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10th March 2017

SIGNIFICANT CHANGES TO THE VAT FLAT RATE SCHEME

Filed Under: Business News, VAT


You may be aware that HMRC are amending the way the VAT flat scheme works.  The changes will affect businesses that use the VAT Flat Rate Scheme but which spend very little on goods, including raw materials – such as firms providing services.

The VAT Flat Rate Scheme simplifies the record keeping and makes it easy to work out the VAT to pay or reclaim  The flat rate scheme was designed to give the government roughly the same amount of VAT, but for smaller businesses it should be much easier to work out.  However, the government is concerned that some businesses are using the Flat Rate Scheme to pay less VAT than is appropriate.

What is changing?

The changes which affect businesses which have a very low cost base. These businesses are now called “limited cost traders”.

Limited cost traders can still use the Flat Rate Scheme, but their percentage will be 16.5%. So if they sell £120 of work, including £20 of VAT, the flat rate amount is £19.80 (£120 x 16.5%).

A limited cost trader is defined as one that spends less than 2% of its sales on goods (not services) in an accounting period.

When working out the amount spent on goods, it cannot include purchases of:

  • capital goods (such as new equipment used in a business)
  • food and drink (such as lunches for staff)
  • vehicles or parts for vehicles (unless running a vehicle hiring business)

Who will this affect?

You’re a limited cost business if the amount you spend on relevant goods including VAT is either:

  • less than 2% of your VAT flat rate turnover
  • greater than 2% of your VAT flat rate turnover but less than £1000 per year

If your return is less than one year the figure is the relevant proportion of £1000. For a quarterly return this is £250.

For some businesses this will be clear, other businesses – particularly those whose goods are close to 2% – may need to complete this test each time they complete their VAT return. This is because you can move from a limited cost rate of 16.5% in one period to your relevant sector rate in another. This would happen if your costs fluctuate above and below 2%.

What to do next?

Firstly you’ll need to check to see if you are a limited cost business.  The easiest way to do this is to use HMRC’s calculator.  This can be found using the following link:

https://www.tax.service.gov.uk/check-your-vat-flat-rate/vat-return-period

If you’re a limited cost trader this means that you may pay more VAT than you do on standard accounting – you may want to check to make sure the Flat Rate Scheme or, if your voluntary registered, whether being VAT registered is still right for you.

Example 1

A business has a flat rate turnover of £10,000 a quarter. It spends £260 on relevant goods.

This is more than 2% of the flat rate turnover and more than £250 so the rate they need to use is the sector rate for their business.

Example 2

A business has a flat rate turnover of £20,000 a quarter. It spends £325 on relevant goods.

This is more than £250 but less than 2% of the flat rate turnover so the rate they need to use is 16.5%.

Example 3

A business has a flat rate turnover of £10,000 a quarter. It spends £225 on relevant goods.

This is more than 2% of the flat rate turnover but less than £250 so the rate they need to use is 16.5%.

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