VAT implications of partial exemption

NotesQuizPaper exam

VAT implications of partial exemption

Partially exempt business

are businesses that sell taxable and exempt supplies and may be registered for VAT compulsorily (if taxable turnover exceeds £85,000) or voluntarily.

Input tax is generally not recoverable on exempt supplies, however, if the input tax relating to exempt supplies is less than the de-minimus limits then it becomes recoverable.

In order to see if this is the case, there are two simplified tests to work through.  If you pass test one then you do not need to work through test two.  If you fail both tests then you will need to use a formula to calculate how much input tax is recoverable.

Partially exempt businesses

The simplified tests

Test 1:
Is total input tax less than £625 per month? and
Is exempt turnover less than 50% of total turnover?
If the answer to this test is YES then 100% of input tax can be recovered.

Test 2:
Is total input tax less input tax directly attributable to taxable supplies less than £625 per month? And 
Is exempt turnover less than 50% of total turnover?
If the answer to this test is YES then 100% of input tax can be recovered.
If neither of these tests are passed then you can apply a formula to non-attributable input tax to discover how much, if any, is recoverable.

VAT registered traders can reclaim input tax that relates to its taxable supplies proportion, but not input VAT that relates to it’s exempt supplies, however the issue arises when there is non-attributable input VAT, this is the input VAT that relates to overheads. 

The input VAT that can be reclaimed for non-attributable input VAT must be in proportion to the taxable supplies proportion.

Calculation of the proportion that can be reclaimed for non attributable input VAT:

Non attributable input VAT x Taxable Turnover /Total Turnover 

For example ,  if a business has £70,000 taxable supplies and £30,000 exempt supplies for the year, and it has non attributable input VAT of £9,000 – then it can reclaim 70%*£9,000 = £6,300.

If the remaining amount of £2,700 (£9,000 - £6,300) is less than £625 per month and less than 50% of the input VAT relates to exempt supplies then this amount is also recoverable.

£2,700/12 = £225 per month. Therefore this is recoverable too.

When calculating the amount of recoverable input tax for a quarter, the trader can now choose to use the percentage for the previous year rather than the partial exemption percentage for the current particular quarter.

The trader must use the same method for the whole year.

For example, if the taxable supplies percentage for 22/23 was 60%, the trader can use this percentage to calculate the input VAT recoverable for 23/24 and then make a final adjustment in the final quarter of 23/24 with the current year percentage.

  • The method used will not make any difference to the total amount of VAT recovered as the annual adjustment will ensure that the final amount recovered is in accordance with the figures for the whole year.

  • The business can now choose to enter the annual adjustment on the return for the final period of the year rather than the first period following the end of the year.

As seen earlier, if the turnover attributable to exempt supplies is small then by concession it can all be reclaimed.

Small is:

  1. The irrecoverable input tax must be no more than £625 per month and

  2. The irrecoverable input VAT must be less than 50% of the total input tax

Illustration

Jake Ltd. has the following proportion of taxable supplies:exempt supplies.

Taxable supplies 86%
Exempt supplies 14%

Input VAT

Wholly attributed to taxable sales £7,000
Wholly attributed to exempt sales £1,000
Unattributed Input VAT £3,000

Can the Input VAT attributed to exempt sales and the unattributed Input VAT be recovered?

Solution

Yes it can if it is deemed to be small

Total Input VAT £11,000

Input VAT wholly attributed to exempt sales £1,000
+
Unattributed Input VAT for exempt sales (14%*£3,000) £420
Total £1,420

This will be deemed to be small as it is less than £625/month and it is less than 50% of total Input VAT.

NotesQuizPaper exam