HMRC clarify rules on claiming pre-trading VAT inputs
Brush up on Regulation 111, which can often be a particular benefit for new businesses.
Overview UK law allows a business registering for VAT to recover tax it has incurred on goods and services before their effective date of registration (EDR). This allows the recovery of VAT against goods and services as long as they’re used by the taxable person to make taxable supplies once registered. This is known as Regulation 111.
A claim under these regulations is often a valuable means of funds in the early period of trading for a business. However, it is important the return is made properly as some of the provisions are not as straightforward as they seem and HMRC has recently highlighted this fact.
What has changed? In Revenue and Customs brief 16 (2016) HMRC stressed that its policy has not changed but ‘this brief has been issued because VAT on assets held prior to EDR hasn’t always been treated consistently’. It does not specify what aspects of the law VAT registered entities have been getting wrong but in the brief it makes the following points:
VAT on services received within six months of EDR and used in the business at EDR is recoverable in full
VAT on stock is deductible to the extent that the goods are still on hand at EDR (for example apportionment may be required)
VAT on fixed assets purchased within four years of EDR is recoverable in full, providing the assets are still in use by the business at EDR.
HMRC also emphasises that the normal rules on VAT deduction should be observed and that full recovery only applies if your business is fully-taxable.
How to avoid errors The interpretation of this brief and of the relevant law can therefore be summed up fairly easily and it appears that the following actions will avoid ‘inconsistencies’ as HMRC put it:
A claim to deduct input tax must be supported by appropriate documentary evidence. Full details of HMRC guidance can be found here.
Full recovery only applies if the business is fully-taxable. If it's partly-exempt, has non-business activities, or needs to restrict VAT deduction for any other reason, it will need to take that into account when calculating the deductible VAT.
Ensure that the above six month rule for services is observed.
Where stock for the business was bought and sold before the EDR then no input VAT can normally be reclaimed.
For assets purchased within four years of the EDR, input VAT is only claimable where the asset is still held and also is in use at date of registration. Note that a business may not use regulation 111 to recover VAT on supplies that were purchased for non-business or private purposes. HMRC gives the following example to illustrate this:
an individual buys a van to use for wholly private purposes. Three years later the individual registers for VAT and uses the van exclusively within their business. The VAT paid on the van is permanently outside of the VAT system because there were no business activities at the time the van was bought. The VAT paid on the van can never be brought back in under the terms of regulation 111.
Pre-incorporation input VAT One other question that is thrown up is whether the same rules apply before registration and before incorporation.
The basic rule is that a limited company cannot register for VAT until it is formally incorporated. Goods or services may have been supplied to the employees setting up the company before then. The above rules will generally then apply apart from one exception which is that the partial exemption de-minimis limit does not apply to VAT incurred pre-registration.