Government expected to await conclusion of European review in 2007

The Treasury is considering delaying the implementation of a European Court of Justice ruling which would impose VAT on hundreds of insurance-related UK firms for the first time.

A Treasury spokesman said consultations were ongoing and that a decision would be announced in the pre-budget report over the next two weeks.

New rules removing the VAT exemption for outsourced administrative functions were due to come into force in January, despite objections from the ABI.

But it is understood that the Treasury may now hold fire until the conclusion of a comprehensive European review on the sixth directive - the legislation upon which the initial ruling was based.

According to experts, the review is not likely to be completed until 2007, meaning outsourced functions like claims handling and managing run-off could be VAT-exempt for the foreseeable future.

The possible U-turn follows pressure from a group of powerful outsource providers which include Capita, Liberator, Unisys and Xchanging.

The group commissioned independent analyst Volterra to assess the economic impact of removing the VAT exemption on Treasury revenues.

Volterra found that if the UK firms currently exempt from VAT were charged from next year, the total contribution to the UK coffers would be between £75m and £90m - substantially less than the £175m originally predicted.

And the likely migration of outsourced activities to offshore locations like India would result in a substantial loss of jobs and income for the country.

A spokesperson for the outsourcing group said: "With the European review on insurance and VAT rules impending it would just not be worthwhile for the Treasury to impose these rules now."