At the start of 21st century it dawned on the then generous Commissioners (HMRC) that VAT was a subject too complicated for small businesses (with turnover up to £150,000) to be spending their business time on. So, they inserted a new Part VIIA into the Value Added Tax Regulations1995 introducing what is now known as the ‘flat rate scheme’ (FRS). Simply put, normal VAT accounting would mean paying to HMRC the difference between the output tax collected on sales less input taxes paid on purchases made during a VAT period. But then simplicity has never had anything to do with VAT anyway. Accounting for VAT for each item of sales and purchases and other inputs, as a matter of fact, ate up considerable time each quarter. FRS, on the other hand, promising instant simplicity, would disregard input taxes altogether and, subject to some exceptions, the VAT due from a person operating it for any VAT period would be the appropriate percentage of his gross turnover (including VAT) for that period. The percentages varied from 4% to 14.50% depending on which sector the business operated in. So, if you were an accountant in practice, and for a VAT period if the turnover was £100,000 + 20% VAT, you would pay 14.5% of £120,000= £17,400 over to HMRC and keep the change of £2,600 (£20,000-£17,400). Simple? Not really.
Firstly, there was this constant tug of war between HMRC and the business as to what percentage should apply. HMRC would obviously look for a classification with a higher percentage rate and the business would argue otherwise. The Chilly Wizard Ice Cream Co Ltd successfully argued that its ice cream kiosk with two plastic chairs kept outside for customers to sit and relax was a business “retailing food, confectionery, tobacco, newspapers or children’s clothing” attracting 4% FRS VAT as opposed to “catering services including restaurants and takeaways” attracting 12% VAT as HMRC argued. Calibre Tas Ltd was into “business services that are not listed elsewhere” applying 12% instead of HMRC’s choice of “management consultancy” that attracted a 14% charge. Then there was this mechanical engineering business (Idess Ltd) successfully arguing that its was “any other activity not listed elsewhere” as opposed to HMRC classification of “architects, civil and structural engineers or surveyors” with 2.5% VAT advantage.
Then there were other complications; businesses seeking to apply FRS retrospectively, changing an appropriate percentage rate already chosen and applying a new percentage, and so on. However, HMRC appeared more concerned about businesses voluntarily registering (those below the registration threshold) for VAT with a view to pocketing the FRS bonus!
Enough: HMRC decided in the 2016 autumn statement that it wished no more to be generous with the small businesses as there has been an ‘aggressive abuse’ of the scheme. So, to be introduced in to the list of business sectors effective 01 April 2017 is a new category called ‘Limited Cost Trader’ effectively killing the scheme for most of the small businesses. A limited cost trader will be defined as one whose VAT inclusive expenditure on goods for a VAT accounting period is either less than 2% of their gross turnover; or more than 2% but less than £1,000 (or £250 for a quarterly return).Those hit by ‘limited cost trader’ definition will be responsible for using the new 16.5% rate or the trade-related rate as appropriate. A 16.5% on the gross turnover (including 20% VAT) will effectively mean paying 20% of the output tax collected, and thus writing the obituary of the scheme for many out there.
Now for those enterprising businessmen and women, goods, for this purpose excludes a) items of capital expenditure, b) food or drink for consumption by the business or its employees, and c) vehicles, vehicle parts and fuel (except where the business is one that carries out transport services – for example a taxi business – and uses its own or a leased vehicle to carry out those services). So, don’t just rush to buy a laptop every quarter thinking that would keep you out of being a limited cost trader! However, all is still not lost – you could still buy items of stationery, ink cartridges, software etc for example, and still stay out of this new category!
So back to the twentieth century for quite a few out there when it comes to preparing and filing their quarterly VAT returns!
Tax Partners
