As has been widely predicted, the Chancellor has reduced the standard VAT rate to the lowest permitted rate under EC regulations. This measure takes effect this Monday, 1 December and will revert to 17.5% from 1 January 2010.
Baker Tilly analysis
The big question is whether the reduction will inject a fiscal stimulus into the economy. Certainly, retailers are under no obligation to pass on the VAT reduction through decreased prices - indeed, struggling smaller retailers may welcome the opportunity to retain the extra as income. But if that is the case, the reduction is unlikely to act as an inducement for consumers to part with more of their money.
For those retailers that do pass on the VAT reduction by lowering their prices, will a decrease of 2.5% encourage consumers to spend more? As there is no VAT on items such as food and children's clothes and school uniforms in any case, the VAT reduction will not result in greater spending on essential items.
The question is then, would a 2.5% decrease (in reality a 2.1% decrease because retail prices are VAT-inclusive) on the price of non-essential goods such as electrical items, cars and home furnishings make all the difference to potential purchasers? With high street retailers offering discounts of 20-25%, the answer would appear to be no, but of course, only time will tell.
This early implementation date will come as a shock to many retailers, particularly those who have already printed Winter catalogues displaying prices. Whilst many retailers will be able to change their till systems to reflect new prices, it may not be achievable to amend all the prices shown on the shelves. Certainly the extra administration has come at the busiest time of the year for them. Internet retailers will no doubt find it easier to make price changes quickly and will have the advantage here.
Charities, education providers, organisations in the not-for-profit sector and financial institutions will certainly appreciate this VAT cut as these organisations are unable to recover most, if not all, the VAT they incur on expenditure.
In detail
This measure will affect all supplies of goods and services that were previously taxable at the standard rate of 17.5%.
There are no changes to supplies that are currently subject to VAT at the reduced- or zero-rate, or those that are exempt from VAT.
What this means for suppliers
Suppliers must take action now to ensure their accounting systems are ready for the 1 December change.
The changes required to be carried out by each business will depend on the nature of that particular business. For example:
Retailers
Systems will need to be re-programmed to calculate the VAT payable to HMRC on VAT-inclusive items using the new fraction of 3/23, rather than 7/47.
Supplies to VAT-registered businesses
All VAT invoices issued on or after 1 December 2008 must show VAT at the new rate of 15%. The exception to this is where goods or services are provided more than 30 days (extended from 14 days by HMRC concession) before the VAT invoice is issued or where payment has been received before 1 December. In these cases, the VAT due is 17.5%.
However, there are optional rules which would allow suppliers to apply the 15% VAT rate. Where an invoice has already been issued or payment received before 1 December, but the goods or services will be provided/carried out after 1 December, a supplier may opt to apply the 15% rate. This would be beneficial for any non-VAT registered customers or those unable to recover in full the VAT they are charged e.g. non-profit making organisations, education providers and charities.
Continuous supplies of services
A tax point is created whenever payment is received or an invoice issued, whichever is the earliest. If a customer has already paid in advance of receiving a supply, the supplier has a choice of which VAT rate to apply. If the supplier opts to apply the new rate this can only be done for the value of the supply taking place post 1 December. If he does not opt to apply the new rate, VAT is due at the rate in force at time of payment (i.e. 17.5%). The supplier will need to consider how the value of the work carried out post 1 December can accurately be determined - certainly, customers who are unable to recover the VAT they are charged will want to be sure they are paying no more VAT than is necessary.
Action required
Suppliers need to act quickly to ensure that their systems are ready for the rate change. In addition, there will be a number of considerations when deciding whether to elect to apply the 15% rate, where this is an option, both in terms of cashflow and absolute VAT savings for customers.
Baker Tilly can help you manage this process and ensure the optimum result for both you and your customers. For further information, please contact your local Baker Tilly VAT specialist.