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VAT and Partial exemption - avoid the pitfalls

28th January 2015

With the VAT year-end approaching for many businesses (in March, April, or May) it is probably a good time to review your partial exemption position to ensure that you do not fall into the pitfalls associated with VAT and partial exemption. 

The main pitfalls and opportunities to improve your VAT position are set out below: 

  1. Annual adjustments - Many businesses simply fail to carry out an annual adjustment each VAT year or carry out the calculations for the adjustments incorrectly. The correct application of an annual adjustment can often improve your VAT recovery position. 
  2. Capital Goods Scheme adjustments - A yearly adjustment is required for all VAT that has been reclaimed on capital assets. For VAT purposes capital assets include commercial property (purchase and/or refurbishment) costing over £250,000 and computer hardware costing over £50,000. The most common error relates to when multiple capital assets are purchased and when commercial property is purchased as part of a transfer of a business (where no VAT has been charged on the transfer). In this case the purchaser will inherit the previous owner’s Capital Goods Scheme position and is required to continue with any VAT adjustments each year for the remaining life of the asset, a point that is often neglected. 
  3. Accounting for reverse charge and partial exemption - Often it is not recognised that services received from overseas will also have a potential VAT cost (even though no VAT has been charged by the overseas supplier). You must apply the reverse charge and apply a restriction to the imputed input VAT for taxable services received from overseas (this includes management charges made by parent companies). 
  4. De-minimis limits - There is a de-minimis limit which allows full VAT recovery where the exempt input VAT is below certain limits, this applies to the annual adjustment as well. Many businesses fail to review this when the annual adjustment is calculated and could be losing out on VAT recovery. 
  5. Standard method versus special method - It may be possible to improve the VAT recovery position by considering the use of a different partial exemption method. Even if you have agreed a special method with HMRC, it can often be worth reviewing the application of the method and whether it is still fair and reasonable for the business, as often the method will have been agreed with HMRC some time ago after which business operations may have changed. 

The points mentioned above can often lead to mistakes being made to partial exemption calculations and lead to under or over recovery of input VAT. To the extent that these errors result in over recovery, it could also lead to penalties and interest being applied by HMRC. 

What now? 
We would recommend that your partial exemption position is reviewed on an annual basis to ensure you are carrying out the necessary requirements correctly and are maximising your potential VAT recovery. 

Our VAT team are experts in this area and can help you with your partial exemption requirements and establishing whether any improvements can be made to your VAT position. We would be pleased to arrange a free initial call with you to discuss any concerns you have in respect of your partial exemption position. 

If you would like to discuss any of these issues further please contact Kamlesh Chauhan. 

VAT Manager
Tel: +44 20 7969 5584