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VAT on grant income and related expenditure

HMRC guidance on VAT and grants has been updated and significantly changed during 2018.  This fact sheets looks at the issues potentially facing any VAT registered business that has grant income.  For all of these points you should look at the situation now and in future; and also over the past four years.

Has there been any misclassification of grants?

You should carefully consider whether any particular receipt of money is a grant (outside the scope of VAT) or a payment for a supply (subject to VAT).  A payment for supply can be paid by the beneficiary of the supply or paid by a third party.  If a funder is paying for particular services (or goods) to be supplied to themselves, or to be supplied to other named parties, this will be a supply subject to VAT.

HMRC give new guidance (2018) on the factors that support a payment being a grant , and factors that support a payment being for supply .  We would be happy to discuss these factors in context of grants you have or will receive.

Are any grants payment towards supplies to third parties and effectively subject to VAT even though they are grants?

Some projects may be partly paid by the beneficiary (you have probably treated these as a VATable supply) and partly paid for by grant funding (you may have treated as outside the scope of VAT).  HMRC have published an example showing that such a project can potentially have a VAT invoice raised for the whole value of the supply, including the grant funded element.  HMRC show that if a project is worth £100,000 and has been paid for by £20,000 from the beneficiary, £70,000 from a grant for the project and £10,000 from general grants and donations, then a VAT invoice should be raised for £90,000 (being the direct payment and specific grant).  The invoice should show a supply with a value net £75,000 + VAT £15,000 = gross £90,000 less grant subsidy £70,000 = amount due (and paid) from beneficiary £20,000.

Have either of the above points led to under declaration of VAT output tax (VAT on sales)?

If any items have been treated as grants (no VAT) but in fact could be supplies then you need to consider your response.  This will depend on how strongly the evidence weighs towards being a supply.  It may be that some income treated as grants will need to be reclassified and output tax (VAT on sales – either 20% on top of the grant or 1/6 of the grant) will need to be declared to HMRC and additional VAT paid to them.  It is far better to self declare than have HMRC find an error, not least because the penalties would be significantly more in the latter case (penalties could be as much as the VAT involved).

Is there a restriction on reclaiming VAT input tax (VAT on costs)?

There is a general principle of VAT that VAT cannot be reclaimed on non-business activities.  Indeed VAT only works as a tool to collect tax if there is a VAT cost at the end of the supply chain.

HMRC guidance relating to VAT on grant funded expenditure has changed.  A VAT specialist has reported: “HMRC stance has changed in the last year (2018).  They now say if income is for business activities it must be a supply and therefore subject to VAT.  On the other hand if the income is purely to support loss making (or zero income) projects and is a true grant then the input tax relating to that cannot be reclaimed as it is not business related.  Previously HMRC had said grants supporting an otherwise loss making business did not change the nature of the VAT input tax claim.  Also note that they are going back on cases on this – up to four years.”

If all income of an entity is in fact for supplies (business) then there is no problem.  All input tax (VAT on costs) that has been reclaimed. This would still be the case if the entity has some grant funding of its overheads or general business, as long as the grant funding is not paying directly for projects.

However if you receive grant funding directly for a project and VAT is not due on that grant funding (e.g. the project is purely grant funded) then this is not a business activity.  In this case the input tax on costs relating to that project cannot be reclaimed.  You then have some business projects and some non-business projects which meas that VAT on overheads should be apportioned on a “just and reasonable” basis.

The interaction of VAT and grant funding can be complex and costly.  Please contact us to discuss any aspect of this further.

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Research & VAT

How does HMRC define Research?

When considering the VAT treatment of research a good starting point is to consider what HMRC defines as research. 

Where a VAT relief is applied to research the service performed will have to meet the HMRC definition of research for the relief to be applicable.

Although there is no legal definition of “research” in VAT law it is generally considered that research means original investigation undertaken in order to enhance knowledge and understanding.

