Introduction
In this chapter, we continue our VAT studies by looking at zero-rated and
exempt supplies and we see how making exempt supplies can affect the
deduction of input tax.
VAT needs to be applied to imports, so that people do not have a tax incentive
to buy abroad, and VAT is taken off many exports in order to encourage sales
abroad. We see how this is achieved for transactions both within and outside
the European Community.
Finally, we look at special VAT schemes designed for particular types of smaller
trader.
In the next chapter, we will draw together all of our studies by looking at the
impact of taxes and tax planning.
Study guide
| Intellectual level | ||
| 6 | Value added tax, tax administration and the UK tax system: | |
| (a) | The contents of the Paper F6 study guide for value added tax (VAT) under headings: | 2 |
| | F2 The computation of VAT liabilities | |
| | F3 The effect of special schemes | |
| The following additional material is also examinable: | ||
| (iii) | Advise on the VAT implications of the supply of land and buildings in the UK | 3 |
| (iv) | Advise on the VAT implications of partial exemption | 3 |
| (v) | Advise on the application of the capital goods scheme | 3 |
Exam guide
In the exam, you may be required to advise on almost any aspect of VAT, such as imports and exports or the special schemes. A question may require you to consider the effect of following a particular course of action, for example commencing to make exempt supplies may lead to a greater than expected VAT cost as the partial exemption rules result in the disallowance of a proportion of input tax.
This chapter continues to revise your knowledge of the basic principles of VAT, including zero rated and exempt supplies, the deduction of input tax, overseas aspects and the special schemes for smaller traders. The examination team has identified essential underpinning knowledge from the F6 syllabus which is particularly important that you revise as part of your P6 studies. In this chapter, the relevant topics are:
| Intellectual level | ||
| F2 | The computation of VAT liabilities | |
| (j) | Explain the treatment of imports, exports and trade within the European Union | 2 |
| F3 | The effect of special schemes | |
| (a) | Understand the operation of, and when it will be advantageous to use, the VAT special schemes: | |
| (i) | Cash accounting scheme | 2 |
| (ii) | Annual accounting scheme | 2 |
| (iii) | Flat rate scheme | 2 |
Land and buildings, partial exemption and the capital goods scheme are all new topics.
There are no changes from 2014/15 to 2015/16 in the material that you have studied at F6 level.
1 Zero-rated and exempt supplies
FAST FORWARD
Some supplies are taxable (either standard-rated, reduced-rated or zero-rated). Others are exempt.
|
1.1 Types of supply
Zero-rated supplies are taxable at 0%. A taxable supplier whose outputs are zero-rated but whose inputs are standard-rated will obtain repayments of the VAT paid on purchases.
A person making exempt supplies is unable to recover VAT on inputs (in exactly the same way as for a non-registered person). An exempt supplier has to shoulder the burden of VAT. He may increase his prices to pass on the charge, but he cannot issue a VAT invoice which would enable a taxable customer to obtain a credit for VAT, since no VAT is chargeable on his supplies.
1.2 Example: standard-rated, zero-rated and exempt supplies
Here are figures for three traders, the first with standard-rated outputs, the second with zero-rated outputs and the third with exempt outputs. All their inputs are standard-rated at 20%.
| Standard-rated | Zero-rated | Exempt | |
| £ | £ | £ | |
| Inputs | 20,000 | 20,000 | 20,000 |
| VAT | 4,000 | 4,000 | 4,000 |
| 24,000 | 24,000 | 24,000 | |
| Outputs | 30,000 | 30,000 | 30,000 |
| VAT | 6,000 | 0 | 0 |
36,000 30,000
Pay/(reclaim) 2,000 0
Net profit 10,000 10,000 6,000
VAT legislation lists zero-rated, reduced-rate and exempt supplies. There is no list of standard-rated supplies.
If a trader makes a supply you need to categorise that supply for VAT as follows:
Step 1 Consider if it is a zero-rated supply. If not:
Step 2 Consider if it is exempt. If not:
Step 3 Consider if it is reduced-rated supply. If not:
Step 4 The supply is standard-rated.
1.3 Zero-rated supplies
The following are some common items on the zero-rated list.
- Human and animal food
- Printed matter used for reading (eg books, newspapers)
- Construction work on new homes or the sale of the freehold, or a lease over 21 years (at least 20 years in Scotland), of new homes by builders
- Exports of goods to outside the EU
- Clothing and footwear for young children and certain protective clothing eg motor cyclists’ crash helmets
1.4 Exempt supplies
The following are some common items on the exempt list.
(a) Sales of freeholds of buildings (other than commercial buildings within three years from completion) and leaseholds of land and buildings of any age including a surrender of a lease (b) Financial services
(c) Insurance
1.5 Reduced rate of VAT
Certain supplies are charged at 5%. The supplies are still taxable supplies.
