VAT changeback to cause potential blackspot for FDs

With VAT due to revert to 17.5% from 1 January 2010, finance departments have been readying themselves for the change by focusing resources on their pricing, billing and VAT recovery operations.

When the government cut VAT from 17.5% to 15% on 1 December 2008 it was clear that this act of fiscal stimulation would be a temporary one ­ so while companies had little warning of the cut, they had plenty of notice about its reversion to the higher rate.

Gary Harley, head of indirect tax at KPMG, says that having gone through one rate change, finance departments should be set fair to comply on time. “They already have a process in place. It is a relatively straightforward issue and they will have documented the changes they had to go through when the rate went down. If they haven’t asked for system changes already, they will need to make sure the organisation has a robust manual workaround for that period between the new rate coming in and any upgrade to their system.”

New Year’s hangover
But while system changes seem to be a straightforward matter, there have been some questions on making the change workable for those businesses trading over New Year’s Eve and into January. Concessions have been made for businesses operating beyond midnight on New Year’s Eve: pubs, clubs, restaurants, some retailers and telecoms companies have until 6am on 1 January 2010 before they need to start charging the additional 2.5%. Bill Dodwell, head of tax policy at Deloitte, says the rise is still likely to prove a headache elsewhere, particularly for major retailers.

There are two areas of concern that strategically involved FDs will need to ponder and plan for. The first is around ticketing, advertising and promotional material. “Legally, you are not supposed to charge more than advertised, so there is an issue for retailers who will have to get tickets on items changed in a very short space of time,” says Dodwell. They will have to do that in advance of the January sales at a time when staff are already hard pressed, he points out.

Finance directors have also had to identify nuances such as those around credit notes. “If an invoice has been raised with VAT at 15% they will need to be careful that any credit note isn’t issued at 17.5%,” says KPMG’s Harley.

The second issue is the potentially thornier one of consumer perception. “The real question is how is that going to play with consumers. The idea that you are going to charge more than the advertised price is a deeply unappealing one. It is clear that people are going to have to put a lot of effort into this and it is likely that we will see different consumer strategies around handling it.”

The reversion to 17.5% is not the only VAT change on the horizon. The New Year also brings in changes to rules meaning that companies sourcing administrative, helpline or back office services from locations outside the EU may now incur VAT, where previously they did not.

After 1 January 2010, those companies operating in sectors such as banking, insurance and healthcare that outsource functions abroad will have to account for VAT under the reverse charge mechanism and incur 17.5%, unless they can show that those functions, if provided by a UK company, would be exempt from VAT.

Cost concerns
KPMG’s Harley says this fundamental shift could lead to significant cost for businesses, with call centre services, data processing and other administrative functions likely to be caught. In addition, all sectors will have to complete statistical declarations recording the value of services supplied to business customers across the European Union. “This is an additional compliance cost for business at a time when they are facing very difficult conditions. Unfortunately, there is plenty of stick but not much carrot in these proposals,” he says.

Belinda Doshi, outsourcing and technology lawyer at Field Fisher Waterhouse, says the changes may make outsourcing more costly, but a knee-jerk reaction ­ to terminate outsourcing arrangements, for example - is to be avoided. “That is the nuclear option and can take months to renegotiate, if not a year. While 17.5% is a big hit, you can mitigate the cost increase.”

Contracts up for renewal still have scope for renegotiation and further savings, says Doshi ­ and FDs may want to revisit benchmarking and open book rights with outsourcing contracts, so they can assess where their contracts are in the marketplace.

Many companies argue that their arrangements are sufficiently circumspect to avoid being caught out. “Virtually all services received by AXA from third parties outside the UK already fall into the ‘defined categories’, as UK VAT has always applied to such services,” explains Tony Greenman, senior manager of group tax at AXA. I don’t anticipate any new, material VAT cost or procedural change to arise.”

Martin Scott, FD at regional brewing and pub company Hall & Woodhouse, says his is one such business. From a systems point of view, the changeover will be a simple matter. “Luckily our technology is up to date. We have just put in a new accounting system. The change in VAT is very simple and doesn’t have to be implemented at midnight because [the system] is not customer-facing,” he says.

Putting prices back up to compensate, however, is not an option, with consumers still hard-pressed. Hall & Woodhouse will not be able to start charging more on food and drink on 1 January because consumers are still spending conservatively. “Going into January there is a bit of a fear that the VAT change will have quite a significant impact. The chance of getting a price increase through to consumers in 2010 is zero. The high days are good, but there is a compact spending pattern overall. People aren’t going out more than once a week. So we have got to grow turnover by 2.5% before we even start.”

Dario Garcia, head of VAT and transfer pricing at Barclays, thinks the changes won’t affect the decision on whether to outsource or not, but might in marginal cases cause organisations to look closely at costs between Indian suppliers and those in Eastern Europe, for instance.

Not a bad exercise for cost-conscious companies anyway. But from a systems point of view, the changes actually simplify things, he says. “You don’t have a classification issue. Everything is coded as reverse chargeable.”

Garcia thinks the VAT increase is more of an issue for the banks. Commodities trading, commercial leasing and other property transactions will all be affected by the rate rise, but by and large, the measures taken when the rate went down will stand the finance function in good stead. “We obviously kept that change programme alive because we knew the rate was going back up. And who is to say it won’t go back up again.”

VAT cut: much ado about nothing?
In a recent survey of KPMG clients, 83% had a high or very high awareness of the rate change and 88% were confident they would meet the deadline.

Respondents were less happy, though, as to the success of the reduction measure, as implementation has not been cost-free.

Around 61% said benefits such as driving increased sales, for instance, had not outweighed the costs of compliance – and 60% said they would not be able to pass on those costs to customers.

The tax authorities will be keen to get back to business as normal. According to HM Treasury, the 2.5% reduction has cost the Exchequer an estimated £12bn over 12 months.

For more on the changes to outsourcing, go to
www.hmrc.gov.uk/VAT/ec-sales-lists.pdf