Contractor accountants may be interested to know that Britons will not start earning for themselves until May 30th this year, due to the VAT increase which comes into force today, January 4th.

The Adam Smith Institute has said that all monies earned between the 1st of January and the 29th May 2011 will belong to the taxman. On May 30th, Britons then begin working for themselves; a date coined Tax Freedom Day by the Institute.

This year, Tax Freedom Day is three days later than it was in 2010 and this is largely attributed to the increase in VAT from 17.5% to 20%.

The executive director of the Institute, Tom Clougherty, said the impact of the VAT rise will affect every household in the UK, denting consumer confidence and putting a dampener of the country’s economic recovery.

The coalition is correct to prioritise spending cuts and repairing the budget deficit but people in the UK remain seriously overtaxed. We spend nearly five months working solely to support the state and only seven supporting our families, which is a shocking indictment of a large and wasteful government, he added.

The OECD revealed last month that the tax burden in Britain is higher than in many of its peer countries, having increased since 1995. Taxes exceeded 34.8% of the OECD GDP in 2008, even though they have fallen in recent years.

Canada, Ireland, New Zealand and the U.S. have all reduced their tax burden in the last fifteen years and even countries like Denmark and Sweden, which levy high taxes, have reduced them. But the burden of taxation in the UK has risen by about 1.5%.

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Although UK businesses have had plenty of warning that VAT will increase to 20% at the beginning of January, almost 20% of small businesses are still not prepared.

Business software provider, Sage, conducted a survey of 1,500 SMEs and discovered that 11% have not even thought about the increase and another 7% are worried that they have not done enough to prepare for the change.

This change will not necessarily be as daunting a task as it was previously. We’ve had two changes in the last couple of years, so it’s not as if contractor accountants and businesses are faced with a completely new phenomenon. Small firms will have to decide whether to pass on all or some of the increase to their customers, or absorb the full amount themselves.

The other problem for businesses this time around is that the increase does not take place on the first of a month. Therefore some firms will need to complete VAT returns showing two different standard VAT rates. If business owners are in any way unsure of how to proceed, they should contact a contractor accountant for advice.

Meanwhile, third-sector employers who are not registered for VAT could find January’s increase represents a commercial nightmare, according to the MD of Cash Simply, David Thornhill.

The standard rate of VAT will rise to 20% as from the 4th of January next year and the Charity Tax Group estimates that this will increase costs for the third sector by an extra £140 million.

Employment businesses must charge VAT on the wages of the workers they supply. Businesses that are registered for VAT claim this back as input tax on the VAT returns, but charities are not VAT registered and therefore they cannot reclaim this cost.

However, there is a way around this problem, Thornhill explains. If a temporary worker was to be engaged on a short-term contract and the charity outsourced the payroll processing to an independent payroll company that also funded the wages, invoiced them separately and was effectively the charity’s PAYE agent, the unrecoverable VAT would be removed from their costs.

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11% of businesses have still not prepared for the VAT increase which comes into force on January 4th next year, according to the results of research conducted by Sage.

In November, the software provider conducted a survey of 1,500 of its customers about the impending change. Over two thirds (68%) of the respondents said they were prepared, but 11% had not yet considered the implications of the increase.

Adapting systems to cope with a different VAT rate should not be so daunting this time around. A couple of years ago, the rate was temporarily reduced to 15% before returning to 17.5% at the beginning of this year.

The main problem, at least as far as SMEs are concerned, is whether to pass the increase on to customers. Dr Philpott from the CIPD says that smaller-sized retailers will be most affected by the change and yet the government is banking on such businesses to create employment and help drive economic growth.

However, a spokesman for the British Retail Consortium has said that online retailers are in a better position to absorb the increase than their high street counterparts, due to lower business overheads. eBay’s Online Business Index seems to confirm that view showing that 63% of online retailers are not expecting to pass the full increase onto their customers.

Contractor accountants may also find more people contacting them for help completing quarterly VAT returns. As the rate rises on the 4th of January rather than the first, some companies will need to file a return which incorporates both the 17.5% and 20% standard VAT rates.

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Contractor accountants who have small business clients in the retail sector could be concerned to hear that the British Retail Consortium’s belief that the increase in VAT could cause problems within the sector.

As from January 4th, the VAT rate will rise from the current 17.5% to 20% and the BRC thinks that online retailers will find it easier to absorb the rise than the high street stores will.

A spokesman for the BRC pointed out that online businesses have a distinct advantage over their high street counterparts; they spend a lot less on overheads. Potentially, their margins are slightly broader so they have the opportunity to absorb the increase.

This suggestion is in some ways backed up by a recent survey from eBay. It’s latest Online Business Index shows that 63% of online retailers hope to be able to absorb at least some of the increase. 24% say they are confident in their ability to absorb the full VAT rise so that prices will not have to increase, but 23% of internet traders will be passing on the full increase to their customers.

Around 50% of the survey’s respondents think the increase will have a detrimental effect on their business and lead to a reduction in sales.

Dale Atkinson, from the BRC, said that there will be increased competition between retailers over the coming months as companies look for ways to minimise the impact of the VAT rise on their customers.

Contractor accountants could be in a good position to advise retailers on the best ways to cope with the increase and still maintain profitability.

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The August Inflation Report from the Bank of England, which was published yesterday, was not as optimistic as contractor accountants might have hoped.

Mervyn King, the Governor of the Bank of England, warned that the economy faces a choppy recovery over the next couple of years. The Bank has said they expect inflation will remain higher for longer than they had previously anticipated and this has led to a lowering of the economic growth forecast. The report also suggests that interest rates will remain at their historic low in the immediate future.

Previously, the Bank had expected to see growth of around 3.4% in 2011 but this has now been revised to around 2.5%. The main reason for the revision is the coalition’s decision to increase the VAT rate to 20% as from the beginning of next year.

Mr King pointed out that the continuing economic stimulus measures along with the drop in value of the pound were helping the economy to expand but this is being offset by the lack of lending from the banks, something that affects contractors.

However, King did stress that the cost cutting plans put in place by the government have reduced the risk of a double dip recession.

Economists were quick to comment with some saying the report was more ‘dovish’ than had been anticipated. Howard Archer, from IHS Global Insight, said the report reinforced their view that interest rates will remain at 0.5% until early in 2011. He forecasts that we will not the first rise in rates will until the summer next year.

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