For entrepreneurs in the early stages of forming a company, understanding your tax and VAT responsibilities should be a priority. HMRC has increased its fight against unpaid business taxes, and smaller firms have become a growing target.
To help the owners of small companies maintain a good relationship with the tax office, Business Advice explains the difference between a tax return and a VAT return.
What is a tax return?
For small business owners, sole traders and the self-employed, income tax on company profits must be paid annually to HMRC.
For those running smaller firms, a tax return by and large refers to the self-assessment tax return. It is a yearly submission of business profits and loss, containing revenue, national insurance (NI) and capital gains.
Although staff wages and workplace pension schemes must also be taxed, these are usually made automatically each month.
After registering for self-assessment, HMRC will issue a Unique Taxpayer Reference (UTR). You can find out how much you owe in taxes via GOV.UK.
A business owner must prepare accounts for the same “year-end date” every year. It is advised to match this with HMRC’s tax year-end of 31 March. The tax office has upped its action against business owners failing to report tax information. A record number of winding up orders were issued in 2016.
HMRC guidance also states business owners should keep a record of all sales, takings, purchases and expenses for a minimum of six years.
What is a VAT return?
The value added tax (VAT) return is a calculation of how much VAT is due from revenue minus how much VAT you can reclaim on business expenses. It is submitted quarterly to HMRC.
A completed VAT return will either show how much is owed to HMRC, or whether you are due a VAT refund. If the amount reclaimable is greater than VAT due on sales, HMRC will repay you the difference.
To register for VAT returns, your company must have annual turnover of £85,000 and above.
For business owners below the threshold, a Flat Rate VAT scheme was introduced to offer smaller companies a fixed VAT rebate.
VAT is paid for by the consumers paying for your product or service. For the VAT return, you must calculate every business expense in that quarter which you are able to deduct.
For the majority of goods, the current VAT rate is 20 per cent, after increasing 2.5 per cent in 2011. A reduced rate of five per cent is added to home energy and goods such as children’s car seats, for example. VAT is not added to property stamps, most food, children’s clothing or property and financial transactions.
Failing to keep every receipt for business transactions is one of the most common VAT mistakes.
What is the crossover?
Before completing either a VAT or self-assessment income tax return, you must first register with HMRC.
If you are VAT registered, when completing a tax return it is important to take VAT off the total income figure when completing a tax return.
Those using the Flat Rate scheme must include VAT in the submitted income.
Read our guide to the rules for Limited Cost Traders
How to tell the difference between a tax return and a VAT return
The main difference between a tax return and a VAT return is in what you are declaring.
VAT is paid for by consumers, and the submission is solely regarding VAT. Tax returns are when you pay part of your profits to HMRC.
VAT returns are submitted to HMRC quarterly, and self-assessment tax returns are currently made once a year.
Implications of Making Tax Digital
Initially scheduled for introduction in April 2018, the government’s Making Tax Digital initiative has been stalled due to the general election in June 2017.
The original plans would require small business owners submitting paper tax records to file all records digitally. Digitisation of the tax system was dropped from the most recent Finance Bill, with a likely introduction now April 2020.
One of the main points of contention from small business organisations has been the possible introduction of quarterly tax reporting, putting self-assessments into a similar structure as VAT returns.
Now you’re aware of the difference between a tax return and a VAT return, find out everything you need to know about your first self-assessment
Sign up to our newsletter to get the latest from Business Advice.