The Tour Operators’ Margin Scheme for VAT in 2021

• The Tour Operators’ Margin Scheme has been changed with effect from 1 January 2021.

• HMRC have reissued TOMS Notice 709/5 here setting out the new TOMS rules.

• The margin on EU and non-EU destinations is now zero-rated. The margin on UK destinations remains standard rated.

• The TOMS calculation will need to change in order to apply 20% VAT to UK destinations only from 1 January 2021 and to apply the temporary 5% VAT rate to accommodation and other tourism and hospitality services in the UK.

• The change will be easier for 31 December year ends but complex for year ends straddling the change.

Margins on EU destinations are zero-rated for departures after 31 December 2020. Operators will need to analyse costs between UK and non-UK destinations from 1 January 2021. However, there is a risk of being required to register in EU destinations and pay over VAT on sales by country.

Indeed the German Ministry of Finance has just announced that with effect from 1 January 2021 non-EU tour operators have to register for VAT in Germany and account for German VAT on transactions that take place in Germany – e.g. travel, river cruises, hotels and accommodation, events and so on. Businesses can recover VAT on the costs of the services they buy in Germany. The registration requirement applies to operators providing services both B2C and B2B.

This is a very worrying announcement and any tour operator with a German program is affected by this. This requirement is very likely to be in response to Brexit and we do not know if other EU countries may follow suit.

The provisional payments rules have not changed so savings on EU destinations will take years to show in VAT returns. For example, an operator with a November year-end and quarterly returns will make provisional payments during 2020/21 based on 2019/20 when EU margins were standard rated. So they will not see any saving until the annual adjustment to 30 November 2021 goes in the return for period 02/22. And they will pay during 2021/22 based on 2020/21 which includes December 2020 when EU margins were standard rated. So they may not see the full saving until the annual adjustment to 30 November 2022 is processed in period 02/23. We pointed this out to HMRC but the rules have not changed.

UK hospitality (hotels etc) is taxed at 5% until 31 March 2021. TOMS is still charged at 20% i.e. 1/6 of the margin. Operators will benefit if suppliers pass on the lower VAT rate (under TOMS, operators cannot reclaim VAT on their direct costs). A 15% cut in the cost of sales would be very useful but in practice this measure will not help much if it ends on 31 March 2021, as currently planned, i.e. before business restarts.

However, it may be possible to trigger the VAT on hotels at 5% for holidays after 31 March by pre-invoicing or prepaying, subject to advice. The operator’s contract with the supplier is important in this context. If it is silent on VAT, then the price includes any VAT and the supplier will not be entitled to increase prices if the rate of VAT increases.

The transport company scheme in HMRC Info Sheet 1/97 is extra-statutory so Notice 709/5 does not mention it. It seems that it is to continue. Indeed, in the absence of the mooted apportionment method, it will be necessary to prevent large increases in TOMS liabilities on many UK holidays. Operators selling transport to UK destinations may want to retain their transport company. But operators who do not sell UK transport can close their transport companies. First they should finish the current financial year, do the annual calculation, let the management charges work through the VAT returns and tell suppliers to invoice the tour operator instead of the transport company.

Operators who sell both UK and non-UK transport and who wish to continue to use the transport company need to decide whether to continue to buy non-UK transport through the transport company. It may be simpler to continue to buy all transport through the transport company.

It is unclear whether the scheme is to be extended to reduced rate UK hospitality as previously mooted by ABTA.

Operators running their own hotels etc in the UK make inhouse supplies. Inhouse supplies fall under normal VAT rules, although the VAT liability on them is worked out by the TOMS calculation. So they benefit from the reduced rate, if Covid allows them to open for business, but what is the tax point and what about the provisional payments?

Strictly speaking normal tax point rules apply, not departure date. So if for example clients pay for a holiday when the rate is 5% but do not travel until it has reverted to 20%, has the VAT on inhouse supplies been triggered at 5%?

Neither the VAT fraction nor the provisional payments rules in 709/5 section 10 have changed. So any rate saving on inhouse hotels will only be seen at annual adjustment, after the year-end. We pointed this out to HMRC and they published section 2.16.4. This does not change the law in section 10 so it achieves nothing but it is clearly intended to permit operators to derive a more appropriate provisional percentage to apply to inhouse supplies during the period of the reduced rate. Operators affected will want to apply 2.16.4 to improve cash flow, even if it is not the law.

Operators who buy in and resell short-term accommodation may fall under TOMS depending on the facts. HMRC are being inconsistent in applying their criteria as to whether or not TOMS applies so we are considering taking a test case. Meanwhile UK margins are liable at 1/6, whether or not the reduced rate applies, contrary to expectation.

Until 2021, operators paid TOMS on the margin apportioned by the year-end calculation to the cost of EU destinations (including UK). Non-EU sales and costs were normally included in the calculation and the margin apportioned to non-EU costs was zero-rated. HMRC allowed operators to use the EU only method rather than the worldwide method (which was the default). However (i) it was rarely advantageous to do so as percentage margins were normally lower on non-EU destinations due to commercial factors and (ii) operators wishing to use the EU only method had to elect irrevocably a year in advance, before they knew how the margins would work out, which was a gamble.

Under the new Notice, operators have a similar choice between a UK only calculation and a worldwide calculation. But it remains to be seen how percentage margins in different destinations compare in future. Commercial factors suggest higher percentage margins on UK destinations but historical data is not available, markets are being rocked by Covid 19 and may in future be affected by Brexit so it is unclear which method is likely to be cheaper in future. Meanwhile it is no longer reasonable to assume that the default worldwide method is likely to be cheaper.

Operators wishing to change from the worldwide method to UK only or back must notify HMRC before the due date for the first return in that financial year. For example, if their year-end is 30 September 2020 and they submit quarterly returns aligned with the year-end, they have until 31 January 2021 to notify HMRC if they wish to use the UK only method for the calculation to September 2021. HMRC apply this time limit strictly.

Sue Rathmell can be contacted via email.

^{*The views expressed are the author’s and not ICAEW}