Chartered accountant Jonathan Bardolph explores common pitfalls surrounding VAT in aesthetics and explains the new regulations for making tax digital
There is a fair amount of confusion within aesthetics when it comes to VAT. Often, I find clinic owners and aesthetic practice managers wondering whether or not they need to register and, if so, how does the practice account for VAT? This article will be looking at resolving common questions from aesthetic practitioners, including introducing the important Making Tax Digital changes, which come into force on April 1 this year.
The current VAT registration threshold for businesses are those that have a VATable income of more than £85,000 (2018-19).1 This means that if your VATable turnover (income that is classified as VATable, explained below) exceeds this threshold over a period of 12 months, you need to register for VAT. Please note that the threshold is not calculated with reference to either your accounting period or profit; these are common misconceptions. If the business’s turnover exceeds the threshold over any 12-month period, there would be a requirement to register. In aesthetic practices, income will likely fall into two categories: cosmetic treatments (VATable) and medical treatments (exempt). As the VAT threshold is based on ‘VATable turnover’, exempt income does not form part of the turnover test. So, for example, you could have a situation where your practice is turning over a total of £100,000 per year and you would not need to register for VAT on the basis that at least £15,000 of income is exempt.2
We need to review whether a treatment is either cosmetic in nature or treating a medical condition so we can determine which category the treatment would fall into for VAT purposes. HM Revenue and Customs (HMRC) has released guidance that discusses how to qualify for the medical exemption, which is found in VAT Notice 701/57 (Health Professionals and Pharmaceutical Products).2 Section 2.3 reads: ‘If you’re a health professional as detailed in paragraph 2.1, your services are exempt when both of the following conditions are met:
The meaning of ‘health professional’ (as explained in section 2.1 of HMRC’s guidance) refers to individuals enrolled or registered on the appropriate statutory register (and includes, but is not limited to: nurses, doctors, dentists, dental hygienists, pharmacists, paramedics).2 In order to meet the requirements of the medical exemption, both the conditions must be met. Unfortunately, HMRC does not provide more detail as to what type of treatments would be viewed as ‘protecting, maintaining or restoring’ the health of a patient. Also, there are currently no decisions from any VAT tribunal in the UK regarding aesthetic medicine and their internal guidance refers to published cases which are not in the aesthetic field.
If HMRC were to launch a VAT enquiry into your business sufficient records and evidence must be maintained as to what the underlying condition of the patient was, why the treatment plan was prescribed or decided upon and the treatment effect. I have come across some aesthetic practitioners who solely rely on psychological reasons (such as a patient’s low self-esteem) to apply the medical exemption. Accepted evidence would be normally be GP referrals, however, in practice the diagnosis is often done by the practitioner themselves. Unless sufficient evidence is retained (which is quite a loose term as HMRC do not specifically state what evidence is needed) HMRC may deny the medical exemption on these treatments and so these would be VATable at the standard rate of 20%.
There are a number of different ways of accounting for VAT depending on the nature of your aesthetic practice. It is likely that most aesthetic practices will have a mixture of both exempt and VATable income. For the reasons mentioned above, where the VATable supplies (income) exceed the VAT registration threshold the practitioner must register for VAT.3 The practice would then be ‘partially exempt’. This means that some of the income would be subject to VAT and some would not.4 A VAT return is broadly calculated by deducting the VAT on expenses from the VAT on the income in a particular quarter; the net amount is then paid to HMRC. For example, the VAT on your income may be £20,000 for a quater and your VAT on your expenses to generate this income may be £2,000 for the quater. This would mean £18,000 would be payable to HMRC one month following the quater end. Under partial exemption rules you cannot claim VAT on every expense of the business.
There are various rules when following this way of VAT accounting, but in essence you cannot claim VAT on expenses directly relating to exempt income. For example, if a particular treatment is medical this would be exempt, so the VAT on the expenses directly involved in providing this treatment cannot be claimed. It is possible that a particular practice may provide wholly cosmetic treatments. In this case, if the practice was VAT registered, there is the possibility of using the ‘flat rate scheme’.5 This is a scheme which is administratively easier to account for in terms of VAT. Under this scheme, you cannot claim VAT on your expenses, but you pay a reduced amount of VAT to HMRC based on the income in the quarter. Because of the simplistic nature of the flat rate scheme, VAT would be paid on all income using this method. I believe it is helpful to seek your accountant’s advice as to whether you would benefit from using the scheme. The flat rate percentage is determined by reference to HMRC’s list of trade sectors.
