The Federation of Small Businesses (FSB) has proposed significant changes to the UK's VAT system in a new paper.

The paper, "VAT for Small Businesses," suggests increasing the VAT threshold from the current £85,000 to £100,000. This change is intended to give small businesses more leeway to expand their turnover without the immediate burden of needing to charge their customers an additional 20% VAT.

The FSB has also proposed the implementation of a ‘smoothing mechanism' to facilitate a more gradual transition for businesses exceeding the VAT threshold.

According to the Office for Budget Responsibility, such measures are crucial as many small businesses intentionally limit their turnover to stay below the current threshold. This self-limiting behaviour potentially stifles hundreds of millions of pounds in economic activity.

The FSB's suggestions follow a survey indicating that 38% of businesses with turnovers between £75,001 and £100,000 view the current threshold as a growth barrier. Moreover, 19% of small firms believe a discount on the VAT payable after surpassing the threshold would incentivise them to invest and expand.

The FSB outlines two further potential smoothing mechanisms: a VAT allowance, allowing eligible businesses to reduce their annual VAT liability, and a rebate option, offering a rebate on net VAT paid for businesses slightly above the threshold.

Additionally, the FSB calls for simplifying VAT rules, highlighting the compliance burden on small firms.

Tina McKenzie, FSB's policy chair, said:

"VAT compliance flattens small firms by stifling their growth and emptying their coffers. It's crying out for a modern makeover to match today's economic landscape.

"If the Government wants to show that it's really on the side of small firms, a commitment to look at our suggestions and ease the VAT burden would go a long way towards that."

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