Flat Rate VAT Scheme and Income Tax


Flat Rate VAT Scheme and Income Tax

Postby profet on Mon Jul 13, 2009 3:09 pm

Can someone help me clear up a very confusing issue.

I am on the flat rate scheme for VAT meaning I charge 15% on my services, and pay 9.5% of my total (VAT inclusive turnover) to HMRC.

My accountant tells me that I have to include the difference in the VAT I charge and the VAT I pay as taxable income. This seems strange to me, as surely the difference is to offset the fact that I can not reclaim VAT I have paid on purchases.

My accountant thinks that I can expense VAT inclusive amounts on my tax return, but surely this would mean I had to keep accounts of all my VAT income and expenses - defeating the whole purpose of the flat rate scheme.

I hope this all makes sense - in short, how do I account for VAT purchases and expense in my tax return when on the flat rate VAT scheme?

Thanks!

James
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Re: Flat Rate VAT Scheme and Income Tax

Postby robbob on Mon Jul 13, 2009 4:18 pm

Hello James

This is a tricky one to explain in an easy understandable way , so apologies if this post is confusing.

There are 2 ways these items can be treated on the tax return.

1. Show Sales Gross including Vat charged at full rate and show the Vat payable as an expense.

2. Reduce sales by output vat payable, you would reduce asset purchases too if there were any where vat was reclaimed.

Either method is fine and both should give exactly the same profit figure providing the accounts have been done in the correct manner.

If you are paying the same vat across as you would have been on the normal vat method your profits for tax purposes will be the same,if the figure is higher or lower and difference does end up as additional/less taxable income.

As far as
My accountant tells me that I have to include the difference in the VAT I charge and the VAT I pay as taxable income

This will be because your expenses will also be included gross so the overall net effect of additional income will be very minor - pretty much as mentioned above.

I am not sure why keeping vat inclusive figures is harder as this is how i would presume your books are kept when you are on the flat rate scheme. I.e. any input vat (other than on large asset purchases) is ignored and payments are shown gross.
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Re: Flat Rate VAT Scheme and Income Tax

Postby profet on Mon Jul 13, 2009 4:45 pm

Thankyou for the help robob - I think I'm almost there.

The problem is that the output tax I pay to HMRC is 9.5% of my salary , and yet I charge 15% to my customers. Therefore, if I appear to have made a profit of around 5.5% from VAT. My accountant is telling me I should be taxed on this. However, as I am on the flat rate scheme, I can not reclaim my output VAT, and this perceived profit is supposed to pay my output tax. If on my expenses I use VAT inclusive amounts, then I would reclaim some of this. The problem with this is that my output VAT is actually pretty small, and I so will be paying 40% tax on nearly the whole amount. Surely the flat rate scheme fixes the percentages for each sector to cover the output tax for that sector, and wouldn't expect anyone whose output tax was actually lower to pay more tax?

Is it acceptable to use VAT exclusive ammounts for my expenses, and then to just add another expense for the total amount of VAT that I have "profited" - bringing my overall profit back down to what it would be if I was not on the flat rate scheme?
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Re: Flat Rate VAT Scheme and Income Tax

Postby robbob on Mon Jul 13, 2009 5:02 pm

The problem with this is that my output VAT is actually pretty small


If you mean you would have very little inputs then - yes to some extent you are paying tax on the extra profits, however this is extra money the business has earned and will be taxed as any other busines income.
There is really nothing unfair in this when compared to another business who does not benefit from the flat rate - after all you do at least get to keep the post tax income.
At the end of the day you still have more cash in your pocket than you would have if you used the normal scheme whereby you claim input vat back.
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Re: Flat Rate VAT Scheme and Income Tax

Postby profet on Mon Jul 13, 2009 5:53 pm

Thats not what I wanted to hear!

I still think it is a little odd to be charged income tax on the VAT I have charged my customers, but as you say, I'm better off than if I wasn't on the flat rate scheme.

So I can either include the VAT I have payed on purchases in my expenses or add the total input VAT as an extra expense. I guess the first is easier.

