Well that’s it folks, the Flat Rate VAT scheme will be all but redundant for most come 1st April 2017.
Originally set up some 15 years ago to simplify VAT reporting for small businesses, and with more than 400,000 traders now using the scheme, HMRC have now decided to introduce legislation which it deems necessary to tackle wholesale abuse.
Over the past year there has been an explosion in FRS applications predominantly by employment intermediaries supplying workers in ones and twos to fully taxable customers.
These satellite companies benefit from the National Insurance employment allowance as well as the uplift in turnover gained from operating the Flat Rate VAT scheme.
It is not clear why this abuse could not have been tackled utilising the existing rules around ‘associated entities’, we have first-hand experience of FRS registrations being refused due to associations, however we are where we are, and the new rules will come into force on 1st April.
Low Cost Trader
Revised legislation has been introduced which requires analysis of a company’s purchases at each reporting period to determine which flat rate percentage to use.
If spending on ‘relevant goods’ is less than 2% of gross turnover, then you will be deemed a Low-Cost Trader and will be required to apply a percentage of 16.5%.
This rate equates to the recovery of just £2 for every £1000 invoiced, so a company with £100,000 of sales, which previously was using a Management Consulting rate of 14%, will now lose £3,000 a year.
It gets worse, HMRC have now introduced complexity to a scheme that was supposed to be a simplification of VAT reporting!
Any trader who remains in the scheme will need to assess at each reporting period if it has spent a minimum of £1,000 annually pro rata or 2% of gross sales, but instead of applying that test to all business-related costs, they have introduced a convoluted matrix of allowable costs which they term ‘relevant goods’.
VAT NOTICE 733:
Test for expenditure on relevant goods
You receive a supply of goods (including by acquisition or import) if the exclusive ownership of moveable items is passed to you from another person.
Relevant goods are goods that are used exclusively for the purposes of your business, but don’t include:
· vehicle costs including fuel, unless you’re operating in the transport sector using your own, or a leased vehicle
· food or drink for you or your staff
· capital expenditure goods of any value, see paragraph 15.1
· goods for resale, leasing, letting or hiring out if your main business activity doesn’t ordinarily consist of selling, leasing, letting or hiring out such goods
· goods that you intend to re-sell or hire out, unless selling or hiring is your main business activity
· any services
Examples of relevant goods
This isn’t an exhaustive list:
· stationery and other office supplies to be used exclusively for the business
· gas and electricity used exclusively for your business
· fuel for a taxi owned by a taxi firm
· stock for a shop
· cleaning products to be used exclusively for the business
· hair products to use to provide hairdressing services
· standard software, provided on a disk
Examples of supplies that aren’t relevant goods
This isn’t an exhaustive list:
· accountancy fees, these are services
· advertising costs, these are services
· an item leased/hired to your business, this counts as services, as ownership will never transfer to your business
· food and drink for you or your staff, these are excluded goods
· fuel for a car this is excluded unless operating in the transport sector using your own, or a leased vehicle
· laptop or mobile phone for use by the business, this is excluded as it is capital expenditure see paragraph 15.1
· anything provided electronically, for example a downloaded magazine, these are services
· rent, this is a service
· software you download, this is a service
· software designed specifically for you (bespoke software), this is a service even if it is not supplied electronically
Complications and Compliance
It is almost certain the majority of service providing entities currently utilising the Flat Rate VAT scheme will leave.
In our opinion HMRC are using a sledgehammer to crack a nut and these changes will leave thousands of regular businesses out of pocket and incurring increased cost for compliance.
Previous governments encouraged the use of the Flat Rate Scheme, Gordon Brown introduced a 1% discount for first year registrations and HMRC enjoys a benefit too.
Flat rate scheme traders are much less likely to make mistakes, particularly on input tax, so there is less need to carry out compliance work on businesses that are so small that the yield is unlikely to be worth the effort.
With the introduction of these changes businesses that have never had to assess input tax will have to identify and support input tax deductions, contend with the hurdles of partial exemption, private use of mobile telephones, the borderline between business entertainment and deductible expenses and all the other intricacies of VAT recovery.
Traders will need to keep up to date paperwork, books and records, preferably in digital form to enable them to report VAT within the statutory deadlines.
Whether a company choose to tackle this themselves or instruct their agent, there will be an obvious increase in compliance costs associated with these changes, and that is on top of the significant loss of revenue from leaving the scheme.
If you are in the Flat Rate VAT scheme, it is essential you act now to mitigate the impact of these changes.
We are working with all existing and new clients to ensure an appropriate structure is in place to mitigate tax over the coming months.
If you would like to talk to one of our Chartered Accountants in Canary Wharf, or our Accountants in Essex, please contact us today.