Customs Watch

Some of Britain's most popular retail websites, including those run by Tesco, Amazon, HMV and Play.com, will have to stop selling VAT-free CDs, DVDs, memory sticks and other goods from the Channel Islands from next month.

The developments comes after a legal challenge by Jersey and Guernsey was dismissed in the High Court. While the decision is almost certain to attract an appeal, it will not stop the chancellor from pressing ahead with his plans to ban the trade.

The ruling marks the end of years of campaigning by retailers who told the Treasury they were unable to compete with VAT-free prices online.

Last week, the Observer revealed that two of the largest VAT-free web retailers already had advanced plans to shift to other territories outside the EU, such as Switzerland, in order to continue exploiting LVCR. However, campaigners suggested the logistics involved were unlikely to make that practical. In any event, should they successfully establish an LVCR operation elsewhere, it is likely the chancellor would act again.

A letter from the EU Commission to the man responsible for leading the campaign to stop a Channel Islands VAT exemption has revealed that further, more far-reaching changes than those already implemented by means of the Budgetary Act can be expected by the UK authorities.

Low Value Consignment Relief (LVCR) was introduced in 1983 and enabled goods below the value of £ 18 to be imported VAT-free from all destinations outside of the EU with the aim of reducing administrative costs disproportionate to collecting small amounts of VAT.

Online mail order company Play.com was first to spot the new opportunity and set up in Jersey in 1998, where they took further advantage of Royal Mail's subsidised postage. Tesco, Asda and HMV are amongst others who followed suit.

A source close to the EU said: The LVCR reduction from £ 18 to £ 15 in the Budget earlier this year was just a preliminary move. The government is now considering its legal options and how it can go about producing a list that will exclude certain goods from LVCR.

George Osborne is expected to use this month's budget to announce a crackdown on a ballooning internet mail order VAT exemption on the sale of CDs, DVDs, memory cards, vitamin pills and contact lenses, involving some of the biggest names in British retailing.

Industrial scale avoidance of VAT on these and other goods is estimated to have cost the exchequer £ 130m in lost tax revenues last year -- a jump of more than 50% on five years ago -- according to Revenue & Customs.

Treasury minister Lord Sassoon told the Lords: We are committed to tackling tax avoidance and, in that context, we hope to be in a position to announce possible changes to the operation of LVCR [low-value consignment relief] in the budget . He added that, in contrast to the Labour government -- which had been closely reviewing the controversial European VAT relief since 2006 -- the new administration had immediately gripped the situation .

Osborne, who criticised the loophole when he was shadow chancellor, is thought unlikely to introduce any radical changes to the rules on LVCR without a formal consultation.  The existing European LVCR rules on VAT -- drafted 28 years ago, long before the potential of the internet had been imagined -- waive a requirement to pay VAT for low-cost goods imported from outside the European Union. Currently this applies to any goods bought for £ 18 or less. The arrival of online retailing, however, has allowed larger firms to construct complex transaction and logistics structures, using Channel Islands-based subsidiaries or agent companies to qualify for the relief.

Campaigners against the VAT loophole have blamed it for pushing hundreds of smaller retailers, especially music and DVD stores, out of business. The number of independent stores in this area more than halved between 2005 and 2009, dropping from 985 to 446, according to the Entertainment Retailers' Association.

Update: Slightly Lower Value Consignment Relief

28th March 2011. See article from theregister.co.uk

A Treasury press officer told the Register that the VAT exemption value would be reduced from £ 18 per package to £ 15. Given falling prices for DVDs and CDs we're guessing this won't have a huge impact.

The change comes into force in November, and the Treasury will also talk to the European Community to see if more can be done.

The Forum of Private Business - which has campaigned against lower value consignment relief - said the £ 3 cut was not enough, describing it as an incredibly minor tweak. It said that small businesses which charged their customers VAT could still not compete with big players with offshore warehouses.

The FPB said the proposed timeline was far too leisurely to help struggling smaller retailers.

The Treasury has told the BBC it is actively reviewing the operation of a tax relief being blamed for forcing small UK internet retailers to close.

Low Value Consignment Relief allows goods under £ 18 in value to be sent VAT-free to the UK from outside the EU. It has led firms such as HMV, Tesco and Amazon to open big warehouse operations on the Channel Islands.

The Treasury says it is, in effect, looking into whether it would be economical and practical to end LVCR.

In order to benefit from the VAT relief, household names such as Tesco, Amazon and HMV as well as many other less well-known companies ship goods from the UK to warehouses on the Channel Islands, break them down into individual customer orders and then post them back to Britain. The whole process is entirely legal.