A lot of media attention has, quite rightly, been given to the impact on families of the legislation that will see VAT on school fees being payable for terms starting on or after 1 January 2025. There has also been plenty of commentary on how this may affect independent schools if, as predicted, large numbers of parents decide that they cannot afford the increased cost and decide to move their children into the maintained sector.
Rather less attention has been given to the frenetic activity in bursars’ offices in recent months as schools prepare for VAT registration and all the technical challenges that this will bring. For many schools, VAT is uncharted territory and appears full of potential hazards.
In this article, we flag up some of the key points that schools will need to bear in mind as they prepare for the new rules.
With effect from 1 January, the VAT exemption for education comes to an end in relation to fees that independent schools charge for education, and those fees will be standard-rated. With fees inevitably breaking through the annual registration threshold of £90,000, many schools will be registering for VAT for the first time.
When should schools register for VAT
It has yet to be seen how HMRC will cope with a huge wave of applications for registration in the New Year, but it is worth noting that a school that has taxable sales below the threshold has already had the option of registering immediately on a voluntary basis, thus avoiding the rush.
From 30 October onwards, it has also been possible for schools that do not yet make any taxable supplies to register on the basis that it intends to do so from 1 January onwards.
However, schools should bear in mind that early registration will mean that they may have to account to HMRC for VAT on any other trading income, although to counterbalance that they may also be able to reclaim some of the VAT costs they incur.
Is everything now subject to VAT?
Some of the goods and services that schools provide alongside education will continue to be exempt from VAT, including exam fees, textbooks, stationery, transport and school meals, provided they are being supplied for pupils’ direct use and provided also that they are genuinely necessary for the provision of their education. Services that amount to “welfare services” will also be exempt, including wraparound childcare.
Other add-ons will, however, be generally subject to VAT, including boarding charges, out of hours activities and vocational training.
Fees in advance
By way of a reminder, the announcement of the new rules on 29 July brought an end to the period when it was possible for payments into Fees in Advance schemes to be exempt from VAT. Up to that point it was still possible for payments to trigger a tax point at a time when the VAT exemption was in force, even if the payment was for education to be delivered at a date after the exemption came to an end.
The anti-forestalling measures announced at that date meant that pre-payments made on or after 29 July 2024 in respect of fees for terms beginning from 1 January 2025 would be subject to VAT.
Keeping track of income streams
The fact that VAT is being applied selectively means that schools are going to have to look very carefully at all their income streams and work out which of them are exempt and which are standard-rated.
Most schools are likely to have a mixture of exempt and taxable sales in the New Year, and will therefore have to become familiar with the workings of partial exemption for the purposes of reclaiming VAT that is incurred by the school. This means that finance staff will need to allocate expenditure between:
- things that are directly related to taxable supplies made by the school, and on which all VAT is usually recoverable;
- things that relate only to exempt supplies, and on which no VAT can be recovered; and
- general overheads and costs that represent a mixture of (a) and (b), where recovery of VAT is usually achieved by reference to the split between income from taxable supplies and income from exempt supplies. If this standard method produces a level of recovery of input tax that is not a fair and reasonable reflection of use or intended use of purchases, there is scope for a special method of calculating recovery to be agree with HMRC if it can be shown to deliver a more fair and reasonable outcome.
Unlike many other businesses, the levels of VAT recovery that schools are likely to achieve will be limited by the fact that their main costs are on staff rather than on buying in goods or services.
Capital goods scheme
We know that a lot of our school clients have already been looking at the VAT costs that they have incurred over the last ten years on major building projects and over the last five years on other capital expenditure such as IT equipment, with an eye to claiming at least some of that VAT back under the Capital Goods Scheme.
VAT on pre-registration expenditure
If a school has, before it was registered for VAT, incurred VAT on buying goods or services that are used for the delivery of taxable supplies, there will be some scope for claiming back at least part of that VAT. HMRC has, to quote its manual “exercised its discretion to allow some recovery of this VAT, recognising that some goods and services will be used for taxable purposes going forward.”
Discounts on fees
When Labour was presenting its proposals for VAT on school fees before the election, it asserted that schools would be able to absorb much of the cost and would not have to pass it all on to parents. Many in the sector responded at the time to the effect that there was clearly a lack of understanding of how hard it was for many schools to stay afloat in the wake of increased costs on wages, pensions, food and fuel. And on top of the VAT challenge, there is also the loss of charity rate relief for independent schools which will see costs escalate further from April 2025.
However, we have seen a number of schools implementing a temporary fee discount so that the impact of VAT is shared between the school and parents, and it is clear that this will be welcomed by many parents for whom a sudden 20% increase in fees would have been an impossible challenge. However, unless a school is in the fortunate position of having substantial free reserves that it can use to support such discounts, this is a potentially risky tactic for schools that are already struggling with rising costs and falling pupil numbers.
Diversification on income
We have also advised a number of schools on their plans to expand and diversify other trading income, whether that is by ramping up the scale of venue hire businesses or by investing in the expansion of nursery provision. While care needs to be taken not to let too much management time and attention get swallowed up in the running of side-businesses, they represent for many schools a brilliant way to turn their assets to account rather than seeing them lying fallow during the school holidays.
How Moore Barlow can help
We are trusted legal advisers to senior leaders and governors of leading Independent Schools of all shapes and sizes, providing advice and support on all the key legal and strategic issues arising from normal operations and plans for future development and expansion.
