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VAT: Limited cost trader category for FRS users

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20th Dec 2016
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Neil Warren considers some specific issues and planning tips concerning the new rules for VAT flat rate scheme users from April 2017

Deep concerns

The proposed changes to the flat rate scheme from next April have rightly caused a lot of interest and concern with AccountingWEB members. I predicted this was the end of an era for the FRS, but there are things you can do to help your clients.

Bad news

When advisers give the bad news to clients that the new limited cost trader category will dramatically increase their VAT bills from April 2017, the client’s reaction is likely to be: “That’s a lot of extra tax – is there any way I can avoid it?”  The word ‘avoid’ is not popular in the world of HMRC, but I have some ideas about the new rate.

Business on 12%

I have a client in my private practice who uses the 12% rate for ‘business services that are not listed elsewhere’, and as his gross sales are £200,000. His annual VAT bill will increase by £9,000 with the limited cost trader rate of 16.5%. That’s a lot of money.

If this client introduces a secondary activity to his business of buying and selling goods, where the cost of the goods including VAT is more than £4,000 a year (or 2% of his quarterly gross sales to be precise), then he can maintain his 12% rate. This is a bizarre outcome: even if he makes a loss on selling the goods, he is still quids in by protecting his FRS category of 12%. He avoids the annual £9,000 increase in his VAT bill.

Many FRS users are voluntarily registered for VAT, so their annual sales are a lot less than those of my client earning £200,000 a year. If such a FRS user has quarterly sales of £15,000 including VAT, he only has to buy goods costing £300 a quarter to avoid being a limited cost trader. Is there perhaps an opportunity to do a bit of wheeling and dealing on eBay?

Stocking stationery

AccountingWEB members have rightly identified that the biggest spending of service businesses on ‘relevant goods’ (the phrase quoted in the draft Statutory Instrument) will be on stationery items. This is partly because road fuel, motor parts, food, drink and capital items are excluded from the definition of ‘relevant goods’.

So another possibility is to spend 2% of gross sales each quarter on buying stationery. One wise sage noted that print cartridges are the best bet because they cost more and take up less space than envelopes and paper! The cost of the stationery stock is a business expense, so is within the definition of ‘relevant goods’.

Also, many service-related businesses (including my own) buy a lot of expensive technical books. Is there an argument that those businesses should always buy hard copy books (goods) in future, rather than subscribe online for the publications (services)?

Revised buying strategy

In my previous article, I gave the example of an accountant earning £10,000 each quarter (including VAT) who spends £240 including VAT on relevant goods. He will be classed as a limited cost trader with the new rules because £240 is less than the quarterly de minimis threshold of £250.  

However, the accountant likes to plan ahead, so he buys all of his goods over three VAT quarters instead of four, ie: £320 x 3 = £960 compared to £240 x 4 = £960. This way his business will only be a limited cost trader in one quarter, as his expenditure of £320 exceeds both £250 and 2% of £10,000. He will adopt the 14.5% accountancy rate for three quarters, and the 16.5% rate as a limited cost trader for the period in which he does not buy goods.

Other tips

Here are some answers to specific points raised by AccountingWEB subscribers:

Software

This is classed as ‘goods’ if you buy a package off the shelf at PC World, but is a service if it is downloaded from the internet.

Annual accounting scheme

FRS users who only complete one VAT return each year will apply the 2% and £1,000 check on an annual basis. This is the key to the new rules: the limited cost trader category is considered each time a VAT return is completed.

Road fuel and motor parts

To include road fuel and motor parts in the calculation for ‘relevant goods’ a business must be using the FRS category for ‘transport or storage, including couriers, freight, removals and taxis’ and also either own or lease a vehicle in its business. For all other scheme users, these costs are excluded.

Deregistration

If a business expects its taxable sales in the next 12 months to be less than £81,000 (the deregistration threshold) then it can deregister. This will avoid having to worry about limited cost trader calculations and might save some VAT for customers unable to reclaim input tax. Many businesses will decide to deregister if they are limited cost traders every quarter because of the minimal input tax credit effectively given by the 16.5% rate.

