This easy guide summarises the facts about VAT for small businesses. It explains everything from when you should register, to how to submit your returns. And, just in case, it also gives some tips if you run into problems and can’t pay your VAT.
What is VAT?
Value-Added Tax, (known more fondly as VAT) is intended ultimately as a tax on consumer expenditure and is collected on the sale of goods and services. It was introduced in 1973 when the UK joined the EEC to replace what was called Sales Tax.
VAT is often charged on the following:
- Sales of your goods and/or services
- Exchanges – new for old products, such as cars
- Selling business assets
- Business goods used for personal reasons
- Hiring or leasing of your goods
- Items sold to staff, such as meals
When do I have to register for VAT?
You must register for VAT if:
- your business had a VAT taxable turnover of more than £85,000 over the last 12 months.
- you expect your VAT taxable turnover to be more than £85,000 in the next 30-day period.
If you exceeded the VAT threshold in the past 12 months
If, at the end of a calendar month, the value of your taxable sales over the previous 12 months exceeds £85,000, you need to register for VAT.
You should notify HMRC within 30 days of the end of that month. You will then be registered on the first day of the following month.
Known as the Effective Date of Registration (EDR), this is when you will have to start charging VAT.
If you’ll exceed the VAT threshold in the next 30-day period
Unlike the historic test, which has to be done at the end of the month, the future test applies at any time.
If you expect your sales to exceed £85,000 sales within 30 days at any time, you must register for VAT. You should then notify HMRC within 30 days of that date.
The EDR in this case will be retrospective and based on the original date. So, for example, say you receive an order worth £90,000 on 1st January, and you notify HMRC on 31st January, your EDR will be 1st January.
When in doubt, or you want more information from HMRC, click here: https://www.gov.uk/vat-registration/when-to-register
A random, but useful tip for newbies:
If you’ve just become VAT registered but are holding any assets which you purchased previously, such as furniture or machinery, you should be able to reclaim VAT back on registration. Check with HMRC.
You can register voluntarily even if your business turnover is below £85,000. But you must pay HMRC any VAT you owe from the date they register you.
Most businesses only apply for a voluntary VAT registration if they expect to recover more VAT from HMRC than they are paying.
One of the most common reasons to register for VAT voluntarily is to recover VAT on start-up costs.
For example, if you set up a new coffee shop, you probably spent a small fortune on furniture furnishings and equipment. You can reclaim the VAT element of those costs early, rather than waiting until your turnover exceeds £85,000.
VAT rates and exemptions
There are three different VAT rates which apply to taxable supplies:
- Standard Rate 20% – The majority of goods and services.
- Reduced Rate 5% – Domestic fuel and power, child car seats etc.
- Zero Rate – Books, children’s clothing, exports etc.
What is Exempt from VAT?
Some services and goods are VAT exempt. These include:
- Education or training
- Charitable fund-raising
- Selling or letting commercial properties
- Insurance and finance services
- Postage stamps and postage
What is the Difference Between ‘Zero-Rate’ and ‘VAT Exempt’?
Zero-rated supplies are not charged VAT in a traditional sense but at the rate of 0%. This will allow you to recover the VAT on your overheads and costs.
However, with VAT exempt supplies you cannot apply for VAT reclaims. Another point, if your business offers only VAT exempt supplies, then you don’t have to register for VAT.
All reduced or zero-rated goods and services are clearly listed here:
What else can you reclaim VAT on?
In addition to reclaiming VAT on goods or services used specifically for your business, it’s possible to claim for things such as:
- Staff travel
- Mobile service plans used for business calls
- Vehicles used only for business
- Fuel, accessories and maintenance for said vehicles
- Utility bills if you are a home business (proportional to the percentage of utilities used for business needs)
There are some things (usually the fun ones) that you can’t reclaim for VAT including:
- Entertainment costs
- Anything that is purely for private use
- Things bought from other EU countries
Submitting your VAT returns
Once you’re VAT registered, you will have to start filling in VAT returns which record the amount of your input and output VAT. This will result in either a net payment to or repayment from HMRC.
This is the VAT you have charged to customers/clients for the goods or services. You have to add this to your VAT return even if haven’t received payment.
This is the VAT you have been charged by suppliers on goods or expenses. You have to add this to your VAT return even if you haven’t paid for them.
When do you have to submit your returns?
VAT returns are usually submitted on a quarterly basis, but you can ask to submit yours on a monthly basis. You can even choose which quarters you’d like to submit your returns to tie in with your particular financial year-end.
