HMRC has released updated guidance on the changes to the VAT flat rate scheme for small businesses, which is due to come into force this April, but has not finalised the more than 50 individual sector rates despite the imminent flat rate rise to 16.5%
The Flat Rate Scheme is designed to simplify records of sales and purchases and was operating at a 14.5% rate but this is due to rise to 16.5%. It allows micro businesses and sole traders to apply a fixed flat-rate percentage to gross turnover to arrive at the VAT due. Flat rate turnover is different from standard VAT turnover. For example, as well as business income (eg, from sales), it includes the VAT paid on that income.
The guidance details the limited cost business rate and HMRC has produced a calculator to help businesses work out whether they are a limited cost business and will update individual sector rates when the new rules come into force.
The VAT flat rate used depends on the business type. If the rate changes, the new rate must be applied from the date it changes.
To meet the requirement of being a limited cost business the amount spent on relevant goods including VAT is either:
- less than 2% of VAT flat rate turnover: or
- greater than 2% of VAT flat rate turnover but less than £1,000 per year.
If a return is for less than one year, the figure is the relevant proportion of £1,000. For a quarterly return this is £250.
For some businesses this will be clear, other businesses – particularly those whose goods are close to 2% – may need to complete this test each time they complete their VAT return. This is because businesses can move from a limited cost rate of 16.5% in one period to a relevant sector rate in another. This would happen if costs fluctuate above and below 2%.
In addition, this could mean that a limited cost trader ends up paying more VAT than on standard accounting. The HMRC guidance includes a number of examples:
Example 1: A business has a flat rate turnover of £10,000 a quarter. It spends £260 on relevant goods. This is more than 2% of the flat rate turnover and more than £250 so the rate they need to use is the sector rate for their business.
Example 2: A business has a flat rate turnover of £20,000 a quarter. It spends £325 on relevant goods. This is more than £250 but less than 2% of the flat rate turnover so the rate they need to use is 16.5%.
Example 3: A business has a flat rate turnover of £10,000 a quarter. It spends £225 on relevant goods. This is more than 2% of the flat rate turnover but less than £250 so the rate they need to use is 16.5%.
There are also details of the bridging period as businesses using the flat rate scheme will have to take into account the increase in rates and split the reporting periods to reflect the pre-rise and post-rise rates.
The list of so-called relevant goods and exempted items has also been updated but the individual rates for the 54 sectors captured by the rules, including eligible bussinesses providing a range of services from accounting to consultancy, hair dressing and small retail to pubs, dry cleaners, vehicle repair and veterinary supplies, to name a few.
Paragraph 4.4, 4.5 and 4.6 have been added to the original November VAT notice. There are also slight amendments to the rest of section 4.
This notice cancels and replaces Notice 733 (November 2016). The revised HMRC Notice 733 February 2017 on VAT Flat Rate Scheme is here