SHADOW chancellor Ed Balls will tomorrow force a House of Commons vote on fuel VAT, in a bid to earn political capital from soaring petrol prices. But George Osborne’s allies claim that cutting VAT on fuel is illegal under EU law. Rubbish, say Labour spinners: all Osborne needs to do is apply for an exemption. So who is telling the truth?

The EU allows member states to have two separate rates of VAT: a headline rate (20 per cent in the UK) and a reduced rate (five per cent in the UK). A third rate of VAT at 17.5 per cent could be introduced on some items under EU law ?– but not fuel.
The government could collect fuel VAT at the existing reduced rate of five per cent, but it would cost the exchequer some £4.2bn in foregone revenue.

The chancellor could apply to the EU for a so-called derogation. If the EU agrees, that would allow him to introduce a third rate of VAT for fuel. In 1997, the then Labour government applied for a third rate of VAT for domestic fuel. However, the EU rarely grants VAT derogations – in fact there are currently just three. Cyprus, for example, has a reduced rate of VAT on cylinders of liquefied natural gas while certain regions in Portugal pay lower VAT than others.

Balls is perfectly right to claim that it would be possible to apply to the EU for permission to introduce a third rate of VAT at 17.5 per cent especially for fuel. However, that doesn’t mean the EU is likely to grant a derogation. John Whiting, the head of the Office for Tax Simplification, said it would be “unlikely the EU would grant a derogation on something as fundamental as petrol”. Lowering VAT on fuel is not a credible option.