VAT: Partial exemption de minimis
Image of three wooden blocks each on a stack of coins with the letters V A T on each of the blocks

 

The frozen de minimis VAT limit is costing businesses up to £16,000 a year 

For VAT-registered businesses, navigating VAT is not just about determining whether the goods and services they supply are taxable, exempt, or outside of scope. Understanding how much of the VAT incurred on costs can be recovered is just as important. 

What’s the issue?

Businesses that make both taxable and exempt supplies cannot always reclaim all VAT incurred on costs. VAT incurred on costs must be categorised into three groups:

  1. Directly attributable to taxable supplies – fully recoverable 
  2. Directly attributable to exempt supplies – generally irrecoverable 
  3. Non-attributable costs – relating to both taxable and exempt supplies (e.g. overheads such as rent or accountancy fees), which can be partially recovered under ‘partial exemption rules’, that allocate the VAT incurred on non-attributable costs between taxable and exempt supplies.


Partial exemption calculations are often time-consuming and easy to get wrong. 

A ‘de minimis rule’ is intended to simplify this. Under one of the simplified tests, where a business incurs no more than £625 of VAT on costs per month on average (£7,500 per year), and where exempt supplies are no more than 50% of total supplies, the business is able to recover all input VAT, including that attributed to exempt supplies. 

This offers a significant simplification as it removes the need for the business to carry out partial exemption calculations, as well as providing the business with relief for VAT incurred on costs which would otherwise be irrecoverable. This is an all or nothing relief, if the VAT incurred on costs exceeds the de minimis limit by just £0.01, the business will be unable to recover any VAT that is attributable to exempt supplies. 

While there are other variations of this test, they all rely on the same £625 monthly threshold.

Why it matters

The de minimis limit has not changed in more than three decades. Adjusted for inflation, the annual limit would now be closer to £16,250. 

As costs have risen over time, more businesses now exceed the de minimis limit. This results in VAT incurred on costs attributable to exempt supplies becoming irrecoverable and forces businesses into partial exemption calculations - one of the most complex and commonly misunderstood areas of VAT.