Managing director of DSR Tax Claims David Redfern offers a beginner’s guide to VAT and explains what it means for small businesses

VAT is seen as one of the most confusing taxes for both small businesses and consumers in general.

While it is a familiar part of daily life, due to its regular appearance on till receipts and invoices, consumers are often unaware of why it is being charged.

Sponsored Video

Quarter sawn Tulipwood

Meanwhile, a governmental review for the Office of Tax Simplicity showed many small businesses find VAT a barrier to growth.

So here we offer a beginner’s guide to VAT to explain what it is, when you should charge for it and what are the exemptions.

What is VAT?

VAT, or Value Added Tax, is a business tax charged on certain goods and services.

VAT-registered businesses are obliged to charge VAT on their business sales of good and services, as well as when hiring or loaning goods, selling business assets and when making commission payments.

These are known as taxable supplies and a business which is registered for VAT is required to charge the relevant rate of VAT on these taxable supplies.

However, you cannot charge VAT on your goods and services if you aren’t registered for VAT with HMRC.

While most taxable supplies are to be expected, there are a few which may come as a surprise – for example, VAT is still chargeable on goods which aren’t sold for cash but are bartered or part-exchanged instead.

Items which are sold to employees are also classed as a taxable supply and must be subject to VAT if your business is registered for VAT.

Businesses which are registered for VAT must charge VAT on their taxable goods and services and are obliged to send a VAT return to HMRC on a quarterly basis.

Report zero-rate

Most taxable goods and services are taxed at the standard rate of VAT, which is currently 20%.

The standard rate has remained at 20% since April 2011, although historically it used to change each April.

Certain goods and services, such as child car seats and domestic fuel, are chargeable at a reduced rate of 5% while certain goods and services are classed as zero-rated.

Goods and services which are classed as zero-rated must still be reported on in your VAT return but you must charge a zero rate of VAT on them.

Goods exported to non-EU countries are zero-rated.

In addition, there are certain goods and services which are exempt from VAT, such as medical and care services, education and vocational services as well as burial and cremation services.

These don’t need to be reported on for VAT purposes although you should still record them in your general business records. Goods and services provided to charities can benefit from a reduced rate of VAT.

Register for VAT

Businesses are required to register for VAT if they have a VAT-taxable turnover of £85,000 or more.

A business calculates its VAT-taxable turnover as the total value of all the goods and services it sells which are not VAT exempt.

Unlike other taxes, this is a rolling 12-month threshold, not a fixed period such as a tax year or accounting period.

This means that if you believe your turnover is close to the threshold, you need to keep a close eye on it and register for VAT when it exceeds the £85,000 threshold.

You can register for VAT voluntarily even if your business is below the threshold if you believe it will be advantageous to your business but you won’t be required to do so.

Once registered, you must charge VAT on your non-exempt goods and services and a business will be required to submit a VAT return to HMRC every three months.

This must include reporting on total sales and purchases, how much VAT the business owes and how much it can reclaim on business purchases.

Businesses must submit a return even when there is no VAT to pay or reclaim. A Final VAT return will be due if you cancel your VAT registration.

While nearly all consumers are aware of VAT, fewer are aware of the circumstances when it is chargeable which can lead to confusion.

For small businesses and start-ups, the idea that they would have to register for VAT can prevent businesses from growing to their full potential.

While increased simplicity would be welcome, greater awareness will hopefully take some of the complexity out of VAT.

For further reading find out what is an allowable business expense, according to HRMC.