Q:
Hi All,
I’m trying to figure how VAT will work in the following scenario, and… scrambling my brain in doing so.
First I’ll lay out the parties involved.
The Service Provider: The company that makes available an e-commerce platform for the sale of digital products… music, video, eBooks, etc.
The Seller: The person who uploads their product into the e-commerce store, for sale to the consumer.
Now then, this is how *I THINK* it’s supposed to work…
The Service Provider charges a fee to the seller of 15% of all sales (Except event tickets which are handled differently, with the service provider adding a booking fee instead of taking a % of the face value of the ticket). The Service Provider is registered for VAT and the 15% they charge to the seller is inclusive.
The seller is then responsible for any VAT if applicable, on the proceeds of their sales. In the case of, say… an unsigned band, who probably aren’t registered for VAT, there would be nothing to account for. In the case of a ‘profile’ act or label, if they are VAT registered, then would have to account accordingly.
Is this summation correct?
Thing is, I’m doing some work with a start up (the service provider), and I’m aware of the way they think it’s supposed to work, and I think they’ve got it wrong.
They think, from any sale, they have to deduct:
VAT on the total sale price
Transaction fee (credit card fee, paypal, etc.)
Their percentage
and the rest goes to the seller.
Surely that’s wrong, isn’t it? Aren’t the non VAT registered sellers having VAT deducted from their proceeds unfairly?
Am I right in thinking that the VAT element for the service provider and the seller are two different things and the responsibility of each respectively?
Sorry… I’m a new member, and I’ve steamed straight in with a humdinger of a question, but… any insights would be hugely appreciated.
Many Thanks,
Del.
A:
Hi Del
Well I was having a nice relaxing Sunday afternoon then I read your post. And you’re right, it is a bit of a humdinger!
There are several difficulties with these sort of situations and the main one is that the VAT issues depend on the contractual arrangements between the parties. Whenever I provide formal advice to clients about any type of contractual arrangements, I always have to see the contracts as the VAT liabilities depend on what’s in the contracts. The issues are as much a factor of contract law as well as VAT law. Otherwise I’m really just commenting “blind” based on the very limited information that you’ve been able to provide in your post.
I wouldn’t normally reply to this sort of query on the forums as even a simple explanation of the VAT principles involved takes a long time, but this sort of query does come up from time to time so it’s worth spending a bit of time on it. It’s also an interesting subject (okay, I know I should get out more …)
I must recommend that if you are talking about a situation where there is a lot of money involved or the contracts are complicated or there is any dispute about the terms of the contract, you really should take formal advice from a solicitor and/or a VAT consultant.
First of all, you are, in principle, correct in saying that the VAT liabilities of the services of the service provider and the seller are two separate issues and that each party is responsible for their own VAT issues. However everything comes back to the contractual arrangements and some important VAT principles. There may also be some confusion about the use of the terms “agent” and principal” which are often used to mean different things.
I’ve tried to explain some of these with a simple example below.
VAT Inclusive or not?
Suppose I made a table and took it to a VAT registered retailer who agreed to sell it in his shop. Assume for the purposes of this example that I’m not registered for VAT. I charge him £40 for it and we agree that the retail price will be £100. We agree to split the profit when he sells the table, and I assume that I’ll get £30 once it’s sold.
Unfortunately when I get the cheque, it’s only for £23.48. When I ring him up to ask for the rest of my cash, he says that the profit is calculated after VAT. When he sold the table for £100, he had to charge VAT, which at 15% VAT inclusive is £13.04. So the profit is only £46.96, not £60 and my share is only £23.48, not £30.
I don’t think that’s correct – as I’m not registered for VAT, I shouldn’t have to pay VAT when the table was sold. However when I read the small print on the contract, I find that once the retailer paid me £40 for the table originally, it became his property. This means that when he sold the table, he had to charge VAT and the £100 retail price is VAT inclusive. And the contract also says that the profit is calculated on the basis of the VAT exclusive retail price.
Now I might agree with that interpretation or not, but it is what’s in the contract. The problem is that I didn’t read the contract properly or even understand the contract properly when I signed it. And believe me, I have seen this situation happen time and time again over the years. The simple point is that once I’ve sold the table to the retailer, it becomes his property.
In your case, I suspect that the contract between the service provider and the seller is similar. The band is selling the right to sell their music to the service provider – presumably it’s some sort of distribution agreement or licence – and the service provider charges retail customers for the right to download the music. If I’m correct, then the service provider would be entitled to deduct the VAT on his selling price before calculating how much is paid to the seller, ie the band.
