HMRC has a plan to crack down on abuse of the VAT simplification scheme, but it has been warned that the changes may not be effective and would have an adverse effect on many small companies.

No one is disputing that tackling abuse of the Flat Rate VAT scheme needs to be done, but the CIOT has argued that HMRC needs to tighten its proposals in order to not victimise innocent companies. Contractors who use the FRS will have to determine each quarter whether they can be deemed a ‘limited costs trader’. This new term comes into force after April 2017.

Any contractor who is caught by the rules because their VAT inclusive expenditure on goods is under 2% or their VAT inclusive turnover is under £1,000 per year must pay HMRC 16.5% of their takings.

In addition, the CIOT pointed out that contractors would have to pay this 16.5%, even where their activity would normally attract a lower rate.

The CIOT said: “Because of the way the limited cost trader is defined, most businesses in the FRS will need to consider whether they fall into its definition during a particular accounting period, and could be caught by fluctuating in and out of the 16.5% rate.”

The CIOT also believes that many of the small companies that will be caught by the FRS will move back into standard VAT accounting. This would be around 4,000 companies.

The CIOT said: “the costs of businesses doing this could be significantly higher than the £180 per annum suggested by HMRC. The proposed changes are also complicated and could negate the simplification aims of the FRS.”