VAT Flashcards
What are the key general principles in relation to value added tax (VAT)?
VAT is relevant to both a firm’s professional charges and to some disbursements paid by the firm on behalf of clients
2 distinct aspects to VAT
- Output tax – charged by a business to customers
- Input tax – charged to a business by its suppliers
The business collects the tax for HMRC and a taxable person can deduct input tax charged to them from amount of output tax they pay to HMRC
- Standard rate is 20%
- Zero rate (food, books, transport)
- Reduced rate of 5% (domestic fuel, child car seats)
- Exempt from VAT (insurance and health services)
What is output tax? Explain the elements that comprise the definition
VAT is chargeable on the supply of goods or services, where the supply is a taxable supply and is made by a taxable person in the course of a business carried on by them
Person making the supply is liable to account to HMRC for the output tax they charge
- Supply of goods = comprises all forms of supply of goods, including a gift of goods
- Supply of services = comprises anything which is not a supply of goods, but is done for consideration, so a gift of services is not covered
- Taxable supply = any supply of goods or services other than an exempt supply - Legal services are standard rated
- Taxable person = person must register if the value of their taxable supplies in the previous 12 months exceeds £90k - Voluntary registration is possible
- Business = any taxable supplies in course of business must be charged, such as a law firm selling old office equipment
What are some key points in relation to the value of supply?
If consideration is money, the value of the supply, is the amount including VAT
Always quote for a fee plus VAT, because otherwise the customer pays the stated fee, and business must pay the VAT itself
What is the ‘time of supply’ for goods and services?
Goods – when the goods are removed or made available to the purchaser
Services – when the services are completed
When are tax invoices necessary?
Important evidence to show a business’ right to recover input tax
Taxable person making a taxable supply to another taxable person must provide them with a tax invoice within 30 days of the supply
How does accounting for VAT work broadly?
Accounting for VAT is generally by reference to quarterly accounting periods
Within 1 month after the end of each quarter, a taxable person must submit a completed return form to HMRC, with the output tax due
- Can cause issues if the legal services are completed, amount is billed, but remains unpaid
How are a firm’s professional charges and VAT on these recorded in the accounts? Give an example
Firms providing legal services must charge VAT on their supply of services
Example - £200 bill will have a £40 VAT charge (20%)
- CR on profit costs account
- CR HMRC account with VAT – shows how much the firm owes HMRC
- DR on client ledger account (business section) with professional charges and VAT (2 separate figures) - shows the client owes the firm money in both respects
How are disbursements treated for VAT purposes?
These are not part of the supply of legal services, so the firm does not need to charge VAT on them – must meet the conditions to qualify as a disbursement though:
- Must be a payment to a 3rd party, purely as agent for the client
- Client received and used the goods/services provided by 3rd party
- Client was responsible for payment, but authorised firm to pay on their behalf
- Client knew goods/services would be provided by a 3rd party
- Disbursement is separately itemised and are clearly additional to the supplies the firm makes on its own account
Give some examples of disbursements that won’t be VAT chargeable
IHT
CGT
SDLT
Estate agents’ fees
Land charge and land registry fees
Probate fees
Court fees
Counsel’s fees, as the service is supplied to the client
Give some examples of items which are not disbursements
Necessary charges for the service provided to the client
- Telephone charges, postage, photocopying etc
- Firms increase their professional charges to cover these costs
General solicitor expenses
- Travel, accommodation
- Must be included as part of the overall charge
Any expenses necessary for the firm to complete its supply of professional services is not a disbursement
- This includes search fees where the firm uses the information to provide advice or a report – these fees will be subject to VAT
How are ‘non-disbursements’ treated in the firm’s accounts?
‘Non-disbursements’ must be treated as part of the firm’s chargeable supply
Overheads like postage, fares and telephone just form part of the professional charges
How would search fees be recorded in the accounts?
CR cash account (business section) with amount paid + VAT (2 separate items)
DR searches account
DR HMRC account with VAT input tax charged to the firm
How would search fees be recorded in the accounts, if the firm wanted to identify which client it relates to?
(1 + 2) CR cash account (business section) with amount paid + VAT (2 separate items)
(3) DR client ledger (business section) with VAT exclusive amount + note in detail column that the payment is part of the firm’s taxable supply
(4) DR HMRC account with the VAT input tax charged to the firm
When the bill is issued, VAT output tax will be charged on the professional charges and the search
Give an example of how search fees might be recorded
Example – firm pays for search 1 for £10 + £2 VAT, search 2 for £10 + £2 VAT and issues a bill of £300 + £60 VAT (on professional charges) and £4 VAT on the two searches
- DR client ledger business section for S1 (details £2 VAT paid), S2 (details £2 VAT paid) and for profit costs (£300) and VAT (£64) - four DR entries
- DR HMRC for S1 and for S2 – 2 DR entries
- CR HMRC when bill issued
- CR profit costs when bill issued
This just lists the entries in relation to the searches not everything
How are ‘non-taxable disbursements’ treated in the firm’s accounts?