The deadline for submitting your return and making payment, is one month and 7 days from the last day of the quarter or month.
Once registered, you have to submit a VAT Return even if you don’t have any VAT to pay or reclaim.
Making Tax Digital
From 1st April 2019, if you’re above the VAT threshold, you need to comply with Making Tax Digital (MTD) rules, which means keeping electronic records and submitting your returns digitally using HMRC-approved software.
For more information on MTD, see our blog ‘Making Tax Digital’. On 4th February 2019. https://www.paymentsense.com/uk/blog/making-tax-digital-small-business/
Or visit: https://www.gov.uk/government/publications/making-tax-digital/overview-of-making-tax-digital
Special VAT schemes for small business
When selling to other businesses that are VAT registered, it’s easy for them to claim back on the VAT paid.
If you become VAT registered and start selling to customers who are not VAT registered then your prices to them will effectively increase by 20%.
If you think this will affect your sales, HMRC have three VAT schemes specially designed to help small businesses:
- Flat Rate VAT Scheme
If your business has a turnover of less than £150,000 you can opt to pay VAT under the Flat-Rate Scheme. The big advantage of this it is means you don’t have to keep a record of the VAT you charge on every sale. And you don’t have to pay on every purchase.
Instead, to make it easier and quicker to do your VAT return, you can calculate your VAT payments as a percentage of your total turnover.
You don’t have to spend time working out how much VAT you spend buying stuff either, as under this scheme you can’t reclaim VAT on any purchases you make.
Instead, the percentage rate you apply, typically between 9% and 14% depending on industry sector – is designed to take account of this.
For details visit: https://www.gov.uk/government/publications/vat-notice-733-flat-rate-scheme-for-small-businesses/vat-notice-733-flat-rate-scheme-for-small-businesses
- Cash Accounting Scheme
If you use standard VAT accounting, you have to pay HMRC the VAT you charged on your sales whether or not your customer has paid you.
If however, you use cash accounting, you only pay VAT when your client pays you. The catch is that you can only reclaim VAT once you’ve paid your suppliers.
You can use cash accounting if you estimate that your turnover during the next tax year will be no more than £1.35 million.
For details visit: https://www.gov.uk/vat-cash-accounting-scheme
- Annual Accounting Scheme
If you use standard VAT accounting, you’ll have to complete a VAT Return and pay any VAT due, or get any refunds, quarterly. You can reduce your paperwork and make it easier to manage your cash flow by using the Annual Accounting Scheme.
If you use the scheme, then you make nine monthly, or three quarterly, interim payments during the year, only need to complete one return at the end of the year, and then either make a balancing payment or receive a balancing refund at the end of the year.
You can use annual accounting if you estimate that your turnover during the next tax year will be no more than £1.35 million.
For details visit: https://www.gov.uk/vat-annual-accounting-scheme
What to do if you can’t pay your VAT
At some stage, many businesses have cash-flow problems. It happens to the best. If you realise you don’t have enough put by to pay your VAT, don’t panic, here are some simple steps you can take:
- Double-check all your input and output figures.
- Even if you can’t pay, you should still file your return.
- It’s really important that you phone HMRC and tell them. Don’t put it off, because fines for late payments can be pretty steep. If you give them advance warning, they’ve been known to waive them altogether.
- Ask for time to pay. Work out your cashflow and make sure that your offer is realistic. They usually expect you to pay in full before the next quarter. DON’T miss any payments, or they’ll want the lot in full.
- Short-term financing may be the answer if you need more than three months to pay HMRC. Interest charges may be less than HMRC fines. And once you get into their bad books…
- If you have customers with outstanding invoices, why not look into factoring or invoice financing?
Talk to your accountant, bank or a specialist. And, sorry to keep repeating it, talk to HMRC.
Cancelling your VAT registration
You can der-register if your VAT-taxable turnover falls below £83,000, but before doing so, get some advice from an accountant.
Cancelling might not be a good idea for your business if:
- you generally reclaim VAT on your tax return
- the drop in taxable sales is believed to be temporary
- most of your customers are registered for VAT
Once HMRC has sanctioned de-registration, you have to keep your VAT records for at least six years.
We hope this guide helped to make VAT less of a mystery – you may even have picked up a few useful tips.
If you want more information on VAT, directly from HMRC, make a pot of coffee (you’ll need it) and visit: https://www.gov.uk/topic/business-tax/vat