Registered charities in the UK benefit from a broad exemption from most tax, so they might be forgiven for assuming that they are also exempt from VAT - but that is not the case. To make it more confusing, the law as HMRC applies it can mean that the same payment is taxable consideration from a VAT perspective, yet qualifies as a donation for Gift Aid purposes.

That is because VAT is charged on supplies made "in the course or furtherance of a business" - and, as set out in Revenue and Customs Brief 10 (2022): VAT - business and non-business activities, "HMRC's long-standing policy has been that a business activity is possible even in the absence of a profit motive." This is in line with the EU position that VAT attaches to "any economic activity, whatever the purpose or results of that activity".

Whether there is a "business activity" then becomes a fiddly and fact-specific analysis of what exactly the charity is doing and why - or, to adopt the two-stage test in Wakefield College: is there a supply for consideration, and is that supply made for the purposes of obtaining remuneration? Older cases had established a helpful set of "business test" indicators, but the Brief makes clear that they can no longer be relied on to determine whether or not an activity is business. It is the Wakefield test that counts. The old indicators may, however, still be relevant in considering the question of purpose. 

The Charity Tax Group gives the Brief short shrift, concluding that:

It is difficult to see professional advisers being able to advise on the basis of the Brief. Even more so, is it unlikely that a charity trustee or director could draw a sensible conclusion based on this policy paper. It is likely to disincentivise the use of the charity reliefs which are dependent upon this analysis, and to increase the traffic for the already overburdened enquiries staff of HMRC in dealing with queries as to whether an activity does or does not satisfy the two stage test. It is, in short, an inadequate policy paper, which ought to be fundamentally reviewed.

With all this uncertainty, one might go further and ask - might a simpler way to avoid the compliance burden on both charities and HMRC be to provide for a broad VAT exemption for charities?

The UK Government has demonstrated its willingness to diverge from EU VAT principles, abolishing the so-called "tampon tax" of 5% VAT on sanitary products almost immediately after ceasing to be a Member State, as well as making changes to duty-free shopping and introducing postponed accounting on import VAT. It also consulted on a "Full Refund Model" (FRM) enabling Government departments to recover input VAT on all goods and services, including VAT incurred in the course of non-business activities – and concluded that the “FRM remains the government’s preferred option” (although a final decision whether or not to implement it has not yet been made). In particular, if it were decided that the implementation of the FRM was feasible despite the complexity involved in changing the VAT framework for the public sector, it should, then, also be within the UK's gift (if you'll excuse the weak pun) to do the same for charities.

Nor would the UK be alone in this approach. As you'd expect, jurisdictions vary, but in Jersey, for example, charities can claim GST refunds on goods and services they receive, and supplies by charities are exempt.

There are two possible counterarguments (in addition to the potential complexity involved in changing the VAT rules). One has also been raised in relation to the public sector Full Refund Model: that differences in VAT treatment between for-profit business on one hand and charities or public bodies on the other may distort competition between those sectors. Clearly that's a policy question - Canada and Ireland charge tax on some charity supplies for that reason - but it seems safe to say there's a fairly good policy argument for supporting charitable aims. Isn't that precisely why charities don't generally pay UK tax on income and gains that they use for their charitable purposes?

The other is that implementing a broad exemption may invite tax evaders to hide behind a charity façade - but, again, if the conditions to charitable status are sufficient for every other UK tax, surely they are good enough for VAT?

It is difficult to determine from the data available how much of the UK VAT intake is generated by charities, and how much is spent on ensuring charities are both aware of and complying with their obligations, but it would seem to deserve some thought.