Working on a global scale is now something open to all businesses, even startups. However, when doing business internationally, it's vital not to fall foul of complex VAT legislation - and with the new Making Tax Digital initiative starting to be implemented, it's vital that startups know what they need to do. Claire Taylor is the founder of SimplyVAT.com, a business that aims to help e-businesses trading with other countries through this process. Here she provides some handy advice for how startups can get ahead.
The story so far…
Making Tax Digital (MTD) is the name of the gutsy HMRC project to transform the UK tax system. The aim? To make the UK tax system fully digital by 2020 and make tax easier for businesses and individuals.
The HMRC has recently published the findings of the first MTD consultation which looks at sole traders and partnerships. So how will MTD affect you as a start up? How can you make plans now to be ready for the changes in the next three years? How can you get ahead by making your tax digital?
As reported last month, the HMRC plans could benefit your fledgling business. Because you’ll need to provide summary data to the HMRC four times a year, you’ll be closer to your numbers and there’ll be less chance of errors. There will also be less reason to panic as you approach a single deadline at the end of January.
But as a star-tup business in the first few years of operation, how can you get ahead of the changes?
Get in early
This consultation considers how practical it will be for businesses to make the digital transition. So it’s important to think early on about the accounting system that you intend to use. Are your tax affairs likely to remain straightforward in the short term? Then you might choose the time-honoured method of Excel spreadsheets and offline accounting. And make use of the free software that HMRC will provide when you need to send your summaries.
But it’s probably time to consider Cloud-based accounting packages. There is a lot of cheap and easy to use software that will allow you to send your quarterly updates to the HMRC with little fuss, such as Xero.The benefits of an online solution include having real time and secure access to your accounts via the internet. But it also means that you can customise your experience with hundreds of add-ons as your business grows.
Furthermore, if you choose to work with an accountant now or later on in your journey, they can give you real-time advice and diagnose problems. Even better, they may also be able to predict opportunities based on forecasts they can make through the software.
Whatever you choose, you’ll need to factor in the costs. This will include subscription fees, the time and effort it’s going to take to train yourself or your team to use the new systems, and the increase in the administration for your new reporting responsibilities.
Tie your decisions to your plans for growth
As a startup, you’ll likely have a robust 3-5 year growth strategy. What will your revenues look like in year three? What happens when your turnover reaches a certain threshold? And how will that affect your approach to accounting?
The MTD consultation explores how to simplify tax for unincorporated companies. HMRC think that the cash basis of accounting should extend out to include growing businesses, as it will be simpler for them to use.
Cash basis accounting may suit you better than traditional accounting because you only need to declare money when it comes in and out of your business. At the end of the tax year, you won’t have to pay Income Tax on money you didn’t receive in your accounting period.
HMRC have suggested doubling the current entry threshold. This means your business would still be able to use the cash basis of accounting if it has sales up to £166,000 (which is the same as today’s VAT registration threshold).
This is also important when considering the differences between capital expenditure (usually one-off expenditure, producing a lasting asset for your business) and revenue expenditure (day-to-day expenditure, often recurring and producing no lasting asset).
As your business grows, so will the complexity. You’ll need to factor in the time it will take to understand these distinctions, and the additional support you’ll likely need from your accountant or tax adviser. But in any event, you should be preparing to make decisions based on the likely growth of your business.
To VAT or not to VAT?
Another proposed change for VAT registered businesses will be the need to file just one combined VAT return and income report with HMRC. This could help you address one of the most common questions new business owners ask: “Should I register for VAT even if I’m currently under the threshold?”
Registering for VAT ahead of time has real benefits. It means that you account for the 20% VAT from the beginning, and this prevents any nasty surprises as you grow. It also helps keeps you keep your books in line. As a new business it’s easy to let the accounts go until they become absolutely necessary.
Having to compile your VAT return every quarter (as well as your summary tax data) means that you’ll keep your books up-to-date. There won’t be that last-minute panic and sleepless nights spent trying to process boxfuls of expense receipts and invoices to get your accounts done in time!
The implications of VAT on your margins
There’s a school of thought that suggests that larger, established companies prefer not to work with smaller businesses (read: startups) if they’re not VAT-registered. The reason being that VAT-registered businesses look more official, more established, and are somehow going to stand the test of time.
Whether that’s true or not, VAT can have an affect on your margins. For example, every business needs to display prices including VAT where it’s applicable. Now - for the first few years of trading you didn’t need to be VAT-registered and so haven’t factored this into your pricing.
But what happens if you need to start adding VAT to products and services once you hit the threshold a few years down the line?
You have two choices. You add 20% to your prices and risk alienating all of your existing customers. Or you absorb the 20%. This is potentially disastrous if you’re operating on a margin of less than 20%. Your profit has just disappeared. You’d need to sell 20% more product every year to hit the same net profit. And that’s a jump a lot of fledgling businesses might not be able to take...
The late payment pitfall
Another reason to consider registering for VAT early is to be more aware of the pitfall of late payment. UK businesses now owe close to £2.6 billion in overdue VAT as they continue to struggle to find the cash to meet critical tax deadlines.
Reports suggest that this number has remained high over the last few years, despite the UK economy growing during that time. And why is this a problem?
Late payment has become an increasing concern for small businesses and is one of factors behind the rising amount of VAT now owed to HMRC. For example. If you have a late paying customer, you still need to pay VAT on the invoice. You could easily find yourself without the cash you need to pay your VAT bill. This can be a particular problem for SMEs and startups who typically have more unstable cash flows than larger businesses.
Being registered for VAT means you’ll get into good habits sooner and be able to take steps to avoid these types of issues.
Get in early. Choose your packages. Organise the support you’ll need. Tie it to your growth plans.
Plan now for how you can get ahead of the MTD changes. Consider the mid to long term effects on your business as you proceed through your plan. And look into VAT registration from day one. This will make things much easier when your business hits the growth you’re aiming for.
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