Is VAT Due on Compensation for a Cancelled Contract?

Deciding whether VAT is chargeable can sometimes be tricky and with cancelled contract compensation this is certainly the case.

VAT is chargeable on goods or services supplied by a company that is VAT registered, but in those situations where a contract has been cancelled and the two parties have agreed a cancellation fee, would HMRC consider the cancellation fee to be for a service or goods?

If the original contract included a ‘right to terminate’ clause, allowing the contract to be terminated early in lieu of a compensation payment, then HMRC would consider that there is no supply for VAT purposes. However, if the contract did not include such a clause, and a separate agreement had to be made to terminate the contract, then the compensation payment will be standard rated.

For help and advice on this or any other issues, please get in touch with our Lancaster office. A member of our senior team will be happy to arrange an informal meeting to discuss ways in which we can support you and your business.