in businesses losing input tax. This has always been an issue with TOMS. One solution could be to allow member states the option to disapply TOMS for B2B supplies which are solely domestic ie where the operator is established in the same country as the event takes place. It might be thought controversial/contrary to fundamental principles to nationalise the rules in this way but it would give control back to the member state who are after all the authority normally entitled to collect VAT on supplies in the country. One effect would be to

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encourage larger operators to set up subsidiaries in different member states.

174 This guide concentrates on the basics of TOMS as they affect the holiday trade and does not cover eg the special problems faced by the meetings, incentive and conference sector. For further discussion see the KPMG report (para 166).

Simplification of TOMS

175 The Office of Tax Simplification published a report on VAT published in 2017. https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/657213/Value_added_tax_routes_to_simplification_web.pdf It had one TOMS recommendation: “The government should consider the potential for increasing the TOMS de minimis limit and removing MICE businesses from TOMS.”

176 The de minimis exemption hardly ever applies (para 182). The MICE sector has a problem but solving it is unlikely to result in simplification. See suggestions for reform (para 173) for alternative more substantial suggestions for simplification.

177 The OTS report also discusses the registration limit. It is sometimes suggested that it should be increased but the high UK limit is already out of line with the rest of the EU and the cliff edge it produces is a disincentive to businesses to grow past the limit.

178 Reducing the registration limit (or freezing it and letting inflation do its work) would make more sense. This would be unpopular but it would raise money and is more likely. This would affect TOMS in several ways:

Start-up tour operators would be obliged to register sooner. Suppliers often include guides or taxi drivers who are not registered. Similarly with bed & breakfast which is important to the inbound sector.

179 It is quite common to see significant VAT savings arising from using unregistered suppliers, especially in the UK inbound sector. The supplier cost reduces the margin and the TOMS liability but there is no corresponding input tax to disallow, upsetting the normal neutrality of TOMS.

Credit card charges

180 There was a lot of misunderstanding about credit card surcharges when they were permitted. If a tour operator surcharged for payment by credit card, there was only one supply, to the traveller, and the full amount went into sales for TOMS. The payment to the credit card company was an overhead and was not deductible in TOMS. Instead you reclaimed any VAT on the cost, except that the charge is exempt so there was none. This was always the correct treatment for tour operators but the position of travel agents was different. The travel agent had two separate clients, the tour operator who paid them a commission and the traveller who paid them a surcharge for being allowed to pay by credit card, and these two supplies were considered separately. Until 2007 HMRC used to accept that the surcharge was exempt. From 2007 they say that the surcharge is standard-rated. These surcharges were stopped in 2018.

Personal insurance

181 Personal insurance income and costs should be excluded from TOMS but the approach to doing so depends on whether the insurance is priced separately or included

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in the price: para 125. There may be partial exemption implications and HMRC sometimes challenge the exemption for the insurance commission. Specialist advice may be necessary in either case.

De minimis exemption

182 Notice 709/5 para 3.5 says that you do not need to use TOMS if your TOMS sales are less than 1% of total sales and do not include any passenger transport or accommodation. So this extra statutory concession rarely applies. The only example given where it avoids TOMS is a hotelier who buys in and resells a little bit of car hire.

Tax points

183 Most tour operators recognise income on date of departure and TOMS adopts this approach. This is a departure from general principles of VAT, under which receipt of payment or issue of an invoice triggers a tax point. There is an option in TOMS to recognise income earlier: paras 4.14/4.15 of 709/5 and SI 1997/1806. However it is hardly ever beneficial to use the earlier tax point rules so they should be avoided. If your accounts recognise income before departure date, your accounting may be the problem.

184 The ECJ decision in Skarpa Travel shows that under EU law there is a tax point on an earlier payment but the UK shows no sign of adopting this ruling.

