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Tour Operators' Margin Scheme (TOMS VAT)

A GUIDE 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. Previously 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 inParis £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 theUK.

Unfortunately 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.

Appendices in Excel available from my website

Does TOMS apply to this transaction? See flowchart:

http://www.pooley.co.uk/TOMS_flowchart.pdf

Excel spreadsheet example 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

http://www.pooley.co.uk/toms_notes_excel.pdf

Caveat

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.

Copyright Martin Pooley 2013

TOMS in one page

1 You should use TOMS if you 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 country in which you operate.

2 TOMS is a year-end tax calculation. Think of it like a corporation tax computation. It makes you pay UK VAT on the margin on EU destinations. You cannot reclaimUKor foreign input VAT on the corresponding costs of sale 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 1,500,000
Cost of sales EU destinations 400,000
Cost of sales non EU destinations 600,000
Total cost of sales 1,000,000
Total margin 500,000
Margin on EU destinations = 500,000 x 400,000/1,000,000 200,000
Liability at 20%/120% = 1/6 x 200,000 33,333

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

4 Compare with payments on account and adjust in the first return in the next year:

Liability year ended 31 December 2013 above 33,333
Paid on account during 2013 say 30,000
Adjustment required in first return after year end (normally 03/14) 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 2013 above 200,000
Sales in 2013 above 1,500,000
Provisional percentage to use in 2014 = 200,000/1,500,000 13.33%
Sales value of departures in first quarter of 2014, say 300,000
Estimated standard-rated margin in quarter = 13.33% x 300,000 40,000
Provisional payment for first quarter of 2014 = 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 go along with this.

7 The margin on insurance is exempt. Cancellation income is not liable to VAT.

8 There are many special situations eg if you sell to another business, if you make inhouse supplies or if you supply a mixture of EU and non EU holidays.

9 Check that the margin in your calculation reconciles to the profit in the accounts.

10 TOMS in two words: Ask Martin.

Introduction

1 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.

2 Why do we need TOMS? Suppose a UK tour operator buys accommodation in France from a hotel 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, collect 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?

3 TOMS is an EU wide simplification measure 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 conference.

4 Under TOMS, tour operators pay output VAT on their margin not on their selling price and they pay it in the country in which they are established not in the destination. They do not register for VAT in the 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 consumption.

5 The UK uses a cost based apportionment system relying on the annual accounts. The margin apportioned to EU destinations is standard-rated.

Example:

VAT at 1/6 thereon  120
Sales of EU accommodation 100
Cost of EU accommodation 20
Margin 3

6 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%) (previously 7/47 ie 17.5%/117.5%).

7 TOMS is a cost based apportionment and 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 (see para 72).
  • Where a mixture of supplies with different liabilities is sold in a package. For example if you supply bought in transport with inhouse accommodation.

8 This arbitrary 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.

9 For a fuller understanding of TOMS you should read EU law Articles 306-310 of the Principal VAT Directive Dir 2006/112 (reproduced at para 122 below). As usual, EU legislation is clearer than UK legislation so you should read it before you read UK law (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 709/5/2009 (last issued in 2009).  TOMS is essentially as it was when it was first introduced in 1988 but there were changes in 1996 (the extension of TOMS to the margin on EU transport – see para 40) and the treatment of supplies to other businesses changed in 1996, 1998 and 2010 (see para 83).

10 There has long been discussion of possible reform of TOMS by the EU but until there is some agreement there will be no change. The most important change is likely to be that the transport company scheme would cease to work. This would hurt small operators. Meanwhile the business world has changed and TOMS is still struggling to cope with dot.com operators and the market changes flowing from low cost carriers. . The changes to B2B supplies in 2010 are also proving problematic.

When does TOMS apply?

11 You decide the VAT treatment of every transaction on its merits. TOMS applies to a transaction if and only if (1) you are making one or more margin scheme supplies (see para 13 below) and (2) you do so as principal (not as agent: para 14) and (3) you buy in these supplies (not inhouse: para 15) and (4) you sell these supplies to a consumer (not wholesale: para 16).  See flowchart at http://www.pooley.co.uk/TOMS_flowchart.pdf

12 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. 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.