It is the intention of the parties at the beginning of a project that will determine whether the services supplied qualify as research for VAT purposes. If the intention is to advance knowledge and understanding, the supply is one of research.

Research does not include supplies such as merely confirming existing knowledge or understanding, consultancy, business efficiency advice, market research or opinion polling.

In general terms, when determining the VAT treatment of research what are the key building blocks that determine the VAT treatment?

The key is the detailed contractual arrangement but as a general rule of thumb the following influences the Vat treatment of a supply

• What is being provided – as stated above if the work being performed does not meet HMRC’s definition of research it will be a taxable supply.
• Who the grant is from/ who the customer is – there is a general presumption that if the customer is a commercial company then VAT will be applicable.
• Where the customer is based – under general VAT place of supply rules where a customer/grantor is based overseas any supply of services will be outside the scope of VAT.
• Where IP vests – where the IP vests with the customer/ grantor to enable them to obtain some kind of commercial advantage then the assumption is that the supply is subject to VAT.

Research that is outside the scope of VAT

Generally research is outside the scope of VAT when it is funded, either by the public sector or by the charitable sector, for the wider public benefit. This includes research that is funded for the general public good and is either not expected to generate any intellectual property (IP), or if it does then any reports or findings will be freely available to others

However, this is only a general rule of thumb and each case must be considered on its own merits.

The main question to ascertain whether the research is outside the scope of VAT is whether the funding is part of the consideration for any specific supply: does the funder receive anything for the consideration that is paid? If not, then service is outside the scope of VAT. 

Therefore, where a government agency commission research which informs its own policy and the agency retains any IP that arises – this would be a taxable supply.

Where the terms of the contract identify that the results of the research will be in the public domain but delayed to allow for patent protection – this is an indicator that the research is commercial in nature and would not be covered by the exemption.

Where IP remains with the University but a cost free grant is licenced to the customer/ grantor to enable them to market products from the result – this again would be an indicator that the research is commercial in nature and would not be covered by the exemption.

Research outside the scope of VAT – Collaborative research

Where the main research contract is deemed to be outside the scope by virtue of the section above, other contracts linked to the provision of the supply may also be outside the scope by virtue of the collaborative research exemption.  For this to apply:-

HM Revenue and Customs (HMRC) would need to be satisfied that the collaborative arrangement is genuine, then it will accept that all research services provided by each of the collaborating bodies involved in the project are outside the scope of VAT, even if the funding may be passed on by the lead research body to others and that only the lead research body is party to the contract with the funding body.

In order to evidence that a project is collaborative and that the funds passing between eligible bodies are not consideration for any supply for VAT purposes, HMRC may ask for evidence that research bodies are participating in collaborative research; the best evidence of that will be the original application for funding which would, in many cases, show who all the collaborative partners are. However, HMRC will accept any alternative evidence that clearly demonstrates that the bodies concerned were participating in collaborative research.

If research bodies are added to or are substituted in a collaborative research project once it has commenced (and so are not mentioned in the funding contract) HMRC would still see them as parties to the collaborative project so that their supplies remain outside the scope of VAT.

Knowledge Transfer Partnerships or similar

KTP’s are a UK wide programme enabling businesses to improve their competitiveness, productivity and profitability by establishing partnership with an academic institution.  Such activities are part funded by Government Agencies and part funded by the Business partner. The Government Agency funding being exempt from VAT and the Business partner element being subject to VAT at the standard rate.

• Schools & departments

Research Project VAT Checking

Guidance to help you work out the VAT status of a research project.

We use a web-based Research Liability Tool (RLT) for checking VAT on a research project. The system has been developed by KPMG as a guide to determining the correct VAT status of a research project.

Based on your responses to a series of questions, RLT will return a suggested treatment for both VAT and Corporate Tax purposes. RLT is in accordance with current tax law, HMRC guidelines, and Charity Commission guidance but relies on the accuracy of your responses.

