Customs

Some of Britain's most popular retail websites, including those run by Tesco, Amazon, HMV and Play.com, will have to stop selling VAT-free CDs, DVDs, memory sticks and other goods from the Channel Islands from next month.

The developments comes after a legal challenge by Jersey and Guernsey was dismissed in the High Court. While the decision is almost certain to attract an appeal, it will not stop the chancellor from pressing ahead with his plans to ban the trade.

The ruling marks the end of years of campaigning by retailers who told the Treasury they were unable to compete with VAT-free prices online.

Last week, the Observer revealed that two of the largest VAT-free web retailers already had advanced plans to shift to other territories outside the EU, such as Switzerland, in order to continue exploiting LVCR. However, campaigners suggested the logistics involved were unlikely to make that practical. In any event, should they successfully establish an LVCR operation elsewhere, it is likely the chancellor would act again.

The government is to change the tax rules that have allowed retailers to avoid paying VAT by sending goods from the Channel Islands.

Low Value Consignment Relief (LVCR) will not apply to goods sent from the Channel Islands to the UK from 1st April 2012.

The tax relief has been used increasingly in recent years by companies selling CDs and DVDs online, such as Play.com, Tesco and Amazon. The government said the relief was now costing £ 140m a year.

The maximum price of the goods allowed under LVCR was cut from £ 18 to £ 15 on 1 November following an announcement in the Budget in March.

These reforms will ensure that UK companies, especially small and medium-sized enterprises, can compete on a level playing field with those larger companies with the resources to set up operations in the Channel Islands, said David Gauke, Exchequer Secretary to the Treasury.

LVCR was originally established as a VAT exemption for goods coming from outside the EU. The idea was to prevent EU members having to collect small amounts of VAT, when collecting it would cost more than it was worth. The issue has been that the Channel Islands are treated as being outside the EU for VAT purposes.

The government said that LVCR will continue to apply to goods coming from other countries outside the EU.

Jersey's Economic Development Minister, Senator Alan Maclean, said more than 1,700 people were employed in the fulfilment industry across the Channel Islands.

The Treasury has told the BBC it is actively reviewing the operation of a tax relief being blamed for forcing small UK internet retailers to close.

Low Value Consignment Relief allows goods under £ 18 in value to be sent VAT-free to the UK from outside the EU. It has led firms such as HMV, Tesco and Amazon to open big warehouse operations on the Channel Islands.

The Treasury says it is, in effect, looking into whether it would be economical and practical to end LVCR.

In order to benefit from the VAT relief, household names such as Tesco, Amazon and HMV as well as many other less well-known companies ship goods from the UK to warehouses on the Channel Islands, break them down into individual customer orders and then post them back to Britain. The whole process is entirely legal.