13 TOMS only applies to a transaction when the transaction includes one or more margin scheme supplies. HMRC say that accommodation, passenger transport, hire of a means of transport, use of special lounges at airports, trips or excursions and services of tour guides always fall into this category. Other supplies, such as catering, theatre tickets and sports facilities, may also fall in TOMS if they are bought in and sold on as part of a single transaction with one or more of the supplies listed above.

14 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 97 below for agency in more detail.

15 TOMS only applies to bought in supplies as opposed to inhouse supplies.  Inhouse supplies are supplies from your own resources.  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 it includes a TOMS supply. If you supply coach 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 57 for more on inhouse supplies.

16 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. If you are selling through a travel agent, you will normally be selling to the traveller 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 and the transaction is in TOMS.  Until 31 December 2009 there were various opt outs and opt ins in relation to supplies to other businesses but now there is no choice.

17 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?

18 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. Input tax on costs of sales 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, a tour operator should look at the margin not at the gross sales (para 4.1 of 709/5/2009).

19 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 or payment received. Under TOMS, the normal time of supply is the departure date of the holiday.

20 Under normal VAT rules, the place of supply (which determines which 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) (unless on a ship).  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 where the operator is established.  So that is one VAT return to complete instead of up to 28.

21 Under normal VAT rules, the liability of the supply (rate of output tax) depends on the nature of the supply. Under TOMS, the liability depends on the destination. The margin on non EU holidays is zero-rated. In addition, under the transport company scheme, in effect the liability depends on the nature of the underlying cost (see para 45).

The annual calculation

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

23 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: 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.

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

25 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 45 below.

26 Costs are described by TOMS as zero-rated when the margin apportioned to those costs is zero-rated and as standard-rated when the margin apportioned to them is standard-rated.  Do not confuse this with the rate of VAT charged by the supplier!

27 The annual calculation is in a standard layout which must be followed. HMRC Leaflet 709/5/1988 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 a hybrid is used in these notes: A(1) means A in 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.

28 A(1) = sales, before deducting agents’ commissions or TOMS VAT. 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.  The income should be reduced by deducting insurance at selling price, any retained deposits or cancellation income and compensation payments.

29 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 an owned 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 hotel in France.

B(8) = agency costs where the margin is not readily identifiable but is standard-rated.

C(9) = agency costs where the margin is not readily identifiable and not standard-rated.

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.

30 Example: a typical annual calculation without inhouse supplies

Sales for year A(1)  1,600
Standard-rated EU costs B(2) 700
Zero-rated non EU costs C(3) 300
Cost of sales  G(10) = B(2)+C(3)  1,000
Margin H(11) = A(1)-G(10) 600
Standard-rated margin J(12) = H(11) x B(2)/G(10) 420
VAT K(20) = (1/6) x J(12) 70

31 See http://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.

32 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 and the TOMS which is normally deducted from turnover in the accounts.  See example in my spreadsheet.

33 The rest of the calculation is used to derive sales values etc and to show intervening stages, but is not needed to work out the annual liability. For readers who like algebra, the annual 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 assuming 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).

34 Inhouse supplies are from January 2010 to be taxed on their market value, where possible, instead of at cost plus average margin as determined by the TOMS calculation. Accordingly there is an additional market value calculation with steps numbered M1 to M5.  See para 67.  In practice market values are rarely available and the cost plus method is still used most of the time.

The provisional percentage and annual adjustment

35 The annual calculation is only carried out at the end of the year so operators have to 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 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. When the VAT rate changes, as it did at 30 November 2008, 31 December 2009 & 3 January 2011, the provisional TOMS payable is the VAT fraction based on the rate of VAT at the date of departure times the provisional margin.

36 When the operator completes the next annual calculation and compares the liability with the provisional payments 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 2013 and makes quarterly VAT returns to the same date, the annual adjustment based on the 2013 accounts should be made in the return for March 2014 which is due by 30 April 2014.

37 Alternatively, if the operator makes monthly returns, the 2013 adjustment belongs in the January 2014 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 further adjustment when the accounts are finalised. The adjustment belongs in the January 2014 return so if any later adjustment is more than the de minimis, normally £10,000, it should be disclosed separately to HMRC.  Late adjustments are to be avoided if at all 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, they may charge penalties and meanwhile you are out of pocket.

