14 May

Splitting business to avoid paying VAT

Small business owner of a coffee shopThe UK Government has frozen the VAT registration threshold at £85,000, which will probably stay in place until 2020. Not ideal if you’re trying to stay below the VAT limit.

With a VAT rate of 20% many owners are considering splitting their businesses into separate entities, with each business trading below the VAT threshold. Thus, enabling them to increase price margins without breaching the £85,000 barrier.

But is that a good idea? Let’s find out.

What are HMRC’s conditions?

Quite what will happen post-Brexit is anyone’s guess but for now HMRC is aware of tax planning which they believe has been put in place to artificially separate two entities.

However, HMRC has to prove that the two businesses have “financial, organisational and economic links” before they can proceed with a direction notice. Here what each one entails:

  • Financial links - One part of the business would not be financially viable without fiscal support from the other. Common financial interest in the profits of the business. 
  • Organisational links - The business supplies the same customers, activities of one part of the business directly benefit the other and there are identical economic objectives from both entities.
  • Economic links - Common equipment, premises, employees and management.

If they decide that there were never two separate businesses, the issue becomes one of late registration which HMRC can claw back for up to 20 years. 

 Examples of businesses frequently targeted by HRMC

A frequent target of HMRC on business-splitting grounds are VAT-registered farms, where a member of the family runs a bed and breakfast business which is not VAT registered, from the same location.

It will argue that because some buildings have both a farm use and a B&B function. The two businesses are part of a whole and should come under one VAT registration.

Although the use of the same building can be a factor that indicates two businesses are connected, HMRC is required to consider a range of factors to determine whether the businesses are genuine separate entities.

The tax authorities must judge whether each factor points towards one business, two separate businesses, or is neutral. If the majority of the factors are either neutral or point towards separate businesses, HMRC should not direct that the businesses be combined for VAT purposes.

If you’re unhappy with HMRC’s decision you can appeal to the Tax Tribunal.

How to decide whether HMRC will challenge your business split

Where you operate two or more businesses within your family, the following questions can help you decide whether HMRC will challenge your businesses as being artificially split:

  • Is the business designed to operate as an individual business, despite utilising central resources? For example, a franchised business.
  • Is the business so intrinsically linked with other 'connected' businesses that it can only be considered to be one indivisible business? For example, wet sales and catering in public houses and restaurants.
  • Is the business carried on in separate departments or divisions, but is in reality one legal entity? For example, a quasi-partnership.
  • How much independence does the business have from any other 'connected' businesses by way of legal and technical resources?
  • Does the business owner have autonomy in the way he/she operates the business? For example, access to premises, opening times, recording sales, purchase of stock and materials, bank accounts and annual accounts?
  • What would happen if the business owner was unable to operate their business personally?
  • Has the business owner registered the business with HMRC for corporation tax or income tax separately from those businesses that are 'connected'?
  • Is the business owner working together with their partner/spouse in his/her business as a quasi-co-owner or just assisting them as a family member in their business?

HMRC has the power to direct that two or more businesses should be treated as one business for VAT purposes, even where those businesses are contained within separate legal entities, such as limited companies.

Need expert advice on your VAT? Get in touch to discuss your business structure with us if you think it could be challenged by HMRC.

 

 

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