Businesses that both pay and charge VAT should find that their books balance over time, but there are three key reasons why businesses need to carefully watch their cash flow in this period.
First, there is not an instantaneous turn around between paying for materials and services and selling them on. This is particularly the case for businesses that normally makes more profit at certain times of the year, say summer and Christmas. These businesses will have to pay the higher VAT rate immediately, but will have to wait until their peak season to charge out the higher rate to their customers. These cyclical businesses will suffer a shortfall in cash until they can pass the increased VAT on at their next “peak”.
Secondly, there is a time lag between paying out VAT and recovering it from HMRC at the end of your VAT quarter. If you’ve charged more VAT than you’ve been charged in a VAT period, you have to make a payment to HMRC, regardless of whether you’ve been paid by your customers. If people don’t pay your invoices before you have to account to HMRC at the end of a quarter, then that will impact on cash flow.
Thirdly, there is often inequality of terms between businesses which means that some will pay out the higher rate of VAT long before they are able to charge it themselves. For example, suppliers to supermarkets often have to pay out to their suppliers much quicker then they recover from their customers. The supermarkets see it as a cost of doing business with them, but the supplier cannot turn round to their suppliers and say “I want more time” because there simply is not an equality of terms. Hence, the VAT rise could create a cash flow shortage for this type of business.
All of the above means that it makes sense to put procedures in place now to collect your outstanding debts, which in turn will mean that you will have cash in the bank to cover the cash flow shortfall when the VAT rate goes up.
So, if you want to improve your debtor position ahead of the VAT rise, the following points, which come from many years experience of helping companies, may help:
- Provide training for credit controllers. Few people relish chasing debts. Make sure you staff are fair, polite but firm.
- Make sure that payment dates are properly diarised and that next steps are actioned urgently after an unpaid bill falls due.
- Keep your debtor book under review and identify the “can’t pays” and “won’t pays”. Concentrate on the latter and get VAT bad debt relief on the former to help your cash flow.
- Don’t accept excuses at face value – press for an explanation.
- Set short deadlines and stick to them. Delaying action may mean you recover nothing.
- Keep your word. If a debtor doubts your resolve your threats lose their impact.
- Consider allowing debtors to pay in reasonable instalments or agreeing to discount invoices to bring some cash in. Something is better than nothing.
- Make the most of interest provisions in your contract or under statute to maximise the amount recovered.
- Consider outsourcing or factoring your debts.
- Prevention is better than cure.
Review your credit control measures, and consider the following for new customers:
- How do you vet them?
- Credit reports?
- Set (and enforce) a credit limits?
- Do you ensure that your terms of business are incorporated and/or your customer’s terms are excluded
- Are your terms of business always signed
Robert Griffiths is a solicitor in the commercial litigation and dispute resolution department at SA Law LLP. You can contact him at firstname.lastname@example.org