5% VAT: All you need to know about the temporary tax cut

The Chancellor’s VAT rate reduction – that we reported on earlier in the summer – is now in full swing, and applies to selected businesses until next January. Estimates suggest the scheme will cost around £4bn, but Mr Sunak hopes it will prove vital in protecting jobs and promoting business for tourism and hospitality – industries which have been hit hard by COVID-19 and the ensuing economic fallout.

So, what is this temporary VAT cut and how does it work? We’ve taken a closer look and answered some of your more commonly asked questions. Feel free to share.

What is VAT & what’s changing?

VAT, or ‘Value Added Tax’, is tax that’s paid on the purchase of goods and services. The UK’s standard VAT rate is 20%, though a reduced 5% rate is applicable for certain essentials, such as home energy and sanitary products.

Quite often, particularly with online and in-store purchases, VAT will already have been accounted for when pricing up the item you’re looking to purchase. There are certain items with 0% VAT too, things like supermarket food and children’s clothing, for instance. You can read more, here.

The goods and services ‘sold’ by tourism and hospitality businesses are usually subject to the 20% VAT rate. However, with those industries suffering badly in the aftermath of the pandemic, the Chancellor has taken the unprecedented step of temporarily slashing the VAT that applies to businesses in this sector – from the standard rate 20%, to the low rate 5%.

The VAT cut is in addition to the Government’s ‘Eat Out to Help Out’ scheme, which is in operation throughout the month of August 2020. The scheme gives diners 50% off meals out at participating venues in a bid to get people eating out again. The discount ONLY applies on Mondays, Tuesdays and Wednesdays, and is worth up to £10 per head for adults and children.

The new, temporary, 5% VAT rate is in operation now, until January 12^th 2021.

Does the temporary 5% VAT rate apply to my business?

The temporary VAT reduction applies to THREE main categories of business:

1. Venues offering overnight accommodation, such as: hotels, hostels, B & B’s, guest houses, camp sites and caravan parks, holiday parks, etc.

It’s at the discretion of the establishment’s owner as to whether to pass on the VAT cut to customers or not. For instance, a two night stay at your guest house might fall from £360 to £315 to reflect the temporary cut. Here’s the dilemma: if you keep your prices the same, your business will pocket the difference incurred by the VAT cut, but reducing prices might get more holiday makers through the door.

Primarily though, this initiative is targeted at helping and supporting businesses who have suffered as a result of both increased costs and a loss of income following the pandemic.

2. Tourist attractions with admission fees. The Chancellor’s initial speech on the temporary 5% VAT rate alluded to ‘cinemas, theme parks and zoos’, but we understand it also applies to certain museums, galleries and theatres too.

So, park tickets, admissions to live shows (when they’re safe to return), exhibitions, and other cultural events are included.  

3. Establishments that sell food and drink. This includes: pubs, bars, cafes, restaurants, takeaways, fast food outlets, members clubs, etc.

To summarise:

• The VAT for all sales of food and drink consumed on the premises is reduced from 20% to 5% until January 12^th 2021 – excluding alcoholic drinks which stay at 20% VAT.
• Hot food and hot drink takeaway sales are also reduced by the same amount – excluding warm alcoholic drinks such as mulled wine or Irish coffees.
• Takeaway sales for prepared, cold food remain at 0%. All other sales – including cold drinks and snacks, such as confectionary – remain at 20%.

Here’s an example to break it down for you: our MD, Neil, is heading out for lunch. He’s on the hunt for some crisps, a ham sandwich, a cone of chips, a cup of coffee and a bottle of beer (it’s been a long day – don’t judge him).

Option 1: He can book in at his favourite eat-in restaurant in town and order all of the above. In this scenario, as he’s consuming his purchases on the premises, they’re all subject to 5% VAT apart from the beer, which (see below) is excluded from the VAT cut.

Option 2: He wants to take all his food back to Jubilee House for a working lunch instead, so he pops to his local takeaway and orders the exact same thing. Because he’s taking his order away, the following applies: his bottle of beer is inclusive of 20% VAT; his ham sarnie remains ‘zero-rated’ while his packet of crisps remains at 20%; his chips, on the other hand, are included in the VAT cut, and so benefit from the 5% VAT rate, along with his coffee to go.

Does the temporary 5% rate apply to alcohol?

As we’ve mentioned above, and much like the Government’s Eat Out to Help Out scheme, there are no savings to be made on alcohol purchases. To the disappointment of many landlords, the 15% VAT saving DOES NOT apply to ANY alcoholic drinks. Therefore, ALL alcohol sales remain subject to the regular 20% VAT. But pubs and restaurants will still benefit from the 5% reduction upon sale of any food or soft drinks they sell on the premises, and any hot food or hot drinks sold to takeaway.

What about flat rate VAT?

For those who are unsure, flat rate VAT is a fixed rate VAT payment to HMRC. Those on the flat rate scheme ‘keep the difference between what they charge customers and what they pay to HMRC’ but – aside from certain capital assets – they cannot reclaim the VAT on purchases.

For businesses who use the flat rate scheme, such as Small and Medium Sized Enterprises (SMEs), VAT percentages have been cut to ‘reflect’ the changes outlined above. So:

• Pubs and bars, down from 5% to 1%
• Hotels and accommodation, from 5% to 0%

&

• Restaurants, takeaways and other catering services, from 5% to 4.5%

This temporary VAT rate reduction has been welcomed by many but you can choose to opt out. Please note though, once you withdraw, you will be unable to re-join for another 12 months, by which time this temporary VAT cut will have expired. You must also provide written notification to HMRC with your decision to leave.

On the other hand, some businesses may find it more beneficial to sign up over a six month period (whilst the 5% rate is active), then make a decision about whether to leave thereafter.

Confused? Don’t worry. At Danbro, we’re experts on tax and VAT, and our team of specialists are always on hand to advise and assist. Check out our social channels for all the latest from the world of business and accounting, or get in touch with our Managing Director, Neil Ormesher,  to find out what we could do for you.