Health recruitment agencies have been warned that they must charge VAT for their services – or face the possibility of massive retrospective tax bills large enough to sink small agencies.

Recruiter has learned that many agencies continue to believe they are exempt from VAT because they provide healthcare services.

But the exemption only applies if a supplier has direct control over staff – which, as third parties supplying staff to employers, they do not.

The controversy began in May this year, when Her Majesty’s Revenue & Customs (HMRC) issued a notice claiming most agencies would have to pay VAT.

Kevin Porter, divisional director of social care at Prime Time Recruitment, says his agency is losing business because of the new rules.

He says health agencies that do not charge VAT on their services are unfairly undercutting agencies such as Prime Time, which do comply with the rules.

Agencies that attempt to dodge the system could also end up with

a crippling bill at the end of the financial year.

“We are competing in a market that is uneven. We are losing customers every single day to other agencies,” said Porter.

“I am concerned that at the end of the tax year their interpretation is going to be seen to be wrong. This could put some people out of business.”

But John Halloran, chairman of Scunthorpe’s Project ASC Nursing Care Services, claims his agency is VAT-exempt and is prepared to take on HMRC in court. The end result of the ruling could mean that the charge is passed on to elderly and sick people, said Halloran, who is also a member of the Nurses Agencies Association trade body.

“This is someone in customs deciding that we should charge VAT to charities that help the sick and needy – it is a complete scandal,” he said.

An HMRC spokesman said: “Recruitment companies are obliged to pay VAT on their recruitment services, and HMRC has a rolling programme across all industries to ensure that those who are supposed to pay VAT, do so.”