Agent or Principal?
The other angle often causes confusion in the case of artists, be it authors, bands etc, is the use of the terms “agent” and “principal”. It sounds as though you think that the service provider is only acting as an agent for the band – because the service provider gets a “percentage”, it sounds like an agency arrangement rather than a principal to principal arrangement.
Now this is where VAT and contract law becomes very complicated – because even if the contract refers to the service provider as an “agent”, he may still be regarded as a principal for VAT purposes. This means that – like my table – the band sells the music (be it an album, recording of a concert etc) to the service provider. Once the service provider buys the product, the service provider is selling to the customer for the right to upload the music as principal. In the same way as sales of CDs or DVDs are made by the production company and not the artist, the customer is buying the right to the download the music from the production company, not the band.
The VAT law on “agency” transactions is really quite difficult and there is a whole section in the HMRC VAT Notice 700: The VAT Guide about the subject here http://tinyurl.com/d7ml2m. It’s worth spending a few minutes reading this to understand how the VAT rules work with agents – there is a load of caselaw on the subject as well and many very learned VAT experts have come a cropper with VAT agency issues over the years.
The best of way of demonstrating that the service provider is acting as principal is that if there was a problem with the download, the customer would have legal recourse to the service provider, not the band. So the service provider is selling the music, or to be more precise the right to download the music, as principal and is right to charge VAT on the sales. And if the contract is like the one relating to my table, then the service provider will be entitled to deduct the VAT on sales before calculating the bands’ share.
This is just a short summary of what I think are the main issues but I hope it helps you to sort things out properly. I suspect that the band has signed a standard contract with the service provider and you really need to have a proper look at this to make sure that you properly understand the arrangements. You might also want to take legal advice about the contract if you are uncertain about what it means – if you are signing artists who aren’t VAT registered, you might want to try and get a lower percentage for the service provider to try and mitigate the effect of the VAT on the band’s share of the profit.
And as far as the percentage is concerned, as the service provider is VAT registered, it will be liable to VAT. Whether or not the VAT is included in the 15% will of course depend on what it says in the contract!
I assume that the band has already signed up to the service provider and it might be too late to try and change the contract, but if not, you might be able to get a better deal for the band before the deal is signed by changing the way in which the band’s share is calculated.
Let me know how you get on with all of this. If I think of anything else important that might be relevant, I’ll add a further reply here. But for now, I think I need a very strong martini…….!
Marie
Q:
Hi Marie,
Thank you so much for taking the time to give me the very informative reply.
I think the key thing you pointed out which probably answers the question, was who would the customer seek help from in the event a download didn’t work.
The bands themselves do not have the access to ‘fix’ things in the system if they fail, they too have to have the service provider make fixes.
I had previously looked at this as if it were someone ‘renting’ a market stall to a seller, but charging a percentage of sales rather than a fixed rent. But then, in that scenario, the seller wouldn’t need the assistance of the market stall owner to actually provide a customer with, say… an apple, when they want to buy, or replace it if its bad.
So, it seems that they are correct in needing to apply VAT to the total value of each sale.
I’m not working in anything to do with the financial side of the company, but… my background is years of working with bands as a manager, tour booker, PR agent, etc. So… I can’t help but analyse things like this and try to figure out if its a fair deal for the for the artist. Which I think, VAT aside, it is.
Just a shame that all the unsigned bands out there, unregistered for VAT, have to lose out. It roughly works out at around 12p on a 79p download.
Ultimately, the artist gets around 54p, with the company I’m working for getting around 10p, which is still one of, if not the best deal available at the moment for unsigned bands. So, for the moment, I’ll stop trying to figure out ways to squeeze that extra few pennies out of what is already a decent deal.
Anyway… I had thought I’d have to wait a few days for someone to take the time to sit down and get their head around what is quite a complex issue.
I’m sincerely grateful for you taking the time to respond when you should have been enjoying a nice Sunday afternoon with your feet up.
Should our paths ever cross… you’ve a large Martini… several, in fact… in your bar account. Inc VAT! ;o)
Many Thanks,
Del.
A:
Hi Del
Glad I could help and it makes sense. Regretfully it is all down to the contractual position and I suspect that an awful lot of new bands sign up to such agreements without appreciating that their share of the take is after VAT has been deducted. I hope your guys end up making lots of money in the longer term!
I’m looking forward to the Martinis should we ever meet!
Kind regards
Marie