The dispute has been raging since August this year when Freeserve discovered that AOL was taking advantage of a 'loophole' in UK tax laws in order to avoid charging its customers VAT. At the time Freeserve called on Chancellor Gordon Brown and the Customs and Excise Department to change AOL's tax status. 'By not charging VAT on its flat rate internet package, this division of America Online wields a powerful competitive advantage over UK internet service providers,' said a Freeserve spokesman.

AOL's advantage comes from the fact that it is registered for taxation purposes in the United States, and can avoid VAT under the 1997 Customs and Excise ruling which states that non-UK ISPs are exempt from VAT because they supply content rather than telecoms services. But Freeserve alleges that the latter is exactly what AOL is supplying, and that as such the organisation should be eligible to pay value added tax in the UK.

As things have not changed since August, Freeserve decided to write to the Customs and Excise department to complain that it could no longer put up with the disadvantage. The letter stated: 'In the event that the position is allowed to drag on much further, we will have no option but to pursue a remedy against the UK Government before the European Commission, arguing that the Government's failure to act puts it outside the scope of current Community law.'

As a last resort, Freeserve has threatened to take its business out of the EU if the tax loophole is not closed.