C19 and the application for use of a Partial Exemption Special Method (PESM)

A case study from Brading Haven Yacht Club

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This case study looks at the use of Revenue and Customs Brief 4 (2021) ‘partially exempt VAT registered businesses affected by coronavirus (COVID-19)’ and how the application of a Partial Exemption Special Method (PESM) has been implemented.


Brading Haven (BHYC) is based in Bembridge Harbour on the Isle of Wight.  Operating as a VAT registered sports club it incurs exempt input tax on its activities and is therefore potentially partially exempt. HMRC Notice 706 Partial Exemption states “a business is partly exempt, if it makes, or intends to make both taxable and exempt supplies and incurs tax on costs which relate to both”

BHYC falls into this definition with a bar, restaurant, boat parking, hire of equipment, training and mooring producing a mix of standard rate and exempt sales and costs associated with such activities.

The effects of COVID-19 and the associated lockdowns impacted all aspects of the club, these are set out below in order to explain the basis of the PESM applied for.

  • Bar and other taxable sales were much reduced along with input tax normally associated with the standard rate (20%) activities.  Fortunately, the club was able to recommence outdoor activities as soon as allowed and these were extremely successful.  However, bar sales remained low, due to lockdowns, there were very few visitors to the harbour and no club social events.


  • The net result is that in the BHYC financial year, ending March 31 2021, a unique position occurred where the balance of the ‘normal’ partial exemption figures was considerably distorted by the low taxable sales, significantly lower standard rate input tax values and a substantially higher percentage of both exempt and non attributable (residual) input tax to the total input tax.


  • After producing both quarterly and annual partial exemption calculations it became clear that the club would be partially exempt in the tax year but the existing partial exemption method – the ‘standard’ method – would be unfair in the unique circumstances surrounding the pandemic.

Brief 4 (2021) addresses this situation and allows businesses to use a PESM where such a method is fair and reasonable.  This applies only to periods affected by Coronavirus.  In the case of BHYC this was only applied to the tax year ending 31 March 2021.


After producing calculations, based on the standard method the result was that BHYC would be partially exempt and therefore unable to recover all input tax incurred.  In particular it was unable to come within the ‘de minimis’ limits which would allow the club to be fully taxable in relation to its input tax. Therefore, it was felt that an application should be made by using a ‘special method’ that would remove the distortion of values in the year, caused by the pandemic.

An initial proposal was made to HMRC that calculated recoverable input tax based on the previous 3 years average input tax incurred.  This average was calculated on each of the periods so quarter 1 in the partial exemption year ending March 2021 was compared to the average incurred in the previous 3 years at quarter 1.  Quarters 2 to 4 were dealt with in the same way.

The net result was that the club became fully taxable and would suffer no irrecoverable input tax.  The club sent a letter and the required declaration to HMRC but it rejected the application on the basis that the club used a speculative average rather than the actual previous figures.

It should be noted that the club was fortunate to have excellent communication with the HMRC officer dealing with the matter who engaged in a very helpful discussion on the initial proposal and the reasons for initial refusal.

It is stated within Brief 4 that “HMRC is likely to accept proposals which use representative income streams from the previous tax year to get a fair and reasonable proposal……a representative period of up to a maximum of the previous 3 years may be used”

Based on the advice from HMRC a second proposal was made using the values involved. In the year ending 31 March 2021 (financial year and partial exemption year end) based on the actual figures for that year the annual adjustment shows an exempt input tax average of £654.95 per month (de minimis limit £625) and the percentage of exempt input tax to total input tax of 60% (limit 50%). This led to the club being partially exempt due to exceeding the de minimis limits and irrecoverable tax being £7859.

The main factor causing distortion in the year is the reduction of standard rated input tax claimable due to the factors discussed above.  By showing the actual values for the past three years to produce an average the special method (PESM) uses this as the ‘new input tax directly attributable to taxable supplies’ value.

The PESM submitted included a covering letter to explain the specific effects of COVID-19 and three appendices showing the original annual adjustment, the calculation that highlights the increased standard rate recovery and a second annual adjustment that used the amended (average) standard rate input tax value for the last 3 years. Using the latter meant that BHYC was within the de minimis limits since the irrecoverable VAT fell to £7093. It therefore remained fully taxable and could recover its entire VAT; a saving of £7,859.


In summary the use of the PESM looks at the specific effects of COVID-19 to the trading pattern of BHYC.  By establishing (1) the pre COVID-19 standard rate input tax values and (2) the recoverable percentage of the non attributable based on the existing three years prior and applying to this unique period in a ‘fair and reasonable’ way the business was seen to be fully taxable.  The use of the special method has been authorised by HMRC and as can be seen, makes a substantial difference to the overall VAT position.  The correction is made via a Voluntary Disclosure to correct the original annual adjustment that was originally included in the relevant period for the end of the partial exemption year.

In exceptional circumstances, such as Coronavirus, HMRC will allow changes to partial exemption methods to be applied retrospectively – we would advise clubs to urgently consider a change to their PESM for past years when Coronavirus had an impact.

RYA affiliated clubs have access to tax consultant, Richard Baldwin MBE; FCA; CTA, who has been working with us on CT issues. We provide a free 30 minute consultation with Richard which can be accessed via the Legal Department.