VAT - separation of trade
Changes to the VAT regime are focusing attention on artificial separation of companies, according to The Vat People, who report a rise in queries and cases on the topic.
The drive to simplify accounting for companies beneath the VAT threshold and HMRC's growing attention on potential areas of tax loss are contributing to a surge in interest in artifically separated companies. Splitting a business in two so both fall under the threshold for VAT and so avoid registration is one of those bits of saloon bar advice that can rebound on those tempted to try it.
In the past year, for example, tax tribunals have decided cases such as AD and J Forster v HMRC  UKFTT 469 (TC01319) in favour of the taxpayers, and Patrick and Patrick v HMRC  UKFTT 865 (TC), which the tax department won.
With artificial separation in the firing line, experts from The Vat People recently published a guide to identifying clients that had artificially separated their companies. In HMRC's view artificial separation happens when:
- The same businesses use the same equipment or premises regularly
- The business supplies both registered and unregistered customers
- A single supply is separated, for example one entity in a bed and breakfast supplies bed and the other breakfast
- Artificially separated businesses maintain the appearance of a single business
- The same person controls a number of businesses which make the same type of supply.
The Vat People suggested a number of questions if artificial separation is suspected, or the structure of the business doesn't look right from a VAT perspective:
- Do the businesses have evident financial, economic and organisational links?
- Are they sharing equipment?
- Could one exist without the other?
- Are overheads dealt with separately?
- Are advertisements placed separately
The Vat People's Lindsay Gibbons commented: "The most common kinds of businesses we find that have been artificially separated are for example landscaping, farming, cleaning, where one will do domestic cleaning and one will do corporate, bed and breakfasts and also usually the building trade.
"It's normally a split between corporate and domestic. The domestic would not register for VAT, knowing the commercial side can recover VAT. Some of the things to look out for are two companies who appear to be separate that, for example, are operating from the same offices with one telephone line and the same adverts," she continued.
When faced with companies who may be artificially separated, Gibbons advised, "You can look at the exact arrangements in detail and ensure that the two businesses are completely separate. You need to look at the case in fine detail and see what can be changed to ensure that the separation is genuine," she explained.
But what happens if an artificially separated company fails to act? Helen Carey from UK VAT Advice said it was far better to rectify the situation before HMRC step in.
"You could ensure that the business is genuinely separated. Separate bank accounts, separate accounts prepared at year end, separate advertisements - and separate them as soon as possible," she said.
While acting to neutralise the risk will ward off any challenge going forward, HMRC can still seek to implement backdated registrations or assessments that could potentially cause these businesses to fold, The Vat People warned.
After publishing this article, we received fine comment from accountancy firm Campbell Dallas partner Veronica Donnelly, who agreed with her peers.
According to Donnelly: "Separation is only artificial if it is being done solely for VAT saving purposes or shortcuts have been taken and the 'new' business does not operate independently of the associated business. Connected businesses can operate independently and legitimately but must take care to be demonstrably separate".
She also gave advice on how to best deal with a business which is found to be artificially separated.
"The longer a business has been trading without taking the necessary separation steps the harder it is to defend an intention to be a separate company. The assumption must be that the business has been separated artificially. In this case it is best to recalculate the VAT due under one business and disclose this to HMRC," she said.
"However, if the intention to trade separately can be shown to be genuine then it is crucial that the factors which are missing, such as a separate bank account or lack of cross charges, must be identified and put in place immediately".