From 1 July 2014, UK companies purchasing wholesale supplies of gas or electricity from UK suppliers will have to account for the VAT due on those supplies to HMRC (under the reverse charge mechanism), subject to certain exceptions. This reverses the usual position where the supplier of goods or services accounts for VAT at each stage in the supply chain. This will, in certain circumstances, also apply to supplies of Renewable Obligations Certificates (ROCs) and Levy Exemption Certificates (LECs).
Companies affected by these measures will need to update their VAT systems so that:
- suppliers will have to adjust their invoicing systems and make sure they do not charge UK VAT, as well as making it clear to customers that they will need to account for UK VAT; and
- customers will have to charge themselves the VAT in their own VAT return.
This VAT should be recoverable by wholesale purchasers in the normal way but systems will have to be adapted to cater for the new rules and there is little time to make this adjustment.
Additionally, suppliers may wish to update their contractual provisions to cater for the new VAT regime, as it may require suppliers to obtain information about their customers in order to ascertain which VAT method is appropriate.
Reverse VAT charging already exists in the context of cross-border transactions. Reverse charging is a mechanism that is generally used for the type of transaction where there is an increased risk of VAT carousel fraud. Wholesale electricity and gas supplies have been identified as this type of transaction.
This is a similar mechanism to that put in place in respect of emissions trading transactions when a similar VAT fraud risk emerged. The UK government has discretion under 199a of Directive 2006/112/EC to apply reverse VAT charging in these circumstances and it has exercised that discretion in relation to the domestic wholesale gas and electricity market.
When does this new rule apply?
The reverse VAT charge will apply to supplies of wholesale gas and electricity between UK companies from 1 July 2014. The timing of a supply will be the same as under current rules, which will generally be at the point when the VAT invoice for the relevant supply is issued.
What type of transactions count as wholesale for these purposes?
Subject to some exceptions, which are listed below, typical transactions between UK companies that will be affected include:
- supplies of wholesale gas and electricity under trading contracts (e.g. European Federation of Energy Traders contracts, Grid Trade Master Agreements and National Balancing Point contracts);
- spot contracts for gas supplied through a natural gas system located within an EU member state, or any network connected to such system; and
- spot contracts for electricity.
HMRC has also specifically identified the following supplies as being subject to the reverse VAT charge when made in relation to wholesale gas or electricity (as applicable):
- balancing mechanism imbalance settlement charges and other reconciliation charges;
- electricity supplies under power purchase agreements (including Levy Exemption Certificates and Renewable Obligation Certificates);
- services that are ancillary to the supply of gas or electricity under wholesale contracts; and
- supplies to power stations (to the extent they are made in relation to wholesale trading rather than consumption only).
HMRC have announced various exceptions to the general rule above. The reverse VAT charge will not apply to supplies made to an end user for consumption or to a person who holds a supply licence in relation to those supplies. The intention is that consumers and businesses that do not trade in gas and electricity are not affected.
In addition, the reverse VAT charge will not apply to supplies of wholesale gas or electricity that are:
- made by an accredited feed-in installation;
- zero-rated (e.g. trades on terminal markets);
- made to third party intermediaries and directed utilities for consumption by the directed utility or onward supply by the directed utility to an end user for consumption;
- contracted separately from wholesale supplies of gas and electricity (e.g. transport services); or
- made to businesses not registered and not liable to be registered for VAT.
HMRC has provided the following examples of supplies of wholesale gas and electricity that will not be affected by the reverse VAT charge:
- use of system charges in relation to distribution, transmission networks, balancing systems and gas networks;
- metering rental charges;
- data collection charges;
- interconnector capacity charges;
- gas storage charges;
- payments made in respect of constraint contracts with National Grid;
- balancing and settlement code charges (i.e. Elexon market operator charges);
- Levy Exemption Certificates and Renewable Obligation Certificates traded separately from the underlying electricity; and
- fees for exchange related settlement (e.g. N2Ex fees).
- Suppliers will need to adapt their invoicing systems by 1 July 2014, although HMRC have said that they will take a lenient approach to mistakes within the first six months of the new regime.
- Invoices subject to the new regime will need not to include VAT, and will need to include specific wording alerting the customer to the fact that they will need to account for the VAT themselves.
- Suppliers may also need more information from their customers to ascertain whether to apply the reverse charge, as it will not apply to all supplies and will not apply to supplies to entities that are not UK VAT-registered.
- Customers will need to change the way they report and account for VAT on purchases of gas and electricity.
- We recommend that suppliers look at the VAT clauses in existing contracts to see whether this caters for the new position. More importantly, suppliers will need to ensure that new supply contracts include appropriate language to deal with the reverse charge and to require customers to provide sufficient information to ascertain whether the reverse charge mechanism should apply.