The Chancellor’s first Autumn Statement has not been a particularly good one for contractors, unfortunately. The main change that will impact your company and finances is that to the VAT Flat Rate Scheme. Make sure you understand fully how the new legislation will affect you. We are here to help answer your questions.
Flat Rate VAT Scheme
The VAT Flat Rate Scheme (FRS) was implemented to reduce administrative burden for small businesses with a turnover of less than £150,000 a year, excluding VAT. Businesses would determine which flat rate percentage to use by reference to their trade sector. With no claim for input VAT recovery allowed, the record keeping under the scheme was greatly simplified.
The Autumn Statement has introduced some far-reaching changes, which the Government see as ‘tackling aggressive abuse of the VAT Flat Rate Scheme’.
Changes from 1st April 2017
Businesses using the scheme will have to determine whether they meet the definition of a limited cost trader (LCT). The point of this change is that if affected, these businesses will need to apply a new, higher flat rate percentage.
This could potentially make the FRS much more expensive, and may even mean that the business is better de-registering for VAT, or use the standard VAT accounting method.
What is a “limited cost trader”?
The exact definition will be included in new legislation, but broadly speaking, a limited cost trader is deemed as one that spends less than 2% of it’s VAT-inclusive turnover 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).
A firm will also be a limited cost trader if it spends less than £1,000 a year, even if this is more than 2% of the firm’s turnover, on goods. If the accounting period is not one year, the figure is the relevant proportion of £1,000.
What is the new flat rate scheme percentage for a limited cost trader?
An LCT contractor can still use the Flat Rate Scheme, but their percentage will be 16.5%. So if they’re invoice is for £1,200, including £200 of VAT, the Flat Rate amount is £198 (£1,200 x 16.5%). This gives a Flat Rate benefit of only £2!
Who will this affect?
The 16.5% rate may be quite a rise on the existing one used by many businesses. An obvious example is the accountant in practice who may traditionally spend very little on ‘goods’ and currently uses a 14.5% rate.
Labour intensive businesses, that are currently using HMRC lower rates, may include categories such as:
- IT contractors
Speaking to a professional accountant is essential to ensure that you are informed.