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Introduction

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Inter-company recharges are charges between companies within a corporate group to ensure that costs incurred by one entity on behalf of another entity or shared cost such as IT, Tax, Marketing, HR, Property, etc are allocated to the correct entity.

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The intercompany recharging process is critical from a :

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• Financial Reporting perspective to ensure that costs sit under the correct Legal Entity to determine its profitability accurately.

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• Corporate Tax Reporting perspective to ensure entities are taxed correctly against their reported profits

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• Transfer Pricing perspective to ensure that the correct transfer pricing adjustments are made to reflect arms length pricing between entities as required by HMRC and outlined under OECD guidelines.   Transfer pricing: Methodologies: OECD Guidelines: Overview​

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• VAT Allocation perspective to ensure VAT directly applicable to an entity is allocated fair and reasonably to ensure the appropriate VAT recovery rate is applied.  Also to ensure that VAT incurred on costs by service companies such as hardware, software, marketing, consulting, HR, etc is allocated to to other corporate and VAT group entity members in line with the Groups VAT Partial Exemption Method. 

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Intercompany Recharges & VAT Issues  ​

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There maybe VAT implications associated with Inter-company recharges depending on the status of the entities recharging and receiving the recharged costs and the countries they are established in.

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UK to UK Entity Recharges

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From a UK perspective, local head-office entities and their local and international branches and visa versa are considered to be the same entity so inter-company recharges between them are disregarded for VAT and thus VAT is not added to the recharged costs. 

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On the other hand, recharges between companies established in the UK where they are not branches of head office subsidiaries or members of a VAT group will incur VAT on recharged costs. 

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Non UK to UK Entity Recharges

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Most recharged costs for shared services such as IT, Consultancy, HR, Finance etc from a non UK entity to another corporate UK entity will attract UK reverse charge VAT, which means the receiving entity will be required to self account for output VAT at 20% payable to HMRC. The receiving entity will be able to recover some or all of this VAT from HMRC on the same VAT return depending on its Partial Exemption Recovery Rate.  So if the receiving entity has a VAT recovery rate of 80% then £80 of every £100 VAT payable to HMRC will be recoverable.  

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UK VAT Groups and Recharges

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Where UK established companies and their branches are within a VAT Group (see VAT Groups page), recharges between the UK members of the VAT group are disregarded for UK VAT and as such VAT does not need to be added to intercompany recharged costs.  This is also the case for non UK established branches and head offices that are members of a UK VAT Group by way of being the same taxable person or entity as their UK established branch or head office entity. 

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For example if UK company A Ltd has a branch A Ltd in India which recharges cost to UK company B Ltd which is in a UK VAT Group with UK company A Ltd, then 20% UK reverse charge VAT will not be applicable.  The underlying principle behind this is the whole establishment rule where VAT grouping is not restricted to entities that are located in the UK.  

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Note there is UK anti avoidance legislation in place Sec 432(a) of the VAT Act to prevent overseas branches of UK established VAT Grouped entities "buying in"  services from overseas suppliers then recharging them to other UK VAT Group members.  Where this occurs, 20% reverse charge VAT is applicable.

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See below link and the VAT Groups page on this site for more information.      

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VGROUPS01300 - General principles of VAT group treatment

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Intercompany Recharges - What can go wrong for VAT

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Due to the complex VAT rules around intercompany recharges and the need for VAT specialist oversight, this can present various risks and result in the incorrect application of VAT.

 

There are a number of scenarios below that illustrate when the correct application of VAT can be wrong. ​

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• Inter-company recharged costs from overseas entities that are not part of a UK VAT group and the receiving business does not budget for the reverse charge VAT applicable can lead to unforeseen VAT costs where the reverse charge VAT is not fully recoverable and thus results in irrecoverable VAT adjustments in the P&L. This can also lead to the under declaration of VAT to Tax Authority if reverse charge VAT is not applied.

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• Accounts Payable teams that are not fully trained on VAT grouping rules and are unsure as to whether reverse charge VAT codes need to be applied or not within the system, can lead to the under declaration of VAT to Tax Authorities.  

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• Intercompany recharges from overseas branches to other UK VAT group members where the underlying supplies have been purchased locally by the overseas branch and it is assumed by the UK company receiving the recharged costs that UK reverse charge VAT is not applicable because the supply is inter-group. Under these circumstances, the anti avoidance rules under Sec 43(2)a as mentioned above will kick in and reverse charge VAT will become applicable. A lack of understanding here, will result in the under declaration of VAT and potential HMRC assessments.

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• Under the VAT grouping rules, companies must have a fixed establishment in the UK to be eligible to be part of a UK VAT group. There are various rules and conditions around what constitutes a fixed establishment and where these are not adhered to, HMRC may opt to de-group or remove UK entities from a UK VAT group where it considers they have not met the conditions for having a UK fixed establishment. Where this happens, HMRC can raise assessments for VAT on any inter-company transactions previously disregarded for VAT.  This can lead to significant VAT costs suddenly hitting the P&L. See VAT Groups page for more information and the recent HMRC vs Barclays Bank Plc tribunal case on the VAT news page.

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• Where UK entities recharge cost to overseas entities, UK VAT is not applicable but it is highly likely that the receiving entity may be required to self account for reverse charge VAT locally. Failure of the receiving entity to understand local VAT rules can result in unexpected VAT costs to the overall corporate group.   

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For More information on VAT risks and how to mitigate against them, please see our VAT Risk Page.

  

Situations Where VAT on Inter-company Recharges may not be Applicable ​​

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​Paymaster Services - ​​​can involve one company paying salaries and other expenses such as National Insurance and pension contributions. They commonly occur between associated companies in 2 situations where:

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• employees are jointly employed by 2 or more companies and one company undertakes to pay salaries and the other expenses which it then recovers from the other joint employers

• each of a number of associated companies employs its own staff, but one company (the paymaster) pays salaries and other expenses on behalf of the others who then pay their share of the costs to the paymaster

• Recovery of money paid out by the paymaster in either of these situations is not subject to VAT as it’s a pay out. 

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Joint Employment - Where staff are jointly employed there is no supply for VAT purposes between the joint employers. Staff are jointly employed if their contracts of employment or letters of appointment make it clear that they have more than one employer.

 

The contract must expressly specify who the employers are for example ‘Company A, Company B and Company C’, or ‘Company A and its subsidiaries’.

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There is no joint employment where for example there is a contract with one employer:

• which lays down that the employee’s duties include assisting others

• that the employee will work full-time for another

• where the job title shows that the employee works for a group of associated companies (for example a group accountant)

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​Open Government Licence v3.0,​

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