Restriction of VAT Flat Rate Scheme Advantages
Hot on the heels of the dividend tax increase brought in for the 2016-17 tax year, the government has shocked many in the SME sector by announcing the amendment of the VAT Flat Rate Scheme (FRS) for service businesses. The government considers that small businesses have been ‘abusing’ the FRS by not using it as the law intended so it is changing the terms of the scheme so that it is less attractive to use. The government has announced that the new legislation will apply from 1 April 2017.
Where we were
The FRS is currently used by numerous small businesses in the UK to simplify their VAT reporting. Rather than computing the individual VAT recoverable for each purchase, under the FRS businesses simply apply an industry specified percentage of gross income to account for the overall VAT payable to HMRC. This has often conferred a significant cash advantage (as well as reduced administrative burden) where a business incurs few expenses and the business pays less VAT than they would do so in the default VAT accrual scheme.
The common percentages used by service-related businesses are:
Where we are now – The Creation of The “Low Cost Trader”
The government has created (and defined) a new sub-type of business called a low cost trader. This is defined as any business who spends either less than 2% of its gross turnover, or less than £1,000 a year on goods. By way of example, this means that the following expenses would be excluded from this calculation:
What to do now if your business is impacted by this VAT change
Businesses who are currently registered to the FRS can de-register from VAT completely if they are trading below the £83,000 threshold. If your business is presently trading above this threshold and you would like to start reclaiming VAT on your expenses then you will need to withdraw from the scheme with effect 1 April 2017.
The other alternative – you could find a business use for spending that £1,000 or 2% of turnover ….. perhaps to buy those promotional goods, exhibition banners and stationery you’ve always wanted!
The focus of this legislation appears to be to restrict the benefits that many UK contractors currently enjoy from the FRS scheme. The fact that other service businesses have been caught in the net is perhaps as intended or because this was the best framework that the government could design to ensure the effectiveness of the amendment. Quite how businesses will know in advance whether or not they will spend the 2% and exactly how the short-staffed HMRC will manage to police the scheme are some of the many questions that this FRS restriction brings to the fore.
What is likely is that small businesses the length and breadth of the country will be debating the level of the government’s support to the SME sector, which by the government’s own statistics employs 60% of all private employment in the UK and will provide the backbone of business growth in the extraordinary times that we face.