Everything You Need to Know About VAT
When a self-employed individual is running their own business, they’re involved in every single aspect of it, including VAT obligations. It’s crucial that, because you are a contractor, you are also aware of what VAT is and how it works, since it can impact your business. As contractor accountants, VAT is one of our many specialities, so we can provide you with expert advice as well as prepare and submit your quarterly VAT returns for your peace of mind.
Find out more about VAT in our guide below, which is designed to help business owners gain a deeper understanding of this key tax legislation.
What is VAT?
Before anything else, it’s important that you understand what VAT actually is. Short for Value Added Tax, VAT is a business tax imposed by the government on sales of goods and services, as well as on commissions and business assets. While not all businesses required to register for VAT, it’s important that you know whether yours should be, in order to avoid fines.
Businesses with an annual turnover of more than the current VAT threshold, which is £85,000 in the 2019/2020 tax year, have to register for VAT; you will also have to register if you are set to pass this threshold in the next 30 days. Once you become VAT-registered, you have to:
- Charge the 20% VAT rate on goods and services you sell (for example, if you’re selling a product for £200, you will have to add £40 to the bill). Other items, like children’s clothes, are charge at 0% and services like electricity are charged at a reduced rate of 5%.
- Pay VAT on goods and services bought from other businesses.
- Complete a VAT return every quarter.
The VAT you charge and the one you pay should balance out, with the difference sorted out in your VAT tax return – this means that, if you have paid too much, HMRC will refund you, but if you didn’t pay enough VAT, you now owe that amount and will have to pay it.
Should You Register if You Don’t Meet the Threshold Amount?
While it’s not mandatory to register if you’re nowhere close to meeting the £85,000 limit, voluntary registration can be advantageous to your business. This can help you to improve the cash flow of your business because you will be able to claim back VAT on costs. However, voluntary registration may not be the best option for you if your customers aren’t registered for VAT or you operate on a B2C basis, since they wouldn’t be able to claim it back. This could lead to them feeling like your prices have gone up.
Benefits of Being VAT-Registered
After years of providing accounting for contractors, we have met many business owners who believe dealing with VAT is a hassle. However, there is no denying that being registered can offer benefits as well. For instance, many businesses will only deal with companies that are VAT-registered, which means you have a wider pool of options available to you.
In addition, registering for VAT can offer credibility to your business, since it creates the image that your company is larger than it actually is. You receive a VAT number, which is displayed on invoices, on your website and on any documents used, which is appealing to many because it helps you to be seen as more trustworthy and professional.
You can also claim reclaim VAT on expenses for your company, such as accountancy fees and computer equipment.
Is My Business Exempt from VAT?
Your business is exempt if you only sell goods or services that are exempt from VAT. Certain products are not VAT charged, such as insurance and finance, education and training, fundraising events by charities and subscriptions to membership organisations. Exempt items are not the same as zero-rated items – neither has VAT added to the selling price, but zero-rated goods and services are taxable from VAT at 0%.
What’s more, if you export outside the EU or to someone registered in a different EU country, your goods are zero-rated, although subject to conditions.
Certain businesses can be partially exempt from VAT as well, which typically means they incurred VAT on purchases related to exempt supplies.
What Are the Penalties for Not Registering?
For businesses who must, by law, become VAT-registered, the penalties for not doing so can be hefty. Therefore, if you’re unsure whether you need to register, it’s crucial that you seek professional advice; otherwise, you risk incurring a big fee.
If you’re looking for limited company accountants who can advise you on everything VAT, then Gorilla Accounting is the right choice for you. We will work with you to figure out whether you should be registered and will also prepare and submit your returns in a correct and timely manner, so you never have to worry about suffering penalties.
The fees for late VAT registration – or for completely failing to register – increase over time. This means that the longer you leave the amount of VAT you owe, the more the percentage you have to pay grows. Also, whether you missed the registration deadline due to error (or due to bad financial advice) or decided not to register, you will be liable to pay a penalty.
