Value Added tax

Question 1

What are the two distinct aspects of Value Added Tax (VAT) and how do they function in a business context?

Answer 1

1. Output Tax: Charged by a business to its customers. The business collects this tax and accounts for it to HMRC.
2. Input Tax: Charged to the business by its suppliers. Businesses can generally deduct input tax from the output tax they account for to HMRC.

A VAT-registered business effectively collects VAT for HMRC and can offset its input tax against its output tax liability.

Question 2

What are the current VAT rates, and how do zero-rated and exempt supplies differ?

Answer 2

The current VAT rates are:
* Standard Rate: 20%
* Zero Rate: 0% (e.g., food, water, books)
* Reduced Rate: 5% (e.g., domestic fuel, children’s car seats).

Difference:
* Zero-rated supplies: No VAT is charged, and input tax can be recovered.

• Exempt supplies: No VAT is charged, but input tax cannot be recovered.

Question 3

Who qualifies as a taxable person under VAT law, and when is registration required?

Answer 3

A taxable person is anyone required to register for VAT under the Value Added Tax Act (VATA) 1994. Registration is required when the value of taxable supplies exceeds the annual threshold (£90,000 for 2024/25).

Voluntary registration is permitted for businesses below the threshold if they wish to recover input tax.

Question 4

What conditions must be met for an expense to be treated as a disbursement for VAT purposes?

Answer 4

To qualify as a disbursement:
1. The supplier acted as an agent for the client.

2. The client directly received and used the goods/services.
3. The client was responsible for the payment.
4. The client authorized the supplier to make the payment.
5. The payment was separately itemized on the invoice.
6. Only the exact amount paid was recovered.
7. The goods/services were additional to the supplier’s own services.

Failure to meet these conditions means the expense is not a disbursement and VAT must be applied.

Question 5

How is VAT accounted for on professional charges by legal firms, and what is the importance of quoting fees correctly?

Answer 5

Legal firms must charge VAT (usually at the standard rate of 20%) on their professional charges.

Importance of Fee Quotation:
If VAT is not explicitly stated as extra in a quote, the total amount received is deemed inclusive of VAT. This reduces the firm’s net revenue, as the VAT component must still be paid to HMRC.

Question 6

What are the basic tax points for VAT on goods and services, and how can these be varied?

Answer 6

Basic Tax Points:

• Goods: When goods are removed or made available to the purchaser.
• Services: When services are completed.

Variations:
* If an invoice is issued within 14 days after the basic tax point, the invoice date becomes the tax point.

• If payment or invoice is issued before the basic tax point, the date of payment or invoice becomes the tax point.

For solicitors, there is a general extension to three months for issuing invoices.

Question 7

What is HMRC’s view on the VAT treatment of search fees and other common legal expenses?

Answer 7

Search fees may qualify as disbursements only if the information obtained is passed to the client without any analysis. If the search results are used for advice or reporting, the fee becomes part of the firm’s taxable services.

Other expenses:
* Disbursements: Examples include estate duty, stamp duty, and counsel’s fees.

• Non-disbursements: Overheads like travel, photocopying, and postage are subject to VAT as part of the firm’s services.

HMRC emphasizes a strict interpretation of disbursement criteria, requiring clarity and compliance.

Question 8

What is the distinction between non-disbursements and disbursements for VAT purposes?

Answer 8

Disbursements: Payments made on behalf of a client that meet all of HMRC’s conditions:
1. The firm acts as an agent for the client.
2. The client directly receives the benefit of the goods or services.
3. The client is liable for payment, and the payment is not part of the firm’s supply.
4.. The payment is separately itemized on the invoice and not marked up.

Non-Disbursements:
* Payments that do not meet these conditions (e.g., search fees, postage, telephone charges).
* Treated as part of the firm’s professional charges and attract VAT.

Question 9

How are search fees treated and recorded in a firm’s accounts?

Answer 9

Search fees are typically non-disbursements and included in the firm’s taxable supply.

Recording Method:
1. When paying the search fee:
* CR Cash Account (Business Section): Enter VAT-exclusive amount and VAT separately.

