Effective from 1st April 2017, the government has announced new changes to the Flat Rate VAT scheme. The VAT flat rate scheme used to be perceived as the easiest VAT scheme. Many small businesses rely on this scheme for record keeping since it takes a simple calculation to work out the quarterly VAT repayment.
However, the use of the VAT flat rate scheme has changed. A mandatory rate of 16.5% VAT for businesses under the category of ‘limited cost traders’ is effective from 1st April 2017. The term ‘limited cost trader’ is defined as one that spends less than 2% of sales on goods (not services) in an accounting period.
There are also limitations to the goods expensed under this category – they must not include the purchases of the following:
- Capital goods such as new equipment
- Food and drinks
- Vehicles or parts of vehicles (in the exception of vehicle hiring businesses)
‘Limited cost trader’ can also be defined as a business that spends less than £1,000 in an accounting period, even if this is more than 2% of its sales on goods.
Who will be affected by the Flat Rate VAT scheme rulings change?
If your business is currently on a flat rate VAT scheme and meets the definition of a limited cost trader, then this new legislation will affect you. You may fall into the category of a low cost trader particularly if your business is in a more labour-intensive industry where very little is spent on goods.
What options do you have if you are affected by this scheme?
If you circumstances fall under the low cost trader definition and you wish to remain in the FRS scheme, your VAT liability will be calculated based on the new rate of 16.5% from 1st April 2017. The net effect is that your income is likely to decrease.
Here is an example, a business has a net sale of £10,000 plus 20% VAT of £2000, giving a gross sale of £12,000.
|VAT percentage||VAT liability to HMRC||Tax savings|
|Former: 14%||14% x £12,000 = £1,680||£2,000 – £1,680 = £320|
|New: 16.5%||16.5% x £12,000 = £1,980||£2,000 – £1,980 = £20|
Remaining as a VAT registered business is beneficial if you are spending a significant amount on goods and services for business purposes. You can leave the FRS and opt for the standard VAT where the VAT liability is to be calculated as output VAT (from sales) less input VAT (from expenses).
Deregistration can be beneficial if you are dealing with customers who are not VAT registered, placing you in a more competitive position with no VAT being charged and savings on administrative costs (e.g. cost incurred as a result of bookkeeping and filing VAT returns). Note that deregistration is only possible if less than £83,000 taxable turnover is expected in the next 12 months.
Ideally, the decision that you are make will depend on factors such as your current accounting system,
If you are uncertain how this change will affect your business, contact our VAT expert – Deepti Agarwal.
Watermill Accounting Limited,
Future Business Centre, Kings Hedges Road,
Cambridge, CB4 2HY