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VAT Flat Rate Scheme and limited cost traders – what’s new

Posted by: Intouch | 06.12.16

Intouch Accounting

New draft legislation for FRS: Limited cost traders

Yesterday HMRC released their draft legislation on the proposed changes to the VAT Flat Rate Scheme (FRS), including the addition of a new ‘limited cost trader’ category. These changes are designed to stop abusive use of the scheme and appear very successful in doing so. The draft legislation is now subject to an eight week consultation period and provides us all with a very short window to be heard before the draft becomes final.


In this blog we cover what was included in the draft legislation, how it affects Limited Company contractors, and what’s yet to come.


How things are changing

From 1 April 2017, a new flat rate category will be established, called “limited cost business”.


All businesses registered under FRS must consider whether they fall within the definition of this category and, if so, the percentage to be applied is 16.5%. The test must be repeated for every accounting period and the new category applied where appropriate.


This new rate will remove largely all of the perceived cash advantage arising from the FRS for businesses, with limited costs with the 16.5% producing a benefit likely to be less than claiming the actual VAT input tax on purchases.


What is a ‘limited cost trader’?

One whose VAT inclusive expenditure on goods is either:


  • Less than 2% of their VAT inclusive turnover during the accounting period, or
  • Greater than 2% of their VAT inclusive turnover, but less than £1,000 per annum if the prescribed accounting period is one year, or time apportioned if not.


Claimable goods

The key element to this test is what ‘goods’ means. In VAT terms, purchases are either goods or services. Goods is generally understood to mean tangible items where legal title passes on acquisition. Services are everything else.


The draft legislation refers to relevant goods which are any goods purchased wholly and exclusively for use by the business. This automatically excludes any purchases for goods that have a mixed personal element. In addition, however, the following items are excluded:


  • Capital expenditure (goods such as equipment, computers, mobile phones, office furniture, a tablet or printer). It does not matter if the purchase is not capitalised in your accounts, the question is one of duration of its use.
  • Food or drink purchased for the consumption by the business, or its employees. This would include subsistence whilst travelling.
  • If the business owns a vehicle, all costs relating to that vehicle including parts and fuel.


What about expenditure on services?

Well, these appear to be entirely excluded, therefore you will not be able to include travel costs such as train fares and flights, mileage claims, parking, software, subscriptions, accountancy fees, legal services etc.


Taking the test and the online tool

Registered businesses will need to conduct a test every accounting period. The legislation does not say whether they mean the VAT Return accounting period or the business accounting period. The £1,000 however, is an annual limit and so would need to be apportioned to reflect the period considered. Clarity will come forth in the guidance in due course.


HMRC recognise that it may not be clear to many whether they fall within the new category and intend to release an online tool to help make the right choice. The tool is not yet available so we can’t assess how useful it will be.


For many Limited Company contractors, it will be clear whether the value of their goods is above the threshold. However, some may be close to the threshold and therefore will need to rely on the online test to determine whether they’re above or below.


What’s next?

HMRC have allowed eight weeks for comments on the consultation document. During this time, they claim they will engage with representative bodies, to explore the practical implementation of the test and the online calculator.


Until HMRC’s calculator has been created, we are encouraging Intouch clients to use our Flat Rate Scheme calculator to understand how they could be affected.


What Intouch would like to see

HMRC’s current definition of “goods” is far too ambiguous for Limited Company contractors to understand fully how they are affected. Many service businesses, including contractors using Limited Companies, incur substantial business costs that appear to fall outside the scope of relevant goods. This leads to the unintended consequence whereby legitimate users of FRS will be disadvantaged.


This is wrong and Intouch will be participating in the consultation to draw HMRC’s attention to this outcome whereby legitimate contractors are forced into an inappropriate category that does not adequately reflect their cost structure.


At Intouch we want them to look again at how they define relevant goods and amend the legislation to include services used solely by the business.


This blog has been prepared by Intouch Accounting. While we have made every attempt to ensure that the information contained in this blog has been obtained from reliable sources, Intouch is not responsible for any errors or omissions, or for the results obtained from the use of this information. This blog should not be used as a substitute for consultation with professional accounting advisers. If you have any specific queries, please contact Intouch Accounting.