A client approached us this week with an interesting proposal, a scheme which they had found which could reclaim thousands of pounds in VAT. The scheme is straightforward, their suppliers (who are not currently VAT registered) recharge all of their last 4 years’ worth of invoices with VAT after registering on the Flat Rate Scheme. The supplier (our customer) then must pay over that 20% difference on all of those supply invoices, although they then reclaim that from HMRC in their usual quarterly return; the net effect on our client is technically nothing apart from a shift in cashflow over the quarter. The contractor then pays over their Flat Rate percentage (let’s say 9.5%) to HMRC and keeps the rest; although in the case we saw the company promoting this scheme kept some of this recharge as a fee.
The question we were asked was simple, is the scheme legal?
To answer this, we must look at the reasons for the recharge of the invoices; essentially for our client it seems would not directly profit from this, in fact we think the reprocessing of invoices and payments coupled with the difference in the cashflow will cost them; but the big decision is whether they would allow their suppliers to do this. As a company you rely on suppliers being honest and being able to supplier their goods and services on time and at the right price, however it must be questioned whether scheme such as these are honest and how much they might cost you in both reprocessing and future tax liability.
There are lots of ‘accountants’ and agencies running these and similar types of ‘tax reclaim’ schemes, we use the word accountants carefully in this case because from the evidence we saw there was no professional body mentioned and no connection to any regulatory framework. The schemes are not illegal now, but that does not mean they won’t be in the future.
We’ve all heard of tax evasion which is illegal, but the rules of tax avoidance changed a few years ago, there were several schemes which use loopholes in the tax system to legitimately avoid tax, but the words legitimate and avoid cannot be used together anymore. HMRC requires anyone using an avoidance scheme to register it, should this scheme be found to be illegal in the future you will be required to pay back tax and possible a penalty; however, should you not register the scheme the outcome is likely to be much worse.
The Flat Rate VAT scheme was brought in to help small businesses to keep simple records and keep administration of VAT lower than being part of the standard VAT schemes, it was never designed to add to the profit of the company although in some marginal cases it will do this. Where a business decides to register for VAT and then recharge past years of VAT this has the potential to raise that red flag to HMRC and prompt an inspection.
However, this may not happen immediately, in fact it could happen month or years down the line; you then have the opposite issue in the fact that you are now a VAT registered trader and have to charge tax on every taxable sale or service, increasing your charge by 20% automatically; this might not affect some of your customers but those who cannot reclaim this charge will see it as your price increasing overnight for nothing.
Okay, but is it legal?
As it stands we can’t answer that, why? Because several avoidance schemes that were legal previously have now be judged unlawful and taxpayers pursued for thousands of pounds, some may be ruined by this action.
Schemes that claim to be able to ‘reclaim’ thousands in potential tax revenue should be viewed in the same light, the tax payer MUST remember that they are responsible for their own tax affairs; the use of an agency to handle your affairs is no justification for errors or avoidance of tax. A tax payer should always check the credentials of the accountant they use and that they are still valid, any genuine firm will be happy to supply both registration details and the professional bodies which cover them (Do check this!)
Any scheme which seems too good to be true probably is, but if you still want to give it a go then do your homework and be aware that things might just come back and bite you later. If you end up with a HMRC investigation, then the cost of this is likely to outweigh the potential short term profits you will make. If you are currently using one of these schemes and worried that you might be storing up problems for the future then act now to review your circumstances, of course we are always happy to help.