What is the VAT treatment of disbursements for law firms?
This is a freeview 'At a glance' guide to the VAT treatment of disbursements for law firms.
At a glance
In 2019, The Law Society updated its 2018 guidance on the VAT treatment of disbursements following the case of Brabners LLP v HMRC  UKFTT TC06093 and comments made by the Court of Appeal in the more recent 2019 case of British Airways v J. Prosser  EWCA Civ 547.
Incidental costs, such as travel expenses, and postage which are charged to customers as part of making a Single supply, follow the VAT treatment of the supply.
Other incidental costs, where you incur amounts as agent of a client, can be treated as a Disbursement if certain conditions are met. This means that there are outside the scope of VAT and you:
- Do not charge VAT on them when you invoice your customer.
- Cannot claim back any VAT on them.
In Brabners, the First Tier Tribunal (FTT) found that the charge to clients of property search fees by a law firm were not disbursements as they are part of the overall service of conveyancing, meaning that VAT should be charged. Whilst the Court of Appeal analysis in the BA v Prosser case is not a tax case and therefore not binding it supports an equally narrow interpretation of when disbursement treatment is available.
As this has caused confusion for many legal firms the law society has issued new updated guidance for their members, which it describes as non-exhaustive and for guidance only, noting that it has not discussed or agreed the guidance with HMRC so it is also not binding on HMRC.
The guidance sets out a minimum set of conditions to be met for disbursement treatment to be possible, though even this may not be enough:
- An expense is only a disbursement if the supply is made by the third-party supplier to the client and not to the legal firm.
- The client should have either requested that the solicitor obtain the service on their behalf or authorised them to do so, evidenced in writing and expressly stating that the firm will obtain all ‘usual’ search reports, on behalf of the client as their agent. The agreement should state that the firm will notify the supplier of the clients’ name and that the firm will charge the client the exact amount paid to the supplier.
- The supplier should be made aware that the service is being provided to the client.
- For reports or search results, the final report should be sent to the client by the solicitor or the supplier but the former can keep a copy.
- The amount charged to the client should be exactly the same as the amount the supplier charges the legal firm.
- The expense should be separately itemised on the invoice sent to the client.
The Law Society notes HMRC’s view (in their manuals and the above cases) that where a solicitor has used a property search or other third party report or supply to provide further advice to a client or to enable it to provide other services to a client, the report or supply is deemed integral to the solicitor’s legal supply, and so cannot be treated as a disbursement, even where all of the above conditions are met. It is therefore up to each individual legal firm to exercise their own judgement in deciding whether to invoice an item of expenditure as a disbursement for VAT purposes.
The guidance also includes some helpful practical examples and sets out how to deal with non-qualifying payments or expenses.
Useful guides on this topic
What are disbursements? When is a recharged cost outside the scope of VAT? How do you account for VAT if you are acting on behalf of someone else?
Mixed supplies: Single or multiple supplies
Is a mixed supply a single or multiple supply for VAT purposes? What tests and case law apply?