VAT treatment of payment to exercise break clause

This uncertainty arose because, in September 2020, HMRC issued a Revenue & Customs Brief 12/20 (the Brief) regarding early termination fees and compensation payments. The Brief stated that following the Court of Justice of the European Union (CJEU) cases of Meo and Vodafone Portugal, it had become evident that such charges are normally considered as being for the supply of goods or services for which the customer had contracted, and that this was the case even if they were described as compensation or damages.

HMRC went on to state that any person who had failed to account for VAT on such payments should do so unless they had received specific advice from HMRC that such payments were outside the scope of VAT, in which case they only needed to account for VAT from the date of the Brief.

To say this caused some consternation, particularly with regard to payments in the property sector, is probably an understatement, and the Brief was quickly updated and re-issued on 25 January 2021. This stated that the updated VAT treatment set out in the Brief would only apply from a future date, but until then businesses could either continue to apply the previous treatment or follow the amended guidance – a sort of ‘do what you want’ tax policy.

As at the date of writing (7 January 2022), HMRC have issued no further updates to the Brief but have alluded, in their response to the call for evidence on the land and property VAT exemption, that guidance will be issued in February 2022 and that it is unlikely that dilapidations will become subject to VAT.

Where are we now?

The Outer House of the Court of Session (broadly equivalent to the High Court in England & Wales) released its judgement in the case of Ventgrove Ltd v Kuehne + Nagel on 22 December 2021. The case was not of itself a VAT case but depended on the VAT position of a type of payment referred to above.

Essentially Kuehne + Nagel was a tenant in a building owned by Ventgrove Ltd which had opted to tax the building. The lease had a break clause in it which could be exercised on payment of a fee plus VAT where applicable. Kuehne + Nagel sought to exercise the break clause in February 2021 after the amendment to the Brief had been issued.

They made the appropriate payment, but without VAT. Ventgrove Ltd took Kuehne + Nagel to court arguing that the break clause had not been validly exercised because the amount paid did not include VAT, which Ventgrove Ltd said was due.

The Court, perhaps not surprisingly, found for Kuehne + Nagel because as at the date of the exercise of the break clause, HMRC did not require VAT to be payable on a payment made in order to exercise a break clause under their policy prior to the issue of the Brief. They also did not require payment after the issue in the month before the break was exercised of the update to the Brief.

However, the interesting comments in the case are when the Court remarks that there has been no case where a court or tribunal has considered whether the exercise of an option to terminate a lease which is contained within the original lease is a taxable transaction. Nor was it the Court of Session’s job to do so since it was being asked not to opine on a VAT liability question, but on whether a break clause had been validly exercised.

It then, significantly, went on to remark upon the fact that the Meo and Vodafone Portugal cases, on which HMRC had based their initial change of policy in the Brief, related to compensation payable by the customer for terminating fixed period telecommunications contracts prior to the end of the fixed period and as such, “these cases are not directly in point.”

Compensation for failure to complete a minimum contractual term, calculated by reference to the remaining monthly charges, was not the same as a contractual entitlement to bring a contract to an end after a specified period upon payment of a fee. Nor was the lease terminated prior to the expiry of a minimum period, but at the end of a minimum period. The amount payable to exercise the break was not calculated based on any rent foregone because no rent had been foregone given that there was a contractual right to exit the lease at that time. Similarly, dilapidations are payments for damage done, not compensation for lost earnings.

Whilst the Court did not need to determine what the VAT position of a payment to exercise a break clause to answer the question it had been asked, the comments it makes do raise the question of whether the CJEU cases (which HMRC relied upon to seek to change its long established policy) are at all relevant and have any impact beyond the facts of those specific cases.

VAT in dilapidations

This raised the possibility that HMRC would take the view that dilapidation payments were subject to VAT at the standard rate, where previously they were deemed to be outside the scope of VAT.

The original Brief had stated that HMRC would be looking at such payments retrospectively which would have resulted in organisations suffering VAT assessments, even though the payments had been treated in line with HMRC’s previous policy. However, following several representations to HMRC, they withdrew this Brief and stated that the new policy would take effect from 1 February 2021 rather than being backdated. This was obviously positive in that it would prevent organisations suffering large assessments for historic payments, but it meant that tenants who were unable to recover all of their VAT were looking at an irrecoverable VAT charge on any dilapidation payments made from 1 February 2021 onwards.

To date, there has been no further Brief issued and we now understand that HMRC have backtracked further on this and that draft guidance has been prepared stating that dilapidation payments will not be deemed to be further consideration for a supply of a lease, meaning that they will continue to be outside the scope of VAT.

It is hoped that this is the case, and that this guidance will be issued soon to bring an end to the uncertainty HMRC’s pronouncements have caused.

We will of course update you as soon as further guidance is issued but in the meantime, please do not hesitate to contact Stephen Patey in our VAT department should you wish to discuss further.

Autumn Budget 2021: VAT


The government will legislate in Finance Bill 2021-22 to introduce additional elements to the VAT free zone model for Freeports.

The legislation will:

  • Implement a free zone exit charge to ensure businesses do not gain an unintended tax advantage from the zero-rate in the free zone model
  • Make amendments to existing VAT law to ensure free zone rules and warehousing rules are mutually exclusive
  • Amend elements of the historic free zone legislation, which are incompatible with the new free zone VAT rules

The measure will take effect from 3 November 2021.

The Implementation of VAT rules in free zones tax information and impact note provides more information.

