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Retail Gift Aid Scheme

Beware of losing the benefit of VAT recovery

Robert Warne, Partner, Head of VAT
girl on crowded street

It is well known that the first test for VAT to be recoverable is that the costs must relate to a business activity. However, some charities are failing this test and having to pay HMRC significant amounts of VAT in relation to their charity shops. 

The problem arises when the Retail Gift Aid Scheme is implemented without considering the VAT implications of changing a supply of goods into a donation of cash.

The problem

A charity operating a shop that purely sells donated goods is making zero-rated supplies for VAT purposes - this means that no VAT is applied to sales, but VAT can be recovered on associated costs. Once the Retail Gift Aid Scheme is implemented, the shop is no longer selling donated goods, they are sold by the charity on behalf of the donor as an agent. The donor then agrees to give those proceeds back to the charity, allowing Gift Aid to be applied to the funds received. However, the change in treatment creates the unwanted consequence of the shop having changed its activity (from a VAT perspective) from selling donated goods to receiving income in the form of donations – a non-business activity that does not allow the recovery of VAT on associated costs. 

‘VATable’ costs in running a charity shop can be significant with the charity often incurring VAT on the rental of its premises, so the lack of recovery soon eats into the Gift Aid benefit – especially if the charity is charged interest and penalties by HMRC as a result of over recovering VAT on costs.

The solution

There is a solution to the problem that allows the Gift Aid to be claimed on the majority of the funds received, and for VAT to continue to be recovered in full on the costs of running a charity shop, but careful planning from the outset is required. This involves:

  • Taking a sales commission in return for the service provided by the charity to the donor (this does not result in the donor making any additional payment but must be set at a reasonable level). 
  • Making it clear to the donor that a commission is being applied for this service.
  • Applying VAT at the standard rate to the commission received. 

The above steps secure the benefit of being able to recover VAT on costs because the costs relate to a taxable business supply of being a sales agent in return for a commission. 

Of course, the commission payment is not a donation and that element will not be eligible for Gift Aid.

Should you have any queries in relation to the VAT impact of operating the Retail Gift Aid Scheme, please contact Robert Warne, Kieran Smith or Chris Dears.

Contact us

Robert Warne
Rob Warne
Partner, Head of VAT and Customs Duty services