Thanks for your time in answering my question!
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Re: Flat Rate VAT Scheme and Income Tax

Postby RAL on Mon Jul 13, 2009 9:23 pm

profet wrote:So I can either include the VAT I have payed on purchases in my expenses or add the total input VAT as an extra expense. I guess the first is easier.


If you are on FRS you do not have choice. For sales use one of the method described by Robbob and you can not claim vat on your purchases. (You can claim vat on capital expenditure over £2000).
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Re: Flat Rate VAT Scheme and Income Tax

Postby profet on Mon Jul 13, 2009 10:51 pm

RAL,
RAL wrote:you can not claim vat on your purchases


So the amount of VAT that I pay out has no effect on my income tax liability? I can not count my VAT input as an expense?

This would mean that I will always pay 40% tax on difference between the 15% I charge and the 9.5% I pay. Effectively then I am paying a much higher flat rate - more like 12%, as the different between the two rate, which is supposed to offset my VAT input is actually being paid as income tax. This really is madness - I hope I have misunderstood.

In fact, if I can not claim my VAT purchases as expenses, then I will almost certainly be paying more as a result of the Flat Rate Scheme. It feels as if the 9.5% figure that HMRC assign to my industry is completely misleading if you will always have to pay 40% income tax on the difference between the two rates, regardless of your VAT input.

Its almost as much of a joke as HMRC applying the flat rate to the VAT inclusive turnover, not the pre-VAT amount. I mean 9.5% is easy to understand - 9.5% of 115% is a little more confusing. And then there is having to write the VAT inclusive figure on the quarterly return in a box that clearly asks for a VAT exclusive figure. How hard can it be to make a separate form. No wonder accountants make so much money.
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Re: Flat Rate VAT Scheme and Income Tax

Postby RAL on Mon Jul 13, 2009 11:19 pm

RAL wrote:you can not claim vat on your purchases


When I said that you can not claim vat means, that vat element you have to add it on underlying expense.
So for example if you purchased stationery for £100 and vat is £15.00. So enter full £115.00 as cost in your accounts as you are on FRS you can not claim.

If you are on standard vat than you enter expense £100 and claim back £15.00 via vat return.

profet wrote:This would mean that I will always pay 40% tax on difference between the 15% I charge and the 9.5% I pay. Effectively then I am paying a much higher flat rate - more like 12%, as the different between the two rate, which is supposed to offset my VAT input is actually being paid as income tax. This really is madness - I hope I have misunderstood.

In fact, if I can not claim my VAT purchases as expenses, then I will almost certainly be paying more as a result of the Flat Rate Scheme. It feels as if the 9.5% figure that HMRC assign to my industry is completely misleading if you will always have to pay 40% income tax on the difference between the two rates, regardless of your VAT input.

Its almost as much of a joke as HMRC applying the flat rate to the VAT inclusive turnover, not the pre-VAT amount. I mean 9.5% is easy to understand - 9.5% of 115% is a little more confusing. And then there is having to write the VAT inclusive figure on the quarterly return in a box that clearly asks for a VAT exclusive figure. How hard can it be to make a separate form. No wonder accountants make so much money.


You need to do an excercise whether which scheme is suitable to you. FRS is not always suitable to everyone.

If you providing services than FRS is benefitting but if you have lot of purchase than FRS may not suitable.

Regarding income tax, everybody has to pay tax so if you are on FRS and it is beneficial to you then you have to tax on profit you make on being FRS scheme.

VAT is huge and very complex. When you come to deal with property, innternation, wthin europe (services and goods). It is minefield, no wonder even HMRC has conflicting information on their website.
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Re: Flat Rate VAT Scheme and Income Tax

Postby profet on Tue Jul 14, 2009 9:27 am

Ok, so I can claim the VAT I have paid as an expense - I misunderstood!

Thanks again for helping me clear this up - you have been very patient with me.
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Re: Flat Rate VAT Scheme and Income Tax

Postby RAL on Tue Jul 14, 2009 9:29 am

profet wrote:Ok, so I can claim the VAT I have paid as an expense - I misunderstood!

Thanks again for helping me clear this up - you have been very patient with me.


No probs, its how we accountant talk.
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