If you run a business, VAT can be confusing. One of the trickiest areas is VAT exemption. Simply put, it is when you do not charge VAT on certain goods or services, which also affects your ability to reclaim VAT on related purchases.

In this article, we’ll explain what VAT exemption means, which supplies are typically exempt, the difference between exempt and zero-rated supplies, and how partial exemption works when a business makes both taxable and exempt supplies. 

By the end, you’ll understand how VAT exemption affects your business and what to watch for.

Exempt supplies: what they are and why they matter

An exempt supply is a sale on which VAT is not charged and which does not count as a taxable supply for reclaiming VAT. According to HM Revenue & Customs (HMRC):

“If you make supplies that are exempt you do not charge any VAT on them. In principle, you cannot reclaim VAT which is for any … exempt supplies you make.” 

This means that while you won’t collect VAT from your customer, the VAT you pay on purchases relating to these supplies is usually not recoverable.

Common examples of exempt supplies

Some typical examples include:

• Financial services, such as certain insurance contracts, loans, and credit.
• Fundraising activities by charities, in certain circumstances.
• Certain land and property transactions, like some lettings of residential property.

Exempt supplies are outside the normal VAT system, so it’s important to identify them early to avoid surprises when claiming input VAT.
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Exempt vs zero-rated supplies

It’s easy to confuse exempt supplies with zero-rated supplies, but the difference matters:

Zero-rated supplies

For zero-rated supplies, VAT is charged at 0% but the sale counts as taxable. Meaning you can usually reclaim VAT on related purchases, dependent on your situation. Examples include most foods, children’s clothing, and books.

Exempt supplies: 

No VAT is charged, and the sale is not taxable, so you generally cannot reclaim VAT on related costs.

Knowing the difference affects your VAT registration, your right to reclaim VAT, and your accounting practices.

VAT Exempt Goods vs Services

It is helpful to know that exempt supplies can be either goods or services, and this distinction can affect your VAT accounting.

Exempt goods are physical items, such as certain residential property sales or charity fundraising items. You do not charge VAT on these goods, and you generally cannot reclaim VAT on costs directly related to them.

Exempt services are non-physical, such as financial services, insurance, or certain education services. These can be more complex, especially if your business provides a mix of taxable and exempt services. In these cases, partial exemption rules often apply because shared costs, like overheads, must be fairly allocated.

Understanding whether your exempt supply is a good or a service helps you manage VAT recovery correctly and reduces the risk of surprises at the end of the VAT period.

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Partial exemption: when your business does both

Many businesses make a mix of taxable and exempt supplies. HMRC calls this being partially exempt:

“If your business makes, or intends to make, both taxable and exempt supplies and incurs input tax that relates to both kinds of supply, you’re classified as ‘partly exempt’.” 

Partial exemption means you can only reclaim VAT on purchases that relate to taxable supplies. Purchases connected to exempt supplies are usually not recoverable.

Methods for partial exemption

Whichever you choose, make sure you discuss the options in full with your accounting provider. 
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The de minimis rule

HMRC provides relief for businesses where exempt supplies are small relative to taxable supplies. 

The de minimis rule allows full VAT recovery if:

• Total exempt input VAT is no more than £625 per month on average, and
  
  
• Exempt input VAT is no more than 50% of total input tax incurred.

If your business meets these limits, you may avoid complex partial exemption calculations.

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Practical considerations for businesses

Understanding VAT exemption is important for cashflow, pricing, and compliance.

Here are some key points to keep in mind:

1. Identify your supplies: Know which products or services are exempt, taxable, or zero-rated. Keep an eye on any new offerings that could affect your VAT position.

2. Track input VAT carefully: Allocate costs correctly and maintain clear records of calculations, apportionments, and methods used.

3. Review your mix regularly: Check your sales mix to adjust VAT recovery if needed, and consider how unrecovered VAT might impact pricing and margins.

4. Seek specialist advice when necessary: Complex partial exemption situations may require professional guidance to ensure compliance and avoid mistakes.

How Crunch Can Help

VAT exemption and partial exemption can be tricky, but you don’t have to figure it out alone. At Crunch, our team of accountants can help you understand which of your sales are exempt, zero-rated, or taxable. We can guide you through partial exemption calculations and show you how to apply rules like direct attribution, apportionment, and the de minimis threshold so you only reclaim the VAT you are entitled to.

We can also help you keep track of your input VAT, organise your records, and review your sales mix regularly. That means fewer surprises on your VAT return and more confidence in planning your cashflow. Whether you have a mix of exempt and taxable supplies or just want reassurance that your VAT reporting is correct, Crunch makes it simple. Because delivering peace of mind is what we do best. 

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