Leave the FRS?

A business with all standard rated sales only needs to have input tax of more than £10 per £1,000 of output tax to be better off with normal VAT accounting ie output tax less input tax. This decision should take into account the time saving benefits of the FRS – is it worth paying more tax to retain these benefits? A business must notify HMRC of its decision to leave the scheme (Notice 733, para 12.1). Once a business leaves, it cannot re-join for 12 months.

Replies (30)

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Replying to fawltybasil2575:
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By raybackler
21st Dec 2016 12:06

Good response Basil. I contributed to a posting about the death of the accountant yesterday and it is in considering this sort of situation where the accountant will always be needed. Your response accords with the general advice I have give my clients and it is good to have someone of your stature enlarging on my understanding.

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Replying to fawltybasil2575:
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By importanttobenice
22nd Dec 2016 18:23

Any idea where we can get more info on what counts as goods? At first I thought it had to be stuff that counts as cost of sales, so likely to be nil for a non-manufacturing business. But now it seems that stationery would count. My specific question is about property rental businesses. Would things like repairs and agents fees count as goods? They don't seem to be excluded, so maybe OK?

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By RobertD
20th Dec 2016 15:51

Will Iris be able to provide me with a disc annually please?

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Replying to RobertD:
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By stevie_hig
21st Dec 2016 16:58

The flat rate for accountants is already so high I'm OK to leave the scheme. On turnover of £50K you "make" £1,300 from the FRS. I reckon I could easily claim back £1,300 of VAT in a year using the standard scheme.

How much VAT does Iris charge you? That in itself would take a decent bite out of £1,300...

The people who are going to suffer are contractors with travel etc as their main expense.

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Replying to stevie_hig:
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By mikewhit
20th Mar 2017 11:43

However they also incur accommodation which contains VAT - say £250 per week gross ...

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By RobertD
20th Dec 2016 15:55

This new legislation will make it worthwhile for "abusers" of the scheme to find a way round it by buying and/or buying/selling goods. The marginal users, for whom the scheme was designed with only save marginally by using the work around and will not want stationery pilling up.
The marginal users will lose out and will be faced with increased admin.
Well done HMRC! Take a bow!

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By RobertD
20th Dec 2016 16:02

Why not just address the scheme percentages or was that too simple?

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Replying to RobertD:
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By importanttobenice
22nd Dec 2016 15:10

Any idea where we can get more info on what counts as goods? At first I thought it had to be stuff that counts as cost of sales, so likely to be nil for a non-manufacturing business. But now it seems that stationery would count. My specific question is about property rental businesses. Would things like repairs and agents fees count as goods? They don't seem to be excluded, so maybe OK?

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Chris M
By mr. mischief
20th Dec 2016 17:57

Many thanks for this helpful article. As I stated in an earlier post, the Numpty Department of HMRC came up with these stupid changes to FRS when easier options were available which would BOTH reduce the UK tax code AND increase tax take by more than the Numpty Department changes will.

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By Ruddles
20th Dec 2016 22:05

As I understand it, the changes are being brought about because of perceived abuse by a handful of 'rogue' traders, and who HMRC already know about - namely certain recruitment agencies and the like. Rather than introducing a sweeping change which will, as is usually the case, adversely affect the innocent (why are bona fide services not included as well as goods?) why did HMRC not simply use the powers already available to them - Reg 55P?

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Chris M
By mr. mischief
21st Dec 2016 08:56

It's an error in my view to approach these issues with the mindset of an efficient commercial business person who can find ways of solving problems which involve simplifying and streamlining processes.

The mindset you need is one of an incredibly bureaucratic and jobsworthy pedant. With this mindset you will soon realise that the solution to any problem is always going to be more complexity, more rules, less streamlining.

Once you have this mindset, the solution to the problem of the FRS is obvious. It is too simple a VAT system. What it needs is a lot more rules, a lot more complexity.

Another glorious victory for the Numpty Department of HMRC, trebles all round at the bar please!

