HMRC are making a stand against limited cost businesses they see as unfairly benefitting from the flat rate scheme.
From 1 April 2017 flat rate scheme businesses must determine whether they meet the definition of a limited cost trader.
Limited cost traders are defined as those whose VAT inclusive expenditure on goods is either less than 2% of their VAT inclusive turnover in a prescribed accounting period or 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. Such traders will be required to apply a flat rate scheme percentage of 16.5%.
To make matters worse, excluded from the definition of goods are 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). 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%.
Paying or invoicing in advance to avoid an increase in tax is known as forestalling. Anti-forestalling legislation has also been published to prevent any business defined as a limited cost trader from continuing to use a lower flat rate beyond 1 April 2017.
Draft secondary legislation will be published on 5 December 2016 and businesses will have 8 weeks to comment.
This will affect most personal services companies, consultants, locum doctors and engineers using the flat rate scheme who will be forced to apply a higher flat rate scheme percentage or leave the scheme completely.
Any businesses that trade below the threshold but have registered for VAT voluntarily to use the flat rate scheme because they have minimal costs could also be affected.
Presumably businesses will need to apply the test on an annual basis by looking at their previous years purchases, although the HMRC press release does not make that clear. This may mean that small businesses on the scheme will need to keep something close to full VAT records which is precisely what the scheme is intended to avoid!
This is another thinly veiled attack by HMRC on Contract workers. We have assessed our clients caught under this and believe it will only be a small percentage who will have to move onto the 16.5% rate. This is one of the rare occasions when a higher accountants fee is appreciated!
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