38 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 2013 and a return ends on 31 February 2014, the 2013 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.

39 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 agents’ commissions and other overheads, not cost of sales
  • Box 6 = estimated margin, not sales
  • Box 7 = overheads, not cost of sales.

Inhouse supplies are more complicated. For a complete analysis, see the third work sheet in the spreadsheet available with these notes.

The 1996 increase, VAT on margin on EU transport

40 The treatment of EU transport changed in 1996. Until 31 December 1995, the margin apportioned to EU transport was zero-rated (the old rules). From January 1996, the margin apportioned to EU transport is standard-rated (the new rules).

41 Example: the 1996 increase

Accounts    
     
Sales   1,600
EU accommodation standard-rated 400
EU transport ZR 1995, SR 1996 300
Non EU costs zero-rated 300
Total cost of sales    1,000

 

TOMS   Old rules New rules
       
Sales A(1) 1,600 1,600
Standard-rated costs B(2) 400 700
Zero-rated costs C(3) 600 300
Total costs G(10) =B(2)+C(3) 1,000 1,000
Margin H(11) = A(1)-G(10) 600 600
Standard-rated margin J(12) = H(11) x B(2)/G(10) 240 420
VAT @ 1/6 K(20) = (1/6) x J(12) 40 70

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

43 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. See para 45.
  • Act as agent for the transport supplier. See para 52.
  • Convert bought in flights to inhouse transport.

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

Using a transport company to mitigate the 1996 increase

45 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 zero-rated transport and has no TOMS liability. 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 this facility.

46 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 two 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.

47 The mark up can be found by trial and error or formula. Use my spreadsheet at http://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.

48 Example:

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

49 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 if there are losses brought forward and there may well be a restriction of small companies’ relief for corporation tax. 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.

50 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).
  • Airlines and other 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.
  • 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).

51 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

52 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.

53 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.

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

55 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 709/5/2009 para 6.7. The cost of agency supplies for which the commission is not readily identifiable is included at step 8 (B) if the commission is standard-rated or at step 9 (C) if the commission is not liable to UK VAT.

56 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 at paragraph 54 above.

Inhouse supplies

57 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: see para 65.

58 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.

59 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.

60 General principles of VAT 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.  Following the ECJ decision in MyTravel, from 1 January 2010, where possible inhouse supplies are taxed at market value, under normal rules outside TOMS in effect (see para 67), but in practice many will remain in TOMS and will therefore continue to be valued at cost plus average margin.

61 D(4) If the operator owns and runs a hotel in the UK and includes it in a holiday in TOMS, it 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%).

62 E(5) If a coach operator provides coaching as part of a holiday in TOMS, it is inhouse and zero-rated. Similarly for airlines and other providers of 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 in the calculation. Note that the UK zero-rates coaching supplies but other countries may not. Since the place of supply of transport is where it takes place, coach operators may be required to pay VAT on the distances covered in other countries. This causes coach operators problems. In particular, Germany has tightened up and operators must have a certificate of registration for Mehrwertsteuer before they send coaches to Germany. River cruises similarly and Austria increasingly. This is normal VAT, like the VAT the German hotels charge, is not TOMS, is not deductible and is not contrary to EU law (Art 48: the place of supply is where the transport takes place).

63 E(6) If an operator runs a school teaching EFL (English as a Foreign Language) it is inhouse exempt. 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.

64 F(7) Where an operator owns and runs eg a hotel in another country and includes this in a holiday in TOMS, the hotel 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.

65 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.  The usual example is a conference organiser. 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 (709/5/2009, para 7.13).

66 Unless the new market value rules apply, the selling price is assumed to be cost plus margin calculated pro rata. Depending where the conference takes place the supply may be a standard-rated inhouse supply and the costs appear at step D(4) plus notional VAT (eg 20%) 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 sales.

Market value

67 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 new market value calculation at section 8 of 709/5/2009. 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 taxed under normal rules. In general market value is to be used rather than cost but it may be difficult to identify the market value so many inhouse supplies will continue to fall under the cost plus rules. 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. It remains to be seen how many operators will be able to use market value and HMRC are known to oppose the use of market value by coach tour operators in particular. See below. Any operator with inhouse supplies should take proper advice on their situation.

