Out-Law Guide | 24 Nov 2011 | 10:28 am | 4 min. read
Some financial advice in relation to retail investment products is exempt from VAT and some is not. This guide explains what factors affect whether or not adviser charges are exempt from VAT.
The Retail Distribution Review (RDR) introduced new Adviser Charging Rules which mean that clients must pay for advice via an adviser charge rather than via commission. For more about RDR and adviser charging see Out-Law's guide. The fees must be clear, transparent and agreed between the customer and adviser.
Commission-based payments were, as a rule of thumb, usually treated as exempt from VAT and whether or not a fee is subject to VAT depends on how directly the adviser is involved in the ultimate purchase of an investment product. The more directly the adviser is involved, the less likely it is that VAT apply.
Advice or intermediation?
A great deal of confusion, even among the more tax informed, is caused by the use of the word "advice". The provision of stand alone advice is, from a VAT perspective, definitely taxable.
However it is necessary to understand the regulatory nuances of the term to arrive at the correct VAT position.
Essentially the regulatory position boils down to advised and non-advised sales. Non-advised is a category whereby the customer makes all investment decisions and does so only on the basis of non-specific, general information provided to him or her. Of course it may be that the customer possesses all the knowledge he or she deems to be necessary and requests no information.
Conversely anadvised sale occurs when the adviser considers the customer's individual circumstances, the range of investment options available and makes personal investment recommendations in relation to a retail investment product.
It is within this latter category where the potential confusion lies. For the giving of advice to become an exempt intermediary service, it is necessary for more to be done than the simple giving of recommendations. Instead the adviser must perform a distinct act of mediation and must bring together the customer and the provider of the retail investment product. Only then will his fee qualify for exemption.
Arriving at intermediation – the client process
During consultation with various industry bodies, HMRC has undertaken to identify the 'typical' process by which advised investment decisions are made and sought to break down the role of the adviser towards the customer. They believe that, typically, this will involve:
HMRC's view, generally, is that VAT exemption is only attained once the adviser performs the activities detailed in step 5. Until that stage, he has only performed a taxable advisory service and any fees will be subject to VAT.
HMRC will accept that where an adviser performs the activities at 1-5 and either the customer does not finally take the product or withdraws during the "cooling off" period then the fee is still capable of exemption. However the adviser must be able to demonstrate, through evidence, that the necessary exempt activities were undertaken. The question as to what evidence is sufficient will vary according to precise circumstances.
It should not matter, in terms of VAT liability, whether the fee is taken upfront or over the life of the product. The liability of the service is determined by the activities performed by the adviser.
Businesses involved in the provision of advice remunerated via the Adviser Charging rules should be careful that their documentation and fee structure is fully consistent with the activities undertaken to avoid unexpected VAT liabilities arising. In particular product providers and advisory firms need to ascertain whether they are supplying advice in relation to Retail Investment Products as principal or agent and determine the VAT consequences appropriately. In most cases the question of evidence will primarily be of concern to the providers of advice acting as principals.
Part of the adviser's on-going role is often to monitor the suitability of particular investments for individual clients. Since the introduction of RDR, the adviser may no longer be compensated for this via trail commission but must, instead, receive a distinct fee.
HMRC's recommended approach is to analyse the service provided in terms of the steps described above and decide upon VAT liability in this way. Such an approach can be difficult as it may not describe the actual activity of an on-going service and, not least, it is unlikely to deal with situations whereby a review process results in a 'hold' decision and so no further financial products are bought or sold.
HMRC is sometimes prepared to accept that, in certain circumstances, on-going services contracted for at the initial product sale may be treated as effectively a continuing act of the initial process of intermediation. However, this point is finely balanced and should be considered carefully with tax and legal advice taken as appropriate.
Businesses providing advice should also be aware that HMRC views such ongoing services as periodic, low level review services. They are likely to strongly resist any attempt to categorise continuous, in depth advisory services in such a manner and, instead, insist that these are treated separately with their own VAT liability determined as appropriate.
Some contracts provide for customers to opt in and/or opt out of on-going review services at a later date. The position around such services is complicated by a number of factors and is best reviewed on a case by case basis.
Confusion may arise where an adviser acts to introduce a customer to a provider of discretionary investment management services and the customer then contracts for those services separately with the discretionary manager. In such circumstances the introduction by the adviser to the discretionary manager will be taxable as the underlying service provided by the manager is taxable.
Although the VAT principles remain the same after the introduction of RDR it is beyond doubt that the area is being subjected to greater scrutiny by both advice providing businesses and HMRC.
The prudent taxpayer should examine business models, activities and fee structures carefully in order to ensure the correct VAT treatment and reduce risk. In particular it is critical to ensure that documentation supports the analysis being taken.