The main supplies are:
- Supplies of fuel for domestic use, and
- Supplies of the services of installing energy saving materials to homes
1.6 Exceptions to the general rule
There are many exceptions to the general rule.
For example the zero-rated list states human food is zero-rated. However, the legislation then states that food supplied in the course of catering (eg restaurant meals, hot takeaways) is not zero-rated. Luxury items of food (eg crisps, peanuts, chocolate covered biscuits) are also not zero-rated.
In the exempt list we are told that financial services are exempt. However the legislation then goes on to state that this does not include credit management, except if the credit management is by the person who also granted the credit.
Great care must be taken when categorising goods or services as zero-rated, exempt or standard-rated. It is not as straightforward as it may first appear.
1.7 Standard-rated supplies
There is no list of standard-rated supplies. If a supply is not zero-rated, is not exempt and is not reduced-rated then it is treated as standard-rated. The standard rate of VAT is 20%.
2 Land and buildings 12/12, 12/15
FAST FORWARD
Transactions in land may be zero rated, standard rated or exempt.
2.1 Transactions in land
Transactions in land may be zero rated, standard rated or exempt.
- The construction of new dwellings or buildings to be used for residential or charitable purposes is zero-rated.
- The sale of the freehold of a ‘new’ commercial building is standard-rated. The definition of ‘new’ is less than three years old. The construction of commercial buildings is also standard-rated.
- Other sales and most leases of land and buildings are exempt.
2.2 Option to tax
Owners may elect to treat sales and leases of land and commercial buildings as taxable instead of exempt. This is known as ‘waiving the exemption’ or the option to tax.
The owner must become registered for VAT (if he is not already so registered) in order to make the election. The election replaces an exempt supply with a standard rated one, usually to enable the recovery of input VAT.
A taxpayer may make a ‘real estate election’ (REE) instead of making separate elections for each property he owns. If a taxpayer makes a REE, he will be treated as having made the election for each property he acquires after making the REE, although he may revoke the option on a particular property under the ‘cooling-off’ provisions described below.
The election may be revoked:
- During the ‘cooling off’ period: within six months of the election taking effect, provided that no use (including own use) has been made of the land, no tax has been charged on a supply of the land as a result of the option, no TOGC has occurred and HMRC has been notified of the revocation on the appropriate form
- Where no interest has been held in the property for over six years
- Where more than twenty years have elapsed since the election first had effect, provided certain conditions are met or with the prior consent of HMRC
3 The deduction of input tax
FAST FORWARD
Not all input VAT is deductible, eg VAT on most motor cars.
3.1 Introduction
Input tax is deductible for supplies to a taxable person in the course of his business.
3.2 Capital items
There is no distinction between capital and revenue expenditure for VAT. So a manufacturer paying VAT on the purchase of plant to make taxable supplies will be able to obtain a credit for all the VAT immediately (see below for the capital goods scheme).
3.3 Non-deductible input tax
The following input tax is not deductible.
- VAT on motor cars not used wholly for business purposes. VAT on cars is never reclaimable unless the car is acquired new for resale or is acquired for use in or leasing to a taxi business, a self-drive car hire business or a driving school (see below for treatment of motor expenses). If VAT is not recoverable on a car because it is not used wholly for business purposes, then VAT is not charged if the car is subsequently sold.
- VAT on business entertaining where the cost of the entertaining is not a tax deductible trading expense unless the entertainment is of overseas customers in which case the input tax is deductible.
- VAT on expenses incurred on domestic accommodation for directors or proprietors of a business.
- VAT on non-business items passed through the business accounts. If goods are bought partly for business use the purchaser may:
(i) Deduct all the input tax, and account for output tax in respect of the private use, or (ii) Deduct only the business proportion of the input tax.
3.4 Irrecoverable VAT
Where input tax on a purchase is not deductible that input VAT is included in the cost for income tax, corporation tax, capital allowance or capital gains purposes.
Deductible VAT is omitted from costs, so that only net amounts are included in accounts. Similarly, sales (and proceeds in chargeable gains computations) are shown net of VAT, because the VAT is paid over to HMRC.
3.5 Motoring expenses
3.5.1 Accessories and maintenance costs
Input VAT can be reclaimed if accessories for business use are fitted after the original purchase of a car and a separate invoice is raised.
If a car is used for any business purposes (even if it is also used for private purposes) then any VAT charged on repair and maintenance costs can be treated as input tax. 3.5.2 Fuel
FAST FORWARD
If fuel is supplied for private purposes all input VAT incurred on the fuel is allowed and the business will normally account for output VAT using a set of scale charges.
