Now is the time for VAT simplification

Accountants argue that the change of government brings a unique opportunity to simplify VAT.

There’s been a lot of talk of VAT simplification lately. Professional bodies have been calling for HMRC to address SMEs’ disproportionately high tax cost burden.

Talk has ramped up since the change of government, with many suggesting now is the time to make significant changes to the system.

This problem is a global one. Many EU member states have already taken steps to address it, implementing a voluntary ‘SME scheme’. This is only eligible to EU member states (therefore not the UK).

The scheme works by exempting EU-based SME businesses with turnover below a certain amount. Each EU member state is free to set its own threshold, so it varies considerably.

Currently, the the threshold in Greece is €10,000, while in Italy the threshold is €85,000.

From January 2025, new amendments to the EU-wide scheme will be implemented. These will include a set standardised maximum threshold of €85,000 and extending the scheme to EU-based businesses that operate in other EU member states – providing annual turnover does not exceed the threshold.

Many hope it won’t be long before a similar scheme comes to the UK. Indeed, there are calls for the government to re-introduce The Office of Tax Simplification which was abolished in 2023.

Previous tax simplification options explored by the Office of Tax Simplification included:

Lowering the VAT threshold. This would bring higher numbers of businesses into the VAT system, so it’s fairer overall with no cliff edge. However, it’s likely to have implications for economic growth.

Increasing the VAT threshold, which would remove the tax burden of more SMEs but stunt business growth.

A ‘smoothing’ mechanism to reduce tax burden on SMEs. That would include a ‘time-limited reduction in VAT Flat Rate scheme for newly-registered businesses and a financial taper’, as suggested in Office of Tax Simplification, Value added tax: routes to simplification 2017 report.

So what do financiers think? We spoke to accountants and bookkeepers for their views on VAT simplification and what they’d like to see.

Introduce a significant VAT registration threshold

Dougie Todd, Partner and Co-Head of VAT, haysmacintyre

The momentum behind the new government could make this the ideal opportunity to consider changes to or simplification of elements of the current UK VAT regime.

However, as we’ve seen with recent attempts to introduce changes to the VAT legislation (‘pasty tax’ and changes to the VAT treatment of womens’ sanitary products, for example), the government needs to carefully consider any significant changes to liabilities of specific products.

In addition, the recent increase to the VAT registration threshold from £85,000 to £90,000 highlights that it is more beneficial to small businesses to maintain turnover under the threshold to retain 20% of their income.

Instead, VAT simplification could include:

Introducing a significant VAT registration threshold (for example £500,000) which would benefit small traders by allowing them to retain an extra 20% of income.

Increasing the threshold for the Capital Goods Scheme (it’s been at £250,000 for a number of years). An increase to the threshold would allow small and medium size businesses to invest in capital works without additional VAT compliance burdens. 

Extending existing VAT zero-rating certification to include private housebuilders (in addition to charities and social housing providers) to allow them to recover VAT incurred on the development of social housing.

The benefits of these simple changes are to encourage employment and investment by SMEs. It also makes the system fairer and less subject to fiscal drag.  None of these changes could be considered a ‘tax cut’ but would make the VAT system work more fairly, provide certainty for businesses and support the government’s stated aim of encouraging growth and investment.

Verdict: Introduce much higher VAT registration threshold to allow small traders to retain an extra 20% of their income.

Break down barriers with an introductory level of VAT with a lower registration threshold

Kirsty Nash MAAT, Licensed Accountant, Tiny Shark Accounting

With a new party in power and the nation braced for change, now could be the time to simplify VAT. The tax is often criticized as overly complex by business and accountants alike and it may be stifling the growth of UK businesses.

With approximately half of all businesses in the UK not registered for VAT (or PAYE), there is a clear opportunity for the government to capture a wider audience with the tax. Reducing the burden of entry is vital however and any changes made need to help and assist small businesses.

