How will UK VAT cuts save you money?

Creative Commons License photo: Phillip

There has been a lot of discussion in the UK lately about a possible cut in Value Added Tax from 17.5% to 12.5%. I’m not sure how likely it is that this will happen – the radio news seems to believe it is inevitable but many other news organisations seem to disagree.

A cut in VAT from 17.5% to 12.5% could lead to big discounts on every item sold in the UK. The savings can be fairly substantial – £26 off an iPhone PAYG or £72 on a £1,000 plasma TV. However, it would depend on how and whether those cuts were passed onto the consumer.

Retailers could leave prices unchanged. Imagining a £100 product, £17.50 would have previously gone towards the UK government. After the VAT cuts, the government would only take a cut of £12.50 leaving the retailer with an extra profit of £5 per unit.

Look K-mart is having a sale!
Creative Commons License photo: Cosmic Kitty

Retailers can increase their turnover at a time where their costs may be rising but they cannot afford to raise prices for fear of losing customers. But perhaps with retailers knowing that Christmas is coming up, people would buy their product without an additional discount. Hence there would be no need to pass on the VAT cut.

Retailers could pass on part or all of the VAT cut. If the entire VAT cut was passed onto the consumer, the £100 product would now cost £92.81. The retailer makes the exact same amount of money they did before; but its great news for the consumer as consumers save a lot of money. In a time when peoples disposable income levels are falling, this increase in demand could ensure retailers get the sales they need.

Retailers could discount prices by even more. The retailer may want to cut the price of the product from £100 to £90. However, that might not be too attractive to them – it represents a loss of £10 for every product sold. However, given that the government is absorbing so much of the price cut themselves this may make it a lot more attractive for retailers to cut their prices.

Warp Speed Ahead
Creative Commons License photo: Olaf

So how does this affect you? I personally believe that if Mr Darling did cut VAT, it would take several weeks, even months for that to filter through to the prices that we pay at the shop every day. Companies have price promises to honour; companies have catalogues which cannot be reprinted immediately, etc. And with Christmas coming up, consumer spending should hopefully pick up anyway. So we would be unlikely to see any big price cuts this year.

However, New Year 2009 could be a bumper one for new year sales. If Christmas sales figures aren’t as high as retailers expect, I believe retailers could offer much bigger discounts than in past years.

If there are some big purchases you were planning to make, it may well be worth waiting until after the pre-budget report and possibly the new year.

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