VAT and school fees – What does the latest announcement mean for private schools in the UK?

Having announced in basic outline terms long before it was recently elected to office that it would introduce a VAT charge in the UK on private school fees, the new Labour Government has now published specific draft legislation on this subject together with a detailed policy paper.

The scope of the proposed new VAT charge is largely as expected, although the newly released materials do clarify certain issues. For example, it is now clear that nursery level education will not be affected and that there will be some modification of the general provision in relation to children with special needs.

Some commentators had questioned whether a distinction might perhaps be drawn between fees for educational services, as such, and the costs of providing board and lodging at residential schools. But the draft legislation makes clear that the residential components of the total costs of a fee-paying educational establishment are intended to attract VAT to the same extent as the core educational services themselves.      

How does this affect prepayment arrangements?

In principle, the new VAT charge will apply from 1 January 2025 onwards. However, the window to pre-pay has now closed. As part of the announcement the government have made clear that attempts to prepay fees from 29 July 2024 onwards will not be VAT-exempt.

That being said, no direct legislative attack is proposed in respect of the many prepayments of school fees that are understood to have been made over the past couple of years (some of them covering many future years of possible educational engagement by the schools concerned). However,  this does not necessarily mean that all such prepayments are now safely VAT-exempt, and it is here that perhaps the work now begins for private schools. This is because from the policy paper it appears that the UK tax authorities intend to enquire into the details of such arrangements in order to ascertain whether they were true prepayments for particular services to be delivered for a defined fee, as opposed to mere deposits of money for general use in discharging possible future fees as and when falling due (usually on a termly basis). The details of each particular prepayment arrangement will need to be scrutinised carefully in this respect.

Since prepayments are only prohibited from 29 July 2024 onwards whilst educational services only become taxable in January 2025 it seems possible that prepayments from before 29 July could now be utilised on a VAT-exempt basis over the next few months. What is less clear is whether any new steps could now be taken to safeguard any periods falling after the end of the current calendar year through the re-use of any sums already prepaid before 29 July on a basis which is more clearly a pre-payment rather than being viewed as a deposit. In other words, if the arrangements under which a prepayment was made are now changed (either before Budget Day or before the end of the current calendar year) would the amount involved be treated as a pre-29 July prepayment or not? There is not necessarily a clear answer to this question and probably no single answer, since the outcome will depend upon the details of both the original legislation proposed and any amendments that may be made before becomes law.

Might prepayments be returned?

If it appears that substantial prepayments have been made on a basis that is not now thought to be robust in VAT terms, conceivably some parents might wish to claw those funds back.

Obviously maintaining good relations with parent bodies is of critical importance to schools, but a desire to do this may not be sufficient reason to pay back large sums of money. Once funds have been paid over to a charitable school, they will be charity money and must in principle be applied for the school's charitable objects. It may be that there are arguments based on the terms of the parent contract that would allow repayment in some circumstances, but this is an area to approach very carefully to avoid any potential misapplication of funds.     

What else should schools be thinking about?

Putting the timing aspects of this VAT reform process to one side, it is clear that attempts have been made in the draft legislation to prevent obvious forms of VAT avoidance being implemented – for example, an affected school cannot simply sub-contract the newly taxable services to another person in order to change their taxable character - but to what extent would the new charge actually apply if some elements of an overall provision of education involved more than one provider or more than one educational facility?

The new legislation would prohibit the making of VAT-exempt supplies of educational services via connected parties, or certain other third parties, but would that also prevent the creation of arrangements which enabled a separate provider of certain elements of an overall educational package to provide those elements free of charge if supported by suitable voluntary donations?

And, since the legislation in its current draft form imposes a tax charge on the provision of education "at a private school" of the kind defined in the legislation, might it be possible to create a suitable educational institution which is not in fact a "private school" (or which provides suitable educational services without doing so "at" a private school)?

Although the proposed new VAT charge is generally considered unwelcome in the educational sector it should not be forgotten that the requirement to charge VAT carries with it a general entitlement to recover the VAT element of any costs incurred in undertaking the activity in question. Therefore, substantial capital projects involving major construction works at school sites will effectively become 20% cheaper in many cases as a result of the levying of VAT on school fees.

If you have any questions, or wish to discuss further, please get in touch with the team.