VAT is supposed to be a simple self-assessing tax, however for any business, getting VAT right represents a substantial and often onerous burden. This is particularly the case for any business or organisation that receives VAT exempt income as well as VATable income.
Where any organisation receives VAT exempt income and VATable income the organisation is classed as being “partially exempt” for VAT purposes. This means that the organisation must make time consuming and sometimes complex calculations each VAT return period and on a yearly basis to calculate how much VAT the organisation is allowed to claim on its costs.
This issue affects not for profit organisations, businesses making VAT exempt supplies such as education bodies and organisations operating in the financial service sector, however, it can also impact on any business that holds VAT exempt property that it uses to gain rental income.
In order to work out how much VAT can be claimed the organisation has to attribute the VAT on its costs to VATable use (fully recoverable), VAT exempt use (irrecoverable subject to the deminimis limits) or residual use (partly recoverable), i.e VAT on costs that support both VATable and VAT exempt activities. The residual VAT is then apportioned to calculate the element that can be claimed. The standard method of recovery is based on the taxable turnover of the business calculated as a percentage of its total turnover , however, special methods (any alternative method that produces a result that is fair and reasonable) can be applied for in writing to HMRC. In all cases there are deminimis limits below which exempt VAT can be claimed.
Needless to say working out how much VAT can be claimed each VAT return period can create a real administrative burden and this becomes even more onerous where an organisation property related capital costs of more than £250,000 plus VAT or more (for any individual project) in the last ten years. This puts the property within the capital goods scheme (CGS) meaning that the organisation has to make adjustments each year for the ten years CGS life of the property.
Adjustments are also required where an organisation has acquired a single item of computer equipment for a cost of £50,000 plus VAT or more. These adjustments are rarely required as the threshold was set when a mainframe the size of a small house was required to provide the functionality that the average mobile phone can now provide.
The CGS adjustments are a legal obligation and are required to reflect any changes in VATable use of the property, and in some cases also to make adjustments for any non-business use.
Following a review by the Office of Tax Simplification in 2017, HMRC are now responding and calling for organisations that are impacted on by the partial exemption and CGS calculations to comment on a questionnaire.
The information provided will then be used as evidence for any proposed changes to simplify the partial exemption, deminimis and CGS. The questionnaire focus is very much around:
- the difficulties that businesses face in agreeing a special method with HMRC, which can take months to agree,
- the deminimis limits and if the threshold for exempt related costs of £625 VAT per month which has been in place since 1994 should be either increased or removed as in some EC countries there is no deminimis limit, and
- Simplifying the CGS including changing the £250,000 plus VAT threshold that has been in place since 1990 and no longer reflects the current cost of properties and work to them and changing the length of the number of adjustments and removing computer equipment from the CGS entirely.
If your organisation or your clients are partially exempt and are not already aware of the requirement to apportion the VAT that they incur before recovering it from HMRC, or require assistance with any issues relating to partial exemption and/or the CGS please contact your usual VAT advisor or our VAT helpline for an initial discussion.
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