For registration and access please contact:   [email protected]

Guidance document for RLT

This article was published on 2024-01-24

Research Collaborators and Sub-contractors

Working with other researchers - understand their status for vat purposes.

When the University receives research funding, the work to produce the research is often undertaken with other institutions/organisations.  Whether the other organisation is a collaborator or a sub-contractor can have an effect on whether an additional VAT cost will be created.

Collaborators

If another organisation is named as a recipient of the research funding within the funding agreement, then they can be treated as a collaborator on the research for VAT purposes.

This means that any funds passed to the other organisation from the research funding are disbursements for VAT purposes and are outside the scope of VAT.

The best evidence is often the original application for funding which would, in many cases, show who all the collaborative partners are.  Nevertheless, research bodies added after a project has commenced can potentially also be treated as collaborators.

Collaborators should be set up in Oracle R12 as ‘Organisation 71 collaborators’, which treats the payments as outside the scope of VAT.  Therefore, no VAT charge is created.  This is a robust way to demonstrate that VAT should not be payable, as the Organisation 71 accounting treatment is not decided for VAT purposes but to record research statistics.

If you think there are collaborators on some of your department’s projects which should be set up under Organisation 71, but you are not sure if they have been, get in touch with your usual Research Accounts contact.

Sub-contractors

If, on the other hand, the other organisation is not a named recipient of the funding, or alternatively if the other organisation is named as a sub-contractor, then we are sub-contracting or outsourcing part of our research to that organisation – the other organisation will be providing a service to us.

If the other organisation/person is based in the UK then they will have to charge us VAT on their invoices.

If the sub-contractor is based overseas, we will normally have to account for reverse charge VAT on their invoices. Therefore this reverse charge VAT should be factored into the costs of the research at an early stage because if the research is non-business, the reverse charge VAT is not recoverable. 

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When the University receives income from a sponsor for research the money should be allocated to a specific research grant and routed through the Research Operations Office. Income in relation to other types of grants may be paid direct into a departmental account.

If the income is not for the purposes of research the same principles will apply as for donations/contributions, and any benefits must be determined in order to work out the VAT rate to apply.

If the grant is a 'research grant' the VAT liability will be determined by the Research Operations Office and set up accordingly in the research grant module on the CUFS system. Invoices to request payment for research grants are dealt with directly by the Research Operations Office.

Further guidance is available in chapter 14 of the Financial Procedure Manual: Accounting for Donations & Grant Income.

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Frequently Asked Questions about Removal of Research VAT exemption

Q. what happens if a collaborator transfers to another institution part way through the project.

HMRC has confirmed that research bodies added to or substituted in a collaborative research project once it has commenced (and so are not mentioned in the original funding contract) would still be seen as parties to the collaborative project so their funding remains outside the scope of VAT, provided there is evidence to prove the research with the substituted body is a collaboration.

Q. What happens if a PI transfers to another institution but leaves part of the research team behind to continue the work?

Normal procedure is that the grant will be transferred formally by the funder and the two institutions will agree a research contract to flow back some of the funds. As above, even though we as the collaborator may not be recognised as such on the application we'd expect HMRC to accept that the funds are outside scope.

Q. What happens if, for good reason, a collaborator changes during the course of the project?

The course of research may easily change direction in unpredicted ways and one collaborator's input may prove less relevant once work starts. See answer to What happens if a collaborator transfers to another institution part way through the project? above.

Q. Where it applies, can VAT be charged to the funder?

In theory, yes, although most funders will prefer to limit their VAT liability and expect us to benefit from the exemption by identifying collaborators clearly.

Q. What if we are working with an institution who we regard as providing a service (e.g. DNA sequencing) but they insist the relationship to be collaborative and thus outside the scope of VAT?

