Businesses that are VAT Registered, but whose customers are not, often have a large decrease in their profits when they register for VAT. This can happen when their customers are able to pay someone else (to provide the same service) who is not VAT registered who will therefore accept a lower price. The VAT Threshold for 2014/15 is £81,000. The remainder of this article is based on the same tax year.
What can be done to solve this problem? Here are four possible solutions:
1. Try to increase the turnover further, so that although the profit margin has dropped, the total amount of profit increases, purely because the turnover is higher. For many businesses, the turnover level required to make a higher profit compared to when they were not VAT registered, is at least £120k. If you don’t think you can get the turnover that high within a few years (or you don’t want the extra work required to get a higher turnover), go for one of the other options.
2. Sometimes it is possible to keep the turnover below the VAT threshold by getting the customer to pay for materials, so they are paying you for labour only. Do take care not to agree to pay for the materials yourself. You can advise the customer where to buy and what to buy but it must be them buying it not you. Also, you would need to consider whether you would need to register for the Construction Industry Scheme, if you are supplying labour only.
3. It may be possible to split the current trade into two separate trades, which individually will be below the VAT Threshold. This would involve having at least one LTD company. HMRC do have anti-avoidance rules on this, so you should speak to a tax adviser to see if it is possible, and to advise you (such as us); if it is not done correctly, a lot of VAT could become payable and you could easily be bankrupted by the amount of VAT that HMRC attempt to claw back from you.
4. If your turnover is a little over the VAT Threshold, it may be worth stopping work, so that it you fall below the VAT de-registration limit. This way, you turnover is less, but you end up with more profit if you still charge the same price as if you were VAT registered.
If any businesses in the Guildford area would like to talk to a tax accountant about these options, please call us and we will see if we can help you.