Northern Ireland second-hand margin scheme – interim arrangement

Pending the introduction of a long term solution, it was announced that the government will legislate in Finance Bill 2021-22 to extend the VAT margin scheme to apply in Northern Ireland on a limited basis, in respect of motor vehicles sourced from Great Britain, for the period until the Second-hand Motor Vehicle Export Refund Scheme is implemented. As a result, motor vehicles first registered in the United Kingdom prior to 1 January 2021 will be available to sell under the VAT margin scheme in Northern Ireland during that time period.

This measure would take effect, should a relevant agreement be reached with the EU and will apply retrospectively from 1 January 2021.

The Northern Ireland second-hand margin scheme interim arrangement tax information and impact note provides more information.

Second-hand Motor Vehicle Export Refund Scheme

Following on from the above, a more long term measure was announced whereby the government will legislate in Finance Bill 2021-22 to be able to introduce a Second-hand Motor Vehicle Export Refund Scheme. Businesses that remove used motor vehicles from Great Britain for resale in Northern Ireland or the EU may be able to claim a refund of VAT following export.

This will ensure that Northern Ireland motor vehicle dealers will remain in a comparable position to those applying the VAT margin scheme elsewhere in the UK. Further details regarding the arrangements of the scheme will be provided in due course, including any regulations brought forward to give it effect.

The Second-hand Motor Vehicle Export Refund Scheme tax information and impact note provides more information.

VAT: Exemption for dental prostheses imports

The government will legislate in Finance Bill 2021-22 to extend the current VAT exemption for dental prostheses supplied by registered dentists and other dental care professionals or dental technicians to imports of dental prostheses by these persons. This will ensure that the VAT treatment for such prostheses supplied into and within the United Kingdom, including between Great Britain and Northern Ireland, is consistent. This measure will take effect on or after the date of Royal Assent of Finance Bill 2021 and will apply retrospectively from 1 January 2021.

The VAT Exemption for dental prostheses imports tax information and impact note provides more information.

VAT treatment of fund management fees

Lastly, the government has announced a consultation on options to simplify the VAT treatment of fund management fees. The announced consultation follows on from the wider review of UK funds regime by HM Treasury in January 2021. At this stage, the consultation will simply look to take views and opinions as there are no imminent plans for VAT rule changes (that we are aware of) by HMRC. We will of course update our clients once the consultation details are published and would invite comments and feedback accordingly.

Autumn Budget 2021: highlights

The key tax announcements include:

  • Creative tax reliefs for theatres, orchestras, museums and galleries doubled until April 2023, with rates reducing to current levels by 2024
  • R&D Tax Relief:
    • Scope to be expanded to include cloud computing and data costs
    • Restricted to UK activity from April 2023
  • Tonnage tax for shipping: amendments to favour shipping carrying a UK flag
  • Air passenger duty:
    • A reduced rate for internal UK flights from April 2023
    • A new additional rate for long-haul flights
  • Annual Investment Allowance of £1m extended to April 2023
  • Business rates:
    • 50% discount for the retail, hospitality and leisure sectors for 12 months
    • Revaluations every three years
    • 12 months exemption for business property improvements
    • Investment relief for green investment
    • Multiplier frozen for 2022/23
  • Alcohol duty to be simplified and reformed:
    • To be based on alcohol strength
    • Reliefs for small producers
    • Relief for draught beers and ciders
    • Planned increase for spirits cancelled
  • National Living Wage to increase to £9.50 per hour from April 2022
  • Fuel duty: planned rate rise cancelled
  • Universal Credit: taper rate to be reduced from 63% to 55% by 1 December 2021
  • Capital Gains Tax on residential property: reporting deadline increased from 30 to 60 days
  • A pledge to reduce taxes by the end of this Parliament

Our detailed summary will follow tomorrow morning. Please do not hesitate to get in touch with a member of our Tax team, your usual haysmacintyre contact or Katharine Arthur if you have any queries.


We are VAT specialists – that’s a given. What sets us apart is how we communicate that expertise. We don’t quote chapter and verse from HMRC regulations; we’ll answer your VAT questions directly and in plain English. Of course, the final decision is yours, but we’ll always give you the advice we think is in your best interests.

Kamlesh Chauhan

The VAT rules are constantly evolving with continual changes in HMRC practice and guidance, case law, and VAT legislation. Kam ensures that he is up to date with VAT developments and keeps clients informed on how any changes may affect them. As an experienced VAT adviser, Kam prides himself on being able to explain complex VAT matters to clients in way that they can understand.

Prior to joining haysmacintyre in 2012, Kam worked for a ‘Top 10’ accountancy firm for a number of years in a generalist role as well as being a member of a ‘Big 4’ VAT team specialising in Financial Services.

Beyond haysmacintyre, Kam is involved in the VAT Practitioners Group which is an organisation that brings together individuals with an interest in VAT from a variety of backgrounds to share VAT knowledge.

In his spare time, Kam enjoys spending time with his young children, playing sports, and reading detective novels.

Stephen Patey

Stephen advises on a wide range of VAT issues for commercial and not for profit organisations specialising in issues such as partial exemption, non-business apportionments, and property developments. Stephen also advises clients on the VAT treatment of overseas transactions and is a lead member of haysmacintyre’s EMEA international desk

Prior to joining haysmacintyre in 2009, Stephen worked for HM Revenue & Customs within the VAT Assurance team.

In his spare time, Stephen enjoys travelling and spending time with his young family.