In November last year, the government announced changes to the VAT Flat Rate Scheme – FRS – for ‘limited cost traders’ effective from April 2017. This was billed as an anti-avoidance measure and was seen as a response to media coverage of abuse of the FRS by some recruitment agencies. However, the changes go much further than this, hitting an estimated 123,000 businesses – that’s roughly 1/3rd of all businesses who use the FRS! And it could get worse: some commentators have suggested that the government could withdraw the FRS once Making Tax Digital applies for VAT from April 2019.
In this blog post I will look at the changes affecting limited cost traders. This blog post picks up on and expands my first blog post on this subject in November. Since then, HMRC have published further information including an online tool to help taxpayers work out if they are limited cost trader.
What is the FRS?
The VAT FRS is there to simplify the VAT process for small businesses. Briefly, rather than the trader having to account for and reclaim VAT suffered on their expenses, they can keep a small proportion of the VAT they collect in from their customers. That proportion is determined by the nature of the trade. The FRS was introduced in 2002 and roughly 411,000 business currently use it.
What has changed?
The government wants to reduce the proportion of the VAT the business can keep where that business is a ‘limited-cost trader’. This term is defined in draft legislation and is – broadly – a trader whose annual VAT inclusive spend on goods is less than the higher of £1,000 per annum (ie £250 per VAT quarter) and 2% of the trader’s turnover.
For this purpose, ‘goods’ does not include:
- capital items (eg a laptop);
- vehicle-related expenses (fuel for business travel);
- food or beverages for consumption by employees; and
- expenses not 100% incurred for business purposes.
Also, note that only goods are to be taken into account – all amounts paid for services, such as rent, are ignored for this purpose.
Where the new rules apply, the business will pretty much lose all of the benefit they receive under the flat-rate scheme.
What do you need to do?
All businesses using the FRS must check if they are limited cost trader when completing their VAT return. As stated above, HMRC have provided an online tool to help taxpayers with this.
A business which is a limited cost trader will need to account for VAT at 16.5%. There is no change for a FRS business which is not a limited cost trader.
If you think that you will be a limited cost trader you have three options: (1) continue with the FRS, using the rate of 16.5%; (2) deregister (where possible) for VAT; and (3) come out of the flat-rate scheme and apply the normal VAT rules. The best option for you will depend on your particular circumstances and we will be working with our clients to determine the way forward for them.
If you would like some assistance or have any questions on the above or any other areas of accounting or tax, please contact us at firstname.lastname@example.org
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