Hidden problems in frozen VAT registration

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Neil Warren believes that tax advisers should not underestimate the Chancellor’s decision to freeze the VAT registration threshold until at least April 2020.

Budget rumours

There were strong rumours before the Budget that the VAT registration threshold would be reduced to £26,000 from the current level of £85,000, but those rumours turned out to be false flags. The threshold will be frozen at £85,000 until at least 2020. You may think that this wasn’t a very significant announcement, but I believe it has wider ramifications.

Case study

John is a sole trader who sells hot food as a mobile caterer, with sales of £83,000 a year. He is not VAT registered and doesn’t want to be registered because most of his costs and overheads do not attract VAT (eg zero-rated food purchases and exempt rent for his pitch).

His customers are the general public, who can’t reclaim VAT on what they buy from him. As most of John’s sales are hot food, the majority of his sales would carry standard rate VAT, and very little would be zero-rated as cold takeaway food.

I hope we agree that it is not in John’s best interests to register for VAT and lose one-sixth of his sales as output tax with very little input tax to claim.

Annual increase?

John normally increases his prices on 1 April, which is the date when the VAT registration threshold has traditionally been increased in line with inflation. We now know that this VAT increase won’t happen in 2018, nor in 2019. My guess is that the threshold won’t be increased in 2020 or 2021 either. In fact, I suspect the threshold could be frozen at £85,000 for many years to come.

Think about the VAT flat rate scheme, where the maximum joining threshold has remained at £150,000 since April 2003! As the cynics would say, it is a ‘stealth tax’ to not increase thresholds. So what are John’s options?

The figures

If inflation is still 3% next April, John is likely to increase his prices by this percentage. This would mean his total income would be £85,490 in the next 12 months, all other things being equal. Based on this turnover he would need to register for VAT at some time in early 2019.

He could increase his prices by just 2% - that would give a projected sales figure of £84,660 and stay out of the VAT net a bit longer. But what will he do in April 2019? He would have to freeze his prices for the next 12 months to avoid exceeding the £85,000 threshold.  Is there another solution?

Review trading structures

The challenge is to work closely with each client that trades near to the VAT registration threshold and consider possible solutions. Here is one possible strategy for John to consider:

Subcontract

John provides a catering service at three shows or festivals each year. He usually achieves total sales of £4,500, a gross profit of 66% and a net profit of £1,500 when costs of labour, pitch fees and other costs are paid.

John could consider hiring out his catering unit to another caterer for a fee of, say £250 per event, ie sharing the profit with another business owner. The second caterer will be responsible for: buying his own stock, paying the pitch fees, finding staff and collecting the takings for the events, therefore John is no longer trading as the principal.

John’s annual taxable income for VAT purposes for those three events has fallen from £4,500 to £750. This gives him scope to increase his prices by the rate of inflation on 1 April 2018, 2019 and possibly 2020 without breaching the £85,000 threshold.

Also, his net profit is still £750 from the three shows and he doesn’t have the stress of buying and selling hundreds of hot dogs and keeping his fingers crossed that it is not raining at the events, which could deter potential punters from attending. As the old saying goes; “sales are vanity, profit is sanity.”

Conclusion

Don’t underestimate the freezing of the VAT registration threshold. It would be sensible to talk to clients trading near the threshold as soon as possible. There could be easy solutions to the problem if things are thought through well in advance, as my case study has illustrated. 

About Neil Warren

Neil Warren

Neil Warren is an independent VAT consultant and author who worked for Customs and Excise for 14 years until 1997.

Replies

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06th Dec 2017 10:08

In view of the MTD project, there must be a possibility that the VAT threshold will be reduced eventually to bring most businesses into the VAT net.

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to CJMaslen
06th Dec 2017 15:29

CJMaslen wrote:

In view of the MTD project, there must be a possibility that the VAT threshold will be reduced eventually to bring most businesses into the VAT net.


Agreed and maybe freezing the threshold is the first step to a later reduction...or am I just an old cynic?
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06th Dec 2017 15:52

Neil, Excellent article and a very interesting slant on the effects of freezing of the HMRC VAT registration threshold.

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07th Dec 2017 11:52

If his turnover is standing still then he has other troubles than just worrying about whether to register for VAT...

There are many other cost pressures on his business and it's dangerous to assume he could raise his prices at all, never mind by inflation.

Turnover is vanity. He should be looking to expand the business, looking at his costs, etc. and what his bottom line his and how to increase it.

Hiring out his unit to another caterer could be a fast way to have it damaged or to damage his own reputation if that caterer doesn't operate to his own high standards- as it will still have all his branding on it. Wouldn't say that would be a great idea for £750.

And why should a slightly more successful business turning over, say £100k per annum have to compete with John who is getting away with not having to charge VAT by virtue of some arbitrary threshold? No level playing field there.

VAT threshold needs to be a lot lower, around the higher rate tax threshold. This would provide a much leveller playing field than the current distortions of the high threshold.

As for John, he needs to consider where he wants to take his business- maybe the solution is looking for slightly lower turnover but higher margins, or looking at his work/life balance and deciding playing a round of golf a week is the solution for him.

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08th Dec 2017 09:38

C'mon - we all know what will happen in reality given that John's sales will be entirely in cash! Freezing the VAT threshold may simply give rise to a larger black economy.

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11th Dec 2017 13:14

Another option is of course to just stop trading for a week/month and go on holiday. There are many guest houses down hear in the south west that take that option.

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