I love the idea of having an introductory level of VAT, with a lower registration threshold. It would encourage involvement in the scheme and break down the current barriers faced by small businesses. This could involve a ‘small business tier’ of VAT with mandated use of existing flat rates and annual submissions for simplicity.

Once a business is in the scheme, purchases will have an element that can be reclaimed which could encourage more spending and investment. And even more so when there is no incentive to cap revenues and to bunch under £90,000, the new registration threshold.

Beyond new or small business, VAT veterans would surely welcome a simplification of the various rates, rules and exemptions. This is a much more daunting task however and one that may require a fundamental revisit of the tax.

Verdict: Implement an introductory level of VAT with a lower registration threshold to break down barriers faced by small businesses.

VAT simplification needs to balance revenue needs and business and economic incentives

Mike Webb, Associate, Wellers

VAT plays a crucial role in the UK’s tax landscape, contributing significantly to government revenue, but the current system can be complex and burdensome for businesses. This is due to the threshold, which is the highest in the EU and OECD. This creates a ‘cliff-edge’ effect where businesses just below the threshold may avoid growth to stay under it.

There are a few ways the policy could be simplified.

Reducing the threshold. This could minimise the drag on economic growth as there would be less incentive for businesses to stay under the ‘cliff-edge’. Instead, it means they can actively pursue growth. However, it would bring more businesses into the VAT system.

Raising the threshold. Alterantively, the threshold could be raised to something closer to £100,000. Some say this will encourage suppressed economic activity, although the problem of a ‘cliff-edge’ remains.

Spread out VAT payments. This could ease the immediate liability of having to pay once a business crosses the threshold. This helps alleviate the pressure on businesses that haven’t needed to deal with this cost before, allowing them to continue to pursue growth alongside making VAT payments.

Overall, simplification has several benefits. It provides more incentive for businesses to grow instead of hovering just below the threshold. This will also improve revenue collection for the government by reducing the number of businesses escaping VAT.

It will also reduce administrative burden so more time can be spent on the business instead of on paperwork. A simpler and more transparent VAT system will enhance the UK’s attractiveness for investment which will be good for UK economy, too.

Overall, it could be a positive reform as long as it strikes the right balance between revenue needs and economic incentives, businesses and individuals.

Verdict: VAT simplification could be positive as long as it balances revenue needs and business and economic incentives.

Work with businesses to agree on VAT simplification rules

Richard Staunton, VAT Partner, Gerald Edelman

I think everyone in accountancy would welcome VAT simplification. The bigger issue though is whether simplification will lead to certainty.

There are many areas of VAT which are complicated and subject to discussion through the courts. Most weeks there is a development that subtly changes how an area of VAT is treated. That’s not helpful for a business where there may be doubt over whether VAT should or should not be charged – that additional 20% might be the entire profit margin!

Ensuring that all businesses have certainty and a level-playing field though would surely encourage entrepreneurship. Since Brexit, the UK is in a position to fundamentally make changes to the VAT system that it couldn’t when in the single market, so there is clearly an opportunity here.

There were previously rumours that the Office of Tax Simpliifcation was considerating a stepped approach, reducing the threshold. For example VAT at 10% might be levied at say £60,000 to £80,000 and then 15% from over £80,000 to £100,000 and so on. It would solve one issue but would actually increase complexity not simplify things.

Alternatively, there is another area which could be looked at. Work on houses which have been empty for two years have a 5% VAT rate but it isn’t always easy to prove that the property has been empty. Also, the 5% isn’t always recoverable but rules could be tweaked and simplified to allow that. Not only would that encourage businesses to carry out more projects but it would also result in additional housing which is one of the governments targets. A win-win?

Verdict: Overall, a good approach for VAT simplification would be for HMRC to work with busineseses and agree on rules for complicated areas.

Would you like to contribute to future articles like this one? If so, please get in touch with Annie Makoff-Clark at [email protected].

Annie Makoff is a freelance journalist and editor.