KFC in tax dispute with HMRC
- TBA
- Aug 28, 2024
- 5 min read
Updated: 6 days ago
50 KFC stores in the UK entered a dispute with HMRC over incorrect VAT payments, leading to a court case which ruled in HMRC’s favour. KFC not only incurred legal fees but also £75,000 in VAT debt.
As a leading global fast-food chain, is it possible they don’t know how to collect VAT? What caused this conflict? Let’s take a closer look.
1. Should KFC sauces be subject to VAT?
Queenscourt is a franchisee operating around 50 KFC stores in the UK. The dispute between KFC and HMRC revolves around the VAT treatment of dipping sauces.
KFC’s dipping sauces include ketchup, BBQ sauce, garlic mayo, and sweet chili sauce. Typically, these sauces are complimentary with combo meals. However, customers can also purchase them separately for 40 pence each.
Here’s a little knowledge nugget for everyone: the UK’s VAT rules for food are quite complex. VAT treatment will differ between items sold individually, and those sold as part of a combo meal. For example, dipping sauces sold separately fall under the cold takeaway food category, which is VAT-exempt. But how should they be treated when sold as part of a combo meal?
Since combo meals are hot food items, they are generally subject to standard VAT rates.
So, the question arises – should dipping sauces included in KFC takeaway combo meals be VAT-exempt as they are when sold separately, or should they be taxed as part of the hot food supply in the combo?
Historically, Queenscourt treated the sale of dipping sauces as VAT-exempt cold takeaway food when sold separately. When sold as part of a combo meal, they treated it as taxable hot food. However, in 2019, the company decided that since sauces could be VAT-exempt when sold separately, they should also be VAT-exempt when sold with takeaway combo meals.
The company then submitted a VAT refund claim for the dipping sauces. Initially, HMRC accepted and refunded the previously collected VAT on dipping sauces (part of the combo). However, HMRC also indicated that this issue might be reconsidered in future audits.
In April 2020, Queenscourt submitted a second claim. Unexpectedly, HMRC changed its stance. They agreed that cookies and yogurts in combo meals could be treated as separate items, but they rejected the VAT refund claim for dipping sauces. HMRC argued that dipping sauces are not typically consumed alone and are meant to enhance the enjoyment of combo meals. Therefore, they should be considered part of the hot food supply in the combo and subject to VAT.
Worse yet, HMRC reviewed the previous claims and issued an assessment demanding the repayment of the £75,000 VAT previously refunded to Queenscourt.
2. KFC’s Court case
Queenscourt appealed HMRC’s decision, arguing that dipping sauces are not just a way to enjoy hot food better but are also popular products often bought separately by customers.
However, the First-tier Tax Tribunal sided with HMRC. The tribunal found that while some people might buy KFC dipping sauces separately to pair with other foods, this is limited in scale, with each store averaging only four separate sauce sales per day. Conversely, sauces are not typically consumed alone, and the term ‘dipping sauce’ itself suggests that customers use them to enhance the taste of hot food. Therefore, sauces should not be treated as VAT-exempt when part of a combo meal, and Queenscourt was not entitled to the VAT refund.
The case is complex, partly because HMRC had initially accepted and paid the company’s VAT claim in 2019, only to reverse its decision a year later. The KFC operator argued that HMRC’s assessment was invalid since it had already paid the first claim, leading them to believe they could handle VAT in this manner.
The tribunal did not accept this argument, stating that even if a claim has been paid, HMRC has the legal right to recover the payment within two years if it believes the refund was not justified. This holds even if HMRC is correcting its error in approving the claim.
The tribunal noted that the first claim combined various food items, and it was not until the second claim that HMRC properly considered the full details and Queenscourt’s exact VAT position on sauces, deciding not to pay the sauce claim. Furthermore, HMRC had explicitly stated during the initial refund that it reserved the right to review the claim in future audits.
3. Some advice from TB Accountants
Whether you run a restaurant or a supermarket, VAT collection rules have always been a headache for businesses. According to UK tax law, if businesses bundle or sell items with different VAT rates as a package (a common example is combo meals), calculating VAT becomes complex.
Specifically, while a combo meal has one price, different parts of the combo may have different VAT liabilities. For instance, cold takeaway sandwiches are zero-rated for VAT, while carbonated drinks and confectionery are standard-rated. Technically, this is a mixed supply for VAT purposes. The challenge is how to allocate the received amount fairly to different parts of the combo.
For example, consider a UK supermarket’s combo meal VAT calculation:
Sandwich: £2.00
Crisps: £0.75
Drink: £1.00
Total VAT: £3.75
The combo meal is offered at a discounted price of £3.00. The system allocates the £0.75 discount proportionally based on the value of each component.
Sandwich: 53.33% – Discount £0.40
Crisps: 20% – Discount £0.15
Drink: 26.67% – Discount £0.20
Thus, the reduced prices are:
Sandwich: £1.60 (after £0.40 discount)
Crisps: £0.60 (after £0.15 discount)
Drink: £0.80 (after £0.20 discount)
Then, VAT is calculated based on the sales value of each component, adhering to the VAT rates set for each item. The principle is to allocate the total payment fairly across the different parts, with businesses needing to justify their calculations’ reasonableness.
In KFC’s case, this highlights several important VAT issues:
Determining whether items sold as a bundle should be treated as a single supply (one VAT treatment) or separate supplies (different VAT treatments) can be difficult. The court’s decision on this matter usually depends on the detailed facts of each case.
Even if HMRC has paid a claim, there is a risk it may reclaim the money later, especially if it has indicated future audits. Typically, HMRC has a two-year period to change its mind, but if it believes facts were not fully disclosed, this period can extend to four years. Investing this refunded money elsewhere in your business is unlikely to invalidate HMRC’s assessment.
We recommend consulting tax experts beforehand regarding VAT collection methods if your business intends to sell products as discounted combos to avoid the risk of incorrect VAT charges.