Legal Update: HMRC Issues VAT Guidance on Delegated Claims Handling

HMRC has this week issued new guidance on Delegated authority claims handling by Lawyers which may create additional VAT costs for law firms and lead to disputes with their insurance clients, RSM has warned.

Many law firms are contracted by insurers to undertake claims handling work when Third Parties have made claims against policy holders by way of defendant delegated authority.

HMRC has been conducting a long review of the VAT liability of these contracts, which has created a great deal of uncertainty in the sector. This matter is particularly important as insurers cannot recover the VAT incurred on their costs, and so a saving can be achieved if a law firm’s services are treated as being VAT exempt.

In an effort to provide clarity on its position –  and improve the quality of guidance to affected law firms – HMRC has updated its internal guidance. There is no specified implementation date for these changes and while it is hoped that HMRC would not seek to apply this change retrospectively this cannot be ruled out. Indeed, this could lead to assessments for underpaid VAT going back four years.

Further, these changes may require significant changes to accounting systems so even an immediate prospective change could prove challenging.

The changes are outlined below:

HMRC takes the view that there are two distinct stages to the claims handling services provided by law firms: pre-litigation, the stage up until it has been decided to litigate a claim through the courts which HMRC regards as exempt (provided specific conditions are met) and post-litigation, which HMRC regards as taxable.

HMRC regards post-litigation services as taxable for the following reasons –

  • Unlike insurance claims handling services, they can only be provided by regulated law firms.
  • They fall under the regulation of the SRA, as opposed to the pre-litigation services which fall within the FCA regulatory rules applicable to insurance claims handling services.
  • Whilst much of the post-litigation services may be carried out by non-legally qualified claims handlers, unlike pre-litigation work, they must be carried out under the supervision of qualified lawyers.
  • HMRC does not regard it as relevant that most claims that go into the post litigation stage are often settled without the need to go to court.

In its updated guidance HMRC sets out various fee structures and the expected VAT treatment.

Commenting on the publication of the new guidance, Ian Carpenter, head of VAT at audit, tax and consulting firm RSM said:

‘This updated guidance throws up almost as many questions as it does answers.

‘Most concerning is that where a single fee is charged covering both pre and post-litigation services HMRC states that this fee should be apportioned between the two elements. This is likely to create further uncertainty for law firms and potential disputes with their insurance clients as to how much VAT should be charged.’

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