If a business pays for fuel which is only used for business purposes, it can claim all the input tax paid on that fuel. However, many businesses will pay for fuel which is used for private motoring by employees.
If a business does provide fuel for private and business use to an employee but the employee reimburses the business the full cost of the private fuel, there is an actual taxable supply by the business valued at the amount received from that employee. The business can claim its input tax on all fuel, but then must account for output tax on the amount paid by the employee. HM Revenue and Customs will accept that the full cost of all private fuel has been reimbursed where a log is kept recording private miles and the employee pays a fuel-only mileage rate that covers the average fuel cost (on its website, HM Revenue and Customs publish a set of such rates for different sizes of engine).
If a business provides fuel to its employees for private use without charge or at a charge below the full cost, there is a deemed taxable supply. The business then has the following options for how to account for VAT on fuel:
- Not to claim any input tax in respect of fuel purchased by the business. No output tax is charged. In effect, the fuel is not brought into the VAT system at all.
- Claim input VAT only on the fuel purchased for business journeys. This requires the business to keep detailed mileage records of business and private use. No output tax is charged in respect of private use. In effect, the private fuel is not brought into the VAT system.
- Claim input tax on all fuel purchased and charge output tax based either on the full cost of the private fuel supplied (again, this requires detailed mileage records to be kept) or the fuel scale charge which reflects the deemed output in respect of private use. The fuel scale charge is based on the CO2 emissions of the car.
Exam focus In the P6(UK) exam, questions on the treatment of private use fuel will normally involve the use of the fuel point scale charge.
The above rules apply even where employees pay for the fuel themselves and the business reimburses them: as long as the business obtains VAT invoices for the fuel, it can treat the fuel as its own purchase/input.
Iain is an employee of ABC Ltd. He has the use of a car with CO2 emissions of 176 g/km for one month and a car with CO2 emissions of 208 g/km for two months during the quarter ended 31 August 2015.
ABC Ltd pays all the petrol costs in respect of both cars without requiring Iain to make any reimbursement in respect of private fuel. Total petrol costs for the quarter amount to £300 (including VAT). ABC Ltd wishes to use the fuel scale charge as detailed records of private mileage have not been kept.
What is the VAT effect of the above on ABC Ltd?
VAT scale rates (VAT inclusive) for 3 month periods
CO2 emissions £
175 334
205 415
Value added tax for the quarter:
£
Car 1
£334 × 1/3 = 111
Car 2
£415 × 2/3 =
| Output tax: | |
| 1/6 × £388 | £65 |
| Input tax | |
| 1/6 × £300 | £50 |
3.6 Relief for impairment losses (bad debts)
FAST FORWARD
Relief for VAT on impairment losses (bad debts) is available if the VAT has been accounted for, the debt is over six months old (measured from when the payment is due) and has been written off in the trader’s accounts.
A trader may claim a refund of VAT on amounts unpaid by debtors if:
- He has accounted for VAT, and
- The debt is over six months old, and
- Has been written off in the creditor’s accounts.
If the debtor later pays all (or part) of the amount owed, the corresponding amount of VAT repaid must be paid back to HMRC.
Impairment loss relief claims must be made within four years of the time the impairment loss became eligible for relief (in other words, within four years and six months from when the payment was due).
4 Partial exemption 12/13, 6/15, 12/15
FAST FORWARD
A trader making both taxable and exempt supplies may be unable to recover all of his input tax.
4.1 Introduction
A trader may only recover the VAT on supplies made to him if it is attributable to his taxable supplies. Where a person makes a mixture of taxable and exempt supplies, he is partially exempt. In this case, not all his input tax may be recoverable because some of it is attributable to his exempt supplies.
4.2 The standard method of attributing input tax
For a trader who is partially exempt, input tax must be apportioned between that relating to taxable supplies (and recoverable) and that relating to exempt supplies (exempt input tax). The standard method of attributing input tax is to:
Step 1 Calculate how much of the input tax relates to making taxable supplies: this input tax is deductible in full.
Step 2 Calculate how much of the input tax relates to making exempt supplies: this is exempt input tax.
Step 3 Calculate how much of any residual (ie remaining) input tax is deductible using the percentage:
| Taxable turnover excluding VAT 100%, rounded up
Total turnover excluding VAT |
Formula to learn
Where the residual input tax does not exceed £400,000, the figure is rounded up to the nearest whole percentage. Otherwise, the figure is rounded to two decimal places.
For each VAT return period, the trader usually works out the amount of input tax he can recover (subject to the de minimis tests – see further below). The trader can either use the previous year’s recovery percentage or the percentage for the return period. However, the trader must use only one of these methods in a year ie either the previous year’s recovery percentage for all return periods in the year or the actual percentages for each return period. Note that the same amount of input VAT will be recoverable for the year overall because the difference between the percentages used will be adjusted at the end of the year (see further below).
