How to reflect the VAT rise

The standard VAT rate increases to 20% with effect from January 4th 2011, as spelt out in an excellent guide on the HM Revenue & Customs website. The guide includes a link to the new thresholds for the Flat Rate Scheme (FRS); some users of which should be marginally better off once the 2.5% increase comes into force.

Overall though, the normal tax point rules will apply: date of invoice or date of payment, whichever comes first. So if the invoice or payment is made before January 4th, VAT will be at the rate of 17.5%; anything after that date will be at 20%. HMRC has issued some anti-forestalling legislation to stop blatant avoidance, and these are summarised later, but first the basics:

Basic rules

1. Retailers should start accounting for VAT at 20% with effect from January 4th, using the VAT fraction 1/6th (i.e. the VAT element of the retail price paid by the customer is 20/120). If the customer has an account and he takes the goods away prior to the change, then you account for VAT at 17.5% (the current VAT fraction being 7/47ths).

2. For all other businesses issuing VAT invoices after 4th January, they should be at 20%, unless the goods/services were supplied before the rate change. You can then choose to charge at 17.5%.

For supplies of services that span the change, you can charge 17.5% for those services provided before the change, 20% afterwards OR charge all at 20%

Suppliers issuing invoices prior to the rate change, but where delivery will take place after January 4th, may charge VAT 20%.

These rules are optional and you do not need to notify HMRC.

3. Businesses issuing quotes and estimates for work to commence after January 4th should quote the 20% rate. Customers willing to pay before that date can be charged at 17.5%, subject to the anti-forestalling legislation.

4. For Refunds or credit notes, the business should apply the same rate as originally declared or invoiced i.e. if the adjustment is made after January 4th and it relates to a sale declared at 17.5%, then the adjustment is at 17.5%.

5. Invoices issued for 12 months in advance, with monthly payments plus VAT must show VAT at 17.5% for all monthly payments up to 31st December 2009. All payments after that date must be at 20%

Flat Rate Scheme

The increase in VAT will lead to changes to the Flat Rate Scheme percentages and to the Fuel Scale Charges - all effective from January 4th 2011. Those people, whose VAT returns span the change, will have to carry out two separate calculations.

For businesses that are Computer and IT Consultancy, or data processing, businesses, the FRS percentage between 01/01/10 and 03/01/11 is 13%. From 04/01/11, the percentage rises to 14.5%.

Anti-forestalling legislation

As mentioned, the normal tax point rules take precedence. If the supply of goods or services is made before 4th January, OR payment is received before that date, then VAT is due at 17.5%. However, there are some anti avoidance rules which affect only certain transactions where the actual supply of the goods or services is made on or after January 4th 2011. These are:

• You receive pre-payments from persons connected to you for future supplies; OR

• You issue advance VAT invoices to persons connected to you for future supplies; OR

• You provide or arrange funding to your customers to enable them to pay in advance for goods or services to be supplied by you; OR

• You issue VAT invoices that do not have to be paid for at least six months; OR

• You receive pre-payments or issue advance VAT invoices in excess of £100,000, and this is not your normal commercial practice; OR

• You supply rights or options to receive goods and services from you free of charge or at a discount i.e. receive payment prior to the rate change for a supply to take place after.

These six rules are invoked only if your customer cannot recover the VAT charged in full. Details and further explanatory notes are available on HMRC’s website, under “Anti-Forestalling Legislation.”

Paul Mason, manager of the contractor division at Abbey Tax Protection, a tax and compliance adviser.