VAT Connect – January 2017February 2, 2017
The ‘Aggressive Abuse’ of the Flat Rate Scheme
1 April 2017 will see an introduction of a 16.5% Flat Rate Scheme (FRS) rate to address what the government believes to be ‘aggressive abuse’ of the Scheme. The new rules may mean compliant taxpayers are unwittingly caught by the 16.5% rate.
Introduced as a tool to simplify VAT accounting for businesses with a low-risk turnover of £150,000 or less, FRS allows a ‘flat rate’ percentage to be applied to the VAT inclusive business turnover (including exempt income), subject to certain conditions. The flat rate percentages are calculated as a ratio of net VAT liability expected for a particular sector of trade. The lowest rate is currently 4% (e.g. construction companies whose volume of purchases consumed in the building works is high) with the highest rate currently 14.5% (service providers such as consultants and accountants who provide services with minimal expenses). Despite setting the joining conditions, the sectors, and the sector rates, HMRC believe that the Flat Rate Scheme – which is wholly voluntary – is being ‘abused’ by certain businesses; business that, in fairness, fulfil the conditions for joining and using the scheme.
In their technical note, HMRC have stated the new 16.5% rate will apply to ‘limited cost traders’ who they define as businesses that buy in goods (not services) which are used wholly for the business, and where the VAT inclusive amount is either
- less than 2% of their VAT inclusive business income (both taxable and exempt supplies), or
- more than 2% of their VAT inclusive turnover but less than £1,000 per year. To ‘prevent’ businesses getting around this proposed rule and breaking the thresholds by intentionally making frivolous purchases, the goods bought will not include capital assets (property, machinery, vehicles etc.), food or drink for consumption, vehicle parts, and fuel. It would appear that HMRC continue to believe that businesses are more concerned with mitigating their VAT liability than making a success (and hopefully a profit) in their business.
We have already found that clients may unwittingly fall foul of this change, so it is vital that those using the FRS should now review their current sector to establish whether they will be affected by the proposed change. As with all voluntary schemes, we recommend that you test the benefit, both before committing and during; if there is no ultimate benefit (either from resources or financially), then don’t do it!
EU Simplifies – in time for UK Brexit
Both the European Commission and the UK Government are taking significant steps to simplify VAT compliance for small businesses; attempting to alleviate the tax ‘Jam’ that compliance brings, and putting member states on a level playing field with other businesses around the world.
The European Commission (EC) has published an update to their Action Plan that seeks to modernise VAT for cross border eCommerce, and reduce the compliance costs for businesses across the Member States. The main changes are
- the extended use of HMRC’s Mini One-Stop Shop (MOSS) for businesses to register and declare B2C sales of goods (distance sales) in other Member States using one centralised point. The European Commission estimates that removing the requirement to register for VAT in each Member State will save businesses an average of €8,000 per year for each European country that they sell in,
- businesses who make cross-border B2C eServices (such as digital downloads) of up to €10,000 annually will be governed by their home tax authorities, meaning they don’t need to comply with invoicing requirements and audits from 27 other potential member states,
- for businesses who make cross-border B2C eServices of up to €100,000 annually, the requirement to hold two pieces of evidence of the customer’s location will be reduced to one,
- removal of the rule that restricts each member state from applying the same VAT rate to ePublications as their printed equivalents (in the UK, standard rated and zero rated respectively), and
- removal of the Low Value Consignment Relief which exempts import VAT on low value goods bought from outside the EU. In the UK this relief is currently £39 (raised from £34 on 1 January, 2017).
Whilst these issues aim to save businesses in the EU costs in compliance and remove the disadvantage that non-EU businesses have selling goods to EU consumers, they are planned to come into force at a time where the UK prepares to exit the single market.
As the UK’s current VAT regime is driven and governed by the EU, and whilst businesses and VAT advisers are left guessing as to how VAT will be reflected once these legislative ties are cut, the Treasury has asked the Office of Tax Simplification (OTS) to review the UK’s current VAT system.
Acknowledged as a tax which is complex to administer and a compliance burden for all types of businesses, the OTS intends to consider various areas and provide analysis and recommendations; calling for suggestions from businesses in spring 2017. In particular, the review intends to consider
- the impact of a higher or lower VAT Registration Threshold,
- whether the underlying principal of goods and services which currently qualify for exemption and zero/reduce rate of VAT are still relevant in a modern context, and
- if there is a benefit is simplifying partial exemption, capital goods scheme, and the option to tax process for smaller businesses.
Lord Fisher ‘Business’ Test Overruled
Charities should now consider their position in light of the Court of Appeal’s decision that previous tests for defining ‘business’ cannot be relied upon.
For decades the definition of ‘business’ for VAT purposes has been determined from tests laid out in Lord Fisher and Morrison’s Academy Boarding Houses Association. Whilst these tests determined if income fell within the scope of VAT (and therefore whether there was a charge of VAT), they were also relevant in determining whether a charity qualified for relief on construction costs for buildings to be used solely for a non-business, or a ‘relevant charitable’, purpose.