In the three month VAT period to 30 June 2015, Mr A makes £105,000 of exempt supplies and £300,000 of taxable supplies. Most of the goods purchased are used for both types of supply which means that much of the input tax cannot be directly attributed to either type of supply. After directly attributing as much input tax as possible the following position arises.
| £ | |
| Attributed to taxable supplies | 1,200 |
| Attributed to exempt supplies | 600 |
| Unattributed VAT | 8,200 |
| 10,000 |
How much input tax can Mr A recover, assuming that Mr A uses the percentage for the return period?
The amount of unattributed VAT which is apportioned to the making of taxable supplies is
= 74.07% rounded up to 75% £8,200 = £6,150
Note. The percentage is rounded up since residual (unattributed) input tax does not exceed £400,000 per month.
Mr A can therefore recover £1,200 + £6,150 = £7,350 of his input tax.
The balance of input tax of £2,650 (£600 + £(8,200 – 6,150)) is exempt input tax.
An alternative method of attributing input tax (‘special’ method) may be agreed in writing with HMRC.
4.3 De minimis tests
All the input VAT is recoverable if one the amount of input VAT relating to exempt supplies is small (‘de minimis’) under one of the following tests:
Test 1
The total input VAT incurred is no more than £625 per month on average and the value of exempt supplies is no more than 50% of all supplies.
Test 2
The total input VAT incurred less input VAT directly attributed to taxable supplies is no more than £625 per month on average and the value of exempt supplies is no more than 50% of the value of all supplies.
Test 3
The input VAT wholly attributable to exempt supplies plus the residual VAT attributed to exempt supplies (ie the total of exempt input tax) is no more than £625 per month on average and no more than 50% of its input tax.
4.4 Annual test
The annual test gives a trader the option of applying the de minimis test once a year instead of every VAT return period.
To use the annual test, the trader must satisfy the following conditions:
- Have been de minimis in the previous partial exemption year;
- Consistently apply the annual test throughout any given partial exemption year (ie does not switch between the quarterly tests and the annual test in the year);
- Have reasonable grounds for not expecting to incur more than £1m input tax in its current partial exemption year.
If these conditions are satisfied, the trader can opt to treat himself as de minimis in the current partial exemption year. The trader can therefore recover input tax in full in each VAT return period without needing to see if one of the de minimis tests is satisfied for each VAT return period. This means that there is provisional recovery of all input tax in the year which will give a cash flow benefit and an administrative time saving.
At the end of the year, the trader must review his de minimis status using the de minimis tests applied to the year as a whole. If one of the tests is failed, the trader must carry out an annual adjustment as described below and which will result in a repayment of part of the input VAT previously recovered in full.
| The annual test for partial exemption was tested in June 2015 Question 3(c)(ii) Nocturne Ltd. The examiner commented that this part of the question was ‘not done well. The problem here was that the majority of candidates addressed the annual accounting scheme rather than the subject of the question. This was unfortunate and meant that very few candidates did well on this part of the question.’ |
Exam focus point
4.5 Test for each return period
If the trader does not use the annual test, he must apply the de minimis tests for every VAT return period.
Tests 1 and 2 are simple to apply because they do not require the trader to make a calculation of residual VAT.
Test 3 is more complicated as it requires the calculation of residual VAT, usually using the standard method explained in Section 4.2.
|
Sue makes the following supplies in the quarter ended 31 October 2015. |
|
| £ | |
| Taxable supplies (excl. VAT) | 28,000 |
| Exempt supplies | 6,000 |
|
Sue analyses her input tax for the period as follows. |
34,000 |
| £ | |
| Wholly attributable to: taxable supplies | 1,500 |
| exempt supplies | 900 |
Non-attributable (overheads)
How much input tax is available for credit on Sue’s VAT return assuming that she uses the percentage for the return period, where relevant?
Test 1
Total input VAT is = £1,200 per calendar month, more than £625 per calendar month.
Proportion of exempt supplies = 17.6%
Test 1 failed as only one part of test satisfied.
Test 2
£
Total input VAT for period 3,600
Less wholly attributable to taxable supplies (1,500)
2,100
Monthly average = £700 per calendar month, more than £625 per calendar month.
Proportion of exempt supplies = 17.6%
Test 2 failed as only one part of test satisfied.
Test 3
£
Wholly attributable to taxable supplies 1,500
Partly attributable to taxable supplies
ie 82.35% rounded up to 83% £1,200 996
2,496
£(900 + (1,200 – 996)) = 1,104
Exempt input tax is de minimis (W)
Input tax recoverable ie all input tax is recoverable
Working
Monthly average = £368 ie not more than £625
Proportion of total = 30.7% ie not more than 50%.
