Q. I have recently registered for VAT. What is the difference between ‘normal’ and ‘cash’ accounting?
A. Under the normal method of accounting for VAT, you account for the output tax on your sales as they take place or as soon as you issue a VAT invoice, even if your customer hasn’t paid you. Then you can reclaim input tax on purchases you make as soon as you receive a VAT invoice, even if you haven’t paid your supplier. This method can cause cash flow problems if you have to pay a VAT bill before your customer pays you.
The cash accounting scheme, which is available to most businesses with an annual taxable turnover up to £1.35m, turns this normal method upside down. In cash accounting, you account for the output tax when you receive payment for the sale, rather than when the customer received the goods or service. So this way, you have the money from your customer to pay the VAT you charged on his bill. However, this scheme cuts both ways because you can only reclaim the input tax once you pay your supplier, which means that when your VAT bill is due you can’t offset the VAT you owe suppliers against your total bill.
The cash accounting scheme can help your cash flow because in general you don’t have to pay VAT until your customers have paid you. The scheme is especially helpful if you give your customers extended credit or suffer a lot of bad debts. However, the scheme may not give you any benefit if you:
- are usually paid as soon as you make a sale;
- regularly reclaim more VAT than you pay; or
- make continuous supplies of services.
Q. I bought my flat in 2008 and lived in it until 2013 when I moved into my now wife’s house. The flat was in negative equity so we kept it and rented it out. Now that the housing market has improved we have decided to sell it. We plan to use the proceeds to buy my wife’s parent’s house jointly with my wife’s sister and her husband. If we reinvest the profits on the sale of my flat in my wife’s parent house, will we avoid paying any capital gains tax?
A. Unfortunately rollover/holdover/reinvestment relief is not available for residential investment property, unless it relates to furnished holiday lettings, or where there is a compulsory purchase order. However, as you lived in the property from 2008 until 2013 and then rented it out, you should be able to claim some relief from capital gains tax via a combination of principal private residence relief, lettings exemption and the capital gains tax annual exemption.
Q. I am thinking of starting my own business and can’t decide whether to incorporate straight away or not. I will need to make a substantial investment in my business so it is likely that I will make a loss in the first, and maybe even second, year of trading. Is loss relief the same for sole traders and limited companies?
A. Taking all the pros and cons of incorporation into account, you may come to the conclusion that you’re best to carry on your business as a sole trader in the early years. This situation may be particularly relevant if you envisage making losses in the early years of trading, because you can carry back losses made in the first four years against personal income of the three preceding years, often resulting in a substantial refund of tax becoming due. However, don’t miss out on the opportunity of forming a limited company later on when the benefits of company status may be more valuable.