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Replying to mr. mischief:
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By raybackler
21st Dec 2016 12:11

mr.mischief,

You are so right. How can people write about the death of the accountant, when we always know that the Numpty Department (lovely name) will continue to add complexity. Daft changes to the legal system, instead of starting with a blank sheet of paper, will always mean that the added complexity scares off clients from even attempting this work themselves.

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7om
By Tom 7000
21st Dec 2016 09:20

2 thoughts

1. What if I buy a £300 ski jacket, get the company logo embroidered on it and give it to one of the clients each quarter as a gift. Is that a good? Or 10 x £30 sweatshirts., IS THAT A GOOD ?

Because a 3% gain on £200k is £6k

If I buy calculators from china and sell them on ebay, I will have 2 categories and I know under frs you have to go with the % on the biggest category. But will the goods on one category be offsetable against the % on the main category, because my thjought is HMRC will say Non! and that goes to the core of this article.

Anyone agree/disagree with my thoughts?

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blue sheep
By NH
21st Dec 2016 11:15

and as almost all software is now cloud based?

can xero/freeagent/sage etc even send you a disk these days?

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By cfield
21st Dec 2016 11:36

As always, HMRC have taken a sledgehammer to crack a nut, but even that will fail to stop the "abuse" they've suddenly (after 14 years) got themselves so worked up about.

I've a feeling that further rules will be introduced by April to disallow the stockpiling or casual sale of goods the trader does not immediately use or need.

If not, I wonder if it would be OK if traders form a sort of unofficial "club" and simply pass the same goods to each other round and round in circles. Surely they won't let us get away with that one.

Advertising in hard copy media presumably qualifies given that you can physically touch the ad.

Also, I wonder if buying a laptop once a year would work if you dispose of it within 12 months. Terrible waste of money of course, but I suppose it might stimulate the economy.

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Replying to cfield:
Stepurhan
By stepurhan
21st Dec 2016 15:13

cfield wrote:

As always, HMRC have taken a sledgehammer to crack a nut, but even that will fail to stop the "abuse" they've suddenly (after 14 years) got themselves so worked up about.

I've a feeling that further rules will be introduced by April to disallow the stockpiling or casual sale of goods the trader does not immediately use or need.

If not, I wonder if it would be OK if traders form a sort of unofficial "club" and simply pass the same goods to each other round and round in circles. Surely they won't let us get away with that one.

Advertising in hard copy media presumably qualifies given that you can physically touch the ad.

Also, I wonder if buying a laptop once a year would work if you dispose of it within 12 months. Terrible waste of money of course, but I suppose it might stimulate the economy.

This post sums up for me how stupid this measure is.

There are so many different ways to get around this, if you are willing to take on the hassle of implementing them. Workable rules to block them are next to impossible to draft. How much stationery constitutes "stock-piling"? What would qualify sale of goods as casual? We already resell software licences, why not stationery.

Won't hold my breath for an attack of sense on this one though.

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By brumsub
21st Dec 2016 12:04

I’m sorry but this article just shows what is wrong with our system today. All HMRC has to do is to change the %s and do away with the added complexity they wish to introduce. Yes, there will be winners and losers (the losers can opt out of the scheme) but the whole idea behind the flat rate scheme was to make it simpler for the smaller business to operate VAT. The stupidity of it all!

I wouldn’t advise my client in detail right now as we don’t know what further measures will be announced.

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By carnmores
21st Dec 2016 14:28

If we shut up about this then they won't change the rules about it till next year.

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Chris M
By mr. mischief
21st Dec 2016 17:44

Currently I am advising ALL my 12% VAT clients that it is very likely they will be able to carry on in 12% VAT, albeit with some system changes needed and a little bit less profit to make from the scheme.

Personally I would much sooner HMRC just took the Numpty Department off the case and redefined the sectors properly.

FFS "Enginner 14.5%" How hard can it effing be???

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7om
By Tom 7000
21st Dec 2016 18:02

Mr Mischief.....