Both parts of Test 3 satisfied so Test 3 passed.
4.6 Annual adjustment 6/15
An annual adjustment is made with the de minimis tests applied to the year as a whole.
If Tests 1 or 2 passed for the year, the trader can recover all of his input tax for the year and does not need to carry out a partial exemption calculation.
If Tests 1 or 2 are failed, the trader will need to carry out a full partial exemption calculation for the year to determine whether Test 3 is passed. If it is, the trader can recover all of his input tax for the year.
The result for the year is compared with the total of results for the individual VAT periods and any difference is added to or deducted from the input tax either on the return for the last period in the year or on the return for the first period after the end of the year, at the option of the trader.
Following on from the example in Section 4.2 Mr A has the following results in the remaining VAT quarters of his VAT year ended 31 March 2016.
| Input tax attributed to | ||||
| Taxable | Exempt | |||
| Quarter to | supplies | supplies | Unattributed | |
| £ | £ | £ | ||
| 30.9.15 | 1,500 | 1,000 | 5,000 | |
| 31.12.15 | 2,000 | 500 | 1,800 |
31.3.16 850 7,000
2,350 13,800
| Turnover | ||||
| Quarter to | Taxable | Exempt | ||
| £ | £ | |||
| 30.9.15 | 400,000 | 100,000 | ||
| 31.12.15 | 500,000 | 150,000 |
31.3.16 450,000
1,350,000
It has already been ascertained that neither Test 1 nor Test 2 is satisfied for any of the four quarters nor for the year as a whole.
Calculate the annual adjustment required assuming that Mr A uses the percentage for the return period in each of the quarters and state the latest return it will be made on.
|
First we calculate the recoverable input tax in each VAT return. |
|||||
| Recovered | |||||
| £ | £ | ||||
| Return to 30.6.15 | |||||
| See above Taxable | 7,350 | 7,350 | |||
| Exempt (more than £625 per month) | 2,650 | ||||
| 10,000 | |||||
| Recovered | |||||
| £ | £ | ||||
| Return to 30.9.15 | |||||
| = 80% £5,000 = Non-attributable | 4,000 | ||||
| Wholly taxable | 1,500 | ||||
| Taxable total | 5,500 | 5,500 | |||
| Exempt £(1,000 + 1,000) (more than £625 per month) | 2,000 | ||||
| 7,500 | |||||
| 12,850 | |||||
| Return to 31.12.15 | |||||
| = 76.92% rounded up to 77% £1,800
|
1,386 | ||||
| Non-attributable | |||||
| Wholly taxable | 2,000 | ||||
| Taxable total | 3,386 | ||||
| Exempt £(500 + 414) | 914 | ||||
|
The exempt input tax at £914 is less than £1,875 (£625 3 months) and 50% of total input tax (50% £4,300 = £2,150) so is de minimis and recoverable under Test 3. |
4,300 | 4,300 | |||
| Return to 31.3.16 | |||||
= 78.94% rounded up to 79% £7,000
5,530
| Non-attributable | ||
| Wholly taxable | 1,900 | |
| Taxable total | 7,430 | 7,430 |
Exempt £(850 + 1,470) (more than £625 per month)
| Recovered over the VAT year Now we do the same calculation again but using the results for the whole VAT year to 31.3.16. |
24,580 | |
| Annual adjustment | ||
| 1,350,000+ 300,000 = £(13,800 + 8,200) (note)77.64% rounded up to 78%
1,720,000+ 405,000 |
17,160 | |
| Wholly taxable £(5,400 + 1,200) | 6,600 | |
| Taxable total | 23,760 | (23,760) |
| Exempt £(31,550 – 23,760) (more than £625 per month) | 7,790 | |
| 31,550 | ||
| VAT to repay to HMRC on VAT return (latest) | ||
| to 30 June 2016 as annual adjustment
Note. We must include the quarter to June 2015’s results. |
820 |
| 5 Capital goods scheme | 6/12, 12/14 |
FAST FORWARD
The capital goods scheme (CGS) allows HMRC to ensure the VAT claimed on the purchase of certain capital items accurately reflects the taxable use to which they are put over a period of time.
The scheme mainly affects partially exempt businesses and enables the amount of VAT recovered to be adjusted for each year’s use.
The CGS applies to:
(a) Computers, boats and aircraft costing £50,000 or more, which are dealt with over 5 VAT years, and (b) Land and building costing £250,000 or more, which are dealt with over 10 VAT years.
In the VAT year the asset is acquired the input recovery is initially based on use for the quarter of purchase, and is then subject to the annual adjustment as described below.
