VAT (Value added tax) is a consumption tax paid by the end customer. It can be complex and time-consuming, with penalties if you get it wrong.
Obligatory registration for VAT is driven by your business’s annual turnover and the products sold. Voluntary registration is also an option.
There are different VAT rates for different products, in different circumstances, with some exempt scenarios.
Here’s the inside track on VAT.
What is VAT?
VAT is a business consumption tax on sales of goods and services. An annual turnover of >£85, 000 (in 2020/21) means you must register for VAT.
Businesses collect it on behalf of the government by adding it to their goods and services and then paying it across to HMRC.
VAT registered businesses charge their customers VAT and pay VAT on products and services they buy (raw materials, professional services such as consultancy fees or accountancy services, business phone calls, etc.).
VAT registered businesses claim back the VAT that they pay on business expenses from VAT-registered suppliers. This excludes flat rate registered businesses making <£2, 000 non-capital purchases.
HMRC is paid the difference between the VAT collected, and the VAT paid out to suppliers. More VAT expenditure than receipts results in an HMRC refund.
VAT is charged on business sales, loaning goods, selling business assets, commission, items sold to staff (canteen meals), business goods used for personal reasons and ‘non-sales’ (gifts and part-exchange).
If your annual business turnover is <£85, 000, VAT registration would be voluntary. Once registered, you will charge your customers VAT. You can then recover the VAT you paid out – saving costs!
Do I have to charge my customers VAT?
If you are a VAT-registered business, you are effectively an unpaid tax collector. You charge VAT on what you sell and pay it across to HMRC.
Many VAT-registered businesses save money by being registered.
Your business will pay it on any purchases made. VAT is declared in a VAT return showing total VAT collections (output), and total VAT paid out (input) for each tax period.
Once registered for VAT, you will charge all of your individual customers VAT. If you collect more VAT from sales than you paid to suppliers and service providers, you will owe the surplus to HMRC. If you pay out more VAT than you collected from all your customers, you reclaim the money from HMRC.
To get this right, you must know of the right VAT rate to charge. There are three rates of VAT (2021) dependent on the goods or services you provide. You add this VAT to the product or service price when selling to business AND non-business customers.
Most goods supplied to non-EU countries and any goods sold to VAT-registered EU businesses are zero-rated. There are many other exemptions, and if you trade exclusively in zero-rated goods or services, you can apply to HMRC to be exempt from VAT registration. You will NOT be able to reclaim VAT incurred on business purchases or expenses.
If you are invoicing clients for transactions in foreign currencies, show the total payable VAT in pounds sterling on your invoice with an English translation of the invoice on record. When converting the total VAT into GBP, use one of the HMRC methods: market selling rate at the time of supply, the European Central Bank rate or HMRC’s period rates of exchange.
Do you charge VAT on professional services?
If your business is to supply accounting services, business consulting services, PA services etc. and your turnover last tax period was >£85, 000, you need to register for VAT. After registering, you will charge VAT on your professional services.
It does happen that turnover can fall below the VAT threshold in the period directly following registration. The drop would need to be signed before you should apply to deregister – the deregister threshold is £83, 000. After that, you will not need to charge VAT on your professional services.
You can check on the HMRC website if your business or products are VAT exempt.
Should my business voluntarily register for VAT?
VAT increases your prices, but if your clients are VAT registered clients, they will reclaim the VAT. You then reclaim VAT on business expenses, thereby boosting your profits.
Sales to private individuals don’t benefit from voluntary VAT registrations. You should still, however, review whether reclaimed VAT on expenses outweighs the lost sales.
VAT also requires extra accounting and a quarterly VAT return submission. Additionally, VAT rules are complex, and sales in different countries will require different VAT prices.
Starting VAT pricing means amending I.T. systems and e-commerce sites with new prices that might involve significant admin and/or costs.
An advantage for VAT registered businesses is the level of credibility it gives your business and a stable company’s appearance. Certain customers will ONLY work with VAT registered companies.