Research funders may question the description of such work as collaborative if described that way in a research proposal but even if they don't raise queries, HMRC might. In order to protect our position, we should ensure contracts state "inclusive of VAT where applicable"

Q. Is medical exemption a Get out of Jail Free card?

No. Medical exemption applies only to relevant goods purchased for medical and veterinary research, not to the overall supply of research.

Q. What about Research Centres where tranches of funding are awarded by the funder with the expectation that we go and seek collaborators on yet-to-be-devised projects under the auspices of the Research Centre, and hence cannot name them in advance?

The whole idea is that these are flexible and we pull in partners. See answer to What happens if a collaborator transfers to another institution part way through the project? above.

Q. Does a 'Participating Site Agreement' used in clinical studies constitute a collaboration or service?

If the participating sites are named in the source grant application as being a collaborator of research then the money passed to them is outside the scope of VAT. However, often there is a supply of services (e.g. collection of samples from a particular patient group recruited by the Participating Site) which is subject to VAT. Any VAT applicable must therefore be costed into the application.

Q. What about EC grants?

The EC has very specific rules about what does and does not constitute sub-contracting and funding can be put at risk if the wrong decision is made and incorrect paperwork put in place. Either way, the EC does not currently pay VAT so any VAT that applies will be a liability to the departments as normal.

Q. Will HMRC be monitoring this?

It is likely that HMRC will take a 'light approach' in the first year but as there an increased risk of missed VAT liability this is an area which is likely to attract attention in future years.

If you have any queries, please contact the VAT Office

Contact the Research Operations Office

Madingley Road Cambridge CB3 0TX Tel: 01223 333543

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Home » VAT treatment of humanitarian and associated research funding – clarifications from HMRC on the application of published guidance

VAT treatment of humanitarian and associated research funding – clarifications from HMRC on the application of published guidance

• 11 April 2021

The Charity Tax Group (CTG) worked with member charities and universities to identify areas of uncertainty in HMRC guidance in respect of the VAT treatment of humanitarian and associated funding (including UK Department for International Development (DfID) funding and UK Global Challenges Research Funding (GCRF)).

This resulted in written correspondence between CTG and HMRC between February and June 2020. The format of the correspondence is HMRC providing answers to questions posed by CTG. HMRC officials have indicated that guidance may be updated in due course, but have agreed that the full correspondence can be published in the interim.

The headline findings are summarised below. However, CTG cannot comment on specific funding arrangements and charities should always seek professional advice where appropriate and read the correspondence in full.

CTG Management Committee Member, Andrew Disley, who led the project, commented:

“CTG is very grateful to HMRC for the additional guidance that has been provided on the VAT status of humanitarian aid funding received from governmental and intergovernmental organisations and more generally on Back to Back grant funding arrangements.  The guidance has provided very helpful clarification in this area.  This guidance will be of assistance to members to identify areas where additional VAT recovery may be possible and also identify transactions to which the reverse charge procedure does not apply.”

*UPDATE* : HMRC has now updated the following VAT manuals.

• VATGPB3500 : Non-business activities: grants and statutory contributions
• VATGPB5900 : Government departments and health bodies: supplies to departments and health bodies

CTG is reviewing the published guidance and how this compares with earlier drafts and discussions with officials – please send any comments to [email protected] .

  Government etc funding

  UK Overseas Aid Programme

All grant funding received from a UK government department in order to fund the carrying out of the UK’s overseas aid programme is a non-business activity and therefore outside the scope of UK VAT. No charging of VAT and no recovery of input VAT.

This covers both DfID funding but also other grants eg GCRF. It is not necessary to consider the general form guidance in VATSC16300 etc. This covers both amounts receivable under Accountable Grant Arrangements (AGAs) and amounts receivable under service contracts.

