Value Added Tax (VAT) is a tax on consumption. It is a consumer tax charged on the supply of goods and services. The end consumer essentially pays VAT but businesses need to collect VAT on HMRCs behalf. All businesses in a supply chain will be required to account for VAT to varying degrees.
When a business passes a turnover limit they are required to register for, and charge VAT. This article will look at the various aspects of VAT by looking at the basics, seeing how taxable turnover is calculated, looking at the advantages of registering for VAT on a voluntary basis, looking at how you need to pay or reclaim VAT and finally looking at a brief of the VAT return.
If you are VAT registered, you can claim input tax on your purchases and you will need to charge output tax in your sales.
If Output Tax is greater than Input Tax, you need pay this difference HMRC
If Input Tax is greater than Output Tax, HMRC pays you back this difference.
The 3 rates of VAT are:
- Zero Rated: 0% (on Books, children’s clothes, some food and construction of new buildings).
- Reduced Rate: 5% ( on Domestic fuel and power and Energy Saving materials).
- Standard Rate: 20%
Some supplies of goods and services are Exempt. This is not the same as zero rated. Whilst zero rated products count towards your VAT registration threshold, Exempt supplies do not.
How do you know is a transaction is within scope of VAT?
If a transaction is within the scope of VAT, then VAT is potentially chargeable
If a transaction is outside the scope of VAT, then no VAT can be charged.
All 4 of the following elements need to be present for there to be a charge to VAT:
- A supply of Goods or Services.
- Made in UK:
- For goods supply takes place where the goods are physically located.
- For services the rules are different. If it is a business to business transaction, supply takes place where the customer belongs. If it is a business to customer transaction, supply takes place where the business belongs.
- Made by a taxable person. A taxable person is one who is required to register for VAT (see below). A person is defined as being one of the following individual, a partnership, a company, an incorporated body, trustee to a trust fund, local authority or the crown.
- Made in the course or furtherance of business
So once these 4 criteria are met, you need to look at a 5th condition.
The 5th condition is that it should be a taxable supply. This is the liability of supply. In other words, this 5th condition looks at what rate of VAT you need to charge from the 3 rates listed above.
Do you need to register for VAT?
A person needs to register for Vat if their VAT taxable turnover is greater than the VAT threshold.
The VAT threshold is currently £82,000.
Note that the threshold is for taxable turnover only, so yo would ignore the value of exempt sales.
*The value of sales of fixed assets ( such as buildings, plant and machinery e.t.c) is ignored for determining wether the registration threshold has been exceeded.
There are two tests to determine if a person should register for VAT.
- Backward Look: Has taxable turnover exceeded the VAT threshold in the previous 12 month? This is carried out on a 12 month rolling basis. (if answer yes, need to register for VAT).
- Forward Look: Is there reasonable grounds to expect taxable turnover to exceed VAT threshold in next 30 days alone? ( If yes, need to register for VAT).
Once a business becomes liable to register for VAT, there are three effective dates
Liable Date- Date on which business becomes liable to register.
Notification date – Date which HMRC needs to be notified.
EDR – Effective date of registration (Date business is obliged to account for VAT).
These dates can be different depending on whether you cross the threshold using the Backward Look or the Forward Look.
For the Backward Look, dates are the following:
- Liable Date: End if month in which threshold test is exceeded.
- Notification date: Within 30 days of liable date. (30 day count starts day after liable date).
- EDR: First day of second month after liable date.
- Liable Date: Date on which the expectation of exceeding the threshold is formed.
- Notification date: Within 30 days of liable date ( 30 day count starts on liable date).
- EDR: Date on which expectation of exceeding the threshold is formed.
If you have a situation where your VAT turnover is going to exceed the VAT threshold using both the forward and backward look, then Forward looks takes precedence over backward look.
Advantages of registering for VAT
Even if your taxable turnover does not exceed the Vat threshold of £82,000 , you can still voluntarily register yourself for VAT.
The advantages of voluntarily registering for VAT includes:
- Your business intends to make taxable supplies in the future and you wish to reclaim input VAT on costs incurred prior to trading. This is called ‘intending traders.’
- You wish to be able to claim back VAT incurred on business costs.
- Your business is making supplies outside the UK which will entitle you to recover input tax in the UK.
- You can gain a repetitional advantage from being VAT registered.
Restrictions to Claiming input tax on VAT
There are a certain restrictions to input tax claims.
VAT cannot be generally be claimed back on:
- Purchases made for non business activities.
- Purchase that relate to exempt activities.
- Purchases that are blocked from input tax recovery. Blocked items include motor cars and certain business entertainment expenditure,
How is VAT declared?
Business that are registered for VAT need to submit returns to HMRC.
From 1 April 2012, all VAT registered businesses are required to submit their returns online and make payment electronically.
Vat returns are normally submitted monthly, quarterly, annually or in accordance with a HMRC pre-agreed non standard tax period.
Under the Annual Accounting Scheme, businesses with turnover of less than £1,300,000 may be able to submit returns annually.
The VAT return
The VAT return will be in two related parts.
There are 9 boxes on the return.
Boxes 1 – 5 cover the figures necessary to determine the amount of VAT payable or reclaimable.
Boxes 6 – 9 contain transactional data that is related to the tax figures.
Here is brief overview of what amounts each box contains.
Box 1: Shows output tax. The VAT on all sales. It can also be used to adjust prior errors.
Box 2: Used by businesses buying goods from the European Union.
Box 3: Is the total of Boxes 1 and 2
Box 4: Is the Input tax for your business.
Box 5: This is the total VAT payable or repayable. It is essentially the difference between boxes 3 and 4.
Box 6 : Is the value of sales excluding VAT.
Box 7: Is the value of purchases excluding VAT.
Box 8: Used by businesses trading goods within the EU
Box 9: Used by businesses trading goods within the EU