What is VAT and when do you pay it?

You may have heard of value-added tax (VAT) and have some notion of what it means. As a business owner, it’s important to fully understand how VAT works and when it affects your business. This knowledge could make the difference between your company running legally or otherwise.

Read on to learn what VAT is and how it works as we cover the following topics:

• What is VAT?
• When do companies need to register for VAT?
• When does VAT not apply?
• What is the VAT threshold?
• Current VAT rates
• How to register for VAT
• Finding your VAT number
• Your responsibilities regarding VAT
• Reclaiming VAT
• How Countingup can help

VAT is a tax that applies to purchases of goods, services and other taxable supplies (explained below). It plays a crucial role in business as it can be charged on a range of the products or services you offer.

VAT is not a tax on individual businesses – it’s ultimately your customers that pay the VAT when they buy your product or service. However, VAT is an indirect business tax since you’re responsible for reporting it to HMRC (HM Revenue & Customs).

VAT is applied differently depending on your sector and the nature of your business. However, areas that are usually VAT taxable include:

• Sales of your goods and/or services
• The hire or loan of your goods
• Commission
• Exchanges like swapping a new product for a customer’s old one
• Staff sales like meals or business trips
• Business goods you use personally
• The sale of business assets

Some products and services are exempt from VAT. These include:

• Education or training
• Charitable fundraising
• Selling or letting commercial properties
• Insurance and finance services
• Postage stamps

You can find more information about when VAT applies and at which rate on the government website.

As a business, you have to register for VAT if your annual turnover is above £85,000. Once you register, you must charge VAT on all services or goods your business offers. You can only charge VAT if you’re registered. Registering also allows you to reclaim VAT on goods or services your business purchases. We’ll explain more about reclaiming VAT in a later section. 

The standard VAT rate is 20%, which applies to most businesses, goods and services. However, some areas fall into different tax brackets, as listed below:

• Reduced rate (5%) – Some goods and services, like children’s car seats and home energy
• Zero rate (0%) – Zero-rated goods and services, including children’s clothes and most food products

Be sure to try out our VAT calculator so you can see the effect various rates will have.

You can easily register for VAT for free, and you’re best doing it online through the HMRC website since it’s the fastest option. Start the registration process here.

However, if you prefer to register by post, you can download a form on this page.

To register, you need:

• A National Insurance (NI) number or your tax identifier
• Details of other businesses you’ve owned within the past two years 
• Your business bank account details
• You’ll also need a record of the sale if you bought the business

Only VAT-registered companies receive a VAT number. You can find your VAT number on your business’ VAT registration certificate. Hold onto this piece of paperwork as it outlines when your first VAT return is due and what date your company went over the UK VAT threshold and had to register.

Your main obligation as a VAT registered company is to charge VAT on all your goods or services. The VAT your business charges is calculated into the total value of what you sell. If you provide multiple services or sell more than one product at the same time, your customer pays the appropriate VAT rate on the total amount.

Additionally, you must charge VAT on sales even if you operate on an exchange or part-exchange basis. For example, if you allow a customer to exchange their old product for a discount on a new model, you still need to pay VAT on the full price of the new model.  

Apple’s trade-in service is an excellent example of such an exchange service. If you have an older product model, you can hand it into the Apple store and get money taken off the price when buying a new product. 

As a VAT registered business, you must also report the amount of VAT you’ve charged or paid via a VAT return. Companies usually complete these VAT returns every three months. You must send a VAT return to HMRC even if you have no VAT to report.

If you accidentally over-charge VAT to your customers, you must pay this sum to HMRC. On the flip side, if you end up paying more VAT than you charged your customers, you can reclaim it.

You can usually reclaim the VAT from purchases you made for your business, including:

• Staff travel and meals
• Mobile service plans for business calls
• Company vehicles, including fuel, accessories and maintenance
• Utility bills if you are a home business (only the percentage you use solely for business purposes)

Areas you can’t reclaim VAT on include:

• Entertainment costs
• Anything that is purely for private use
• Things bought from other EU countries

First, you claim your refund by submitting your VAT tax return to HMRC. You’ll need to share your account details even if you’ve already set up a direct debit for VAT returns. 

You can also use your online account to add or change your details and to view any refund you’re owed –– unless you’ve signed up for Making Tax Digital for VAT (MTD VAT). Making Tax Digital a digital tax system created to make it easier for people and businesses to get their tax right and keep on top of their finances. The government plans to make Making Tax Digital compulsory for all VAT registered business from April 2022. 

Typically, you get your refund within ten days of HMRC receiving your return. However, it can take longer, and you should only contact HMRC if you haven’t heard anything after 30 days.

The Countingup business current account with built-in accounting software provides a digital tax filing service that automatically calculates the VAT associated with each of your business transactions. 

Your business can then save hours of time by sharing your organised bookkeeping data directly with your accountant via the app, who can review and submit your MTD VAT return via Countingup’s HMRC recognised MTD software.

The Countingup app automates the time-consuming aspects of bookkeeping and tax planning, so that you can focus on running your business. You can view live profit and loss reports, cash flow insights, tax estimates and create instant invoices. 
Keep your finances running like clockwork. Find out more about Countingup and get started here.