For each subsequent VAT year over the recovery period of 5 or 10 years an adjustment is made to the VAT recovery.
| The adjustment is equal to the difference in percentage use between the first VAT year and the VAT year under review 1/5 (for computers, boats and aircraft) or 1/10 (for land and buildings) the original input tax on them |
Formula to learn
The adjustment is made in the second VAT return following the end of the VAT year.
If the asset is sold before the end of the recovery period, two adjustments are needed:
- The normal adjustment for the VAT year of sale as if the proportion of use for the period from the start of the year until the date of sale had applied for the whole VAT year, and
- An additional adjustment for each remaining VAT year of recovery calculated assuming 100% use for taxable supplies.
Z Ltd purchased a computer for £100,000 + 20% VAT on 1 July 2015. It used it 58% for taxable use in the quarter of purchase and 60% for taxable purposes in the year to 31 December 2015.
The taxable use in the year to 31 December 2016 was 50%. The computer was sold on 10 May 2017. The taxable use in the period 1 January 2017 to 10 May 2017 was 50%.
Calculate the initial input recovery and adjustments required for all other years. Assume that the standard rate of VAT is 20% throughout.
For the first VAT year to 31 December 2015 the recovery (after the annual partial exemption adjustment) is £100,000 20% = £20,000 60% = £12,000.
For the second VAT year to 31 December 2016 the adjustment is £20,000 10% (ie 60%-50%) 1/5 = £400, payable to HMRC.
For the third VAT year to 31 December 2017 there are two adjustments:
- £20,000 10% 1/5 = £400, payable to HMRC
- £20,000 40% (ie 100%-60%) 2/5 = £3,200
The net adjustment for the third VAT year to 31 December 2017 is £400 – £3,200 = £2,800 recoverable from HMRC.
Exam focus The capital goods scheme was tested in June 2012 Question 2 Janus plc group. The examiner commented point that ‘Part (b)(ii) was done well by those candidates who both knew what to do and had practised applying
the rules prior to the exam. Weaker candidates had a vague, confused knowledge of the rules or simply tried to describe them as opposed to apply them to the specific circumstances of the question. Very few candidates knew how to handle the adjustment following the sale of the building.’
6 Imports, exports, acquisitions and dispatches
FAST FORWARD
Imports from outside the EU are subject to VAT and exports to outside the EU are zero-rated. Taxable acquisitions from other EU states are also subject to VAT and sales to registered traders in other EU states are zero-rated.
6.1 Introduction
The terms import and export refer to purchases and sales of goods with countries outside the EU.
The terms acquisition and dispatch refer to purchases and sales of goods with countries in the EU.
The EU comprises Austria, Belgium, Bulgaria, Croatia, Republic of Cyprus, Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Latvia, Lithuania, Luxembourg, Malta, Netherlands, Poland, Portugal, Romania, Slovakia, Slovenia, Spain, Sweden and the UK.
Exam focus There are different rules for transactions between EU member states and for transactions with non-EU point countries.
6.2 Place of supply
The place of supply of goods and services is important because it determines how the supply is treated for VAT. For example, if a supply is made in the UK, it is subject to the rules and rates of UK VAT.
If the supply is a supply of goods, it will be treated as made in the UK if the goods are in the UK at the time they are supplied. Similarly, a supply of goods which are not in the UK when they are supplied will not be treated as made in the UK and so will not be subject to UK output tax.
If the supply is a supply of services, the basic rule for services made to a business (B2B supplies) is that the supply is made where the customer has established his business.
The basic rule for supplies of services to other consumers (B2C supplies) is that the supply is made where the supplier has established his business. There are some exceptions to this rule. For example, certain services relating to land are treated as made where the land is located.
6.3 Trade in goods outside the European Union
6.3.1 Imports 6/13
An importer of goods from outside the EU:
- Must account for the output VAT at the point of entry into the UK
- Can claim the input VAT payable on his next VAT return
6.3.2 Exports
The export of goods outside the EU is zero rated.
The trader must provide evidence of the export such as copy invoices and consignment notes.
6.4 Trade in goods within the European Union
6.4.1 Purchases (acquisitions)
Goods acquired by a VAT registered person in the UK from another EU member state are liable to VAT in this country. Consequently, output tax has to be accounted for on the relevant VAT return.
The ‘tax point’ for such acquisitions is the earlier of:
The fifteenth day of the month following the month of acquisition, and The date of issue of an invoice.
The transaction is entered on the relevant VAT return as an output and an input so, subject to the partial exemption provisions, the effect is neutral. Thus the trader is in the same position as he would have been if he had acquired the goods from a UK supplier.
