In certain circumstances, a business starts up as a sole proprietor or partnership and then decides to incorporate (e.g. after nine months of trading). The turnover is edging near the VAT registration threshold and the business owner decides that, on balance, incorporation is a good idea. They will have limited liability if the business fails, the remuneration package could still be better than trading as a sole proprietor or partnership, and as they are starting again could they avoid registering for VAT for a while.
Change of legal entity
If a business wishes to defer registering for VAT by incorporating, timing is everything. Providing the turnover is still below the VAT registration threshold at the time of incorporation, the turnover of the existing business is not carried forward to the newly-incorporated business. Normally, when a business is acquired as a transfer of a going concern (TOGC) (n.b. a change of legal entity counts as a TOGC), the existing turnover is taken into account based on a rolling twelve-month period.
However, for it to qualify as a TOGC, the business being acquired must be a ‘taxable person’ (registered for VAT or ‘registerable’ – required to register even if it has not registered), if the existing business is not registered for VAT nor is its turnover over the VAT registration threshold it is not a ‘taxable person’, the change of legal entity is not a TOGC and the turnover of the un-incorporated businesses is not carried forward to the new incorporated business.
Obvious tax avoidance
Some businesses have tried to repeatedly change their legal entity as they approach the VAT registration threshold by incorporating and then un-incorporating as they approach the registration threshold. HM Revenue and Customs (HMRC) have powers to treat two businesses as one – known as ‘disaggregation’ – and would use these powers in such circumstances to treat the two businesses as one and force VAT registration.
