What is VAT?

Example – What is VAT?

 

Assume a VAT rate of 20% and that there are 3 businesses in the supply chain. The final supply is to an individual who can’t reclaim VAT.

 

Business 1 creates raw materials at a cost of £nil and sells them to business 2 for £150 plus £30 VAT £180 gross). Business 1 therefore pays £30 of VAT.

Business 2 buys the raw materials for £180 (Including £30 of VAT), does work to them and sells the product for £250 plus £50 VAT (Gross £300). Business 2 has to pay £50 of VAT on its sales, but can claim £30 of VAT on the cost of raw materials, meaning it only pays £20 to HMRC (£50 minus £30).

Business 3 buys the materials from business 2 for £300 (Including £50 of VAT), does work to them and sells the product for £500 plus VAT of £100 (Gross £600) to the final customer. Business 3 has to pay £100 of VAT on its sales, but can claim £50 of VAT on the cost of goods from business 2, meaning it only pays £50 to HMRC (£100 minus £50).

The final customer can’t reclaim any VAT, so their final cost is £500 plus £100 of VAT (£600).

As we can see, VAT is charged at 20% of net selling price, so we would expect VAT of £100 to be payable for goods with a value of £500 (20% x £500 = £100). This VAT is paid as value is added to each stage of the process:

 

	VAT payable
Business 1	30
Business 2	20
Business 3	50
Total	100

 

 

What is the VAT threshold? When do I need to start charging VAT?

The VAT threshold is the amount of sales a business can make before it needs to register for VAT.

You must register for VAT if:

1. VAT taxable turnover in the previous 12 months is more than the VAT registration threshold (The historic test), or
2. You expect to exceed the VAT registration threshold in the next 30 days alone (The future test).

 

If your sales in the last 12 months are more than £85k it’s likely you need to register for VAT. The easiest thing to do is to speak to your accountant and they can let you know. For more details, check out this article on “what is the VAT threshold?”

How do you report VAT?

 

A VAT registered business normally reports VAT to HMRC through a quarterly VAT return. The VAT return summarises the VAT the business has been charged by suppliers, and the VAT it has charged to customers. The difference is then either paid to HMRC or reclaimed from HMRC.

 

 

What is the deadline for submitting your VAT return?

 

You can find the VAT return and payment deadline in your online VAT account at HMRC. The online account tells you:

• when your VAT Returns are due
• when the payment must clear HM Revenue and Customs’ (HMRC) account

 

The deadline for submitting the return online and paying HMRC are usually the same – 1 calendar month and 7 days after the end of an accounting period. You need to allow time for the payment to reach HMRC’s account.

For example, if your VAT quarter ends on 31 March, you need to submit the VAT return and pay the VAT liability by 7 May. This is 1 calendar month and 7 days after the end of the accounting period.

 

 

What is the deadline for paying VAT?

 

You can find the VAT return and payment deadline in your online VAT account at HMRC. The online account tells you:

when your VAT Returns are due

• when the payment must clear HM Revenue and Customs’ (HMRC) account

 

The deadline for submitting the return online and paying HMRC are usually the same – 1 calendar month and 7 days after the end of an accounting period. You need to allow time for the payment to reach HMRC’s account.

For example, if your VAT quarter ends on 31 March, you need to submit the VAT return and pay the VAT liability by 7 May. This is 1 calendar month and 7 days after the end of the accounting period.

 

What happens if you don’t submit the VAT return on time?

 

If you don’t submit your VAT return on time you may have to pay a penalty.

HMRC have a really useful guide to surcharges and penalties, which can be found here.

 

 

What is the current rate of VAT?

 

Please check with HMRC or you accountant  for advice specific to your business, because VAT rates can change. In general:

 

	% of VAT	What the rate applies to
Standard rate	20%	Most goods and services
Reduced rate	5%	Some goods and services
Zero rate	0%	Zero-rated goods and services

 

Please note that some goods and services are exempt from VAT.

 

How do you calculate VAT?

 

Example 1 – calculate VAT from the price excluding VAT

 

Assuming 20% standard rate of VAT, the amount of VAT on an item is 20% of the price excluding VAT. So, if the price excluding VAT is £100, VAT is 20% x £100 = £20.

Assuming 5% reduced rate of VAT, the amount of VAT on an item is 5% of the price excluding VAT. So, if the price excluding VAT is £100, VAT is 5% x £100 = £5.

 

Example 2 – calculate VAT from the price including VAT

 

Assuming 20% standard rate of VAT, the amount of VAT on an item is 20 divided by 120 multiplied by the VAT-inclusive price. So, if the price including VAT is £120, VAT is 20/120 x £120 = £20.

Assuming 5% standard rate of VAT, the amount of VAT on an item is 5 divided by 105 multiplied by the VAT-inclusive price. So, if the price including VAT is £105, VAT is 5/105 x £105 = £5.

 

Example 3 – calculate VAT-inclusive price from the price excluding VAT

 

Assuming 20% standard rate of VAT, to find the VAT-inclusive price, you just multiply the price excluding VAT by 1.2. So, if the price excluding VAT is £100, the VAT-inclusive price is 1.2 x £100 = £120.

Assuming 5% reduced rate of VAT, to find the VAT-inclusive price, you just multiply the price excluding VAT by 1.05. So, if the price excluding VAT is £100, the VAT-inclusive price is 1.05 x £100 = £105.

 

Example 4 – calculate VAT-exclusive price from the VAT-inclusive price

 

Assuming 20% standard rate of VAT, to find the VAT-exclusive price, you just divide the price including VAT by 1.2. So, if the price including VAT is £120, the VAT-exclusive price is £120 divided by 1.2 = £120.

Assuming 5% standard rate of VAT, to find the VAT-exclusive price, you just divide the price including VAT by 1.05. So, if the price including VAT is £105, the VAT-exclusive price is £105 divided by 1.05 = £100.

 

What is my VAT number?

 

The VAT number is a code which is specific to your individual business, and is issued when you register for VAT. The number is 9 digits long and can be found on your HMRC VAT online account, or on your original VAT registration certificate.

It’s important that you keep a note of your VAT registration number because it needs to go on your sales invoices, and VAT returns.

 

How to check if a company is VAT registered

 

You can use the HMRC “check a UK VAT number” service to check:

• if a UK VAT registration number is valid
• the name and address of the business the number is registered to

If you are a UK VAT-registered business, you can also use this service to prove when you checked a UK VAT number. You will need your own VAT number to do this.

 

What is VAT? – summary

 

VAT can be a very complex tax, and advice to your specific business needs must be obtained.

VAT is a tax which is charged and reclaimed at each stage of a supply chain until it is finally suffered by individuals or businesses which can’t recover VAT. This is usually at the end of the chain.

We hope this article on “What is VAT?” has been helpful. If you would like to discuss how we can help you and your business, please get in touch.

 

Some of the key themes we’ve looked at are:

 

• What is VAT?
• What is the VAT threshold? When do I need to start charging VAT?
• How do you report VAT?
• What is the deadline for submitting your VAT return?
• What is the deadline for paying VAT?
• What happens if you don’t submit the VAT return on time?
• What is the current rate of VAT?
• How do you calculate VAT?
• How do you calculate VAT from the price excluding VAT?
• How do you calculate VAT from the price including VAT?
• How do you calculate VAT-inclusive price from the price excluding VAT?
• How do you calculate VAT-exclusive price from the VAT-inclusive price?
• What is my VAT number?
• How to check if a company is VAT registered