VATSC06660 - Consideration: Change in consideration: Regulation 38ZA meanings

Regulation 38ZA modifies Regulation 38(2) to explicitly include the Elida promotional refunds and reimbursements and also refunds where the manufacturer makes a payment to a dissatisfied consumer. The Regulation only applies to goods and not services. The existing guidance on the application of the rest of Regulation 38 applies equally to the modified terms. VAT Information sheet 3/14 gives some additional information on the handling of historical adjustments. There are some terms which it is important to understand in context:

When does the law take effect?

Regulation 38ZA took effect from 1 April 2014 and covers any refund (as defined in that regulation) made in a VAT period that ends on or after that date.

For example:

• if you have 3-monthly VAT periods and the period ends on 31 May 2014, the legislation covers refunds made on or after 1 March 2014;
• if you are annual accounting with the period ending 31 July 2014, the legislation covers refunds made on or after 1 August 2013.

If the change in consideration takes place in the same VAT period as the original supply then the adjustment will be made in that same VAT period and is not a Regulation 38 or 38ZA adjustment.

Who is a manufacturer?

Although we generally refer to a manufacturer, the legislation applies to any “first supplier” of goods in the UK i.e. any UK VAT registered business at the head of a UK supply chain. Thus it also covers, for example, a VAT registered importer of goods from an overseas manufacturer. This helps overcome any accounting issues that might arise if the manufacturer were not VAT registered in the UK.

For example:

• A German Manufacturer (not VAT registered in the UK) supplies goods to a UK wholesaler, who in turn resells the goods to UK retailers and so on to the consumers. The UK wholesaler is the “first supplier” in this case.

Who is a final consumer?

The “final consumer” is the person at the end of a supply chain who purchases the goods to use. Generally these purchases will be for private use by non VAT registered consumers, but a VAT registered business which purchases goods for use in its business is also a “final consumer”. As the law refers to the final supplier being a taxable person it is possible that a non VAT registered retailer could be the final consumer.

For example:

• A transport firm buys some vans from a dealer and receives a cash refund from the manufacturer. The transport firm is the “final consumer” in this case.

Who is the “final supplier”?

The final supplier is the taxable person who sells the goods to the final consumer. In most cases this will be a retailer but could be a wholesaler or other person within the supply chain.

What is a “relevant payment”?

The term covers the two distinct scenarios identified in Elida VATSC06640, and the dissatisfied customer scenario.

Cash refund

This is where the manufacturer refunds the consumer for all or part of the retail price, either as part of a business promotion (Elida cash-back coupon) or in recognition of dissatisfaction with the goods for some reason (damage, faulty) or in cases of product recall.

The payment must represent a reduction in the consideration for the final supply of the goods to the consumer, normally by a retailer.

In all cases the refund must be unconditional and must be made in cash, by cheque or by crediting the customer’s debit or credit card.

A manufacturer may provide a dissatisfied customer with a voucher, credit note or similar non-monetary credit or token that offers a future discount against further purchases or otherwise restricts the recipient as to its use (not unconditional). In such cases the manufacturer cannot adjust its VAT until the voucher is redeemed for goods and it makes payment to the retailer. See below (reimbursements) for the treatment of these vouchers when they are later redeemed.

For example:

1. A manufacturer prints a 50p voucher on the packaging of goods retailing at £1.50. The retailer accounts for VAT on the £1.50 received. The customer returns the voucher direct to the manufacturer who reimburses the customer. The manufacturer adjusts the value of their original supply of the goods by 50p making a corresponding reduction in output tax.
2. A customer (a VAT registered guesthouse) is unhappy with the build quality of a new washing machine and complains to the manufacturer. The manufacturer offers a cash refund of £50, which the consumer accepts. The manufacturer now adjusts their output tax accordingly. As the customer will have claimed the input tax on the original purchase, they must now adjust the input tax VAT account reflect the refund received.

