Tour packages are subject to VAT

© Ken Drysdale – 123RF.com

The judgment levels the playing field for TO's by confirming that TO's that claimed an input tax credit in respect of acquired tour package constituents, e.g. hotel accommodation, restaurant meals, guided tours and excursions, while accounting for zero output tax, face a retrospective output tax liability and an additional 14% cost going forward, if this cost cannot be passed on to price sensitive consumers.

Section 11(2)(l) of the Value-Added Tax Act (VAT Act) zero rates a supply of a service supplied directly to a non-resident, not being a services supplied directly to any person who is in the Republic at the time the service is rendered.

In other words, if the service supplied by the TO to the FTO constitutes the same service that is supplied directly to the FTO's customer and end-user of the tour package and such customer is in the Republic when such service is rendered, the zero rate may not be applied. This is in line with the explanatory memorandum to the 1999 amendments to the VAT Act, which explained the purpose of the amendments as being the taxation of services consumed within the Republic.

Court disagreed

The taxpayer argued that the FTO made the supply directly to the tourist and not the TO; however, the court disagreed and held that the TO supplied the local services directly to the customers of the FTOs, at the time they were in the Republic, which meant that the zero rate did not apply. The court distinguished between the contractual supply by the TO to the FTO and the physical rendering of the service of accommodation, restaurants, guided tours and excursions. The premise on which this finding was based seems questionable, though.

The court used the analogy of a lessee and sub-lessee, and concluded that the main lessee (and not the owner) made the supply directly to the sub-lessee, which, according to the court, implied that the TO made the supply directly to the tourist and not the FTO.

However, by its own logic, should it not rather imply that the FTO made the supply to the tourist, and not the TO?

The court held that..."There can be no doubt that in such instances the person who supplies the accommodation service to the sub-lessee is the main lessee and not the owner." In the tour package example, the 'main lessee', i.e. the supplier to the end-consumer, is the FTO and not the TO. The TO is in the position of the 'owner' in the earlier example. The analogy used by the court seems to contradict its own conclusion that the TO makes the supply to the end-consumer.

VAT Act's definition

The TO is contracted to supply and arguably, render, to the FTO, the right to demand hotel accommodation from the hotel owner. The VAT Act defines a 'service' as including the granting of a right. The TO seems to render a service to the FTO, enabling it to make a subsequent supply, which is then consumed in South Africa. The disallowance of the zero rating implies that nothing is 'rendered' to the FTO, although it clearly receives value.

According to SARS Interpretation Note (IN) 42: "FTO's who continually and regularly supply goods or services in the Republic will be required to register as vendors for VAT purposes." This appears to be a SARS acknowledgement that the FTO does indeed make the local supplies.

Aligned with the purpose of the legislation and IN 42, it is the supply by the FTO that must be taxed. Taxing the supply of the TO traps VAT as any VAT registered recipient of a non-VAT registered FTO's supply is not able to recover the residual VAT as an input tax credit, causing double taxation.

TO's will hope that the taxpayer's R10m VAT liability will encourage an appeal in order to have these issues considered in more detail by the High Court for the benefit of the entire industry.