VAT avoidance in hospitals?

There was an issue reported recently about private sector pharmacies within hospitals. A typical report is .

The nutshell

It appears that NHS hospitals are being encouraged to set up private pharmacies rather than NHS ones because they can save VAT.

On examination this seems to be because the VAT system isn’t being applied properly to the NHS, rather than because the private sector is getting any breaks.

The issue

Essentially, the issue is that if a hospital dispenses prescription drugs, that is deemed as a “non-business” supply, so the VAT on the cost of the drugs (and other costs) is not recoverable. Generally, you can only recover VAT on costs which are incurred in the course of making VATable supplies in the course of a business.

However, if a private-sector pharmacy does exactly the same thing in exactly the same place, it does count as a business so it can recover the VAT. Technically, although simply selling drugs is subject to VAT at the standard rate, dispensing prescription drugs to individual patients for consumption off the premises is a zero-rated supply. The pharmacy is therefore making a VATable supply, albeit one where the amount of VAT due is zero. As it’s making VATable supplies in the course of a business, it can recover the VAT.

This has been portrayed as a loophole which unfairly advantages private sector pharmacies. The mischief is partly that this is letting the private sector profit out of the NHS, and partly that decisions about care should be made on medical grounds rather than economic ones.

My analysis

But surely to call it a loophole being exploited by the private sector is the wrong analysis. The private pharmacies are acting exactly like any other private business; it’s the NHS that is odd, by suffering VAT that it really shouldn’t.

The only difference between an NHS pharmacy and a private one is that the NHS one is part of a larger organisation which isn’t generally in business, and so the VAT becomes irrecoverable. The private pharmacy is unquestionably in business; the difference in VAT treatment is solely due to the fact that the NHS one isn’t.

But surely if it’s doing exactly the same things as a private pharmacy then it must be in business? I know that intention and profit-seeking motive must be taken into account when looking at whether something is a business or not, but is it not appropriate to look at an activity in isolation?

The NHS as a whole doesn’t charge, and so is clearly not in business. But the pharmacy does – and so surely should be treated as if it is in business.

My conclusion

So this story isn’t really about private pharmacies getting an unfair advantage. It’s really that the NHS is treated anomalously for VAT purposes, and this has a potential impact on services to patients.

An easy answer (to the VAT side at least) would just be to allow NHS trusts to set up trading subsidiaries, in the way that charities do. The subsidiary would be treated as a normal business for VAT and other tax purposes, and the trust would benefit from the profits. That would leave all the control of the pharmacy with the NHS, and no profits would leak out into the outside world.


4 thoughts on “VAT avoidance in hospitals?

  1. Section 41 of Value Added Tax Act 1994 already allows for Government Departments and NHS bodies recover non-business VAT. The question is why is this not being adhered to in these cases?

    • Section 41 provides for the Treasury to permit a refund of VAT incurred for non-business purposes, but unless the Treasury allows it then there can be no recovery.

      As I understand it, the Treasury currently only allows the refund of VAT for contracted-out services, which wouldn’t apply here.

      All we need is for the Treasury to extend the refund of VAT to cover this area, and we have a winner.

      • Section 41A(3) states that even if a public body is not making the supply in the course or furtherance of business, it will be treated as doing so if (and only if) not charging VAT on the supply would lead to a significant distortion of competition. Does this not enable the NHS pharmacies to charge zero-rated VAT on these supplies, enabling the recovery of input VAT as a taxable person?

      • I suspect that NHS bodies would regard it as beyond their competence to say whether there is distortion of trade – they’ll just follow the guidance they get from HMRC and the Treasury.

        It does however look as though current legislation allows the playing field to be levelled, in a couple of different ways.

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