Reimbursement

Reimbursement is where the manufacturer reimburses the “final supplier” for discounts given to a consumer in return for a money-off coupon or on redemption for a voucher issued in lieu of a cash refund (above) which the customer has given to the retailer when making a subsequent purchase.

A manufacturer is not entitled to make an adjustment at the point at which the voucher or coupon is issued. Instead the manufacturer must make any necessary adjustment following the payment by them to the retailer following redemption.

For example:

• A manufacturer publishes a 50p money-off in a newspaper which a consumer gives to a retailer in part payment for a supply of goods retailing at £1.50. The retailer accounts for VAT initially on the £1 actually received and returns the coupon to the manufacturer. The manufacturer refunds the 50p to the retailer as further consideration for the retail supply and accounts for the additional VAT. The manufacturer credits the value of their original supply of the goods by 50p making a reduction in output tax. The retailer should then account for the additional 50p in accordance with their retail scheme or normal accounting procedures.
• A manufacturer agrees to refund a consumer £10 in respect of faulty goods but does so by issue of a money-off voucher redeemable against further purchases. The manufacturer cannot make any adjustment at this stage. The consumer then redeems the voucher against further purchases of goods with the retailer. The actual treatment of the voucher will depend on whether it is a Single Purpose Voucher or a Multi-Purpose voucher; the treatment of each in this context is explained in VATSC06670.

Examples of “Relevant payments”

The following are examples of where manufacturers are able to adjust their VAT:

• payments in relation to “money back” promotions;
• payments for faulty products;
• payments for damaged products;
• payments made where the customer is generally dissatisfied with a product rather than being able to demonstrate a fault or damage; and
• payments made in connection with product recalls for safety, health or quality issues.

The following are examples of where manufacturers are not entitled to adjust their VAT:

• payments to third parties to repair the goods with or without a free supply of parts to effect a repair - the test is whether the customer has received a refund against the consideration he or she paid for the goods and, if that is unaltered, then there is no adjustment to be made;
• payments to customers covering the cost of repairs the customer paid to third party repairers - this is “out-of-pocket” compensation to the consumer for additional expenditure and the original cost of the goods remains unaltered;
• payments for consequential loss (e.g. damaged carpet following a washing machine leak, delayed delivery causing a customer to take a day off work);
• cases where the goods are repaired, exchanged or replaced without any refund of part of the purchase price;
• payments in connection with the customer doing something material for the manufacturer, for example completing a survey or feed-back form (this does not include the simple action of returning a money-off coupon).

Compensation

The legislation only applies to the extent that the sum paid by way of cash refund or reimbursement is related to the original purchase price paid by the consumer. Payments that relate to compensation for a consequential loss or any amount of a payment made that exceeds the price that the final consumer paid for the goods are not included.

In effect, in the case of a cash refund, the consumer must be put in the position of never having purchased the product (i.e. he or she returns the goods and receives a full refund of the purchase price paid) or, of having paid a lower price for the product (i.e. he or she retains the product and receives a partial refund of the purchase price paid).

Example

An overseas toy manufacturer has a product recall and the toys are returned to the UK importer. The importer refunds the customer with the retail price paid and adds a further £5 to cover the postage and as a goodwill gesture. The importer, as the “first supplier”, can make an output tax adjustment for the refund of the retail price. However, the £5 is compensation and outside the scope of VAT so no adjustment to Output tax is allowed.

Third party payments

Payments made to consumers by third parties (for example credit companies under Consumer Credit legislation or insurance pay outs) do not represent refunds against the original purchase price. These payments are compensation even if the credit company or insurer subsequently recovers some or all of the loss from the retailer or manufacturer and so are not relevant payments within the meaning of regulation 38ZA.

However, a manufacturer will be able to adjust its VAT in respect of payments that are made by an agent operating a refund service on its behalf. Where an agent handles refunds on behalf of a manufacturer, the manufacturer must only adjust its VAT account for payments when they have actually been made to consumers and not for any transfer of funds to the agent in advance or anticipation of them being made.