Section 41 Reform
The government has today published its summary of responses to the August 2020 Policy Paper “VAT and the Public Sector: Reform to VAT Refund Rules”. The paper consulted about reforms to the current refund scheme for the NHS and government, which is found in section 41 of the 1994 VAT Act (“s41”)
Summary of Submissions and government responses
- The Full Refund Model (“the FRM”) remains the preferred government option, despite some submissions suggesting it would create commercial distortion
- Further consideration is being given to aligning the partial exemption treatment of s41 and bodies such as local authorities, police forces, and fire and rescue services (“s33 bodies”)
- The changes are unlikely to be implemented until after 2022/23, and when implemented will not be retrospective
- Further consideration is being given to changing the NHS Divisional registration arrangements
- Other options considered but rejected included simplification of COS, zero rating for supplies to government, and removal of s41 altogether
- There will be no extension of the FRM to NDPBs
Background of Section 41
Section 41 bodies can claim a refund of VAT on a limited number of services related to their non-business use. These are outlined in the Contracted-Out Services (COS) Direction published by HM Treasury. Section 41 bodies cannot claim refunds of VAT incurred on goods for non-business use.
Several issues have been identified with the current refund system, including high administrative burdens, productivity inefficiencies, policy delivery challenges, legal disputes, and reduced flexibility in responding to a national crisis.
The government published a Policy Paper in August 2020 exploring the issues affecting organisations and their interactions with s41 and set out a proposed reform. The proposed reform was for the FRM, which permits full refunds of the VAT incurred on all goods and services in relation to the non-business activities of s41 bodies.
On 20 July 2021, the government published its summary of the responses to its Policy Paper. It can be found here:
Reform of section 41 is long overdue and we welcome the proposed change to the FRM. Our main concern about s41 was too often it creates a barrier to effective collaboration between public sector bodies. This has been highlighted during the government’s response to COVID-19.
However, for a fully efficient and effective solution to public sector collaboration, the partial exemption rules should be aligned so that the s41 rules match those in s33. Any disparity between the partial exemption regimes will continue to present obstacles to public-sector collaboration.
We will provide further updates and comments soon, but in the meantime, if you have any questions, please contact: