An Instant End To VAT On FE/HE Shared Services?

Speaking at a meeting organized by the thinktank Politeia in central London on the 19th Jan 2012, David Willets the universities and science minister was reported as announcing the instant end to VAT on HE/FE shared services. The TES and others wrote that he told the meeting that the new rules would start immediately and that a new finance law was not needed.

However, HMRC are saying that his words have been misinterpreted and the FE/HE sector will need to wait until the 2012 Finance Bill provides the consent. The detail of how the exemption will work in the UK will be in HMRC guidance notes, the legislation will only deal with the basic rules of the exemption not how they will apply. We are left wondering how much “devil” will be in the detail.

If you want to know more about the background to the VAT exemption on shared services for HE/FE and other bodies then here is the story, part of which we teach on the Highway Code of Shared Services.

Let’s start at the beginning

When Chancellor George Osborne raised the VAT level to 20% in Jan 2011, there was an audible groan from across shared service practitioners working with VAT exempt partnerships in colleges and universities.

Suddenly the public sector shared service efficiency threshold moved - for FE colleges, universities, housing associations, the charitable sector and other organisations - from needing a 17.5% gain to a 20% gain, before any savings are made.

The problem for these organisations is that in a shared service partnership they may have to pay VAT on services they gain from the partnership, but unlike local authorities, their tax structure does not allow them to claim the VAT back.

Following an HMRC consultation on the subject in June 2011, the Chancellor announced in his November 2011 Autumn Statement, that, “Following consultation after Budget 2011, the Government will introduce a VAT exemption for services shared between VAT exempt bodies, including charities and universities”.

Whilst this is good news for shared service activities, it will potentially make outsourcing to the private sector more expensive - as VAT may still be payable on private sector related services. More on that later.

But is it the Chancellor, or the EU, who helped make the change?

The original June 2011 consultation document stated that, “The VAT Cost Sharing Exemption is a provision in European law that allows businesses and organisations making VAT exempt, and/or non-business supplies, to form groups to achieve cost savings and economies of scale. Once formed the groups are relieved of a VAT charge on their supplies if all the conditions of the exemption are met.”.

However, although the exemption is mandatory, and is being used to reclaim VAT on shared services in other EU countries, HMRC reveals that, “There is currently no domestic legislation that allows exemption to be used by the UK taxpayers.”. So, HMRC issued the consultation document. But, they had not been idle prior to that.

• June 2010: It was announced that existing discussions with ‘relevant sectors’ would continue and a promise of a consultation was given
• Jan-Feb 2011: There were meetings with potential beneficiaries of the exemption
• March 2011: There was an announcement in the budget that the process consultation would continue

The release of the consultation document offered the opportunity for groups to have their say and many did.

What is likely to happen?

HMRC have the ambition to implement the exemption so that it:

• Will be used by a wide range of sectors
• Reduces a VAT barrier to businesses collaborating with each other
• Is straightforward to operate
• Does not create opportunities for abuse or avoidance
• To help you understand the implications of the impact on shared services they provide worked through examples in Annexe D: Diagrams illustrating the cost sharing group structure. 

PRACTITIONER UPDATE

What are the conditions that need to be met to qualify for exemption?

Based on the European legislation HMRC considers that there are five basic conditions that have to be met before the exemption can apply. These are:

• There has to be a “cost sharing group (CSG)” supplying services to persons who are members of it
• The members have to make exempt and/or non-business supplies
• The services supplied by the CSG must be ‘directly necessary’ for the exercise of the members’ exempt or non-business activities
• The services must be supplied at cost (‘exact reimbursement’)
• Use of the exemption must not cause or be likely to cause distortion of competition
• The members of a shared service must carry on an “activity which is exempt from VAT or in relation to which they are not a taxable person”.

Under current legislation these are:

• Certain land supplies
• Insurance
• Postal services
• Betting and gaming
• Finance
• Education
• Health and welfare
• Burial and cremation
• Trades unions, professional and public interest bodies
• Sport
• Charity fund raising
• Cultural services

Plus it can apply to a “charity or similar body carrying out non-business activities to meet its objectives”.

What does it all mean?

Firstly, there may well be many FE colleges and universities dusting down plans that were shelved because the VAT issue was the only barrier to moving forward in partnership.

There may be others who now have a bit of a problem because they were using the VAT issue to cover up the fact that, although engaged in talks, they really do not want to partner with others.

Secondly, there is probably a puzzled look on many private sector outsource companies as, unless it changes in 2012, the proposals do not address the VAT payable on outsourcing of services to private sector providers.

So this could potentially limit the use of outsourcing models to achieve cost efficiencies.

But, watch this space carefully as it may be addressed when the changes are made in 2012.

Finally, reducing the need to exceed the 20% VAT threshold before shared service savings kick in will be advantageous to colleges, universities and other sectors at a time of reduction in the central government budgets they receive. And therein lies the elephant in the room.

Estimates from HMRC are that this will cost the treasury up to £200m in lost income by the fifth year after implementation.

So maybe this is just a subtle way for the Chancellor to sow the seeds of an even more substantial cut in the budgets of the FE colleges and Universities in the 2012 budget.

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Manny Gatt is Managing Director of Shared Service Architecture Ltd and lectures in Shared Services on the national Postgraduate Certificate in Shared Services at Canterbury Christ Church University. Click here for more details.

