VAT on independent school fees: How can the sector adapt?

The new Labour Government has committed to revoking the VAT exemption for private school fees. While schools are expected to recover input VAT, the net overall impact, estimated between 14% to 18%, will likely be passed on to parents through fee increases.

This is causing significant concern across the sector, but it's not the only challenge that private schools are facing right now. The independent education sector has been facing social, demographic and financial pressures for a number of years. It's also a sector with unique features and stakeholders (parents) that make buying decisions based on multiple factors, both financial and non-financial.

School fees have already risen 20% since 2020

The UK independent sector currently educates approximately 620,000 children, approximately 5.9% of the total number of school children in the UK. The Independent School Council’s (ISC) annual census shows that since 2020, there's been a 20% real-term increase in private school fees. The schools note that this has been necessary against the backdrop of an inflationary cost environment and ever-increasing staff costs. These staff expenses, including pay and pensions, can represent around 70% of an independent school’s cost base. Energy, food, and rent constitute a significant proportion of residual costs, all of which have seen dramatic increases in recent years.

The uplift in private school fees has therefore already put significant pressure on parents and impacted on their choice of school (including the private versus state education decision). Further fee increases are now inevitable.

The impact on private school fee income is uncertain

There has been much research done to ascertain how many children will leave private school as a result of Labour’s policy – with differing outcomes. 

A report in July 2023 from the Institute of Fiscal Studies estimated the additional VAT rate would lead to 3-7% reduction in private school attendance.  However, a January 2024 survey by Saltus of 2,000 respondents with at least £250 thousand of investable assets indicated that 26% of parents would move their children or grandchildren to a state school.

In June 2024, Baines Cutler, a school consultancy firm that has conducted private school financial benchmarking surveys for 28 years stated that they stand behind the conclusions from their 2018 report, commissioned by the ISC. This study suggested that 10.7% of students in the independent sector might withdraw in the first year following the introduction of VAT, with a further 6.4% drop over the subsequent four years. This could result in a total of 105,165 students leaving over a five-year period, which, with an average school fee of £15,200 per annum, may lead to a £1.6 billion decrease in revenue for independent schools.

However, while much of the conversation in the media has been around how many children will leave private school, little attention has been paid to replacement – ie, would an equivalent family start out anew on independent education once VAT on fees has been introduced? The issue of non-replacement potentially has a long-term affect, which schools will need to account for.

In anticipation of these changes, some parents and grandparents are considering paying for multiple years of tuition upfront, drawing from their savings to circumvent any fee increases for VAT. However, it remains uncertain whether such actions could be unwound when the relevant tax legislation is introduced.

Additional challenges facing independent schools

Aside from the removal of VAT exemption, schools have the following headwinds to contend with:

• Independent schools in England and Wales registered as charities are also due to have their 80% relief from business rates removed. This poses a substantial challenge, potentially leading to even more additional costs being transferred to parents
• The Teachers’ Pension Scheme, in which many independent schools still participate, has seen significant increases in contribution levels in recent years (rising to 28.68% from April 2024), further stretching school funds
• Since 2013, the UK's birth rates have been falling. The projection for number of pupils in nursery and primary school in 2028 is 4,120,930, down 412,000 from the number in 2023. This trend has started to impact occupancy at the nurseries and preparatory school level and will flow on to secondary schools
• There's a shift among Russell Group universities to admitting a greater proportion of students from state schools. For example, the proportion of independently educated pupils admitted to Oxbridge continues to fall – from about 50% in the 1980s and 1990s to 32% (Oxford) and 27% (Cambridge) in 2023. For some parents, this could affect the perceived value of education at independent schools

The combination of long term social and demographic trends, higher running costs and increasing affordability concerns places serious pressure on schools.

What will happen now?

While there's no definitive timeline for the implementation of the new tax policy, it's expected to be introduced quickly and many schools and parents are taking actions or making decisions now. This is already impacting September 2024 pupil intakes and we're seeing school mergers (or disposals), as well as single sex schools making the move to co-educational offerings. This has created opportunities for M&A activity and the sector contains several school groups, some of which having received recent additional financial backing, who will be looking to maximise opportunities at this time.

It's expected that non-boarding schools outside of London are more likely to be affected by the current challenges. Size is also a factor, with smaller schools at risk due to the lack of scale to absorb cost increases or make changes to drive higher intakes. It's expected that prep schools are more likely to be impacted than all-through or senior provisions.

How can we help?

We're well-positioned to offer assistance, with significant and recent experience of the sector and strong contacts across independent schools and related industry bodies.

There are for-profit education groups who are acquisitive, including acquiring schools which currently have charitable status, and we have advised extensively on transactions, recently winning the Financial Advisor of the Year Award at the 2024 Education Investor Awards. Our internal expertise and services span acquisitions and mergers, tax planning and funding models and restructuring options. Our strong external links can assist in teacher recruitment and retention, and legal services.

For more insight and guidance, contact Alistair Wardell or Andrew Frame.