If the goods acquired are zero-rated or exempt under UK VAT legislation there is no requirement to account for VAT at the standard rate.
6.4.2 Sales (dispatches)
Where goods are sold to a customer in another EU member state, the supply is zero-rated if the following conditions are satisfied:
- The supply is made to a registered trader
- The supplier quotes his customer’s VAT number on the invoice
- The supplier holds evidence that the goods were delivered to another member state
If these conditions are not satisfied, the trader must charge VAT in the same way as for a supply to a customer within the same member state as the trader.
6.5 International services 6/12
FAST FORWARD
International services between VAT-registered businesses require the customer to account for both output and input tax under the reverse charge rules. Output tax on other international services is usually accounted for by the supplier in the usual way.
As we have seen, B2B services are treated as supplied in the place where the customer has established his business. Where the supply is treated as made in the UK under these rules, the UK business customer must apply the ‘reverse charge’. This means that the UK business charges itself output tax which it recovers as input tax in the normal way. This means that the foreign supplier has no obligation to register for VAT in the UK or to charge UK VAT on such supplies. Instead, the customer is required to account for VAT.
If the customer is not registered for VAT, the purchase of the services counts as a deemed supply in measuring the registerable turnover for the customer. This might lead to the customer becoming liable to register for VAT.
If the business customer only makes taxable supplies, the overall effect of the reverse charge will normally be tax-neutral as the output tax and input tax will cancel each other out. However, if the business customer is partially exempt, not all of the input tax may be recoverable and so the reverse charge will lead to a net payment of output tax.
The tax point for a single supply to which the reverse charge applies is the earlier of:
The time the service is completed, and The time the service is paid for.
If the supply is continuous, the tax point will be the end of each billing or payment period, Where the service is not subject to billing or payment periods, the tax point will be 31 December each year unless a payment has already been made, in which case the tax point will be the date of the payment.
For B2C services, the supply will be made by the supplier where he has established his business and the supplier will charge output tax in the normal way. No input tax is recoverable on B2C supplies since, by definition, the consumer is not a VAT-registered business.
Exam focus The special place of supply rules for B2C supplies of telecommunications, broadcasting and e-services are point excluded from the P6(UK) syllabus.
7 Special schemes
| Special schemes include the cash accounting scheme, the annual accounting scheme and the flat rate scheme. These schemes make VAT accounting easier for certain types of trader usually with relatively low turnover. |
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7.1 The cash accounting scheme 12/11
The cash accounting scheme enables businesses to account for VAT on the basis of cash paid and received. The date of payment or receipt determines the return in which the transaction is dealt with. This means that the cash accounting scheme gives automatic impairment loss relief (bad debt relief) because VAT is not due on a supply until payment has been received.
The scheme can only be used by a trader whose annual taxable turnover (exclusive of VAT) is not expected to exceed £1,350,000 over the following 12 months and whose returns and VAT payments are up to date.
If the value of taxable supplies exceeds £1,600,000 in the 12 months to the end of a VAT period a trader must leave the cash accounting scheme immediately.
Advantages of the scheme are:
Automatic relief for impairment losses Cash flow
7.2 The annual accounting scheme 12/13
The annual accounting scheme is only available to traders who regularly pay VAT to HMRC, not to traders who normally receive repayments. It is available for traders whose VAT exclusive taxable turnover is not expected to exceed £1,350,000 over the following 12 months.
Traders file annual VAT returns and must make nine monthly payments on account equal to 90% of their previous year’s VAT liability, with the first payment due at the end of the fourth month of the year. An annual VAT return must be submitted to HMRC along with any balancing payment due within two months of the end of the year. There is an option to pay three larger interim instalments. Late payment of instalments is not a default for the purposes of the surcharge liability notice system.
To use the scheme all payments must have been made up to date. Annual accounting is not available where VAT registration is in the name of a VAT group or a division.
If the expected value of a trader’s taxable supplies exceeds £1,600,000 notice must be given to HMRC within 30 days and he may then be required to leave the scheme. If the £1,600,000 limit is actually exceeded, the trader must leave the scheme.
Advantages of annual accounting:
- Only one VAT return each year so fewer occasions to trigger a default surcharge
- Ability to manage cash flow more accurately
- Avoids need for quarterly calculations for partial exemption purposes and input tax recovery Disadvantages of annual accounting:
- Need to monitor future taxable supplies to ensure turnover limit not exceeded
- Timing of payments have less correlation to turnover (and hence cash received) by business
- Payments based on previous year’s turnover may not reflect current year turnover which may be a problem if the scale of activities has reduced
7.3 Flat rate scheme 6/14
The flat rate scheme enables businesses to calculate VAT due to HMRC by simply applying a flat rate percentage to their VAT inclusive turnover, including all zero-rated and exempt income. The percentage depends upon the trade sector into which a business falls. The percentage depends upon the trade sector into which a business falls. It ranges from 4% for retailing food, confectionery or newspapers) to 14.5% for accountancy and book-keeping. A 1% reduction off the flat rate % can be made by businesses in their first year of VAT registration.
| The flat rate percentage will be given to you in your examination. |
Exam focus point
Businesses using the scheme must issue VAT invoices to their VAT registered customers but they do not have to record all the details of the invoices issued or purchase invoices received to calculate the VAT due.
