Delegated authority: exemption alert following ECJ decision in Arthur Andersen case

Law firms with claims-handling operations could be hit with VAT charges on their claims services - which they may not be able to pass on to insurers - following a judgment in the European Court of Justice this month.


The judgment in Arthur Andersen (C-472/03), means that law firms' current exemption from charging VAT when they handle claims, because they are deemed to be acting under the delegated authority of insurers, has been called into question.


If the exemption is scrapped, firms will either have to pass the VAT charge on to insurers - which will not be able to claim it back - or bear it themselves. HM Customs & Excise (C&E) has already met with insurers to discuss the implications of the case and will carry out a consultation on the issue.


Roger Zair, head of the professional practices group at accountancy firm Grant Thornton, said: 'The judgment says that outsourcing of claims handling should carry VAT on it. If that sticks, law firms will have to charge an extra 17.5% on to insurance companies... This will naturally create pricing pressure, and if insurance companies seek an unchanged real cost from law firms, this will reduce lawyers' income by the VAT amount.'


Grant Thornton VAT specialist Paddy Behan added: 'Should the UK apply this ruling to the extreme, this has a huge potential downside not only for the insurance industry but also for law firms which undertake claims-handling work.'


A C&E spokesman said it would be examining the judgment in detail. He added: 'Any decision to make changes to the scope of the UK exemption would only be made following consultation with the insurance industry.'


Meanwhile, an opinion given by the Advocate-General in a separate VAT case before the ECJ could mean that some of law firms' corporate clients will be able to recover the VAT on lawyers' fees, effectively slashing their legal bills. In his opinion in Kretztechnik AG v Finanzamt Linz (C-465/03), the Advocate-General suggested that companies that issue shares - but not exempt companies such as banks and insurance companies - should be able to class VAT charged on lawyers' and accountants' as 'overhead' VAT, which is recoverable.


Guy Brannan, tax partner at magic circle firm Linklaters, said: 'The ECJ is not obliged to follow the Advocate-General's opinion. But if it does, this will have big implications for companies. It's one to watch.'