DfID special arrangement

There are a number of tripartite arrangements under which DfID make payments to UK charities etc on behalf of overseas governments. See VATGPB9500. The underlying service agreement is with the overseas government but DfID agrees to settle the bill. This is described as a “special arrangement”. Where there is a supply no VAT is chargeable by the charity because the supply is overseas ie an export but input VAT can be reclaimed (ie good news). DfID and HMRC have agreed that it is only the former department that can determine if supplies are being made in relation to these specific circumstances, and they will notify a contractor of the situation and the VAT treatment required.

Other non UK governments and intergovernmental organisations

The normal guidance on grants applies. If, for example, a charity received an Irish Aid grant income to fund a Covid-19 relief programme in Yemen under a pay by results service contract, which was agreed to give rise to a supply, then the charity would not need to charge any VAT because this is an outside the scope supply (ie export) but input VAT is recoverable.

Back to Back Arrangements

Suppliers in Back to Back Arrangements

HMRC guidance is not prescriptive about who the supplier should be and is not limited to, for example, universities or overseas aid charities. If the circumstances mirror those set out in paragraph 6 of VAT Information Sheet 11/13, where a contract involves grant funding flowing through one body to others, and the arrangements are genuinely non-business, then HMRC accepts that all the services provided by each of the collaborating bodies are outside the scope of VAT.

Subsequent identification and contracting with collaborative partner

HMRC has confirmed that it is not necessary to have identified the collaborative partner when the main grant is entered into for the back to back relief to apply. If the arrangements are genuinely non-business activities, and the grant funding flows through a lead body to the others involved in the contract, then knowing the identities of the collaborators is not necessary at the time of the application. HMRC state:

For example, a Government department funds some research for the common good. It funds body “A”, but other bodies are also involved. “A” holds the funds and at the start of the research project it is known that bodies “B” and “C” will be involved. Subsequently, some of the research is also undertaken by “D”. The collaborative research principle applies to “D” as much as it applies to “A”, “B” and “C”.

Reverse charge on payments of GCRF funding to overseas partners delivering the UK international aid program on the ground

Funding transferred from the recipients of GCRF, such as universities, to overseas partners is generally outside the scope. On this basis, there is no supply by the entity undertaking the work, or procuring the work, and therefore the funding is outside the scope of UK VAT, it therefore follows that no reverse charge would apply.

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VAT Education Manual

• VATEDU35000

VATEDU37000 - Group 6 Item 1 Education, research and vocational training provided by eligible bodies: research

Withdrawal of the exemption for supplies of research between eligible bodies Transitional arrangements What is research Commercial application Work that does not qualify as research for VAT purposes Borderline areas Ruling by the European Court of Justice Decision chart to help you establish the liability of research services prior to 1 August 2013 Supplies of research to the European Commission

Withdrawal of the exemption for supplies of research between eligible bodies

The VAT exemption was withdrawn for all supplies of research between eligible bodies relating to contracts entered into from 1 August 2013. The guidance given below relates to supplies made before 1 August 2013 and to those supplies that may be subject to the transitional arrangements.

Transitional arrangements

Supplies of business research where the written contract was entered into before 1 August 2013, whether or not work has started, will continue to be exempt for the life of the contract, provided that the services performed are within the scope of the contract as it stood immediately before 1 August 2013.

If a contract is extended or varied (whether or not the consideration payable is increased) on or after 1 August 2013 then payments for these new or changed supplies will be standard-rated. Supplies relating to the contract as it stood at 31 July 2013 will remain exempt.

Minor variations will not affect the liability of the original contract. These might include one or more of the following:

• Changing the supplier of a sub-contracted service,
• Changing the order the contract is performed in,
• Minor changes to the delivery time of the contract and milestones (less than three months) providing there is no additional consideration.

If a substantial variation is made to a written contract as it stood at 31 July 2013, supplies that relate to the changes will be subject to VAT at the standard arte and changes that remain within the scope of the contract as it stood at 31 July 2013 remain exempt. These may include one or more of the following:

• Increases the length of the contract (over three months),
• Payment of additional consideration,
• Requirement for new or additional tests to be performed,
• Changes to the product or topic on which research is being carried out.

