Esporta has won an important case before the First Tier Tax Tribunal, establishing that payment arrears recovered from members in breach of their contracts are free of VAT.
The health and fitness club operator offers a range of
memberships, one of them being a contract with monthly payments and
a minimum commitment period of twelve months. If a member defaults
on their payments within this initial tie-in period, the membership
is not cancelled but the member's swipe card is stopped and
access to the gym is denied. If the membership is not re-activated,
the arrears are eventually pursued via external debt collection
agencies and the question before the Tribunal was whether (as HMRC
contended) these payments are consideration for a supply of
services or outside the scope of VAT (as the Appellant argued)
being damages or a form of compensation for breach of
contract.
The decision turned, not on legal arguments relating to
compensation, but on the more fundamental point of whether the sums
recovered by the debt collection agencies represented payment for
any service supplied by Esporta. The Tribunal commented that
"the simple fact is that access to the gym is denied and no
payment means that there is no service". Although the
membership was not terminated, there were no benefits to membership
without access to the gym. The link between payment and supply was
therefore broken. Recovered payments were therefore, not taxable
consideration but "compensatory in nature" and hence
outside the scope of VAT.
What does this mean?
The Tribunal's findings mean that Esporta is now able to reclaim the amounts wrongly paid as output VAT on these late payments.
In principle, this decision should not only apply to gyms offering contracts on identical terms to Esporta's but to any business offering membership, subscriptions or similar arrangements in return for monthly payments, especially if the benefits of membership are denied while payments are in arrears.
What should you do?
HMRC may still appeal this decision, but if your business offers memberships or subscriptions, pursues outstanding payments where members are in breach of the contract terms and does currently account for VAT on these payments, you should review your position. You may be entitled to make a retrospective claim (for up to four years) to HMRC. You may also wish to review your procedures and terms and conditions going forward in the light of the Tribunal's findings.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
