A business cannot normally claim input VAT on costs that relate to VAT exempt activities. However, if the VAT amounts come within certain limits (the de minimis levels), the business can claim the VAT in full.
These de minimis rules are especially useful for smaller businesses, where one of the income streams is exempt, for example, if it has exempt rental income from a residential investment property portfolio.
There are currently three de minimis tests (shown below). There is the ‘original test’, which has not changed and has always been available, plus, since 1 April 2010, two additional ‘simplified tests’.
You approach these in the order of simplified test 1, then simplified test 2, and finally consider whether the business is de minimis under the original test. This approach is the way HMRC intended the tests to be applied. It will give the highest opportunity for recovery. If you are de minimis under test 1 you do not go any further, you can simply claim all the input tax. As there are now effectively two more ‘bites at the cherry’ it gives businesses the opportunity to maximise their VAT recovery wherever possible.
Please apply the tests carefully as there are slight differences between each test, with each test slightly more involved than the previous test. It is also important to remember that as well as performing the de minimis tests each quarter, it is necessary to revisit the VAT recovery position by performing an annual adjustment calculation.
The de minimis tests
Simplified test 1
Total input tax incurred is no more than £625 per month on average and the value of exempt supplies is no more than 50% of all supplies.
Simplified test 2
Total input tax incurred less input tax directly attributable to taxable supplies is not more than £625 per month on average and the value of exempt supplies is no more than 50% of the value of all supplies.
Exempt input tax is less than £625 per month on average and also less than 50% of total input tax (exempt input tax consists of input tax directly relevant to exempt supplies plus the proportion of residual input tax that is not claimed, i.e. in relation to overhead items or mixed costs).
If you need any assistance with the de minimis tests or partial exemption, please contact a member of the VAT advisory team to review the position and discuss the next steps.