Temporary Staffing - HMRC confirms its policy following Reed Employment Ltd v HMRC

HMRC has recently issued a brief (32/11) setting out its policy regarding the VAT treatment of the supply of temporary workers by recruitment agencies following the decision of the First-Tier Tribunal (“FTT”) in Reed Employment Limited (“Reed”) v The Commissioners for Her Majesty’s Revenue and Customs [2011] UKFTT 200 (TC).

Reed, who charged clients an hourly rate constituting the wage of the temporary worker plus an element of commission, sought a refund of the VAT paid in respect of the wage element of its charges.  This refund was rejected as HMRC considered Reed to have been making a supply of staff as a principal.  VAT was, therefore, due on the whole amount charged, not just on the commission element.  Reed appealed against this decision, arguing that it acted only as an intermediary between temporary workers and clients, supplying an “introduction service” and, accordingly, had acted as an agent, not a principal.  

The FTT found that the distinction between principal or agent was not conclusive in determining the supply and therefore its VAT treatment, rather, the VAT treatment depended on the economic reality of the situation (which may or may not be reflected in the contractual arrangements) and an objective analysis of all the facts, having regard to the economic purpose of the transactions. In the view of the tribunal, it was necessary to consider what Reed was capable of providing, as a matter of contract, and on that basis to consider what, in economic reality, had been supplied. 

The main issue in determining the economic realities was the issue of control of the temporary staff. The FTT found that at no time did Reed exercise control over its temps, such that control could be ceded by Reed to its clients. The obligations owed by a temp to Reed began only after the temp had accepted an assignment and, accordingly, had come under the control of the client. The tribunal held that a supply of staff must involve the supplier passing control of staff to the recipient of the supply. Absent that factor, Reed could only make a more limited supply of introductory services, together with other ancillary services, including evaluating temps' capabilities, taking references and a payments service in respect of payments of the pay rates to temps and did not consider that what Reed did in this respect amounted to a supply of staff. It was therefore only liable to VAT on the commission element of the charge rate as it merely provided introductory and ancillary services.

HMRC had previously issued guidance defining agents and principals (VAT Information Note 03/09), notably including the requirement that an agent “does not pay, or arrange to pay, the workers”.   The Reed case suggests that this position may no longer be tenable, given that the FTT found the payment mechanism in question to have been an “ancillary service” consistent with Reed having supplied introductory services only.  

However, brief 32/11 makes it clear that HMRC has chosen to stick to its guns that the correct VAT treatment for recruitment agencies is that set out in VAT Information note 03/09. Whilst this could be seen to be in conflict with the judgment in the Reed case, HMRC has confirmed that it is treating the judgment as fact-specific and not of wider applicability to the recruitment sector as a whole.  

Whilst the FTT judgment is not binding in itself, it still remains capable of having a persuasive effect on future appeals.  Furthermore, recruitment agencies are at liberty to consider the judgment carefully and modify its business model to encapsulate its findings, with the aim of satisfying HMRC (or failing that the FTT on appeal) that they, too, are only liable to account for VAT on commission.  

Evidently there remains a lack of clarity on this issue that will only be finally determined by further legal action, despite HMRC’s insistence that the Reed decision is of no real consequence to the industry at large.  

Action Required

Employment businesses need to consider their position as to how to account for VAT in future and whether to make refund claims for VAT which may have previously been overpaid. Employment businesses servicing VAT exempt businesses need to consider whether their competitors will seek to remodel their operational structures to match the Reed model and offer VAT savings to their clients.

The ruling also opens up the prospect that the clients of staffing agencies will claim the overcharged VAT from agencies, going back in most cases to 1 April 2009. The ruling may particularly affect clients unable to recover VAT they incur, such as those in the financial services, insurance, education and healthcare sectors. These clients may pressurise employment businesses to make claims.