68 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 well. The coach operator is unlikely to publish a price at which they would be willing to, for example, pick up an 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 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.

69 Where some inhouse supplies are taxed at market value and some are left in TOMS, the costs left in TOMS must relate to the sales left in TOMS or the calculation will not reflect the margin. So the costs at D (step 4), E (5/6) & F (7) may need to be apportioned between supplies in TOMS and supplies taxed at market value.

70 Other practical problems with inhouse supplies are as follows:

  • Is it beneficial to have a high value (eg zero-rated transport or supplies outside the scope of UK VAT) or a low value (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: typically a ski chalet in France may be owned by 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 709/5/2009): there is more than one rate of VAT in France, for example.

Non EU destinations, worldwide or EU only method

71 After enlargement in 2007, the EU consists of 27 countries: Austria, Belgium, Bulgaria, 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 and 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 legally part of Spain) and the Channel Isles (though legally part of the UK). Other territories that are excluded but commonly cause confusion include Andorra, Cape Verde, Gibraltar, Greenland, Iceland, Liechtenstein, Montenegro, San Marino and The Vatican City. Croatia is due to join the EU from 1 July 2013.

72 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 attributed 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 in non EU destinations are ignored. Holidays that are enjoyed partly in the EU and partly outside are included in the calculation and the non EU costs are zero-rated. The margin on non EU destinations is generally lower than on EU destinations so the worldwide method usually produces a lower liability than the EU only method. But this is not always so. For example, margins in Turkey have at times been higher than in Greece.

73 Example: EU only or worldwide

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

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

74 Operators can change from one method to the other if they notify HMRC a year in advance. HMRC policy is that you elect to change at one year end but that nothing changes in practice until the following year end eg you continue to use the old provisional percentage and the election to change has no practical effect for a year. Despite this obligation to gamble, it is clear from several test cases that advance notification is a condition of changing from one method to another.

75 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 first 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.

Supplies to other businesses

Current rules

76 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 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 be following the same approach as the UK. In practice this remains to be seen, especially in relation to conferences. See HMRC Brief 27/09.

77 Instead normal VAT rules apply to wholesale supplies. The place of supply of accommodation is where the property is located. So if the wholesaler sells UK 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.

78 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 3.3 709/5/2004. HMRC have agreed the bill back scheme, based on agency, for the hotel booking agent sector, but there are significant problems in this area. See HMRC Brief 21/10.

79 Organisers of UK conferences etc may therefore wish to fall outside TOMS and continue to use normal VAT rules after 2009. Ideally organisers would charge their customer a fee for their time and effort and treat payments to hotels etc as a disbursement. Hitherto the customer will have contracted with the organiser but in future the customer would enter into a separate contract direct with the hotel etc. The customer would need a VAT invoice from the hotel satisfying the usual requirements eg showing the customer’s name and address. There is no objection in principle to an organiser paying such 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.

80 Organiser 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 and not to be undertaken lightly. 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. You may prefer to act as the agent of the buyer and treat the payment to the hotel as a disbursement.

81 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.

82 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 be liable to register for VAT in other countries where the property is located, transport takes 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

83 The treatment of supplies to other businesses was different until 31 December 2009. See HMRC Brief 27/09. Three special situations benefitted from special rules which have been withdrawn under pressure from the EU:

- Wholesalers who wanted to stay in TOMS: see para 84

- Supplies to other businesses for their consumption: see para 86

- Supplies of UK educational trips to Local Authority schools: see para 88.

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

84 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 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. 

85 This concession was withdrawn from 31 December 2009.

86 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 709/5/2004 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. 

87 This concession was withdrawn from 31 December 2009.

88 Local authority schools can reclaim VAT. From January 2010 there are no special rules for supplies to local authority schools: 709/5/2009, para 3.4. Previously tour operators excluded educational UK trips for such schools from TOMS. This change increased the cost to local authorities of educational trips bought from tour operators. Operators need to understand that 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 supplies are equivalent to those of a hotel and they can continue to use normal VAT rules.

