The most important changes have come in the wake of the ECJ case of Lennartz v Finanzamt Munchen III in 1991. Initially, HMRC ignored the decision and maintained its policy that input tax should be apportioned on the purchase of an asset.
In 2003, the ECJ reconfirmed this principle in a case concerned with the construction costs of a building used partly as a private residence. The decision conflicted with legislation that HMRC had just proposed preventing the use of the Lennartz principle for buildings and civil engineering works. HMRC considered the case concerned, but stated that there was a derogation in Article 6(2) of the EU 6th Directive that allowed Member States to withdraw the Lennartz mechanism altogether for certain assets. However, they did make some minor amendments to their legislation, stating “the Lennartz mechanism is not available for land, buildings or civil engineering works (or services related to them such as construction services) where no entitlement for any qualifying input tax arose prior to 9 April 2003”.
In 2005, HMRC grudgingly agreed that the Lennartz mechanism could be extended to land and buildings, following the Charles & Charles-Tijmens case which, in effect, prevents EU Member States from legislating against the use of Lennartz accounting.
In the 2007 Budget, it was announced that there would be a number of changes to the use of the Lennartz mechanism.
The measures enable the UK to implement the ECJ decision in Wollny, and, for land and buildings, to reduce the period over which VAT charges on non-business use are paid. Currently, HMRC’s policy is that, for land and buildings, the maximum adjustment period is 20 years. The new regulations will introduce a shorter 10-year adjustment period for land and buildings. In practice, this will mean that 10% of the full cost of the building will be taken into account in calculating non-business use charges each year. It will also specify the period for non-business use charges on other assets.
The second part of the measure will affect assets where Lennartz accounting has already been applied. Non-business use charges accounting for use of assets after the introduction of the new regulations will need to be calculated on the new basis.
On 14 August 2007, HMRC issued Revenue & Customs Brief 56/07 regarding the implementation of these measures. The proposed implementation date of 1 September 2007 has now been delayed to 1 November 2007, because HMRC received some very helpful comments on the draft Regulations during consultation, and, for once, decided to listen to them.
In another change announced on 14 August 2007, HMRC issued Revenue & Customs Brief 55/07 notifying businesses of a change in policy regarding VAT recovery on computers made available by employers to their staff for use at home. The gist of the Brief is that, whilst the Home Computers Initiative remained in place, HMRC effectively disregarded the VAT consequences of any private use, but now that the HCI has come to an end, HMRC will expect employers to identify private use and account for VAT accordingly.
Businesses will only be able to claim full VAT recovery without any requirement to account for VAT on any private use, where the provision of a computer is necessary for the employee to carry out the duties of his employment. In these circumstances, HMRC’s view is that it is unlikely that any private use will be significant when compared with the business need for providing the computer in the first place.
Where a business cannot demonstrate that it is necessary to provide an employee with a computer in order to carry out the duties of his employment, then only a portion of the VAT incurred can be reclaimed. HMRC will accept any method of apportioning the VAT incurred, as long as the result fairly and reasonably reflects the extent of business use.
Where a business continues to provide a computer under an existing HCI agreement, full VAT recovery can continue until the agreement (normally 3 years) has expired.
Most employers provide their employees with mobile telephones to enable them to contact them for business reasons. In some cases, the employers allow staff to make private calls, whilst in others, they do not.
In all cases, the expenditure on the purchase and line rental for mobile phones is seen as being incurred for business purposes, and so the VAT on this element of the bill can be reclaimed.
If the company has a policy prohibiting private use, then the tax incurred on the calls can also be recovered in full.
If a business allows its employees to make private calls on their mobile phones, and no charge is made for this use, the VAT on the bill should be apportioned using any “fair and reasonable” method. It would be best to get this method agreed in writing by HMRC. Any internal controls on private use of mobile phones or accounting for output VAT should be documented, so that HMRC can see that they are being enforced.
If a business charges employees for private use of the phone, it can recover the VAT in full but must then account for the output tax on the call charges.