What is VAT charged on UK?

Value Added Tax (VAT) is a consumption tax that is charged on most goods and services sold for domestic consumption in the UK. It applies across the entire supply chain from production to point of sale.

What is VAT?

VAT is a tax on consumption that is collected at each stage of production and distribution. It is applied to the “value added” at that stage. VAT is ultimately paid by the final consumer of goods or services when purchasing those goods or services.

VAT is charged as a percentage of the price of the goods or services purchased. The current standard rate of VAT in the UK is 20%. There are also reduced VAT rates of 5% and 0% that apply to some goods and services such as children’s car seats and most food.

How does VAT work?

VAT is collected at each stage of production and distribution. Businesses charge VAT on their sales and are entitled to reclaim VAT on purchases. The net result is that tax is paid on the value added by that company.

For example, consider a business that purchases raw materials for £100 plus £20 VAT. It manufactures a product and sells it to a retailer for £150 plus £30 VAT. The manufacturer pays the £20 input VAT, charged by its supplier, to HMRC. It charges £30 output VAT on its sales and pays this to HMRC. The manufacturer has therefore paid £10 VAT overall (£30 output VAT less £20 input VAT).

The retailer then sells the product to an end consumer for £200 plus £40 VAT. The retailer pays the £30 input VAT and owes £40 output VAT, meaning it pays £10 VAT overall. The total VAT paid is £20.

What goods and services are subject to VAT in the UK?

The vast majority of business transactions in the UK are subject to VAT but there are some exceptions. The main situations where VAT is not charged are:

• Sales by businesses with annual taxable turnover below the VAT registration threshold of £85,000.
• Most financial services (e.g. insurance and banking services).
• Most land and property transactions.
• Betting, gaming and lottery services.
• Postal services provided by Royal Mail.
• Education, health and welfare services.
• Burial and cremation services.

Some goods and services are exempt from VAT so no tax is charged but the supplier cannot reclaim input VAT on related purchases.

There are three main rates of VAT applied to goods and services in the UK:

• Standard rate: 20% – This applies to most goods and services such as electronics, clothing, entertainment, restaurants and takeaways.
• Reduced rate: 5% – This applies to domestic fuel supplies, women’s sanitary products, children’s car seats and home energy efficiency measures.
• Zero rate: 0% – This applies to most food items, books and newspapers, children’s clothes and footwear.

Who has to register for VAT?

A business or individual must register for VAT if their VAT taxable turnover has gone over the VAT registration threshold. The current VAT registration threshold is £85,000. This means that businesses with over £85,000 in VAT taxable sales within the previous 12 months must register for VAT.

There are some goods and services that are exempt or outside the VAT system meaning the sales of these do not count towards turnover for VAT registration purposes. Once registered, VAT must be charged on all eligible goods and services.

Businesses can also voluntarily register for VAT if their turnover is below the VAT threshold. This allows them to reclaim VAT on purchases and may be beneficial for some businesses.

How do you register for VAT?

VAT registration must be done online via the HMRC website. To register, businesses will need:

• The business’s name, address and contact details
• A description of the business activities
• An estimate of taxable turnover in the next 12 months
• Details of any goods or services to be sold that are VAT exempt
• Business bank account details

Once the registration has been submitted, HMRC will send a VAT Registration Certificate within approximately 10 working days.

When do you need to start charging VAT?

A business that registers for VAT voluntarily can choose to start charging VAT from the date of registration or the first day of their next accounting period.

For mandatory VAT registration, VAT must be charged from the end of the month when the business first exceeded the VAT registration threshold. So if turnover exceeded £85,000 during March, VAT would need to be charged on sales from 1 May.

How do you account for VAT on sales and purchases?

