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Changes to VAT Flat Rate Scheme

Why?

HMRC introduced The Flat Rate Scheme a few years ago to simplify VAT for small traders. Users of the scheme issue VAT invoices as normal, but only have to account for VAT at a flat rate based on turnover. This rate is dependent upon the sector the business falls into.

Under the Flat Rate Scheme, there is no relief for VAT on costs, other than some capital expenditure, although the reduced rate payable is designed to account for this. As a result, those businesses with little or no costs may be at a significant advantage under the Flat Rate Scheme.

What are the changes?

From 1 April 2017 ‘limited cost traders’ will be required to use a new 16.5% VAT flat rate. A limited cost trader is defined as one whose VAT inclusive expenditure on goods is either:

  • Less than 2% of their VAT inclusive turnover in a prescribed accounting period

  • Greater than 2% of their VAT inclusive turnover, but less than £1,000 per annum (or proportion of £1,000 if accounting period is not one year)

Goods, for this purpose, must be used wholly and exclusively for the purpose of the business, and therefore in one of HMRC’s examples, printer ink and stationery that is used in the office and at home would be excluded. Other expenditure that would be excluded from the calculation includes the following:

  • Goods acquired with the intention of giving them away or donating them to a third party
  • Food and drink for consumption by the business or its employees
  • Vehicles, vehicle parts and fuel (except where the business is a transport service, e.g. taxi business)
  • Capital expenditure, which includes anything which is bought to be used in the business over a period of time, for example computers, mobile phones, printers or furniture, even if they are not treated as capital assets for accounting purposes.

Anti-forestalling provisions have been put in place to avoid paying or invoicing in advance in order to avoid any increase in tax. Any invoices or payments spanning 1 April 2017 must be apportioned.

The Figures

The table below shows the impact of the flat rate scheme changes, on the assumption that you are caught by the new rules and that your VAT inclusive expenditure on goods is at the maximum 2% limit.

Net income 20% VAT Gross income Expenditure up to 2% limit VAT on expenditure Net VAT payable outside VAT flat rate scheme 16.5% VAT payable within VAT flat rate scheme* Better / (worse) in flat scheme rate
40,000 8,000 48,000 960 160 7,840 7,920 -80
70,000 14,000 84,000 1,680 280 13,720 13,860 -140
100,000 20,000 120,000 2,400 400 19,600 19,800 -200

* Payable on your gross sales (i.e. the figure inclusive of the normal 20% VAT).* Payable on your gross sales (i.e. the figure inclusive of the normal 20% VAT).

Note that the above table does not consider any VAT incurred on services which would also be repayable outside of the Flat Rate Scheme.

If you do not incur any input VAT (that is the VAT incurred on your expenditure) at all, then you will still be slightly better off remaining in the Flat Rate Scheme. The general rule is that if your total input VAT on both goods and services is more than 0.2% of your net sales, you will be better off outside of the Flat Rate Scheme.

Can I voluntarily leave the Flat Rate Scheme?

Yes, you can leave the scheme at any point by writing to HMRC. They would normally expect you to do this at the end of an accounting period,but it can be done at any time.

What else?

If you are caught under the new rules you must change to the new regime from 1 April 2017, which may mean, dependent upon your circumstances, there is now no benefit to remaining in the scheme, or the benefit you receive from being in the scheme is less than it was previously. It may also be worth considering de-registration from VAT in some instances, provided you are eligible to do so.

The new 16.5% rate for limited cost traders will be subject to the same rules that apply to the other 55 Flat Rate Scheme categories. This includes the 1% discount that applies in the first year of VAT registration. If the business joins the Flat Rate Scheme part way through its first year of registration, it only gets the 1% discount for the remaining period of the 12-month window.

All of the details contained on this factsheet are simplified and should not be relied upon for your specific situation. If you believe you may be affected by the change of rules please let us know and we can guide you through the options available to you.