Place of supply rules

89 The place of supply determines in which country any particular transaction is liable to VAT. There were changes to the EU wide place of supply rules on 1 January 2010.  From 1 January 2010 the general rule for the place of supply of services distinguishes supplies to consumers from supplies to other businesses. For supplies to consumers, the place of supply remains where the supplier is established. For supplies to other businesses, the place of supply changed to where the customer is established (general rule) and if that is in another member state, the customer has to operate the reverse charge procedure and the supplier has to complete an EC Sales Listing (ESL).

90 The bulk of tour operators’ costs normally comprise transport, accommodation, car hire & restaurants all of which remain taxed in destination under their special place of supply rules. So most costs of most holidays were not affected by the 2010 change but the reverse charge is now the general rule and applies to all costs, except those with special place of supply rules.

91 The place of supply rules changed again on 1 January 2011. Until then EU law (Dir 2006/112, Art 53) said that the (business to business) services taxable in destination included “the supply of cultural, artistic, sporting, scientific, educational, entertainment and similar services” so pretty much anything else a tour operator did was taxed in resort and therefore outside the reverse charge. But from 1 January 2011 Art 53 only covers B2B “services in respect of admission to cultural .... events”. So theatre tickets or football tickets remain taxable in destination but purchasers of cultural etc services which are not admission to an event and are as a result no longer taxed in resort – possible examples are guide fees, ski lessons - have to reverse charge themselves UK VAT on the cost from then. 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. In theory if all the suppliers stopped charging VAT in resort and cut prices to the operators by about 20%, this would be VAT neutral. But what happens if the supplier continues to charge VAT but HMRC say they are taxable in the UK? Double taxation cannot be right. And what about non EU destinations - there has been no corresponding cut in local VAT? Considerable uncertainty remains and this is a major issue for many operators eg ski specialists.

Other special situations

VAT rate changes

92 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).

93 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 much easier. 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, the 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.

94 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 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, 709/5/2009. 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 you may want to do two separate calculations.

95 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 (and nor does the optimum transport mark up).

Credit card surcharges

96 There is a lot of misunderstanding about credit card surcharges. If a tour operator surcharges for payment by credit card, there is only one supply, to the traveller, and the full amount goes into sales for TOMS. The payment to the credit card company is an overhead and is not deductible in TOMS.  Instead you can reclaim any VAT on the cost, except that the charge is exempt so there is none. This has always been the correct treatment for tour operators. The position of travel agents is different. The travel agent has two separate clients, the tour operator who pays them a commission and the traveller who pays them a surcharge for being allowed to pay by credit card, and these two supplies are considered separately. Until 2007 HMRC used to accept that the surcharge was exempt but now they say that the surcharge is standard-rated.

Agents

97 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.

98 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.

99 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.

100 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 709/5/2009.

101 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 and in just one or two countries.  It reduced the TOMS liability because the commission received from the hotels was outside the scope of UK VAT and in practice there was no corresponding overseas liability. This practice grew with the bedbanks to the point at which HMRC could no longer ignore it and they stated that they saw it as tax avoidance.  Accordingly, HMRC took a test case, International Life Leisure Ltd. The VAT Tribunal ruled in 2006 that ILL were liable for TOMS.

102 Similarly in the Med Hotels saga. The Lower Tax Tribunal decision went in favour of HMRC.  The Tribunal had little sympathy with Med Hotels, probably because it was clear that the overseas hotels were only paying VAT on the net price 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 and Med Hotels are appealing to the Supreme Court.  Meanwhile HMRC can be expected to follow through and to ask bedbanks 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 an overseas supplier and they take the money from the traveller and then pay you your commission.

103 In 2009 the Magistrates Court decision cleared Travel Republic Ltd of breaching ATOL regulations. It was not a tax case but it is fair to assume that the main reason the company adopted the structure it did was TOMS not bonding and had it lost the bonding case it would have made it more difficult to save TOMS.  The burden of proof is of course higher in a criminal case than in a tax case and the CAA have appealed so this may be overturned but meanwhile it is one decision in favour of the taxpayer.

Insurance

104 Insurance income and costs are excluded from TOMS but there may be important IPT and partial exemption implications, beyond the scope of these notes. However, most operators will not have a problem as their exempt input tax will be below the de minimis limit. Specialist advice may be necessary.

