The Value Added Tax (VAT) is a kind of indirect tax that added on the goods and services by businesses.
A business must be registered for VAT if the VAT taxable turnover is more than £85,000 or you expect to pass that limit in the next 30 days.
However, a business can register voluntarily as well.
This article does not take into account the rules after BREXIT. Read HERE for important changes.
If your business registered for VAT, every time when the it sells goods or services, it must charge a Value Added Tax (currently 20% for most of goods and services - For all rates click here). Of course, as mentioned above, you can choose to not be registered, if your business meets all the criteria of this option (other than £85,000 threshold).
You can register for VAT either by filling a paper form or online. Also you can assign an agent to do it for you.
If you opted to register, while you are waiting for your VAT number, is very important to understand that you have an interim period. An interim period, to put it simply, is the period between your application date and the date when you receive your VAT number. And is very important to understand it, because you can't charge or show VAT on your invoice while you are in this period. However, you still have to pay VAT for that period.
On how to cope with the charges of interim period, HMRC gives its advice:
"You should increase your prices to allow for this and tell your customers why. Once you’ve got your VAT number you can then reissue the invoices showing the VAT".
HOW DOES THE VAT MECHANISM WORK?
EXAMPLE of standard VAT mechanism:
➤ Your business sells goods for £20 + £4 (20% VAT (called output tax)) = £24.
➤ Your business buys goods for £5 + £1 (20% VAT (called input tax)) = £6.
When the time comes to submit your VAT return, the calculation is next:
Output Tax - Input Tax = £4 - £1 = £3 business owes to HMRC
If a business has low turnover, it can take into account the VAT Flat Rate Scheme (also called VAT FRS). In some way, someone can say that the business can make even profit, using this scheme, despite that the purpose of this scheme, is to simplify the calculation of VAT return. But beware, there are many areas of this scheme that can mislead you and it is therefore important to seek professional advice based on your circumstances and field of activity.
EXAMPLE of STANDARD VAT vs FRS VAT
A) "STANDARD IT Business Ltd" is selling £10,000 + 20% VAT. Its gross sales are £10,000 + £2,000 (20% VAT) = £12,000. The amount that the business owe to HMRC is £2,000.
B) "FRS IT Business Ltd" has flat rate of 14.5%. The gross sales still same (£12,000) and using its flat rate of 14.5% on its gross sales, the amount that the business owe to HMRC is £1,740 (14.5% of £12,000).
The above example shows us that the use of FRS can be even beneficial for £260 (£2000 - £1,740). But, if your business has large amount of expenses, the flat rate scheme may not be suitable for you. This, because you can't claim VAT back on your day to day expenses and purchases (despite that there are some exceptions on capital purchases over £2,000).
However, not always and everything is straightforward as it seems on above examples. There are some exemptions and very confusing areas when time comes to a specific business activity with complicated trade affairs. Thus, it is more than just necessary to seek a professional advice on your particular case.
Who and when is required to be VAT registered.
As mentioned previously, if the VAT taxable turnover of your business is more than the VAT registration thresholds or you expect to pass that limit in the next 30 days, you must register for VAT. Also, a business can register voluntarily, but is not preferable from the point of view of profitability and competitiveness.
You must consider VAT registration according to other rules and circumstances as well. For example if your business is related to:
- Import & Export
- Digital Services
- Exempt goods and service
Import & Export
Despite the fact that the VAT registration is not mandatory if a business does not pass the current threshold, businesses in EU countries require the VAT number, in order to supply you with their goods. And this is a common problematic point for small businesses in trading with the countries of EU. This happens mainly because the registration thresholds in other EU countries are much lower than in UK and some businesses are not aware of it and do not understand the UK VAT regulations.
As a result of above, owners of small businesses face a dubious decision - "to be registered or not to be". Being registered with VAT facilitates work with the partners, but at the same time becomes less profitable if the business wants to keep the same percentage of net profit. However, if the costumers of small business are VAT registered businesses, this is not a problem, but if the customers are end-users (final consumers) and not VAT registered, then it is, because they can't claim back the VAT that has been paid.
From the legal point of view there are no requirements for VAT registration, if a business meets all the criteria of being non-registered. So technically, if a business is not registered and imports goods (e.g. from Greece) that includes VAT, the entire amount (including VAT) can be recorded as the cost of goods. So one option to stay VAT unregistered and import goods from an EU country, is to ask the supplier to charge the supplied goods with VAT in a standard way, as it would with a domestic final consumer.
The place of supply is a very important part of VAT regulations. Before you start dealing with any country, make sure that you have done all the necessary research and understood the VAT regulations of the country where you plan to provide your goods or services!
Be careful - Not always the VAT registration obstacles and doubts are the case, in order to have the maximum net profit margin, you must consider factors such as the total price, currency exchange and the commission of banks as well, which can give you very different numerical results at the end of the day. Talk to your accountant or financial adviser for more.
When you sell Digital Services, There are several extra rules about when, how and where to register.
From 1st January 2015, the rules around the European Union (EU) VAT place of supply of services changed. This affects the sales of digital services from a business to a consumer (private individuals and non-business entities, for example, public authorities or charitable bodies). And the place of taxation, depends on the location of the consumer and not of the business that supplies the Digital Services.
Where digital services are supplied on a business-to-Consumer basis (B2C), the supplier is responsible for accounting for VAT on the supply:
➤ to the tax authority
➤ at the VAT rate applicable in the consumer’s EU member state
Currently, to help UK companies avoid the VAT registration in each EU country separately, UK supports VAT Mini One Stop Shop (MOSS) reporting service, through which a business can register once with the HMRC and provide its digital services to any EU country.
This specific rule for Digital Services was created to ensure that all EU member states are at the same competitive level and do not give to countries with lower VAT rates an unfair advantage. What will happen after BREXIT completion, nobody knows exactly. However, providers of digital services will still be expected to still charge EU VAT in each country. But how it will be implemented, we have to wait for the end of this relatively complex process.
Exempt goods and services
If all your business's supplied goods and services are VAT exempted, your business is exempt and you won’t be able to register for VAT. Therefore, you can’t reclaim any VAT on your business purchases or expenses.
For more information about VAT, please visit GOV.UK.
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Attention! This article intends to give only a general informative picture and should not, in any case, be taken as a rule. It is strongly recommended to seek a full and professional guidance specifically for your circumstances before making any decisions.