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Channel Islands VAT dodge could be axed this week

By | Published on Tuesday 1 November 2011

Houses Of Parliament

Speculation is mounting that the government is about to make a big announcement about the much previously reported VAT loophole that has given mail-order CD sellers in the Channel Islands a 20% advantage over their mainland competitors, arguably making it impossible for independent retailers in the UK to compete, certainly in the burgeoning mail-order space. Some would also argue the whole thing has decimated even the big boys of UK music retail.

It all goes by the slightly dull sounding name of Low Value Consignment Relief. As previously reported, this system means that companies based in the Channel Islands, which are within the EC customs zone but outside the European Union, do not have to charge VAT when selling goods under £18 to customers back in mainland UK. The result has been an explosion of mail-order businesses on the islands, impacting on numerous industries where VAT-able goods are routinely under £18 in price.

Channel Islands-based sellers of CDs and DVDs have been among the most prolific users of the VAT loophole over the years, so much so most of the bigger traditional CD sellers, so the supermarkets and companies like HMV, also moved their mail-order operations into the English Channel, most by outsourcing their mail-order CD services to companies already operating there.

The loophole means that mail-order sites based on the Channel Islands can undercut their mainland competitors by whatever the VAT rate is (15-20% during the time the loophole has been operational) without affecting their profit margins.

While it’s true that consumers have benefited from the loophole too – they get cheaper CDs, and, arguably, the cost cutting of such mail-order operations forced the whole music industry to cut what had always been the overly high profit margins attached to compact discs – the biggest beneficiaries by far have been those companies who were quick to capitalise on the loophole and set up operations in the islands. The owners of one of the most prolific beneficiaries,, recently sold their company for £25 million.

But there have been losers too. The competitive advantage the Channel Islands operations enjoyed put extra strain on high street retailers just as they were dealing with slumping CD sales and the rise of digital. It also meant those independent retailers unable to afford Channel Islands bases couldn’t capitalise on the new opportunities in mail-order the internet offered. Even HMV, which eventually joined the VAT dodge party, was a loser, because during the crucial period ten years ago when the online mail-order domain was first maturing the traditional music seller couldn’t compete on price.

There was also the issue that substantial amounts of VAT income was lost to the UK Treasury, and the tedious fact (for those supporting or benefiting the loophole) that the way LVCR was being used was very probably a breach of European tax laws, even if the UK’s Inland Revenue insisted otherwise for years.

When the small business community first started to speak out against the VAT dodge several years ago, both the then Labour government in the UK and the governments of the Channel Islands agreed something should be done to ensure the VAT loophole didn’t skew the British retail market. They then proceeded to basically do nothing, while playing down the impact of the loophole (on both tax revenues and independent retailers) and insisting everything was legit under European tax rules.

In opposition the Tories hit out at the loophole scheme, but cynics suspected that, once in power, they would be lobbied by those who benefited from the loophole and advised by pro-LVCR types at the Inland Revenue and quietly park their criticisms. But no, it took a while, but they actually came good on their commitment to address this issue. Possibly because moves to sue the UK through the European courts for a failure to follow EU tax laws were gaining momentum, but whatever.

Earlier this year the government announced it planned to act on the loophole. An initial announcement that it would reduce the extent of the tax relief – so it only applied to products under £15 – seemed something of a lacklustre response, but behind the scenes more work was being done, and European tax officials were being consulted. Then, earlier this summer, we started to hear that a list would be published of products that would be barred from the tax relief system, that would include CDs and DVDs. By late summer, word was that the whole LVCR system would be abolished.

And that’s where we are at right now. There was speculation yesterday that George Osbourne might make an announcement as soon as today that Channel Islands VAT relief will soon be phased out. Some seem to think a parliamentary statement to that effect could still be published later today, while others are pointing to some sort of formal confirmation from the Treasury later in the week, or maybe early next week. But what seems certain is LVCR is dead. For the Channel Islands at least.

Certainly those operating in the Channel Islands under the tax relief scheme seem to be accepting the battle is lost, with many looking to relocate their operations to Switzerland or Eastern Europe, where tax relief may still be available, or cheaper operational costs may help them continue to compete on price back in the UK (at least one such company has already started telling some staff about plans to  move to a Swiss base). And, although both companies will deny it, some reckon the decision of’s owners to sell earlier this year, and the recently announced delays in plans to float another prolific beneficiary of the dodge, The Hut Group, are both linked to the imminent ending of the VAT system that helped both companies achieve substantial market share.

Of course you could argue this is too little too late, with so many British music retailers, big and small, having bitten the dust in the last ten years, arguably in part because of the LVCR-benefiting mail-order sellers. Plus, of course, if there are other tax-dodging options for mail-order services, the Channel Islands may lose a lucrative industry but without the UK benefiting from more tax or a more level playing field for independent retailers. Still, after being all but ignored for years, if the Channel Islands VAT dodge is axed this week it will be quite a victory for those who have led the campaign against it.