VAT invoices

185 Under TOMS the liability is calculated at the year end and the amount of VAT payable on each sale is not known at the time of supply so it is not possible to issue a normal VAT invoice (709/5 para 4.20). If a tour operator sells to another business, HMRC expect them to issue an invoice which otherwise conforms to the usual requirements for VAT invoices and is, for example, pre-numbered. HMRC also wish to see a statement on the invoice that the supply falls under TOMS. This would prevent business customers reclaiming VAT and conflict with fundamental principles of VAT. This is particularly problematic in the MICE sector: para 166.

186 The ECJ decision in the Kingdom of Spain suggests that under EU law the operator should issue a VAT invoice, where the supply is B2B. This would show the operator’s VAT ie the TOMS which would tell the client the operator’s margin.

Discounts

187 Travel agents may discount selling prices and take less commission. If they do so without telling the tour operator, the tour operator may assume the usual commission applies and show too much commission in their accounts. The selling price of the holiday, before commission, will be overstated by an equal and opposite amount so the profit will be right but the TOMS liability will be overstated. Adjusting the TOMS calculations is straightforward if the amount of the discount is known but not if the agents do not have the information. In addition, there are implications for self billing: the input tax claimed may be wrong. Following the confused ECJ decision in First Choice Holidays, HMRC say a tour operator cannot adjust for discounts funded by the agent without the knowledge of the operator: 709/5, para 6.1.

188 Purchase discounts reduce the cost of sales in the accounts and in TOMS. It is

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common for operators to receive retrospective payments from suppliers but calling these receipts “commission” does not make the operator an agent (indeed it is doubtful the operator can be both agent and principle). They are normally a reduction in TOMS costs.

Notice 709/5

189 Read HMRC Notice 709/5. It was first issued in 1988, last reissued in 2009 and last amended in 2019. It is available from the link below or direct from HMRC’s web site www.hmrc.gov.uk. It is a useful summary of TOMS, although it would be improved if it contained numerical examples and there several errors in the text.https://www.gov.uk/guidance/tour-operators-margin-scheme-for-vat-notice-7095

190 Sections 8 to 13 of Notice 709/5 have legal effect. The rest represents HMRC’s view of the law but has no legal effect: 709/5 para 1.2.

191 709/5 was updated 22 February 2016. This update introduced an error in the formula for the VAT due on standard-rated inhouse supplies eg you run a hotel in the UK and it comes into TOMS eg because you sell it together with bought in transport. The brackets previously included have been omitted. The formula at step 21 of section 9 should read: (total at step 4 + total at step 14) x the VAT fraction [ignoring market value]. In algebra P = (D + H x D/G) x 1/6 rather than P = D + H x D/G x 1/6. It makes a very big difference to any operator with standard-rated inhouse supplies.

192 There is also an old error at step 29 in that it omits the margin on agency supplies but this is not important. See the third page of my spreadsheet showing the calculation https://www.pooley.co.uk/toms_notes_excel.pdf for details.

193 The tertiary law set out in section 13 of 709/5 is summarised as follows:TL1 Non EU destinations – see para 72.

A tour operator may be allowed to do an EU only calculation if HMRC are notified before the due date for the first return in the year in question.

A tour operator may be allowed to revert to doing a worldwide annual calculation if HMRC are notified before the due date for the first return in the year.

TL2 Purchases in foreign currencies: see para 150. Costs in foreign currencies must be translated into sterling using 1 of 5 methods. A tour operator may be allowed to change method if HMRC are notified before

the due date for the first return in the year in question.TL3 Market value: see para 91. TL4 Calculations:

Tour operators shall use the annual calculation in sections 9 or 11 (simplified). Tour operators shall use the provisional calculations in sections 10 or 12. Tour operators shall pay the provisional amounts of tax for the period concerned. Tour operators shall make the annual adjustment in the first return in next year.

TL5 DefinitionsThis contains definitions of various terms. The definition of inhouse supply is particularly uninformative: “a supply by a tour operator which is neither a designated travel service nor an agency supply.” They fail to define what costs go at B ie “standard-rated designated travel services”: para 43.