• DR Searches Account (or Client Ledger): Record the fee as a cost associated with the client.
• DR HMRC Account: Record VAT paid as input tax.

2. When billing the client:
   * Add the VAT-exclusive search fee to professional charges.
   * Charge VAT on the total amount.

Example:
* Search Fee (VAT-inclusive): £10 (Fee) + £2 (VAT).
* Professional Charges: £300 (Fee) + £60 (VAT).
* Total Bill: £320 + VAT @ 20% = £384.

Question 10

What are distburstments with vat element and non-taxable disbursements and give some examples and they are treated in accounts?

Answer 10

1. Non-Taxable Disbursements:
   
   • Examples: Court fees, Land Registry fees, Stamp Duty Land Tax.
   • No VAT charged to the client; paid out of client or business bank account.
2. Disbursements with VAT Element:
   * Examples: Payments to taxable suppliers like surveyors, accountants, or estate agents.

• VAT-inclusive payment is passed to the client.
• If the supplier’s invoice is addressed to the client (agency method), VAT is recoverable by the client.
• If the invoice is addressed to the firm (principal method), VAT is treated as input tax, and the firm charges VAT on resupply.

Question 11

What is the agency method of treating disbursements, and when is it applied?

Answer 11

The agency method applies when the supplier’s invoice is addressed to the client. The firm does not seepage the suppliers fee and Vat in the firms accounting records, it simply records the total paid.

Key Features:
1. The firm acts as an agent, paying the supplier on the client’s behalf.

2. The firm passes the VAT-inclusive cost to the client without adding VAT.
3. No VAT entries are made in the firm’s HMRC ledger.

Example:
* Surveyor’s Invoice: £1,000 + £200 VAT (addressed to client).

• The firm pays £1,200 and charges the client the same amount. whether the payment is made out of business money or client money, the firm will charge the client 1,200 again without distinguishing between fee and vat.
• The client uses the original invoice to claim input tax if registered for VAT.

Question 12

What is the principal method of treating disbursements, and how does it differ from the agency method?

Answer 12

The principal method applies when the supplier’s invoice is addressed to the firm.

Key Features:
1. The firm treats the payment as its own supply and claims input tax.

2. The firm resupplies the service to the client, charging VAT.
3. The payment must be made from the business bank account.
4. The fee and VAT are recorded as separate items on the cash account.
5. The Vat is recorded on the HMRC account.
   Example:

• Surveyor’s Invoice: £200 + £40 VAT (addressed to the firm).
• The firm pays £240, claiming £40 as input tax.
• When billing the client, the firm charges:
• Surveyor’s Fee: £200
• Professional Charges: £400
• VAT: £120
• Total: £720

Question 13

What is the concessionary treatment for counsel’s fees, and why is it significant?

Answer 13

Under a concession agreed in 1973, counsel’s fees can be treated using the agency method, even if the invoice is addressed to the firm.

Key Points:
1. The firm amends the invoice to address it to the client.
2. The amended invoice is provided to the client for VAT recovery.
3. No additional VAT is charged by the firm.

Significance: This avoids resupply complications and prevents the client from being charged additional VAT unnecessarily.

Question 14

What are the steps for handling a disbursement under the principal method for VAT purposes?

Answer 14

1. Identify Principal Basis: If the invoice is addressed to the firm, treat the disbursement on the principal basis.
2. Record Payment:
   * CR Cash Account (Business Section): Record both the VAT-exclusive amount and VAT (separately if preferred).

• DR VAT (HMRC Ledger): Record the VAT input tax.
• DR Client Ledger (Business Section): Record the VAT-exclusive amount.
• Add a note in the “Details” column specifying the VAT amount to include in the client’s bill.

3. Issue the Bill:
   * Add the VAT from the principal disbursement to the VAT on professional charges.
   * Record the bill as follows:
   * DR Client Ledger: Record VAT and costs as two separate amounts.
   * CR Profit Costs Account: Record the costs.
   * CR HMRC Account: Record the total VAT charged.