To be Vat registered the turnover (product sales) for your business has to be more that €75000 per annum or just over €6000 per month. If the turnover of the business is below that figure then it is still possible to elect to register for Vat. Most of the food businesses that we deal with are 0% rated for Vat.In some cases the business could be selling products that attract higher vat rates of 13.5% or 23% such as biscuits, bars and cakes so it is important that you know the rates for each of your product lines.
It is a very favourable position when the vat on sales is 0% so there is no vat on sales but the business is allowed full vat reclaim on the vat inputs for the trade. Therefore the vat on electricity, phone, professional fees, advertising, containers, equipment and other vatable inputs can be claimed in full. This is very useful for large ticket items such as the purchase of equipment, vans and other capital items for the business. If purchasing machinery or equipment from other EU countries the business owner would have to give the EU supplier their Irish Vat number to ensure that supplier doesn’t charge Vat to their Irish customer. If purchasing equipment from outside the EU then the purchaser would have to pay Vat at the point of entry. The documentation around this is usually sorted out by the haulier or courier but the key point is that the purchaser can reclaim the vat paid in their Vat return. If the business suffers Vat on input costs from other EU countries it is possible to reclaim this but it is preferable from a cash-flow and admin point of view not to have to pay it in the first place.
When the vat rate is 0% on sales, effectively, the food business is in a constant Vat refund position and often [especially when businesses are starting out] the value of the refunds provide a vital cash boost to the business in terms of actually getting the cash back from Revenue or using it to be offset against other liabilities such as PAYE. It is vital that all the invoices are in order, both sales and purchases. For example if the business was in an unusually large Vat refund position because of the purchase of equipment or a van and there was an enquiry from Revenue then it is important that you have the correct invoices to show them to back-up the reclaim.
There are a few things to watch out for here. Are you operating as a sole trader, in partnership with one or more persons or is the business being carried on in a company. When setting up, most food businesses start as a sole trader and then progress to a company. One needs to be aware of the tax implications of each structure and how this fits in with the business owners overall tax position. For example if you are a sole trader you are taxed on the profit of the business and if in partnership you are taxed on your share of the profit. In this scenario, if you had another income such as employment income that used up the lower tax rate band, then any profit generated by the business would be liable to higher tax rates which could be up to 52%, when including USC and PRSI. This can be especially frustrating for businesses that generate modest enough profits in the early years and the business owner sees very little benefit after all expenses are met and loan repayments made.
As the life cycle of the business passes usually sales will increase and the business becomes more profitable then personal tax bills in a sole trader or partnership situation will also increase.Trading through a company then becomes a serious option for the business owner but this has to be weighed up against a number of factors such as the risk levels associated with the business and the amount of funds the business owner needs to meet living expenses etc. Once the feasibility of a company is assessed it does hold advantages as it gives the owner more options in terms of salary planning and potential tax savings owing to the corporation tax rate of 12.5% on trading profits. If savings can be made, then there are more funds available in the company to make loan repayments, pension payments for the owner and other planning opportunities. One of the main drawbacks of going into a company is that the company money no longer belongs to the owner personally and any payments coming out of the company to the owner must be taken as salary or dividends. As an example, Derek Cody carried on a biscuit making business as a sole trader and in 2016 made a profit of €80,000 and of that he had taken €40,000 drawings from the business for living expenses. Let’s assume that Derek is single. His Income tax liability on an €80000 profit would come to just over €30000 or an effective tax rate of 37.5%. In a company situation he would need a gross salary of €60,000 to give him a net take home of €40,000, thus covering his drawings. This salary would be a tax deductible expense in the company accounts so the remaining profit in the company would be €20,000. Tax on that at 12.5% would be €2,500. This is a total tax bill of €22,500 in a company compared to €30,000 as a sole trader resulting in an annual saving of €7500 thereby increasing the leftover cash in the company for loan repayments, expansion or various other options.
Purchase of Machinery/Equipment
Let’s assume Fabulous Biscuits Ltd is purchasing a new piece of equipment for €50,000 plus Vat at 23% of €11,500 resulting in a total cost of €61,500. If this is purchased by means of a bank loan, Hire Purchase or out of available cash then you are regarded as owning that equipment and can claim the Vat of €11,500 in your Vat return that falls in the vat period dated on the invoice. This refund can be paid back immediately to the bank so that you are making repayments on €50,000 and not €61,500. As you or the company now own that equipment it is possible to claim Capital allowances on it. Capital allowances are available at 12.5% per annum over an 8 year period so there is an annual capital allowance of €6,250 to reduce your profit. Based on an €80,000 profit and deducting the capital allowance the taxable profit is now €73,750.
If however the equipment was leased the tax write off would be based on the lease repayment period which is usually 3, 4 or 5 years. Let’s assume the same piece of equipment was leased and there was a 5 year repayment period and the annual repayment was €10,000 before interest. In this scenario the business gets a tax write off for the annual lease repayment of the €10k thereby increasing the annual write off by €3,750 when comparing to capital allowances. However with a lease you can only pay and claim back the Vat over the period of the lease so there is no lump sum payment and reclaim at the outset. There are a few other issues around leases that you need to be aware of and we will cover these in a future blog.
Grants & Capital Allowances
One issue that is specific to food businesses is the treatment of grants and Capital allowances. In a non-food business where the purchaser gets a grant for the purchase of a piece of equipment the value of the grant is deducted from the cost and the business owner can then claim capital allowances on the net of grant cost. For example the equipment cost €50,000 and they got a grant of €20,000 then the Capital allowances claim will be based on the net €30,000 over an 8 year period which is €3,750 per annum. This is not the case for food companies whereby the grant is effectively ignored and the capital allowances claim would be based on the full €50,000 and not the net of grant cost. The key point here is this provision only applies to food companies and not to sole traders or partnerships.
As ever please talk to your advisers or any of the team in here will be more than willing to help you