Tax points

105 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 709/5/2009. The law is in SI 1997/1806 and the interpretation of the law set out in 709/5/2009 is debatable. However it will hardly ever be beneficial to use the earlier tax point rules so these earlier tax point rules should be avoided. If your accounts recognise income before departure date, your accounting may be the problem, not TOMS.

VAT invoices

106 Under TOMS the liability is calculated at the year end and the amount of VAT in each sale is not known at the time of supply. HMRC say that this means that VAT invoices cannot be issued for supplies in TOMS (para 4.20 of 709/5/2009). This prevents business customers reclaiming VAT and conflicts with fundamental principles of VAT. This can be a big problem eg on conferences. Nonetheless, 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.

Simplified annual calculations

107 Para 5.5 of 709/5/2009 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 purchases. The simplified calculation gives the same answer as the full annual calculation, if all supplies are standard-rated. 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.

108 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 but the simplified calculation will give too great a liability if it is used when it does not apply. Where “all such supplies are liable to VAT at the same rate”, Para 1, TL4, section 13, 709/5/2009 requires operators to use the simplified annual calculation. This is incorrect (even if it is UK law, it is contrary to EU law) and the simplified annual calculation should not be used if all the supplies are zero-rated eg the tour operator only sells holidays in non EU destinations. In this case the correct liability is zero, not 1/6 x the non EU margin as suggested by the simplified calculation. Para 5.5 of 709/5/2009 confirms this point but does not have the force of law.

109 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.

Discounts

110 Travel agents may discount holidays 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 this may be difficult. The agents may 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: 709/5/2009, para 6.1.

Reps and guides

111 The treatment of reps, guides, couriers or tour managers is often muddled. HMRC may seek to disallow the cost of reps on the basis that they only meet & greet at the airport and or in resort. The principle is that purchase costs are allowed in TOMS if they are for the direct benefit of the traveller (Art 308). Purchases exclude salaries, as they do not attract VAT, so it is clear that the salaries of reps etc should be disallowed (do not confuse this with the cost of inhouse supplies eg the coach driver’s salary – this is an attempt to value the selling price of the inhouse supply as cost plus margin). But the services of reps may be bought in from other businesses or self employed individuals with VAT added or not as the case may be and should in this case be allowable even if they “only meet & greet”. 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.

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

Purchases in foreign currencies

113 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. TL2 in section 13 of 709/5/2009 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 when you paid for the supplies.

Each of these methods has its problems.

114 As there is a choice of methods but (unlike non EU destinations above) no default method, where does a tour operator who has hitherto complied with none of HMRC’s methods stand? If you want to use a different method from the previous year, HMRC say you must notify them at the beginning of the year ie no later than the due date of your first VAT return for that year and “Permission will not be granted retrospectively.”

115 A fundamental criticism of these rules for foreign currencies is that none of the five methods correspond to recognised accountancy standards. Assets and liabilities denominated in foreign currencies are normally translated at closing rates in the accounts at the year end and any adjustment appears in the margin in the accounts, in contravention of all five methods. In practice most tour operators use the cost of sales as shown by the accounts and therefore do not follow any of the methods laid down by HMRC. TOMS was designed as an accounts based calculation and, provided the operator is consistent in using the accounts figures, HMRC may not challenge this approach. This is the practical solution to the problem.

Self billing and travel agents’ liability on commissions

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

117 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.

118 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). 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.

Notice 709/5 and further reading

119 Read Notice 709/5/2009 (first issued in 1988 and last reissued in 2009) which is available here 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.

120 The tertiary law set out in section 13 of 709/5/2009 is summarised as follows:

TL1 Non EU destinations – see para 72 above

  • 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 113 above

  • 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 67 above.

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 Definitions

This 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.” 

121 Further reading

EU law

122 The last word must go to EU law. Arts 306 to 310 of the Principal VAT Directive are the basis of TOMS so it helps to understand them. See below. There are some subtle differences from the previous wording of Art 26 of the Sixth VAT Directive but it is much the same. There are also subtle differences between the text in different languages. Note that it refers 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 agents

Article 306

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.

Further Information

Martin Pooley
Martin Pooley is a member of the Institute of Chartered Accountants
ABTA Industry Travel Partner
AITO Business Partner

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