This is your guide to how VAT works in the UK.
What Is VAT?
The UK instituted value-added tax (VAT) way back in 1973. Since then it has been the standard consumption tax that you’ll find whenever you purchase goods and services from VAT-registered vendors.
How does VAT work?
VAT doesn’t get added to everything. There are certain services and products that are granted VAT-exempt status by HM Revenue & Customs (HMRC), with some of these being health care, insurance, education, and charitable donations. In addition, if you pay for goods and services and use them beyond the UK’s borders, you won’t have to pay VAT on them. Statutory fees are also VAT-free.
You will likely be charged VAT payments on the sale of business assets, and most goods and services. If you hire or loan goods, you’ll pay VAT. You’ll pay VAT on commissions.
What is the UK VAT rate?
The UK has three different VAT rates, depending on the types of goods and services being supplied. The three rates are as follows:
- Standard VAT rate of 20%: This rate is charged for most goods and services.
- Reduced VAT rate of 5%: This rate is charged for items like home conversions and energy.
- Zero VAT rate: Most food and clothing for children is charged including 0% VAT.
Is There A Difference Between Zero VAT And Being Exempt From VAT?
If you see goods or services that are being charged zero rate VAT, it means that these are generally VAT-registered. The stipulation says, though, that VAT is not obligated to be charged by a vendor.
VAT-exempt items are exactly that, though – there is no VAT payable on these products or services.
VAT vendors providing applicable products and services are compelled to charge VAT, but it is marked as 0%. As such, they’re still able to claim VAT costs on the expenses and overheads, using the VAT registration number of the business.
What Is The UK’s VAT Threshold?
If a business has a taxable turnover of over £85,000, it is legally required to become one of the many VAT-registered businesses in the UK. The taxable turnover of a business is defined as the total turnover that is generated through all sales that come from goods or services that are not exempt from VAT.
Bear in mind that items classified as zero rate VAT are also included as taxable turnover.
Businesses operating under the VAT threshold are not obligated to add VAT to their goods and services. They also don’t need to undergo VAT registration with HMRC. The turnover of the VAT threshold is gauged over an annual period.
Unlike a standard annual tax period, this period is not fixed. Instead, it takes the form of a rolling 12-month period falling any time between the beginning of June and the end of May, rather than a fixed period like the tax year.
Businesses without a VAT registration number that border on the threshold to register for VAT should watch their turnover. The stringent deadlines necessary to become VAT registered means they could face penalties from HMRC if they don’t comply.
Once your business does register for VAT, it must charge VAT-inclusive prices and submit a quarterly VAT return until it no longer turns over £85,000 annually. Unlike what occurs with tax allowances, the availability of the £85,000 threshold remains in place without resetting with the new tax year.
VAT-registered businesses have to continue paying VAT on goods or services.
How To Register Your Business For VAT
To register for VAT you need to get in touch with HMRC. Once you’ve successfully registered your business, you can start sending VAT returns, which resemble self-assessment returns. Your business will begin to issue a VAT invoice for every sale and can reclaim VAT for the VAT you pay out.
Sole traders can register themselves for VAT. Limited companies must go through the registration process. It is important to remember that submitting a VAT return above the £85,000 threshold without registering or paying VAT means HMRC will begin investigations and you’ll likely face penalties.
Submitting a VAT return when above the threshold is compulsory.
Paying And Claiming VAT
Once your business is registered, applicable VAT rates known as output tax warrant inclusion on all of your sales. VAT is then paid over by all your customers and you are obligated to pay this over the HMRC thereafter.
Through your VAT return, you can claim input tax for the expenses that pertain to your business. Take note that you cantt claim a VAT refund for expenses for your private use or things like entertainment.
To calculate prices that include the standard 20%, multiply the exclusive VAT price by 1.2. For the reduced 5% rate, multiply the exclusive price by 1.05.
To work out VAT-exclusive prices, divide the VAT-inclusive total by either 1.05 for the reduced VAT rate or 1.2 for the standard rate price.
How often do I need to file returns for VAT?
Returns are submitted to HMRC, typically on a quarterly basis. The return must include details of your business’s purchases and sales. Also, include the calculated amount of the VAT owed or reclaimable.
Can I reclaim the VAT on my purchases?
Businesses registered for VAT can reclaim the VAT paid out for their business purchases and expenses. There are restrictions on certain types of services and goods, however.
It might not be that difficult to understand how VAT works and what it is, but sometimes the VAT return process can be more complicated. VAT payments are usually easier to complete than when you want to reclaim VAT. We recommend that you seek the assistance of a tax accountant to assist with the task.