As announced by the Chancellor in his Autumn statement, there are set to be major changes to the way Flat Rate VAT is to be operated, with effect from 1 April 2017.
Small businesses using FRS VAT who routinely purchase goods or materials in the course of business will be largely unaffected by these changes, but those mostly affected (and some might say targeted) will be the contracting service providers (PSC’s) and any other labour only type providers.
Under the new rules, businesses that cannot satisfy HMRC to the contrary, will be obliged to apply a FRS rate of 16.5% instead of whatever rate they have used up until now. FRS will continue, but many businesses, in particular contractors, will no longer find it economical to use.
For a business to be able to continue using the FRS rate that would ordinarily apply to their trade sector, it will be required to evidence that its expenditure on “goods” is a) at least 2% of its turnover, and b) at least £1,000 per year. For a business that wishes to remain on FRS VAT, the calculations must be performed in each individual VAT period. This means that, at the end of every period, before the FRS percentage can be determined, you must work out whether the expenditure on goods has been at least 2% of the VAT inclusive invoiced sales in that period, and if so, that the expenditure on goods is at least £250 (£1,000 /4). If both tests cannot be satisfied, the 16.5% rate must be used for that period. By “goods” this means tangible purchases such as materials and other items that are resold to clients/customers, or actually used up by the business. The following cannot be treated as goods :
- Rent and other establishment costs
- Capital items e.g. computer and office equipment
- Software costs
- Motor/travelling/subsistence costs
- Sub contractor costs
Stationery costs can be treated as goods, as can non capital computer peripherals, but only insofar as they are either sold on for a profit, or actually used by the business. HMRC will be on the look out for artificial purchasing arrangements, for example businesses purchasing excessive amounts of stationery just for the purpose of inflating the cost of goods. Goods cannot be given away, donated to charity, or retained for personal use.
HMRC have also put into place Anti-forestalling provisions. Paying or invoicing in advance or arrears to avoid an increase in tax is known as forestalling. What this means in this particular case is that your invoicing and payment patterns cannot be manipulated in order to affect the results for the FRS calculations.
For PSC business in particular, it is safe to say that most businesses will be affected by the new rules, so our recommendation is to start preparations in readiness for the change.
Businesses who are trading under the VAT threshold of £83,000 may want to deregister from VAT with effect from 1 April 2017. Businesses who are trading over that threshold may need to withdraw from the FRS, and revert to normal VAT, also from 1 April 2017.
Businesses that decide to continue with FRS VAT will be faced with either the 16.5% rate, or the daunting task of performing complex quarterly calculations if they wish to attempt to avoid the new rate. There is no doubt that the contracting industry was in HMRC’s sights when this change was announced, and it is probably safe to assume that VAT returns will be monitored so that persistent “aggressive abuse” (according to the Chancellor) can be identified. Reverting to normal VAT is, in our view, the safer option if you are unable to cancel your registration. It reduces the risk of HMRC inspection, and you will still be financially better off than if you had no registration at all. You will be able to recover VAT on all standard rated costs. The FRS advantage was useful while it was in place, but all good things come to an end.
Businesses wishing to cancel their VAT registration can do so via their online VAT account. Simply log in as usual, and select “Deregister for VAT” from the menu on the right hand side of the “VAT details” screen. Date of cancellation should be 1 April 2017.
If you cannot, or do not wish to, cancel your VAT registration, to revert to normal VAT you must write to the VAT office to notify them. Suggested wording for the text of the letter would be “the business wishes to withdraw from the Flat Rate Scheme, and revert to normal VAT accounting, with effect from 1 April 2017”, and should be sent to:
Grimsby National Registration Service
77 Victoria Street
Whichever option you decide to adopt, please ensure that your business records clearly reflect the change. For contractors using the PSC accounts workbook, ensure that the 2017/18 workbook is set up with either ‘n’ for no registration, or ‘y’ for registered with normal vat.
If you are continuing with FRS, but do not wish to use the 16.5% rate, you must separately perform your quarterly calculations prior to selecting the percentage rate and filing the return. Please note, it is your responsibility to get this part right. Whilst we can check your own calculation for mathematical accuracy, we cannot carry out the calculations for you, nor can we attest to the validity of the calculations.
Businesses who move to normal accounting for VAT will now need to be extra vigilant when it comes to analysing their expenditure. Every line item expense must be carefully checked against the suppliers’ invoices/receipts so that the VAT analysis is done accurately. For contractors who have their accounts workbooks checked by Whitefield Tax, whilst we can usually spot glaringly obvious errors, others can be more subtle, so you should not rely on us to spot these, but should ensure that you have carefully analysed everything before sending to us for checking. It is more important than ever that you hold back from filing your VAT returns until we have confirmed the accuracy of your spread sheet.
The HMRC publication on the changes is at https://www.gov.uk/government/publications/tackling-aggressive-abuse-of-the-vat-flat-rate-scheme-technical-note/tackling-aggressive-abuse-of-the-vat-flat-rate-scheme-technical-note
16 January 2017