HMRC consider it a ‘default’ if you do not submit your VAT return by the deadline or if the full payment for the tax you owe on your return hasn’t reached their account by the deadline.
If you default, you may enter a surcharge period for 12 months. Should you default again during this time, the period will be extended for a further 12 months, and you may have to pay an extra amount (a surcharge) on top of what you already owe HMRC. If your return is late, you won’t have to pay a surcharge if you pay your VAT in full by the deadline, have no tax to pay or are due a VAT repayment.
You will not pay a surcharge the first time you default, but you will after that. This surcharge is the percentage of VAT owed on the due date. You can be charged 15% on what you owe when the delay is over 18 months, for instance. When it comes to penalties, these may include being charged 100% of tax understated or overclaimed in your VAT return and £400 if you submit a paper VAT return (unless exempt from submitting online).
The Right VAT Scheme for You
There are several different VAT schemes to choose from, depending on your business and annual sales, so you will want to select the scheme that will bring you the most benefits. As VAT accountants, we can advise you on this, as well as on your eligibility when it comes to the different types of VAT schemes. These include:
Flat Rate Scheme
If you have an annual revenue of up to £150,000, you’re entitled to use the Flat Rate VAT scheme, which means you pay a percentage of your turnover to HMRC with set rates. These rates are established according to individual industries, so you will have to pick a business sector and use that rate for all VAT transactions – we can help you to decide which specialist sector fits your business the best, as we work within a variety of industries.
This scheme was created to simplify the VAT system for contractors and freelancers, as well as SMEs. Under it, you are unable to claim back VAT on purchases made. Also, if your turnover is above £230,000 a year, you must leave the flat rate scheme.
Standard Rate Scheme
When you register for VAT, you also have the option of choosing a Standard Rate VAT scheme, which means you can reclaim VAT on every eligible product you buy or sell. This is the most common option, since it’s suitable for a wide range of businesses, and it’s mandatory for VAT-registered businesses with a taxable income or expected income, as well as those that import goods from the EU exceeding £85,000.
It’s the responsibility of the company owner to send a quarterly return to HMRC. If you operate under this scheme, you can reclaim the VAT you’ve paid on services and goods purchased from other businesses, as we already mentioned..
Other Types of VAT Schemes
Other VAT schemes include the Accounting Scheme and the Annual Accounting Scheme.
Many small businesses opt for the Accounting Scheme, which means you only need to inform HMRC of the VAT income received during the quarter; however, you can’t claim VAT back on invoices that are still unpaid. Businesses with a turnover of more than £1.35 million can’t use this scheme.
As for the Annual Accounting Scheme, this allows you to make payments in advance towards your VAT bill throughout the year. This means that you just need to submit one VAT return and either pay back the balance or receive a refund from HMRC. Again, only businesses with a turnover of less than £1.35 million can use this scheme.
Choosing the right type of VAT scheme for you means considering your turnover, the type of customers you have and which expenses you can claim VAT on.
VAT and Recordkeeping
With the introduction of Making Tax Digital, it’s important to consider the records that you need to keep when it comes to VAT. Usually, you will be requested to keep records of sales and purchases and issue correct VAT invoices, among others.
HRMC expect that you keep all information pertaining to this tax, from invoices to receipts, for, at least, six years. This number rises to ten years if you use the VAT MOSS service, which stands for VAT Mini One Stop Shop scheme and which refers to the reporting and payment of VAT due on sales of digital services to consumers in the EU.
To be MTD-compliant, you will have to keep some records in digital form as well but, if you’re unsure which of your documents to keep, just talk to us. We have helped many businesses handle their VAT matters, which we offer in our contractor accountancy package.
At Gorilla Accounting, we aim to help with anything you require, be it learning more about VAT or calculating your take-home pay, which you can do via our contractor tax calculator. Our expert accountants have many years of experience and are used to working with a variety of businesses and sectors, so you never have to worry about them not understanding your needs.
Get in touch if you’d like to know more about what we can do for you and your business.