Understanding The Best Way to Use the Recent VAT Cuts

A 15 percent cut to Value Added Tax in the hospitality and tourism sectors is just one of the measures Chancellor Rishi Sunak put in place during the COVID-19 lockdown. Some businesses have chosen to hand the saving down to their customers; others are using it to build their company back up. But how do you decide how to use the VAT cut?

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On 8th July, Rishi Sunak revealed his plans to support struggling businesses across the UK. This new package included a £9 billion fund to protect furloughed staff, financial incentives to support jobs for young people and a VAT reduction for the hospitality and tourism industries.

The hospitality and tourism VAT cut

Between 15th July 2020 and 12th January 2021, businesses in the hospitality and tourism sectors will only have to pay five percent VAT, compared to the usual 20 percent. This discount will cost the government over £4 billion, but will support struggling businesses, including:

• Cafes
• Restaurants
• Pubs
• Hotels
• B&Bs
• Campsites and caravan sites
• Cinemas
• Zoos
• Theme parks

Rishi Sunak called the VAT cut a “£4 billion catalyst for the hospitality and tourism sectors, benefitting over 150,000 businesses, and consumers everywhere.”

But the tax cut poses a conundrum for business owners – and the Treasury acknowledged this issue:

"We want businesses to pass on the benefit to customers if they can, and almost four fifths of businesses said they did so in 2008 [during the last tax cut]. But we recognise that many of these businesses have been closed and without income for months, and decisions on prices are ultimately for businesses rather than the government."

Are businesses handing down the saving or pocketing the difference?

It’s clear there’s no right or wrong answer here, and businesses have used the VAT cut in different ways. For example:

• The National Gallery said it would charge full ticket price for its Titian exhibition
• IHG Group, which owns Holiday Inn and Crowne Plaza, said some of its franchised locations would give the discount to corporate bookings
• Waitrose, Starbucks, Pret A Manger, Nando’s, McDonald’s and KFC will all pass the discount on to its customers

To keep or not to keep…

Whether your business keeps the VAT cut or passes it on to customers should depend on its overall economic health at the moment. We can’t say whether you should use it to rebuild your company or hand it down, but we can pull out the advantages of each option.

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Advantages of passing on the VAT cut

Offering cheaper food, tickets or overnight stays should entice more customers to visit your business. So, if you’re able to accommodate people, you could use the discount to encourage more custom and potentially boost sales. Helen Miller, Deputy Director, Institute for Fiscal Studies, says:

“Cutting VAT and discounting restaurant meals will increase output in these sectors if businesses have the capacity to serve more customers despite social distancing requirements.”

The government has also introduced a number of other initiatives to support businesses in the hospitality and tourism sectors. These additional packages include the ‘eat out to help out’ customer incentive and £1,000 bonuses for staff brought back from furlough. The government will also pay the wages of any new young employee for six months. All these measures should help struggling businesses recover as the lockdown eases, so you could take advantage of them whilst enticing customers in with a discount.

This significant VAT cut, heightened ability to retain staff and incentives for consumers to eat out together amount to a huge bonus. – Kate Nicholls, Chief Executive of UK Hospitality

The evidence shows offering VAT cuts helps boost sales. According to EY, retail spending rose by 1.2 percent back in 2008 when VAT was cut by 2.5 percent. It cost the government £12.5 billion per year, but customer purchases increased significantly.

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Advantages of keeping the VAT cut

The main advantage to keeping the VAT money is, of course, you can use it to rebuild your business as we emerge from national lockdown. Rather than hoping customers will be keen to take advantage of cheaper services, you can make a definite decision to put money back into your company immediately.

There’s some disagreement as to whether customers will be enticed by cheap deals. Matthew Lesh, Head of Research at the Adam Smith Institute, said:

People aren’t spending on food, accommodation and attractions because of safety concerns, not lack of demand or cash.

Many businesses in the hospitality and tourism sectors offer multiple services and have several income streams. So, the process of taking advantage of the VAT cut can be complicated, and some businesses say handing down the discount is just not worth it. Jamie Ratcliffe, Head of Indirect Tax at EY explained,

“Shops that have a restaurant, hospitals that provide catering and all other businesses will need to determine if both purchases and supplies fall within the new reduced rate or not."

Some people believe passing the VAT cut on may be helping people who don’t need the money as much as the business does. Visit Britain’s Chief Executive, Malcolm Bell has described how some holiday companies have experienced tourists asking for a 15 percent discount. He says:

“My message to customers is this is to help the businesses, not to reduce the cost of their holiday. It is only a temporary relaxation up to January.”

How do you decide?

Choosing whether to keep the money saved by the VAT cut or pass it down to your customers is a big decision, and one that shouldn’t be made lightly. Ultimately, the answer should come down to how your business is performing and how much money you expect to generate either way. Will you make more by keeping the money and putting it straight back into your business, or by enticing customers with lower prices?

It can be hard to know how much your sales could potentially increase if you choose to lower the cost of your services. But you can look to similar businesses to see how they’ve performed. And if you decide against providing the discount in full to customers, why not split the difference? There are lots of different ways to benefit from the VAT cut, and research will help you work out the best course of action for you.

You’ll find more information and a wealth of resources about all areas of business in our article catalogue.