In the recent case of Longridge on The Thames, both the First Tier and Upper Tribunal’s relied upon the previous business tests and concluded that Longridge were not in business as their “predominant concern was not in making supplies for a consideration”. Longridge are a registered charity whose fees to the public were below cost, relying on donations to cover costs incurred. However, in dismissing use of the Fisher/Morrison’s tests, the Court of Appeal determined that these tests cannot override what the European Court of Justice (ECJ) determines to be an ‘economic activity’; that is that there is a “direct link between the service which the recipient receives and the payment which he makes… If the direct link is not present, there is no economic activity”. As there was a direct link between the payment made by the public and their access and instruction to water-based activities, there was an ‘economic activity’. As such, Longridge lost out on obtaining VAT relief on their constructed training centre; costing them an additional £135,000 in irrecoverable VAT.
Unless appealed to the Supreme Court, the ECJ’s business test will become the basis for all future discussions. Retrospectively, charities who have failed a business test under Lord Fisher/Morrison’s Academy may wish to reconsider their position. Alternatively, charities who were successful in obtaining relief using these tests will want to reflect on the impact.
There are two issues which may be of interest to any sporting organisations and clubs.
St. Andrew’s College Bradfield lost its appeal to the Upper Tribunal (UT) in relation to eligible body status for subsidiaries
The College sought a refund of overpaid VAT on sporting supplies made by both of its wholly owned subsidiaries on the basis that both subsidiaries were eligible bodies in their own right, and therefore the sporting services were exempt from VAT.
In agreeing with the First Tier Tribunal, the UT confirmed that a body could be construed as ‘non-profit making’ only when it is able to show that it is “subject to a restriction on its ability to distribute profits which provides that it can only distribute profits to a non-profit making body”. Such a restriction did not exist in either the Articles of Association or in the deeds of covenant, and furthermore, there was nothing that prohibited either of the subsidiaries in terminating the agreement with the College at any time in favour of a profit-making body. A timely reminder that it is not just the actual terms of an organisation that will be considered, but what does not appear.
HMRC seek to remove concession for profit-making clubs/organisations in relation to affiliation fees
HMRC have proposed the removal of several Extra Statutory Concession’s (ESC – Public Notice 48) following criticism from The House of Lords that the concessions go beyond their statutory powers. One of the proposals is the removal of the concession for profit-making sporting clubs that allow affiliation fees to member clubs for individual members to be treated as disbursements (i.e. not subject to VAT) without reference to the actual disbursement rules. Supplies of the affiliation fees to member clubs for individual members by non-profit making clubs will continue to be exempt. HMRC are seeking to remove the concession in April 2018, and thereafter profit-making clubs will have to charge VAT at the standard rate unless the supplies qualify under the disbursement rules. The consultation calls for evidence of the proposed impact, and is open until March 7.
EU Advocate General seeks to overturn the UK Tribunals in relation to the exemption of catering and performances provided by students.
In an opinion released prior to a hearing by the European Court of Justice, Advocate General Kokott has stated that the UK Tribunals are wrong in their decision, and that supplies to the public of meals in a student training restaurant and admissions to drama student performances are not ‘essential’ to the primary supply of exempt education, and therefore cannot be exempt when sold to the paying public. Kokott determined that the main purpose of the exemption for supplies ‘closely related’ to education is that the education of the student does not become more expensive due to VAT. As the payments are made by members of the public and not by the students, the exemption cannot apply. Further comment was made that exemption of such supplies would create commercial distortion with trading restaurants and productions, and also that taxing meals and performances was in line with the spirit of VAT as a tax on consumers.
Dot-to-Dot and Colouring Books for Adults
HMRC back down on taxing dot-to-dot books, but only if it is suitable for children too.
In their 17/2016 Brief, HMRC have confirmed that the sale of dot-to-dot books specifically labelled as suitable for children and adults can join children-only dot-to-dot books in being eligible for zero-rating. The relief does not however, extend to any books which are marked as suitable for adults or grown-ups, held out for sale with adult books that are unsuitable for children, or contain images reflecting profanity, pornography, violence, and illegal acts. Retailers should therefore note that if it isn’t specifically child-friendly, then VAT will continue to apply at the standard-rated.
Alcohol Retailers to Verify Supplier or Face Fines
With effect from 1 April 2017, licensed retailers will have to check that their UK suppliers have registered under the Alcohol Wholesaler Registration Scheme (AWRS).
To tackle the UK’s illicit alcohol market, wholesale UK suppliers were required to register with HMRC’s scheme and obtain a unique reference number (URN). HMRC have announced that any suppliers who sell alcohol to the public must check and verify their own suppliers URN, or face fines and possible seizures of stock. HMRC have yet to release their online look-up service, but have promised that it will be available by 1 April.
If any of these articles raise further questions for you, please contact any member of our VAT team.
Alan Davis – VAT Partner & Head of Tax