Financial fitness workout – Your plain English guide to VAT basics

by Jake Martin, Title Text

2 min read

One of the first taxes you are likely to come across is VAT and it’s one of those areas that can cause quite a bit of confusion and alarm!  In this workout we are going to deal with some of the most common causes of concern.

Before starting I should say that while VAT is generally straightforward, there are some tricky areas – so do take advice from an accountant.  Any data mentioned is as for tax year 2013-2014.

Does VAT apply to me?

Whether you are selling products or services or whether you are trading as a limited company or sole trader, VAT applies to you as soon as your sales exceed £79,000.

As soon as this level of sales is reached you must register.  However, you can register voluntarily below this limit and generally you should register provided most of your customers are themselves VAT-registered.

If most of your customers are not VAT-registered (i.e. they’re individuals) then your prices will effectively go up by the VAT rate (20%).

How VAT works in practice

When your business is registered for VAT, it has to charge VAT on sales (known as outputs) but can reclaim VAT incurred on expenses (known as inputs). 

The difference between all the VAT collected on sales less the VAT incurred on purchases is paid to HMRC.

So in the books of a VAT-registered business, VAT just passes through the bank account – you effectively become a tax collector for HMRC. This explains why HMRC is so unsympathetic when VAT isn’t paid on time – you have spent their money.

The issue for you as a small business is making sure you appreciate that money collected on behalf of the government doesn’t belong to you – you shouldn’t use this cash to fund the business.  Consider opening a separate bank account to transfer an estimate of the VAT due to help stop you spending it!

How to register for VAT

The easiest way is to register online and given that you will have to submit your returns online it makes sense to do this from the beginning.

Administration and VAT – make it easy on yourself

Registering for VAT will without doubt represent a significant increase in your administration burden – so it will pay to get organised from the start.

Quarterly returns: When it comes to doing the quarterly returns, you will save so much time using accounting software rather than trying to work out your VAT on Excel.  Also, you can send your VAT return online in a few quick clicks.

Inspections: You are pretty likely to get a VAT inspection at some point – again this will be much easier if all your records are on one accounting package (and remember you need to keep your supporting invoices for at least six years).

Pre-registration expenses: You should be aware that there is some scope to reclaim VAT on goods and services bought by the business before registering for VAT.  As always – only if you have the VAT invoice.

Invoicing: Once you are VAT-registered your invoices will need to contain the required information to be deemed VAT invoices.  One less thing to worry about if you use accounting software.

VAT help

  • HMRC are genuinely very helpful with VAT guides and a dedicated telephone helpline.
  • Definitely talk to an accountant if it is your first time administering VAT. Most businesses are straightforward but there may be some tricky issues you are unaware of.
Information may be abridged and therefore incomplete. This document/information does not constitute, and should not be considered a substitute for, legal or financial advice. Each financial situation is different, the advice provided is intended to be general. Please contact your financial or legal advisors for information specific to your situation.

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