Does the name on the invoice matter?
Q. I am the finance director of a large company and have just discovered that hotel bills we pay for in relation to our sales staff working away from home are always made out to the individual employee and not the company. Does this create an input tax problem?
A. The two challenges with input tax are to ensure that an expense is always for the purpose of your business. More specifically, that it relates to taxable rather than exempt activities and secondly that the goods or services you have bought have been supplied to your business rather than any other party. It could be argued that the hotel has supplied accommodation and food to the employee and not your business but the good news is that HMRC accepts an input tax claim in this situation, i.e. because the business purpose test is clearly met.
The concession above also applies to certain other costs where purchase invoices might be addressed to your employee rather than your business, e.g. motor fuel, repair costs, mobile phone bills, small tools and materials.
Will incorporating cause a VAT problem?
Q. My wife and I are in partnership running a music business. She gives piano lessons with annual earnings for the partnership of £30,000 and I focus on buying and selling musical instruments with annual sales of £70,000. We have never been registered for VAT but are thinking of incorporating the business. Will this cause a VAT problem?
A. The answer is yes, this will cause a big problem. Private tuition given by either a sole trader or member of a partnership is exempt from VAT if the subject is usually taught in a school or university. Music lessons would come within this category. However, tuition provided through a limited company is always standard-rated, even when it is provided by a person who is a director or shareholder of the company. So, your annual taxable sales if you incorporate your business will be £100,000 rather than £70,000 and you will need to register for VAT. From a VAT perspective, it makes sense to avoid incorporation.
The exemption for private tuition does not apply to lessons given by anyone other than a sole trader or member of a partnership. Tuition given by employees or self-employed subcontractors is always standard-rated.
Can we separate our business activities?
Q. My business is VAT registered and offers four different services for private householders: ironing, window cleaning, domestic cleaning and dog walking. My turnover is just above the registration threshold and the business would benefit if I could deregister as I have minimal input VAT to claim. Is business splitting an option?
A. HMRC has extensive powers to treat two businesses that have been artificially separated as a single business, with the combined turnover being relevant for VAT registration purposes. It has the power to correct a split from a current or future date if the separated businesses have economic, financial and organisational links.
However, it cannot correct the register retrospectively if the split has been done properly, e.g. separate bank accounts, separate legal entity, separate invoicing and supplier accounts etc. It would seem sensible to separate the dog walking income into a different entity because it is not linked to your customers’ properties. You could then de-register if the total sales income from the remaining activities is expected to be less than £83,000 in the next twelve months.
The costs of forming, say, a limited company for the separated activity, or a partnership with a friend or relative, might outweigh the VAT savings.
Bad debt or credit note?
Q. My business provides consultancy services to the charity sector, I recently produced a report but the client is refusing to pay the fee because they thought it was a poor-quality report. I disagree with their conclusion but have decided not to take legal action to recover the money. How should I deal with the VAT that I declared on my last return?
A. By not taking legal action, you are effectively accepting a reduction in your fee to zero, so you could issue a credit note to the client to cancel the output tax charged on the original invoice. You can then recover the VAT on your next return. But if you do not raise a credit note, you could reclaim the VAT as bad debt relief but not until the return that includes the date when the original invoice is overdue for payment by at least six months.
Consider adopting the cash accounting scheme if your taxable sales in the next twelve months are expected to be less than £1.35m. Scheme users do not account for output tax until they receive payment from their customers.