Q.As a small business-owner, what do I need to know about the VAT increase?

A.The standard rate of VAT is 17.5 per cent at the moment but this will be rising to 20 per cent in three months time. If you are a business that issues VAT invoices, then you must use the 20 per cent rate for all invoices issued on or after 4 January 2011. However, if you provide goods or perform services before this date and issue a VAT invoice after 4 January, then you can choose to account for VAT at 17.5 per cent without informing HMRC.

Retailers are required to switch to the higher 20 per cent rate after 4 January 2011 – with only a few exceptions. But if your customer pays on or after 4 January 2011 for something they take away before this date, then you can still use the current 17.5 per cent rate, even if the payment is received after the higher rate has come into effect for other sales.

If you start work on a job before 4 January but finish afterwards you may account for the work done up to 3 January 2011 at 17.5 per cent and the remainder at 20 per cent. If you choose to do this you will have to be able to demonstrate that the apportionment is fair, HMRC says.

HMRC has said that it will be operating a “light touch” in dealing with errors made in the first VAT return after the change, where the error relates to a change of rate issue.
Businesses formerly had two weeks from 4 January 2011 to make pricing changes but thanks to some recent campaigning from the British Retail Consortium (BRC), they will now have a month to make the necessary adjustments.

Not doing so could result in prosecution by the Trading Standards Agency. Don’t forget that this is not just your customer-facing prices such as labels and tickets, but your internal systems, your website and back office books – this can be a costly process. The Federation for Small Businesses has calculated that this could cost a small business as much as £1,500.

Q.How will it affect my business plans?

A.Richard Baron, head of taxation at the Institute of Directors, warns that you will need to make plans for future costs as you need to decide whether or not to absorb the VAT rise yourself, or pass it on to the customer. It will also help to consider that you are just one in a supply-chain of businesses responding to the same situation: your suppliers will also have to decide whether to pass on the costs to you or to absorb them. Try to find out in advance how their pricing will change so that you can alter your budget and business plan accordingly.
If you think you have been charged the wrong rate of VAT, then first check the invoice date. The normal rule is that VAT is due at the rate in force on the date that the invoice is issued.

However, suppliers can opt to apply the new rate to advance invoices so if a invoice received in December 2010 for goods provided after 4 Janaury 2011 had shown a 20 per cent rate, that could also be correct.

Also make sure you are careful about the assumptions you make about sales growth between the pre- and post-Christmas periods. Customers might bulk-buy your products before the VAT rise comes into effect, showing an artificial spike in sales that might not continue.