Making VAT a simple(r) tax…?

On 7 November the Office of Tax Simplification published its first report devoted to VAT. When VAT was introduced the then chancellor stated that his objective was to have “the simplest VAT in Europe”.  In my view he failed. While in many respects HMRC has sought to minimise the burden of VAT, in so doing it has created a regime combining the overarching EU framework with many hangovers from the old purchase tax regime which are now outdated and anachronistic. The fact that the report runs to 85 pages and covers only 8 topics is testament to the enormity of the task. The recommendations are wide ranging and not all will be of interest to every reader. This article summarises the recommendations and we’ll look in more depth at each area in coming days.

The report makes 8 core recommendations (and a further 15 subsidiary ones):

1.       Registration threshold – the UK’s registration threshold of £85k is the highest in the EU and the OECD. Although this can be seen as a simplification taking many small businesses out of the VAT regime, there is evidence that it acts as a disincentive to businesses to grow beyond the threshold. The OTS considers the case for a significant reduction (say to the average wage) accompanied by some measures to mitigate the impact or a significant increase. While all would agree that tax should not stifle business growth, there is a debate to be had about the best mechanism to do this.
2.       Rulings and guidance – the OTS recommends that HMRC improves its written guidance to reduce the need for rulings and is more responsive to written requests. This is an uncontroversial finding.
3.       Penalties – the OTS suggests a review of the penalty regime to provide greater certainty – particularly around voluntarily disclosed errors where in practice a penalty is rarely levied, and to increase the threshold for written disclosure for larger businesses. Again a finding which seems sensible and uncontroversial.
4.       VAT rates and exemptions – the evolution of the UK VAT system over 40 years has resulted in an excessively complex regime of VAT rates riddled with exceptions and exceptions to the exceptions and anomalies which the average taxpayer often finds baffling. Whilst to some extent this is governed by EU law many of the UK’s more ridiculous rules could be ironed out within the current legal framework.
5.       Partial exemption –  there is little tolerance within the system for businesses which have very limited exempt activity and simplification is suggested for those at the margin. The OTS proposes simplification and this is to be welcomed for large and particularly small businesses.
6.       Partial exemption – for those businesses with more significant exempt activity the standard method should be simplified and the mechanism for agreeing special methods streamlined.
7.       Capital goods scheme – this scheme designed to smooth VAT recovery on long term assets (in practice limited to buildings) is cumbersome and ripe for modernisation as the threshold for the scheme has not changed since its inception in 1990.
8.       Options to tax – the record keeping and notification process needs to be modernised. This is vital as the options have an indefinite life and businesses now wishing to revoke options need to be able to evidence an act made 20 years ago.

There is plenty of interesting material in the study which we will comment on in coming days. We look forward to seeing what happens next.

If you can’t wait – read the OTS report here.