Supplies under the contract will be a continuous supply of services. Each liability of each supply is individually determined.

• If the supply made is for a supply wholly under the contract as it was on 31 July 2013, that supply will be exempt from VAT.
• If a supply is wholly for an extended part of the contract, that supply will be standard-rated.
• If a supply relates in part for the contract as it stood as at 1 August 2013 and in part from extended parts of the contract, then that whole supply is taxable at the standard rate.

As this is a single supply, there can be no apportionment. Supplies can only be exempt if they fall wholly within the scope of the contract as at 1 August 2013, otherwise they are taxable. Research providers that want to benefit from the exemption should ensure all supplies that are within the scope of the contract as at 31 July 2013 are invoiced or paid on their own and not with any work relating to the extended supplies.

What is research

Research means original investigation undertaken in order to gain knowledge and understanding. A supply is one of research whenever the activities are directed towards increasing areas of knowledge or understanding.

It is the intention at the beginning of a project that will determine whether the supply qualifies as research. If the intention is to progress understanding, the supply is one of research. On the other hand, research means more than simply confirming existing understandings.

Commercial application

The fact that a particular project may have a specific commercial application does not prevent it from being research. Indeed much research funded by the Department of Trade and Industry and by Research Councils, (such as the Particle Physics and Astronomy Research Council), is aimed at developing improved equipment or techniques for use in industry.

Work that does not qualify as research for VAT purposes

The following are examples of work that does not automatically qualify as research:

• management consultancy and business efficiency advice;
• collection and recording of statistics, without accompanying collation, analysis and interpretation;
• market research and opinion polling;
• writing computer programs; and
• routine testing and analysis of materials, components and processes.

However, some of these activities will qualify if supplied as an integral part of a research project – for example if a specialised software program needs to be devised before the provider can embark upon the main body of the project.

Borderline areas

In the absence of any legal definition of research, there are bound to be borderline cases where you cannot easily categorise the precise nature of the activity - for example, in distinguishing between research and consultancy.

Although the availability of research funds can be a useful indicator that a project is research, you cannot always rely on this. Therefore, if you examine a contract but find that it does not give a sufficiently clear indication of the activity to enable you to decide whether it is research or consultancy, you should accept the eligible body’s own categorisation, unless there are clear and compelling reasons to do otherwise.

Ruling by the European Court of Justice

On 20 June 2002 the European Court of Justice delivered its judgment in a case brought by the European Commission against Germany. In Germany research undertaken by universities was exempted from VAT. The Court ruled that research of this nature, undertaken under contracts for payment, could not be exempted from VAT. The UK amended its legislation to reflect this judgement and which still applies after the UK left the EU.

Decision chart to help you establish the liability of research services prior to 1 August 2013

The Research Services Flowchart will help you establish the liability of research services.

Alternatively, you may find it easier to follow the flowchart in this tabular form.

Question 1: Is the supply to an overseas body?

• Yes – Go to Question 2
• No – Go to Question 3

Question 2: Where does the supplier belong for VAT purposes?

• UK – Go to Question 3
• Other EC – Go to Question 4
• Other overseas - Outside the scope of VAT by virtue of the VAT (Place of Supply of Services) Order 1992. Supplier can recover attributed input tax

Question 3: Is the customer an eligible body?

• Yes – Exempt. Supplier of research services cannot recover attributed input tax (subject to the de minimis limits)
• No – Standard rate of VAT due. Supplier of research services can recover attributed input tax

Question 4: Is the supply performed for a person in business? (The customer should be able to provide a VAT number or letterhead to prove they are in business)

• Yes – Outside the scope of VAT by virtue of the VAT (Place of Supply of Services) Order 1992. Supplier can recover attributed input tax
• No - Standard rate of VAT due. Supplier of research services can recover attributed input tax

Supplies of research to the European Commission

See VATEDU95000 .

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