To avoid being charged penalties by HMRC, VAT needs to be paid in a timely manner. However, if the VAT you owe relates to a specific service, you may be able to defer the payment. When VAT is added to the goods or services you sell to a customer, you are obligated to pay it in full on your next VAT return. This payment is required regardless of whether or not you have been paid; it does not concern HMRC if your customers are late paying. For many businesses this rule can severely affect their cash flow. One solution, and the most common, is cash accounting.
With cash accounting, you do not need to pay VAT until you have been paid yourself. Therefore, if a customer never pays you, you will never have to pay the VAT. As with standard VAT accounting, you can also reclaim VAT on any invoices, but only when you have paid your supplier. To qualify for cash accounting, your estimated annual VAT taxable turnover cannot be more than £1.35 million. If you do not qualify for cash accounting, all is not lost; there is still a loophole open to you. This loophole is available to businesses that provide a continuous service with an open-ended contract. It is important that this is not confused with a one-off service that is billed over a long period of time. It has to be for a service, such as maintenance, which is always required and has no end date.
In the VAT legislation, it states that if there is a continuous service, tax points will occur upon the issue of a VAT invoice and when payment is received. In normal circumstances, the first tax point occurs on the date that the service is provided. Therefore, in this instance, if you can get paid without using a VAT invoice, you will not have to pay VAT until you have received payment yourself. To receive funds in this way, you can simply send payment requests to your customers. All you need to ensure is that you state at the top of the request: ‘This is not a VAT invoice’. A tax point will now not be triggered until you receive payment from your customer. The full VAT invoice can then be issued when you have received the payment. Through settling invoices in this way, you do not have to worry about slow paying customers and consequently your cash flow.
If you are concerned about slow customer payments, not only will this loophole help with continuous services, but also if a one-off job is invoiced over a long period. This is because the rules say that, for VAT purposes, the job is only complete when it has been fully supplied. Therefore, you can also use this loophole to defer the VAT on these payments too, but only up until the job is complete. These are simple ways that can help you balance your cash flow. If you would like any advice on how these rules can be implemented in your business, please get in touch.