Profit Margin Scheme: Can we apply VAT on the net margin for second-hand goods?

Khaleej Times' has launched a new initiative to offer readers expert insights about the impact of VAT and Corporate Tax on UAE’s business environment. Here is another expert view:

We are engaged in buying and selling second-hand goods in the UAE. Is it possible for us to pay VAT on the net margin to the FTA to remain competitive in the market, or are we required to apply VAT on the gross sales price? If we are permitted to apply VAT on the net margin for second-hand goods, we would like to know:

• On which goods is the profit margin scheme applicable?

• What are the preliminary conditions to apply the profit margin scheme?

• How can we comply with and report the figures in our VAT return?

The profit margin scheme is a VAT accounting approach primarily designed for second-hand goods, antiques, and specific other items. With this scheme, VAT is applied only to the profit generated from the sale of the goods, rather than the entire selling price. This arrangement benefits sellers by lowering their VAT liability, enabling them to offer savings to customers.

The profit margin is defined as the difference between the purchase price and the selling price of the goods, and it is assumed to be VAT inclusive. The VAT amount is calculated by multiplying the profit margin by the tax rate and then dividing that result by one hundred plus the VAT rate. For instance, this can be represented as (Profit Margin * 5 / 105).

The profit margin scheme offers several core benefits for businesses dealing in second-hand goods.

Firstly, it significantly reduces VAT liability, as VAT is charged only on the profit margin, which lowers the overall tax owed. This reduction translates into cost savings for buyers, enabling sellers to provide more competitive prices.

Additionally, the scheme simplifies accounting processes, making VAT management easier for businesses. It also encourages sustainability by promoting the resale of used goods, thereby reducing waste.

Finally, with lower VAT payments, businesses can enjoy improved cash flow, providing greater financial flexibility for reinvestment. Overall, this scheme fosters a thriving market for second-hand goods, benefiting both sellers and buyers alike.

Article 43 of the UAE Corporate Tax Law states that a registrant may calculate and charge tax during any tax period based on the profit margin earned from taxable supplies, as outlined in the law's executive regulations.

Article 29 of the VAT Executive Regulations (the regulations) states that a taxable person may apply the profit margin scheme when purchasing movable second-hand goods, such as cars that can be used as it is or after repair, antiques over 50 years old, and collectibles like stamps, coins, currency, and other items of scientific, historical, or archaeological significance. This is applicable when buying eligible goods from an unregistered seller or a seller who is using the profit margin scheme, provided that these goods have already been taxed in the UAE.

The selling price encompasses all amounts received for the goods, whether from the buyer or a third party. This includes payments for (i) incidental expenses directly related to the sale, and (ii) accessories installed prior to the sale. However, disbursements are not included in the selling price and should be recorded separately outside the scheme.

For example, the purchase price of the item is set at Dh10,000. Included within the selling price are total incidental expenses amounting to Dh650. However, there are also in-house expenses totalling Dh750. The overall selling price is Dh12,500, and there are additional total disbursements of Dh200, which are also not included in the selling price. In this example, inhouse cost of Dh750 and disbursement of Dh200 will not be considered.

The third-party cost of Dh650 will be included in the purchase price so the total purchase price is Dh10,650; and selling price is Dh12,500. The net margin is Dh1,850 (12,500-10,650); and net VAT payable is Dh88.095 (1,850*5/105).

Registered/un-registered sellers

This requirement clearly highlights two key points. First, the scheme applies only to specific goods that have already been taxed in the UAE. Second, it is relevant when the seller is either an unregistered person or someone selling the goods under the profit margin scheme.

The law's fundamental requirement stipulates that the seller must be a VAT unregistered person for the registered buyer to apply the profit margin scheme. If the goods are purchased from a registered seller, the profit margin scheme cannot be used, regardless of whether the goods have already been taxed in the UAE. Where goods are bought from registered seller, the registered seller will charge VAT, which becomes the buyer's input tax. When the buyer sells the goods, they will apply VAT on the full selling price. Consequently, the net VAT amount (output tax minus input tax) will be remitted to the FTA. For example, this could amount to Dh2,500 (calculated as 150,000 5 per cent - 100,000 5 per cent).

The law also requires that the goods must have already been taxed in the UAE. This means that if an unregistered seller is selling goods purchased before the law's effective date, the profit margin scheme cannot be applied. For instance, if A bought a car in 2017 and now sells it for Dh100,000 without applying VAT, the buyer cannot use the profit margin scheme for that car, as it was acquired prior to the law's effective date and has not been taxed in the UAE. Therefore, when the buyer sells the car, they must apply VAT on the full selling price of Dh150,000 and remit five per cent of that amount to the FTA.

If A purchased another car in 2018 and is now selling it to a VAT-registered buyer, such as a car dealership, the dealership can apply the profit margin scheme. This is because the seller is an unregistered person and the car was taxed in the UAE in 2018 at the time of its first registration.

The profit margin scheme is optional. If the buyer chooses not to apply the PMS, they may struggle to remain competitive in the market. For example, if the buyer purchases a car for Dh100,000 from an unregistered seller, they will have no input tax to claim. When selling the car, the sales price would be Dh157,500 (Dh150,000 plus VAT), resulting in an output tax of Dh7,500 owed to the FTA. However, if the PMS is applied, the sales price would be Dh150,000, providing an advantage to sellers using the scheme. In this case, the net amount of VAT to be deposited with the FTA would be Dh2,380.95, calculated as [(Dh150,000 – Dh100,000) * 5/105].

For those with tax-related queries or who simply wish to stay informed on how the new laws and changes might impact them, Khaleej Times is here to help. Questions can be sent to taxquery@khaleejtimes.com or inquiries can be made by calling +971-4-3384545.