Currently I am advising ALL my 12% VAT clients that it is very likely they will be able to carry on in 12% VAT, albeit with some system changes needed and a little bit less profit to make from the scheme.

are you sure.?..how...are they all buying lots of goods?
share..... dont just put a comment on like that :)

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Chris M
By mr. mischief
21st Dec 2016 19:55

Well there are all sorts of options set out in this article, Tom. Currently my clients on FRS make a profit of between £3k and £10k per year. They all already spend a bit on "goods" for example. So spend £1k to preserve a £10k profit, no-brainer.

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By SarahVAT
22nd Dec 2016 12:24

Where they exclude food and drink from the 2%, presumably this is just eg, food and drink for consumption by employees. If you run a B&B, surely money spent on tea, coffee, biscuits, breakfast items can count towards the 2%?

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Andy Cliff
By AndySCL
30th Dec 2016 16:32

In our business, we use the FRS scheme and I have worked out that we spend around £7K/annum on VAT-able supplies which cover a myriad of things but are mainly services (eg accountant, IT support, phone and web related) and what puzzles me is that the gov.uk website says there will be an 8 week consultation period for businesses to provide feedback but there is no detail on process/contact info, which is odd. Can anyone also advise why only "goods" are allowed in the limited cost trader calculation and what is actually meant by "goods" within the new rules for FRS? I called VAT helpline today and put these questions to them, they knew nothing about FRS changes and said to send written (no phone number offered) feedback to:-
HM Revenue and Customs - National Registration Unit
Imperial House
77 Victoria Street
Grimsby
DN31 1DB
United Kingdom
I can understand why HMRC would want to exclude ultra-low cost businesses from the FRS however I don't understand why VAT-able services aren't seen as true costs to a business.

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By garethgreen
01st Jan 2017 17:51

"Can anyone also advise why only "goods" are allowed in the limited cost trader calculation?"
I imagine it is just that the companies that they consider to be abusing the FRS tend to be service providers, with very few purchases of goods, so they have designed a test to catch such companies, without any proper consideration of whether it will catch other businesses.

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Chris M
By mr. mischief
02nd Jan 2017 19:20

Gareth. No need to think out the reasoning too hard.

The Numpty Department is running the show. Once you accept the existence of a large Numpty Department at the heart of HMRC, lots of things which otherwise appear totally bonkers suddenly make total sense.

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By Sarah Cowle
25th Jan 2017 15:50

Does anyone think, given that the change was not consulted upon in advance, that there is a chance of modification in the last Spring Budget.
In the event that the changes are not modified, the decision to leave the FRS has to be communicated by snailmail to HMRC Grimsby. Does anyone know what the time window is for doing this - e.g. to leave VAT FRS w.e.f. 01.04.2017? Presumably it is the date that you write your letter and post it that counts, not when HMRC get around to opening their mail.

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Replying to Sarah Cowle:
By cfield
25th Jan 2017 16:18

You can exit the FRS any time you like. You don't need to wait for the end of the quarter. In fact, you can even back-date it so long as you haven't filed the VAT return yet, although best to notify them in advance.

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By Paul Hendley
30th Jan 2017 10:45

If we suspect that software in a manual guise would be considered 'goods' there's easy scope for the accountant to charge their client for a USB memory stick with an excel bookkeeping spreadsheet template.

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By KateR
15th Feb 2017 09:30

Only just got to looking at the detail of this, thanks to worse than usual tax return deadline madness. Businesses with low input on "goods" will have to use the 16.5% flat rate. I have many clients in the entertainment business who use agents to find work. These typically charge commission of 10-15% plus VAT. My clients are not 'limited cost' in the general sense but will be severely disadvantaged by this ruling, unless they withdraw from FRS.

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By katrinakilcoyne
22nd Mar 2017 15:27

Secondary Buying and Selling Trade won't work as the goods can't be counted as this is not the main trade. See HMRC's calculator which specifically excludes goods bought and sold which are not part of the main trade, shame though!
https://www.tax.service.gov.uk/check-your-vat-flat-rate/cost-of-goods

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