Each trade has its own flat rate percentage. For aesthetic treatments (considered cosmetic), the closest description is likely to be ‘Hairdressing or other beauty treatment services’ (currently at 13%).6 You calculate the VAT you pay by multiplying your VAT flat rate by your ‘VAT inclusive turnover’. So, the business would add VAT (currently at 20%) but pay 13% of the VAT inclusive income. Please note that HMRC will not choose the relevant percentage, this is self-assessed by the practitioner, but it would be beneficial to check with your accountant before proceeding.6 There would be no way of claiming VAT on expenses using this method (with the exception of some capital expenditure amounting to £2,000, subject to the scheme restrictions which can be viewed online).6,7 For practitioners who feel they cannot add 20% VAT to their prices, they would pay the resulting VAT to HMRC out of their profit. This can be shown in the below example:
Whilst the end user (the patient) would normally pay the VAT on the treatment or service, this could be shared between the practice and patient by altering the price of the service. In the past, some businesses, not necessarily in the aesthetic industry, were able to make money on the flat rate scheme, so HMRC issued anti avoidance for businesses that spend a small amount on goods, ‘the limited cost trader/business’.7 You would be classed as a ‘limited cost trader’ if your direct expenses (to generate income) cost less than either 2% of your turnover or £1,000 a year (if your costs are more than 2%).6,7 This means that if you are classed as a ‘limited cost trader’ then a default flat rate is administered for the business at 16.5%. In order to use the flat rate scheme at the lower percentage, you would need to have sufficient direct expenses; however, with normal aesthetic practices the products’ direct expenses would normally be sufficient.6
Another restriction of the flat rate scheme is that the business’s annual turnover must be below £150,000 to join. Whilst the annual income can increase after joining the scheme it must not exceed £230,000.7
Record keeping is an important part of running an aesthetic practice and I have found that this is certainly an area that can get neglected to a degree. I am of the opinion that it is not sufficient to just hand a card terminal receipt to the patient once the treatment has been undertaken. Ideally, the patient should receive an invoice detailing the treatment or service they paid for. This is important because the business’s income should be derived by way of invoices raised, not necessarily monies deposited into the bank (or sometimes paid in cash).
If HMRC were to perform a VAT enquiry, then the first port of call would normally be to look at the income streams of the practice and look at which ones would be subject to VAT. If the practitioner uses bookkeeping software, then whilst the figures may look like they add up, if the source income records just rely on entries in bank statements or card terminal banking, there is no link to the individual treatments to patients. So, consideration should be given to an audit trail. For example, consider the question, ‘How can Mrs Smith’s botulinum toxin payment be identified in the accounts?’ There are, of course, data protection issues and practitioners must remain compliant with The EU General Data Protection Regulation (GDPR).8
For those who are VAT registered, the Government is introducing changes to the way taxation is administered. These changes are called ‘Making Tax Digital’.9 It is not only aesthetic practitioners who need to be aware of the Making Tax Digital changes. From April 1 this year, there will be a requirement for VAT-registered businesses to keep digital records and file VAT returns using software. In this digital age where so much information is available in electronic format, this should not be too onerous. However, if you are affected you should check that your bookkeeping records are capable of electronic transmission to the HMRC computer via their ‘Application Programme Interface’ (API) platform.9 This must be done on a transactional level; currently summary figures are used to populate the returns but a transactional level means that HMRC will be able to view the individual transactions that make up the VAT return, which means HMRC has more details. There are a number of different cloud based types of software available such as Xero, Quickbooks Online and many others. The HMRC guidance on Making Tax Digital can be found on VAT Notice 700/22: Making Tax Digital for VAT9 and there are sanctions for non-compliance.10
Whether or not there is a need for your business to be VAT registered, now would be a good time to review your record keeping. If your business should one day become VAT registered, you will be affected by the Making Tax Digital requirements. Unfortunately, many practitioners are currently keeping manual records, which will not meet these requirements. The information within this article should be used as a guide and does not constitute advice; if in doubt you should discuss this with your accountant.
1. Gov.UK, VAT Registration, 2019. <https://www.gov.uk/vat-registration>
2. Gov.UK, Guidance: Health professionals and pharmaceutical products (VAT Notice 701/57) <https://www.gov.uk/guidance/health-professionals-pharmaceutical-products-and-vat-notice-70157>
3. Gov.UK, Guidance: VAT guide (VAT Notice 700), Published 17 December 2014. <https://www.gov.uk/guidance/vat-guide-notice- 700#section4>
4. Gov.UK, Guidance: Partial exemption (VAT Notice 706), Published 16 June 2011. <https://www.gov.uk/guidance/partial-exemption-vat-notice-706>
5. Gov.UK, VAT Flat Rate Scheme, Overview, 2019. <https://www.gov. uk/vat-flat-rate-scheme>
6. Gov.UK, VAT Flat Rate Scheme, Work out your flat rate, 2019. <https://www.gov.uk/vat-flat-rate-scheme/how-much-you-pay>
7. Gov.UK, Guidance: Tackling aggressive abuse of the VAT Flat Rate Scheme - technical note. Updated 5 December 2016. <https://www. gov.uk/government/publications/tackling-aggressive-abuse-of-the-vat-flat-rate-scheme-technical-note/tackling-aggressive-abuse-of-the-vat-flat-rate-scheme-technical-note>
8. Martin Swann, Getting Ready for GDPR, Aesthetics journal, 2017. <https://aestheticsjournal.com/hub/GDPR>
9. Gov.UK, Notice: VAT Notice 700/22: Making Tax Digital for VAT, Updated 18 January 2019. <https://www.gov.uk/government/ publications/vat-notice-70022-making-tax-digital-for-vat/vat-notice- 70022-making-tax-digital-for-vat>
10. Gov.UK, Consultation outcome: Making Tax Digital: interest harmonisation and sanctions for late payment, Published 1 December 2017 <https://www.gov.uk/government/ consultations/making-tax-digital-interest-harmonisation-and-sanctions-for-late-payment>