Shared Service Mutuals Good news? Or just a guilt-free way of sacking your staff?

I was a bit startled by this throw away line from a colleague who is sceptical about the idea of employees leaving their public sector employer and setting up a co-operative to deliver the same service, for less money.

He views it as politicians ‘sugaring the pill’. “After all,” he said, “It’s a good way to get all that redundancy money re-invested in the public sector as start-up funding.”

What surprised me even more is that mutuals and cooperatives are already big business. There are almost 5,000 of them in the UK with a combined turnover of around £29bn a year, employing over 200,000 people. And, 75% of the public regard co-operatives as businesses that act ‘fairly’, compared to only 18% that see companies at large as ‘fair’. 

So where did the mutual initiative come from?

In mid 2010, Cabinet Office minister Frances Maude announced that 12 ‘public service spin-offs’ would pioneer the mutual initiative.

The ambition is that entrepreneurial public sector workers will join together, often across organisational boundaries and through shared services, to establish co-operatives or social enterprises.

Mr. Maude is quoted as saying, ‘I know across the country there are literally thousands of frontline employees who can see how things can be done better, but at the moment, with the existing constraints, they just can’t get it done...This is a Big Society approach, decentralising power so people can deal with the issues that concern them. We must not be afraid to do things differently if we are to provide better services for less money.’

Among the 12 ‘pathfinders’ are a social enterprise to be formed by NHS employees in Leicester, which will provide joined-up services for homeless people, and a shared service cooperative in Swindon that will bring together community health and adult social services.

All the pilots are supported by expert mentors, including staff from the John Lewis Partnership and consultancies KPMG and PricewaterhouseCoopers.

Give the work to mutuals, but don’t tell the EU procurement police!

In November 2010, Local Partnerships, Co-operatives UK and the Employee Ownership Association came together in partnership to provide a signposting service for staff in the public sector interested in setting up a social or mutual enterprise. Their website is at www.mutuals.org.uk and you can call them on 020 7296 6705.

In addition Cabinet Office announced a fund of £10m ‘to help the best fledgling mutuals reach investment readiness’ and new provisions were announced giving 'Rights to Provide' (called ‘Right to Request’ in the NHS) across public services so that employers will be expected to accept suitable proposals from front line staff who want to take over and run their services as mutual organisations.

If you have been on our Highway Code of Shared Services seminar then you are probably asking the same question I did. Can you just hand a service to a mutual, wholly owned by the ex-employees, or do they have to tender like anyone else?

If you are asking that question, then TPP Law, who specialise in the development of public sector mutuals, agree with you. They believe that, “A mutual seeking to contract with a local authority as an outsourced supplier, service provider or works contractor will be treated in the same way as any other tenderer, and a mutual should expect award of a contract only if its bid is the most competitive bid. The [EU] Directives may also apply when a mutual body is being established with a view to providing services to a public authority.”

So we will be keeping a close eye on that and update you with more details in our Highway Code of Shared Services update available through our website at www.sharedservicearchitects.co.uk .

If you bank with the Nationwide, then you are part of a mutual. Then there are the Co-Op stores across the country. In public sector terms there are plenty of examples too.

The Young Foundation cites one in their Innovation and Value report. “In South London, Lambeth [Council] has embraced the John Lewis retail model, an employee owned partnership where employees have a stake in the company’s success. Lambeth proposes to adopt the model to “try to involve the users in providing [services] at lower costs”. In practice this includes asset transfer and may see residents receiving council tax rebates in exchange for taking part.”.

Whilst that may not be an inter-organisational shared service, there is possibly plenty in that vision to enthuse staff and residents to develop the service and share in its benefits.

Do mutuals perform better than the private sector?

Ed Mayo, Secretary General of Co-operatives UK, believes so. “The core idea of forming public sector mutuals is that you can get better results by giving freedom and ownership to staff.  Our analysis backs this up, but also suggests the need for a more co-operative culture right across public services”. Prof. Denis Mongon also sites a study that suggests mutual/co-operatives have outperformed FTSE All-Share Companies by an average of 10% per year. 

Technically it feels like there is no reason why they shouldn’t work. They will be businesses, like any other business, in which the ownership rests with the members. Michael Gove has recently held up John Lewis is held up as the success story of that style of structure.

In addition it is a key strategy of successful leaders to give empowerment, shared responsibility and a sense of ownership of outcomes to their staff.

So I don’t agree with my cynical colleague, that this is a guilt-free way of sacking public sector staff. A mutual option is one that should be considered in the shared service vehicle mix.

If their creation is explored properly, using the experienced, expert advice on offer, and it is agreed by the potential staff owners that it is the right vehicle, then a mutual could be an exciting way forward for all those involved.

However let’s not forget that the success of the shared service does not lie in choice of vehicle. That is only a legal and practical detail.

The success will only ever lie in excellent leadership and effective management. In business, that is all that counts.

So the staff really need to choose their leaders wisely, if they are not to lose their invested redundancy payments in their co-owned venture.

Manny Gatt is Managing Director of Shared Service Architecture Ltd and lectures in Shared Services on the national Postgraduate Certificate in Shared Services at Canterbury Christ Church University. Click here for more details.