Firm passes on the cost to the client
These are payments not subject to VAT, such as court fees, SDLT, Land Registry fees
Whether paid out of client or business account, the firm does not pay VAT to the supplier or charge the client VAT when billing them
How are disbursements including a VAT element treated in the firm’s accounts?
This relates to payments made by the firm to a taxable person, like counsel, accountants, estate agents etc
- The VAT element of the firm’s payment is passed to the client, but no additional VAT
When the firm makes the disbursement on the client’s behalf, who the supplier addresses the VAT invoice to has an impact
- Invoice addressed to client - ‘Agency’ method + VAT inclusive amount passed to client
- Invoice addressed to firm - ‘Principal’ method + solicitor must resupply the service and provide a new VAT invoice
In relation to disbursements including a VAT element, describe the agency method
If the invoice is addressed to the client, the supply is treated as made to the client
Firm does not separate supplier’s fee and VAT in the accounting records; **records the total paid **
Firm must send supplier’s tax invoice to client if asked, allowing them to recover the input tax
In relation to disbursements including a VAT element, give an example of the agency method
Example – Firm pays £1000 surveyor’s bill, plus £200 VAT and invoice addressed to client
- Firm will pay £1200 and charge the client £1200, without distinguishing between fee and VAT
- Can be paid out of either client or business account and position is the same
If paid out of client account:
- DR client ledger (client section)
- CR cash account (client section)
No entries made on HMRC ledger + if client registered for VAT, the firm sends them the original invoice so they can claim the input tax
In relation to disbursements including a VAT element, describe the principal method
If the invoice is addressed to the firm, the firm can claim the supply as an input, so it must use business money to pay the supplier’s fees + input tax
- Supply treated as made to the firm, so must always use business account
The firm then resupplies the item to the client at the same price, meaning it will charge output tax on both the firm’s professional charges and the disbursement
If client is registered for VAT, the firm will provide an invoice to cover both the charges and disbursement
In relation to disbursements including a VAT element, give an example of the workings of principal method (not the account entries)
Example – firm pays a surveyor’s invoice of £200 and £40 input tax
The fee and VAT are recorded as separate items on the cash account
- VAT on HMRC account
- Tax exclusive amount on client ledger
On the bill:
- Professional charges (£400)
- Surveyor’s fee (£200)
- Output tax (£40 (on fee) + £80 (on charges))
The fee and output tax are separate items on the bill
In relation to disbursements including a VAT element, give an example of the principal method, with the account entries
Example - firm pays a surveyor’s bill, addressed to the firm, which is £1000 + £200 VAT
(1) Pre-bill:
- DR client ledger (business section) for tax exclusive amount (£1000), with details column saying £200 VAT paid
- DR HMRC account for £200 VAT
- CR cash account (business section) with 2 entries (one for fee, one for VAT)
(2) Bill issued
VAT on profits costs is increased by VAT on disbursement
- DR client ledger account (business section) with 2 entries (one for profits costs (£600), one for VAT of both profit costs and disbursements, with details column stating VAT (£200 + £120)
- CR HMRC for £320 VAT (both profits costs + disbursements VAT together)
- CR profit costs for £600
Give a summary of the ‘principal’ method of passing VAT to client when the firm pays a disbursement with VAT element
(1) Identify that the disbursement is to be treated on the principal basis – if the invoice is addressed to the firm, it will be treated on the principal basis.
(2) CR the disbursement and the VAT on it to cash account business section – it is common, but not essential, to show the two elements separately - shows the business paid this
(3)
- DR VAT to HMRC ledger
- DR VAT exclusive amount to client ledger account business section.
- Make a memorandum note in the ‘Details’ column of the client ledger of the amount of VAT which must be added to the VAT charged to the client when an invoice is issued.
(4) When a bill is issued, add the VAT on the principal method disbursement to the VAT on the professional charges and make the normal entries for delivery of a bill.
- DR client ledger account business section, with VAT and costs as two separate amounts
- CR the profit costs account with costs
- CR HMRC account with total VAT charged
What concessionary treatment is given to counsel’s fees?
Counsel’s fee notes are normally addressed to the firm, but the firm is allowed to alter it, so it is addressed to the client
Firm then gives fee note to client, so they can reclaim the input tax
- This means the fee note is dealt with on the agency basis, rather than the initial principal basis
