You often hear the term ‘disbursements’, but what exactly are they, and what is the correct VAT treatment?
What are disbursements?
A disbursement is a sum of money, paid on behalf of someone else for a supply that they receive. A disbursement is outside the scope of VAT. However, some trades and professions - such as accountants and solicitors - use the term 'disbursements' to refer to various costs incidental to providing a service, such as travelling expenses. These costs typically are shown or charged separately on client invoices.
These incidental costs may or may not qualify to be treated as disbursements for VAT purposes.
For a supply to qualify as a disbursement for VAT purposes it has to be a payment on behalf of a client to a third party and:
· you acted as the agent of your client when you paid the third party;
· you charged your client the precise amounts you paid out (e.g. without any mark-up for profit);
· your client authorised you to make the payment on their behalf;
· your client knew that the goods or services would be provided by a third party;
· your client actually received and used the goods or services provided by the third party;
· your client was responsible for paying the third party;
· the item was separately itemised when you invoiced your client; and
· the goods or services are additional to the services you directly provide to your client.
Some examples of costs that are usually excluded from the VAT calculation as disbursements include
a solicitor paying stamp duty on a client's behalf, or a funeral director paying for flowers on behalf of a client.
It's usually only an advantage to treat a payment as a disbursement for VAT purposes if the supplier didn't charge VAT on it, or if your customer can't reclaim the VAT. If that’s not the case, you can treat it as supply to and by you and then reclaim and charge VAT.
What costs are not treated as disbursements?
There are many incidental costs that a business might incur that can't be treated as disbursements when invoicing a customer. Any costs that a business incurs itself in the course of supplying goods or services to customers are not disbursements for VAT purposes. It's the business, and not its customer, that purchases the goods or services, which are supplied to and used by the business. These should properly be classified as recharges.
Some examples of costs that could be recharges but are not disbursements include:
· an airline ticket that is bought to visit a client or to travel to a job. If you recharge the cost to your client you must charge VAT because the flight was for you, not for the client, even though the supply to you was zero-rated;
· postage costs incurred when sending letters to customers. These are normal business costs and you must add VAT if you recharge them; or
· a bank transfer fee you might incur when transferring money from your business account to a client's own account. Even though the bank's fee is exempt from VAT, if you recharge the fee you must charge VAT.
When HMRC comes to visit they will check that any disbursements you make have been treated properly for VAT purposes, so be careful. If you get it wrong not only will you owe the VAT, but you will also have interest and penalties to pay!
Practical Tip:
If you recharge costs incurred on behalf of a customer, make sure they are ‘proper’ disbursements before you treat them as outside the scope of VAT.
