Knowledge

VAT registration and reporting explained – and what rate of VAT applies?

Posted on Oct 25th, 2018 | Tax

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Ahh, VAT – most people have heard of it but not many understand it, and we know that it’s confusing for many self-employed, contractors and small business owners.

Although the ins and outs may be tricky to grasp for first-timers, the sooner you get your head around HMRC’s VAT rules the better it will be for your business.

This article covers:

VAT – or Value Added Tax – is a tax charged on most goods and services in the UK and the EU. When you buy a product that is eligible for VAT in a shop, for example, VAT is automatically included in the price you pay.

There are three rates of VAT which are applied to goods and services. Standard Rate (currently 20%), Reduced Rate (currently 5%) and Zero Rate (0%, obviously). Items may also be exempt (or ‘outside the scope’) of VAT.

“Aren’t Zero Rated VAT and VAT exempt the same thing?”, you may be asking. Well, no. Zero-rated means that the goods are still VAT-taxable but you don’t charge your customers any VAT. You still have to record these sales in your VAT accounts and report them on your VAT Return, which means you can reclaim VAT on your expenses.

VAT exempt items are outside of all VAT schemes and are not taxable. You don’t include sales of exempt goods or services in your taxable turnover for VAT purposes. If you buy exempt items, there’s no VAT to reclaim.

In both cases, you don’t add VAT to the selling price, but zero-rated goods or services are taxable for VAT – albeit at 0%.

Sales of zero-rated items count as ‘taxable sales’ as far as the registration threshold is concerned, along with sales that are subject to 5% or 20% VAT.

Here are some examples of goods and services and their VAT rates:

 

Standard Rate (20%) Reduced Rate (5%) Zero Rate (0%) Exempt
Web Design services Energy efficiency materials (insulation etc.) Books Most financial services
Electronics (laptops, smartphones etc.) Domestic utilities (gas, electricity etc.) Newspapers Insurance
Consultancy Nicotine patches Protective clothing (helmets, boots etc.) Lottery tickets
Photography services Property renovations and alterations Printing of brochures Funeral costs
Purchasing software or software licenses Sanitary products Buying a helicopter! Houseboat moorings
Majority of other goods and services Children’s car seats Most construction activities Postage stamps

There’s a common misconception that only people operating their own limited company can register for VAT, when actually VAT registration is open to sole traders as well. You can voluntarily register whenever you like, but there comes a point when legally you must register.

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Legally, you must register for VAT when:

  • Your VAT-taxable turnover (the total of all sales that aren’t exempt from VAT) exceeds the current threshold of £85,000 within a 12-month period (on a rolling basis)
  • You expect your VAT-taxable turnover to exceed the threshold in a single 30-day period
  • You only sell goods or services that are exempt from VAT, but you purchase goods to use in your business to the value of more than the threshold from VAT-registered suppliers in the EU

You need to register for VAT within 30 days of meeting any of these criteria.

If you know your turnover will reach the threshold soon, you should allow enough time to register. If you fail to notify HMRC in time, you may be liable to pay a penalty!

There are some situations in which it may be beneficial to register voluntarily before you reach the threshold. Read our article for more detail on VAT MOSS.

When your turnover reaches the VAT threshold in a rolling 12 month period, you must start charging VAT from the first day of the second month after you exceeded the threshold.

For example, if on 30th June 2018, your sales for the previous 12 months are £85,000, then your VAT registration date will be 1 August 2018.

When you expect to exceed the threshold in a single 30-day period, you must start charging VAT immediately.

If you’re late in registering, HMRC will retrospectively register your business from the date you should have started charging VAT. You’ll need to add VAT to all sales made from this retrospective date, regardless of whether you actually charge your clients VAT, so you could well lose out if you don’t register when you should. HMRC may also issue you with a financial penalty.

If you know your turnover will reach the threshold soon, you should allow enough time to register. If you fail to notify HMRC in time, you may be liable to pay a penalty!

There are some situations in which it may be beneficial to register voluntarily before you reach the threshold.

  • You can reclaim the VAT on your business expenses (if you are on the Standard Rate scheme)
  • You can register for a reduced Flat Rate of VAT to reduce the administration involved in preparing your quarterly VAT return (Flat Rate scheme)
  • If your clients are large companies who are themselves VAT registered, registering could be advantageous. Your clients will be used to seeing prices inclusive of VAT, and will be able to reclaim the VAT paid over to your business
  • It may make your business more credible in the eyes of your clients, in the same way that having a limited company makes you appear more ‘professional’.
  • If your clients are smaller companies and not VAT registered themselves, the addition of VAT may make you seem more expensive. Registering for VAT usually requires you to add 20% to your invoices, and if your client isn’t VAT Registered, they can’t reclaim this
  • With VAT registration comes additional responsibility. You’re required to complete and file a VAT return, usually every three months. If a return is late, there will be a penalty from HMRC
  • When you’re VAT registered, it can be more difficult to keep track of your cashflow and profit. However, as a Crunch client, we’ll calculate your VAT liabilities automatically, so you’ll always have an up-to-date picture of your accounts.

