Yesterday, I was going through the onboarding of a new client who’s setting up a marketing consultancy limited company. Let’s call our client Penelope.
We came to that part in the process where we discuss VAT. Penelope’s company has revenues of less than £85k per year, so she doesn’t have to register for VAT if she doesn’t want to. But she can register voluntarily. The question is, should she?
The answer really depends on the type of customers that a business has, as we’ll see below.
Only business customers
Penelope will be providing her marketing consultancy services to businesses in the South West of England.
So, should she register? The answer is a pretty straightforward ‘Yes’, because she sells to businesses (which we can assume are at least mostly registered for VAT themselves).
The benefit of registering is that all the VAT paid by Penelope on her expenditures can now be claimed back. So, the £200 in VAT she paid on her nice new laptop that cost £1,200 (incl. VAT) will be given back to her by the tax man!
The problem of registering is that Penelope now must charge VAT on all her invoices, which increases her VAT inclusive price by 20%. But, Penelope supplies medium-sized businesses which are therefore all registered for VAT. So, this VAT that they pay is given back to them by HMRC as well. Which means they’re not concerned whether they pay VAT or not, as it’s not a cost to them.
In short, Penelope gets all the VAT back that she pays to her suppliers. Her customers don’t care about the 20% VAT that she is now charging on her invoices, because they’re VAT registered anyway.
It was an easy decision to register!
Only non-business customers
Let’s now look at an imaginary company, Sparkle Ltd, that provides cleaning services to private homes. The revenues are less than £85k per year, so there’s no requirement to register for VAT. So, should Sparkle Ltd register voluntarily?
If it does, all prices must include 20% VAT. If Sparkle doesn’t change the VAT-exclusive price, this will mean that customers end up paying 20% more. Because they’re not VAT registered businesses, they can’t claim this back.
Sparkle would be able to recover all VAT paid to suppliers back from HMRC, but in this case, it’s likely that this benefit is outweighed by the increase in price that their customers will face.
My advice – don’t register until the revenues are close to the £85k per year threshold.
Mix of business and non-business customers
What about if there’s a mix of business and non-business customers?
In this case, it depends on three main things, and you need to assess these three things together:
1. WHAT’S THE PROPORTION OF BUSINESS TO NON-BUSINESS CUSTOMERS?
If 95% of your revenue comes from business customers and only 5% from non-business customers, it’s still probably worthwhile voluntarily registering for VAT. If the opposite is the case, it’s probably not.
2. WHAT’S THE LEVEL OF VAT PAID ON EXPENSES IN YOUR BUSINESS?
If you’re a service business, and the main expenditure is yours and others salaries (on which no VAT is payable), then the amount of VAT paid is probably quite low. This means that the benefit of registering is lower.
However, if you supply goods, and you’re therefore paying a lot of VAT to your suppliers, then it may make sense to register.
3. WILL YOU LOSE CUSTOMERS BECAUSE OF CHARGING VAT?
As we’ve seen, the answer to this question if you supply to businesses is ‘no’.
But what if you supply to non-business customers. Here’s where it gets very difficult to predict, and depends on your positioning in the market (whether you’re competing on price or quality).
HOW TO DECIDE?
Give me a call (020 8133 3921) or drop me an email (email@example.com), and I’ll be happy to discuss the pros and cons with you. I’ve had this chat with several clients in the past, and always find that the decision is easier once we discuss together and look at both sides objectively.