The Chancellor has confirmed that proposed changes to the VAT Flat Rate Scheme will now go ahead. This will have a negative impact on most freelance contractors who operate via their own limited companies.
From April 2017, a new 16.5% VAT flat rate will be introduced for businesses who are classified, within a completely new category, as Limited Cost Traders.
A Limited Cost Trader is defined as one whose VAT inclusive expenditure on goods/services is:
- less than two per cent of their VAT inclusive turnover in a prescribed accounting period
- greater than two per cent of their VAT inclusive turnover, but less than £1,000 per annum
Goods/services, for the purposes of this measure, must be exclusively required by the business. The following items are excluded:
- capital expenditure (purchase of laptops etc)
- motoring and travel costs
- accountancy and legal fees
Note 1 – the exclusions prevent Limited Cost Traders from buying low value everyday items, or one off purchases, in order to inflate their costs beyond the two per cent threshold.
Until now, most freelance contractors have used a VAT flat rate of between 12% - 14.5% to calculate how much VAT to pay over to HMRC. This typically results in a cash profit for their business.
As stated above, all Limited Cost Traders will use the new 16.5% figure from April 2017 - this will effectively remove the bulk of the VAT profit they currently enjoy.
Note 2 – the standard 16.5% rate will be discounted by 1% during the first 12 months of VAT flat rate registration.
- A freelance contractor invoicing £50,000 per year - currently using a 14.5% VAT flat rate.
- VAT charges to agency/client (£50,000 x 20%) = £10,000
- VAT paid over to HMRC (£60,000 x 14.5%) = £8,700
- Net gain to business = £1,300
Under new rules as a Limited Cost Trader – using the proposed 16.5% VAT flat rate:
- VAT charged to agency/client (£50,000 x 20%) = £10,000
- VAT paid over to HMRC (£60,000 x 16.5%) = £9,900
- Net gain to business = £100
Please use this link to our VAT flat rate calculator to understand how the new rules will personally affect you.