One query that constantly reappears is that of the VAT treatment of deposits.
This may be because there are different types of deposits with different VAT rules for each. I thought that it would be helpful for all the rules to be set out in one place, and some comments on how certain transactions are structured, so…
Broadly, we are looking at the tax point rules. The tax point is the time at which output tax is due and input tax recoverable. More on tax points here
A business may have various commercial arrangements for payments such as:
- receiving advance payments
- being paid in instalments
- credit sales
- periodic payments for continuous supplies
- security deposits for goods hired
I consider these below, as well as some specific arrangements:
Advance payments and deposits
An advance payment, or deposit, is a proportion of the total selling price that a customer pays a business before it supplies them with goods or services.
The tax point if an advance payment is made is whichever of the following happens first:
- the date a VAT invoice for the advance payment is issued
- the date you the advance payment is received
The VAT due on the value of the advance payment (only, not the full value of the overall supply) is included on the VAT return for the period when the tax point occurs.
If the customer pays the remaining balance before the goods are delivered or the services are performed, a further tax point is created when whichever of the following happens first:
- the date a VAT invoice for the balance is issued
- payment of the balance is received
So VAT is due on the balance on the return for when the further tax point occurs.
A business may ask its customers to pay a deposit when they hire goods. No VAT is due if the deposit is either:
- refunded in full to the customer when they return the goods safely
- kept by you to compensate you for loss or damage
If a customer is asked for a deposit against goods or services but they then don’t buy them or use the services, it may be decided to retain the deposit. Usually the arrangement is that the customer is told/agrees in advance and it is part of the conditions for the sale. This arrangement is known as forfeit deposit. It often occurs when, for example, an hotel business makes a charge for reserving a room.
VAT should be declared on receipt of the deposit or when a VAT invoice is issued, whichever happens first.
If the deposit is retained (because the customer changes their mind about the goods or service and doesn’t want them any more) there is no VAT due as no supply has been made. If output tax has already been declared, the business needs to adjust for the amount of the retained deposit on the next VAT return. If the sale goes ahead, the rules for advance payments above applies.
If you supply services on a continuous basis and you receive regular or occasional payments, a tax point is created every time a VAT invoice is issued or a payment received, whichever happens first. An article on tax planning for continuous supplies here
If payments are due regularly a business may issue a VAT invoice at the beginning of any period of up to a year for all the payments due in that period (as long as there’s more than one payment due). If it is decided to issue an invoice at the start of a period, no VAT is declared on any payment until either the date the payment is due or the date it is received, whichever happens first.
Credit and conditional sales
This is where the rules can get rather more complex.
- A credit sale means the sale of goods which immediately become the property of the customer but where the price is paid in instalments.
- A conditional sale is where goods are supplied to a customer but the goods remain the seller’s property until they are paid for in full.
The tax point for a credit sale or a conditional sale is created at the time you supply the goods or services to your customer. This is the basic tax point and is when you should account for the VAT on the full value of the goods.
This basic tax point may be over-ridden and an actual tax point created if a business:
- issues a VAT invoice or receives payment before supplying the goods or services
- issues a VAT invoice up to 14 days after the basic tax point
Credit sales where finance is provided to the customer
If goods are offered on credit to a customer and a finance company is not involved, the supplier is financing the credit itself. If the credit charge is shown separately on an invoice issued to the customer, it will be exempt from VAT. Other fees relating to the credit charge such as; administration, documentation or acceptance fees will also be exempt. VAT is declared on the full value of the goods that have been supplied on the VAT Return for that period.
If goods or services are supplied on interest free credit by arranging with a customer for them to pay over a set period without charging them interest then VAT is declared on the full selling price when you make the supplies.
Credit sales involving a finance company
When a business makes credit sales involving a finance company, the finance company either:
- becomes the owner of the goods, eg; when a purchase is financed by a hire-purchase agreement
- does not become the owner of the goods, eg; when a purchase is financed by a loan agreement
Hire purchase agreements
If the finance company becomes the owner of goods, the business is supplying the goods to the finance company and not the customer. There is no charge for providing the credit, so the seller accounts for VAT on the value of the goods at the time they are supplied to the finance company. Any commission received from the finance company for introducing them to the customer is usually subject to VAT.
If the finance company does not become owner of the goods, the supplier is selling the goods directly to its customer. The business is not supplying the goods to the finance company, even though the finance company may pay the seller direct. VAT is due on the selling price to the customer, even if the seller receives a lower amount from the finance company. The contract between the customer and the finance company for credit is a completely separate transaction to the sale of the goods.
The following are areas where the rules on the treatment may differ
Cash Accounting Scheme
If a business uses the cash accounting scheme here it accounts for output tax when it receives payment from its customers unless it is a returnable deposit
Care should be taken with deposits in property transactions. This is especially important if property is purchased at auction.
These comments only apply to the purchase of property on which VAT is due (commercial property less than three years old or subject to the option to tax). If a deposit is paid into a stakeholder, solicitor’s or escrow account (usually on exchange) and the vendor has no access to this money before completion no tax point is created. Otherwise, any advance payment is treated as above and creates a tax point on which output tax is due to the extent of the deposit amount. Vendors at auction can fall foul of these rules. If no other tax point has been created, output tax is due on completion.
Tour Operators’ Margin Scheme (TOMS)
TOMS has distinct rules on deposits. Under normal VAT rules, the tax point is usually when an invoice is issued or payment received (as above). Under TOMS, the normal time of supply is the departure date of the holiday or the first occupation of accommodation. However, in some cases this is overridden. If the tour operator receives more than one payment, it may have more than one tax point. Each time a payment is received exceeding 20% of the selling price, a tax point for that amount is created. A tax point is also created each time the payments received to date (and not already accounted for) exceed 20% when added together. There are options available for deposits received when operating TOMS, so specific advice should be sought.
In calculating turnover for registration, deposits must be included which create a tax point in the “historic” test. Care should also be taken that a large deposit does not trigger immediate VAT registration by virtue of the “future” test. This is; if it is foreseeable at any time that receipts in the next 30 days on their own would exceed the turnover limit, currently £85,000, then the registration date would be the beginning of that 30-day period.
Flat Rate Scheme
A business applies the appropriate flat rate percentage to the value of the deposit received (unless it is a returnable deposit). In most cases the issue of an invoice may be ignored if the option to use a version of cash accounting in the Flat Rate Scheme is taken. More on the FRS here and here
Please contact us if you have any queries on this article or would like your treatment of deposits reviewed to:
- Ensure treatment is correct to avoid penalties, and/or;
- Establish whether planning is available to properly defer payments of output tax under the tax point rules.