VAT registered businesses must keep detailed records of all sales and purchases. This includes:

• Invoices for all supplies made showing VAT charged
• Purchase invoices showing VAT paid on business expenses
• VAT sales and purchase records summarizing VAT collected and paid

Businesses will need to submit VAT returns to HMRC on a regular basis. Returns can be submitted monthly, quarterly or annually depending on the business’s VAT taxable turnover. Most newly VAT registered businesses file quarterly returns.

On the VAT return, the business declares the output tax collected on sales and the input tax paid on purchases. If output tax exceeds input tax, the difference must be paid to HMRC. If input tax exceeds output tax, the business can reclaim VAT from HMRC.

When do you submit VAT returns and payments?

VAT returns cover set accounting periods, usually quarterly. The deadlines for submitting VAT returns and payments are as follows:

Most VAT registered businesses must submit returns quarterly. However, businesses with an annual taxable turnover over £2.3 million must submit returns monthly and make monthly or intra-monthly payments.

What are the penalties for errors and late VAT returns and payment?

Stringent penalties apply for late VAT returns and payments:

• Late VAT return – £100 fixed penalty even if there is no VAT owing. Further penalties can apply for prolonged late filing.
• Late VAT payment – Interest is charged from the due date on the outstanding amount. A penalty of up to 15% of the late VAT payment can also be charged.
• Inaccurate VAT return – penalties of up to 100% of the VAT underpaid can apply for careless or deliberate errors.

It is crucial for VAT registered businesses to maintain accurate VAT records and ensure VAT returns and payments are on time to avoid substantial penalties.

How do you reclaim VAT?

Businesses registered for VAT can reclaim VAT paid on allowable business purchases and expenses. This is done on the VAT return by deducting the input tax paid from the output tax collected on sales.

The major conditions for reclaiming input VAT are:

• The purchases must be used for business purposes and business must be VAT registered when the purchase was made
• A valid tax invoice showing VAT paid must be held
• For large purchases (over £2,500) a certificate may need to accompany the purchase invoice
• The VAT return must be submitted within 4 years of the VAT being incurred

Input VAT cannot be reclaimed for anything that is used for non-business activities. There are also special rules for reclaiming VAT on commercial property transactions.

What VAT schemes are there?

As well as the standard VAT scheme there are some special schemes that cater to certain businesses or trade sectors:

• Flat Rate Scheme – Small businesses can pay a fixed percentage of turnover as VAT rather than tracking input and output tax.
• Cash accounting – VAT is paid on cash received and reclaimed on cash spent rather than invoice dates.
• Annual accounting – Only one VAT return submitted per year rather than quarterly.
• Retail schemes – Simpler accounting for retailers.

How is VAT charged on imports and exports?

Imported goods from countries outside the EU are subject to VAT. The VAT is levied on the value of the importation, including any duties, freight and insurance. The VAT must be paid at the time of importation when the goods enter the UK.

Exports are zero-rated for VAT purposes in most cases. This means that VAT is charged at 0% on goods exported to non-EU countries. The exporter can reclaim input VAT paid on costs relating to the export sale.

There are special “indirect export” rules that also allow UK businesses to zero-rate the sale and acquire goods VAT free that are subsequently exported from the UK by a different business.

What Brexit implications are there for VAT?

Now that the UK has left the EU, VAT rules on trade between Great Britain and EU countries are similar to rest of world trade. This means:

• Goods exported from GB to EU are zero-rated, allowing exporters to reclaim input VAT.
• Import VAT is due when goods are imported from EU countries into GB.
• There is postponed VAT accounting for goods imported into GB worth less than £135 in value.

Northern Ireland continues to apply EU VAT rules under the Northern Ireland Protocol. Therefore, no import VAT or export zero-rating applies on goods traded between Northern Ireland and EU member states.

Conclusion

VAT is a complex tax that affects most businesses in the UK. All businesses need to be aware of VAT registration requirements, which goods and services are taxable, how to charge, account for and reclaim VAT correctly. Keeping accurate VAT records and submitting timely VAT returns is essential for VAT registered businesses.