The New Flat Rate VAT Scheme 2017: Will the new 16.5% rate affect you?
Significant changes for businesses that use the VAT Flat Rate Scheme will take effect from 1st April 2017. This is intended to remove the opportunity for contractors in particular to make healthy surpluses from the scheme.
There is a new 16.5% VAT flat rate for businesses with limited costs. This will take effect from 1 April 2017. This 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. Increasing the rate is intended to stop what Chancellor Philip Hammond has described as the 'aggressive abuse' of the current system.
if you’re caught by the new rules you’ll end up paying more VAT (so an IT consultant currently paying a flat rate of 14.5% would pay an extra 2.5% of VAT).
Background Of the Flat Rate Vat Scheme
The VAT Flat Rate Scheme (FRS) is a simplified accounting scheme for small businesses. Currently businesses determine which flat rate percentage to use by reference to their trade sector. From 1 April 2017, FRS businesses must also determine whether they meet the definition of a limited cost trader, which will be included in new legislation.
Businesses using the scheme, or thinking of joining the scheme, will need to decide whether they are a limited cost trader. For some businesses - for example, those who purchase no goods, or who make significant purchases of goods - this will be obvious. Other businesses will need to complete a simple test, using information they already hold, to work out whether they should use the new 16.5% rate.
Businesses using the FRS will be expected to ensure that, for each accounting period, they use the appropriate flat rate percentage.
What is a limited cost trader?
A limited cost trader will be defined as one whose VAT inclusive expenditure on goods (not services like rent or accounting fees) 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 £1000 per annum if the prescribed accounting period is one year (if it is not one year, the figure is the relevant proportion of £1000)
Excluded Costs
Goods, for the purposes of this measure, must be used exclusively for the purpose of the business but exclude the following items:
capital expenditure
food or drink for consumption by the flat rate business or its employees
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)
These exclusions are part of the test to prevent traders buying either low value everyday items or one off purchases in order to inflate their costs beyond 2%.
Goods must be used exclusively for the purpose of the business - this means that you must not include the cost of any goods that are used in full or in part for your own private use. For example, printer ink and stationery that are used for both your office and your home would not be included. It would also exclude goods acquired with the intention of giving them away or donating them to a third party.
Capital expenditure - is the cost of any goods which are bought to be used in the business over a period of time (for example, longer than a year). Examples include equipment such as a computer, mobile phone, office furniture, a tablet or a printer, even if they are not necessarily treated as capital assets for accounting purposes.
Example
Bob is an IT contractor using the Flat Rate Scheme. His current FRS % is 14.5%. His net sales are £70,000 per year, and he estimates each year he pays £2,000 on services, £1,500 on capital expenditure and £1,250 on other goods such as stationery and IT consumables which would be classed as allowable goods.
How will the new rules affect him? And should he stop using the Flat Rate Scheme altogether?
Firstly, calculate if Bob is a Limited Cost trader
| £ | |
| Net Sales | 70,000 |
| VAT | 14,000 |
| Gross Sales | 84,000 |
| 2% of VAT inclusive turnover limit | 1,680 |
| Allowable goods purchased | 1,250 |
| As £1,250 is less than the £1,680 2% limit, Bob is classed as a Limited Cost Trader | |
| He must use the new 16.5% rate. |
How much extra VAT would be due if Bob continues on the Flat Rate Scheme?
Bob would pay an extra £1,680 in VAT as a Limited Cost Trader.
| Current | New | |
| FRS - 14.5% | FRS - 16.5% | |
| Net Sales | 70,000 | 70,000 |
| VAT | 14,000 | 14,000 |
| Gross Sales | 84,000 | 84,000 |
| Flat Rate VAT percentage | 14.50% | 16.50% |
| VAT Due | 12,180 | 13,860 |
| Increase | 1,680 |
Would Bob be better off stopping using the Flat Rate Scheme?
| 1. Flat Rate Scheme | ||
| Net Sales | 70,000 | |
| VAT | 14,000 | |
| Gross Sales | 84,000 | |
| Flat Rate VAT percentage | 16.50% | |
| VAT Due | 13,860 | |
| 2. Standard VAT Scheme | VAT | |
| Net Sales | 70,000 | |
| VAT | 14,000 | 14,000 |
| Gross Sales | 84,000 | |
| VATable Purchases | ||
| Services | 2,000 | 400 |
| Capital Expenditure | 1,500 | 300 |
| Other goods | 1,250 | 250 |
| Total VAT Inputs | 4,750 | 950 |
| VAT Outputs | 14,000 | |
| VAT Inputs | - 950 | |
| VAT Due | 13,050 | |
| VAT due under Flat Rate Scheme | 13,860 | |
| Saving by transferring to the standard scheme | 810 | |
As Bob would save £810 per year, he should stop using the Flat Rate Scheme from 1st April 2017.
What should I do next?
You should compare your trading activity and VAT inputs using the example above to see if you fall into the category of a Low Cost Trader. If you do, then you should calculate if it will be beneficial to switch to the standard VAT scheme. We will contact clients individually with our advice on what is best for them.
For more information about VAT Schemes and what it might suit you best, visit our VAT section on our website. If you have any more questions fill in our contact form to arrange a free VAT consultation and we will be happy to help.
You should also consider what proof do you really need when you reclaim VAT?