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Registering for VAT is usually done online – Gov.uk has all the information you need for how to do it, or if you use an online accounting system like Crunch then we’ll take care of all the registration for you as well as all your filing and calculations. Firstly you need to decide whether you should register for Standard Rate VAT or Flat Rate VAT.

When you register for VAT, you have two choices of schemes. The first, Standard Rate, involves reclaiming VAT on every eligible item you buy or sell. The second, Flat Rate, is open to businesses with an expected turnover of less than £150,000 (in the next 12 months) and was introduced to simplify the VAT system for freelancers, contractors, and small businesses.

On the Flat Rate scheme, you’ll use a predetermined VAT rate based on your industry type and pay this over to HMRC. First, you add the Standard VAT rate of 20% to your sales invoice amount, then you collect the full amount from your client. Next, apply your sector percentage to this (gross) amount, which is then paid over to HMRC via a VAT return. The difference between the two rates is retained by your business (limited company) as income.

There’s a range of VAT rates for specific industry types available in our tax rates and thresholds article. We’ve also got an article explaining the Limited Cost Trader Test that is used by many “labour-only businesses” such as contractors.

Generally, when deciding whether to register and on what scheme, you need to look at your turnover, the type of clients you have, and the expenses you incur that you can claim VAT on.

The table below is a guide to which scheme may be more appropriate for you. It’s important to remember that this should only be used as a guide, nothing beats getting direct support from one of our expert accountants to discover what’s best for you and your business.

 

Turnover VAT- taxable expenses Client type Suggested VAT option
Less than £85,000 Less than 1.5% of turnover Mostly non-VAT registered customers Don’t register for VAT
Any More than 1.5% of turnover Mostly VAT registered customers Register for standard rate VAT
More than £85,000 Less than 1.5% of turnover Any Register for Flat Rate VAT

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Your business charges £1,000 to a client for services your company provides. The client will pay £1,200 including the Standard Rate of VAT amount at 20% (£200). Your business pays HMRC the industry Flat Rate of VAT amount at 14.5% of £1,200 which is £174. The business accounts for the difference (£26) as income.

You can’t reclaim the VAT paid on your purchases under the Flat Rate scheme – except for certain capital assets over £2,000. Flat Rate sector percentages include the following industries:

Industry Sector Rate Industry Sector Rate
Limited cost trader 16.5% Accountancy 14.5%
IT Consultancy 14.5% Computer Repair 12.5%
Photography 11% Other B2B services 12%
Journalism 12.5% Any other service 12%

When you register for the Flat Rate scheme for the first time, HMRC allows you to apply a 1% discount in the first year.

You can see a full list of VAT sectors and their associated rates in our tax rates and thresholds article.

You’ll need to file a VAT return every 3 months. If you do not file a return when it is due, you’ll incur a penalty from HMRC.

If you’re a Crunch client, our software automatically generates your VAT return. You’ll be notified when a return is ready. Simply let us know you’re happy with it and we’ll file on your behalf.

If you’re not a Crunch client then you’ll need to use HMRC approved software to file your VAT return as the government’s MTD for VAT scheme comes into force on 1st April 2019.

For registered business, a VAT return is required (usually every quarter) to tell HMRC how much VAT you have paid and received. All VAT returns are filed online, and can usually be handled by your accounting software. Depending on your income and expenses, you may need to to make a VAT payment to HMRC or you may be owed a refund.

From 1st April 2019, all VAT-registered businesses will need to submit their VAT returns digitally, under the government’s new “Making Tax Digital” initiative. You can find out more information on MTD with our “How will Making Tax Digital affect my business?” webinar.

VAT MOSS (short for Value Added Tax: Mini One Stop Shop) is a way of paying VAT for businesses supplying digital services to other EU countries.

VAT MOSS is a relatively complex process – you have to pay based on the rate of VAT applied in the country where the customer bought your product, and not the rate prevailing in the country where you, the seller, is based. It was introduced to enable UK businesses to pay VAT over to HMRC in a single transaction, rather than registering for and paying VAT in multiple EU countries. VAT MOSS is paid quarterly: on 20th April, 20th July, 20th October and 20th January.

We can’t be sure whether VAT MOSS will survive the post-Brexit overhaul, but we’ll keeping an eye on developments in the near future.

Read our article for more information on VAT MOSS.

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If you’re close to the VAT threshold (or think you may be), then your accountant should be able to advise you on whether you should consider registering and what scheme would be best for you.

If you don’t yet have an accountant or are thinking of switching, then why not speak to Crunch – our combination of online accounting software and unlimited access to a dedicated client manager and expert accountants could be just right for you. Find out more about how we can help you and your business.

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