Invoices issued will show VAT at the normal rate rather than the flat rate.
To join the flat rate scheme businesses must have a tax exclusive annual taxable turnover of up to £150,000. A business must leave the flat rate scheme if the total value of its tax inclusive supplies in the year (excluding sales of capital assets) is more than £230,000.
The main advantage of the flat rate scheme is the reduction in VAT administration, rather than a substantial saving of VAT itself.
7.4 Example: flat rate scheme
An accountant undertakes work for individuals and for business clients. In a VAT year, the business client work amounts to £35,000 and the accountant will issue VAT invoices totalling £42,000 (£35,000 plus VAT at 20%). Turnover from work for individuals totals £18,000, including VAT. Total gross sales are therefore £60,000. The flat rate percentage for an accountancy businesses is 14.5%.
VAT due to HMRC will be 14.5% £60,000 = £8,700. Under the normal VAT rules the output tax due would be:
£
£35,000 20% 7,000 £18,000 1/6 3,000
10,000
Whether the accountant is better off under the flat rate scheme depends on the amount of input tax incurred as this would be offset, under normal rules, from output tax due. The reduced VAT administration should also be taken into account.
Chapter roundup
| | Some supplies are taxable (either standard-rated, reduced-rated or zero-rated). Others are exempt. |
| | Transactions in land may be zero rated, standard rated or exempt. |
| | Not all input VAT is deductible, eg VAT on most motor cars. |
| | If fuel is supplied for private purposes all input VAT incurred on the fuel is allowed and the business will normally account for output VAT using a set of scale charges. |
| | Relief for VAT on impairment losses (bad debts) is available if the VAT has been accounted for, the debt is over six months old (measured from when the payment is due) and has been written off in the trader’s accounts. |
| | A trader making both taxable and exempt supplies may be unable to recover all of his input tax. |
| | The capital goods scheme (CGS) allows HMRC to ensure the VAT claimed on the purchase of certain capital items accurately reflects the taxable use to which they are put over a period of time. |
| | Imports from outside the EU are subject to VAT and exports to outside the EU are zero-rated. Taxable acquisitions from other EU states are also subject to VAT and sales to registered traders in other EU states are zero-rated. |
| | International services between VAT-registered businesses require the customer to account for both output and input tax under the reverse charge rules. Output tax on other international services is usually accounted for by the supplier in the usual way. |
| | Special schemes include the cash accounting scheme, the annual accounting scheme and the flat rate scheme. These schemes make VAT accounting easier for certain types of trader usually with relatively low turnover. |
Quick quiz
- What input tax is never deductible?
- What relief is available for bad debts?
- What is partial exemption?
- Are goods exported from the EU standard-rated or zero-rated?
- Mr Higgins is registered for VAT in the UK. He only makes taxable supplies. Mr Higgins is supplied with services by a French business on 1 December 2015. The value of the supply is £50,000. What are the VAT consequences of the supply?
- What are the turnover limits for the annual accounting scheme?
- What is the optional flat rate scheme?
Answers to quick quiz
- VAT on:
- Motor cars (where there is an element of private use)
- Business entertaining (UK customers)
- Expenses incurred on domestic accommodation for directors
- Non-business items passed through the accounts
- Where a supplier has accounted for VAT on a supply and the customer fails to pay, then the supplier may, after 6 months, write it off in the accounts and claim a refund of the VAT.
- Where a ‘person’ makes a mixture of taxable and exempt supplies he is partially exempt and cannot recover input tax incurred by the business in full.
- In general, exports from the EU are zero-rated.
- Mr Higgins will have to account for output tax of £50,000 × 20% = £10,000 on the supply and also £10,000 of input tax. The reverse charge is therefore tax neutral for him.
- Turnover not exceeding £1,350,000 to join the scheme. Once turnover exceeds £1,600,000 must leave the scheme.
- The optional flat rate scheme enables businesses to calculate VAT simply by applying a percentage to their tax-inclusive turnover ie the total turnover generated, including all zero-rated and exempt income. The percentage depends upon the trade sector into which a business falls.
| Number | Level | Marks | Time |
| Q33 | Introductory | 10 | 19 mins |
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