Further reading

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194 My spreadsheet https://www.pooley.co.uk/toms_notes_excel.pdf

Does TOMS apply to this transaction? https://www.pooley.co.uk/TOMS_flowchart.pdf

The VAT (Tour Operators) Order (SI 1987/1806): copy available from me on request or:http://www.legislation.gov.uk/uksi/1987/1806/contents/made

Arts 306 - 310 of the Principal VAT Directive:https://eur-lex.europa.eu/legal-content/EN/TXT/HTML/?uri=CELEX:32006L0112&from=EN

HMRC Information Sheet 03/96 on TOMS and the airline charter option. This is no longer on HMRC website but a copy is available from me on request.

HMRC Information Sheet 04/96 on TOMS and the agency option. This is no longer on HMRC website but a copy is available from me on request.

HMRC Information Sheet 01/97 on TOMS and the transport company scheme. This is no longer on HMRC website but a copy is available from me on request.

HMRC Notice 700/62 on self-billing: https://www.gov.uk/guidance/self-billing-notice-70062

HMRC notes on ESLs:https://www.gov.uk/guidance/vat-how-to-report-your-eu-sales

HMRC Brief 21/10 on hotel bill back procedure. This is no longer on HMRC website but a copy is available from me on request.

EU law

195 The last word must go to EU law. EU law requires TOMS to depart from three fundamental VAT principles (i) the place of supply (bringing it back to where the operator is established), (ii) the value of the supply (the margin) and (iii) input tax (blocking it on direct costs). EU law does not authorise any wider departures.

196 The ECJ decision in Kingdom of Spain shows that other fundamental VAT principles must be observed (para 111).

197 And inhouse supplies do not fall under TOMS, even if the output tax on them is accounted for through TOMS, so they follow normal VAT rules. In practice inhouse supplies are nonetheless taken to follow TOMS tax point rules (departure date) unless they are taken out of TOMS at market value.

198 Arts 306 to 310 of the Principal VAT Directive are the basis of TOMS. See below. Note that they refer to travel agents rather than tour operators and the UK distinction between the two does not translate well into other member states. http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2006:347:0001:0118:EN:PDF

Special scheme for travel agentsArticle 306

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1. Member States shall apply a special VAT scheme, in accordance with this Chapter, to transactions carried out by travel agents who deal with customers in their own name and use supplies of goods or services provided by other taxable persons, in the provision of travel facilities.

This special scheme shall not apply to travel agents where they act solely as intermediaries and to whom point (c) of the first paragraph of Article 79 applies for the purposes of calculating the taxable amount.

2. For the purposes of this Chapter, tour operators shall be regarded as travel agents.

Article 307

Transactions made, in accordance with the conditions laid down in Article 306, by the travel agent in respect of a journey shall be regarded as a single service supplied by the travel agent to the traveller.

The single service shall be taxable in the Member State in which the travel agent has established his business or has a fixed establishment from which the travel agent has carried out the supply of services.

Article 308

The taxable amount and the price exclusive of VAT, within the meaning of point (8) of Article 226, in respect of the single service provided by the travel agent shall be the travel agent's margin, that is to say, the difference between the total amount, exclusive of VAT, to be paid by the traveller and the actual cost to the travel agent of supplies of goods or services provided by other taxable persons, where those transactions are for the direct benefit of the traveller.

Article 309

If transactions entrusted by the travel agent to other taxable persons are performed by such persons outside the Community, the supply of services carried out by the travel agent shall be treated as an intermediary activity exempted pursuant to Article 153.

If the transactions are performed both inside and outside the Community, only that part of the travel agent's service relating to transactions outside the Community may be exempted.

Article 310

VAT charged to the travel agent by other taxable persons in respect of transactions which are referred to in Article 307 and which are for the direct benefit of the traveller shall not be deductible or refundable in any Member State.

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