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VAT, or value-added tax (also known in some countries as a goods and services tax), is a type of tax that is levied on the price of a product or service at each stage of production, distribution, or sale to the end consumer - and then paid to HMRC. There are different ways to account for VAT in every business transaction. If you have a VAT registered business, VAT should be applied to every sale; however it is possible to reclaim VAT charged on business expenditure.
Registering for VAT: when to register, pros and cons
Once your taxable turnover exceeds the VAT registration threshold of £85,000, it is compulsory to register for VAT. It is important to check your taxable turnover and the threshold on a rolling 12-month basis (not just at the end of your accounting year) as the threshold can change from year to year. You have 30 days to register once you pass the threshold, which you can do online. Your VAT registration date is the first day of the second month after you go over the threshold, although you are able to back date your registration date to specifically suit your business.
Registering is optional if your business earns less than the VAT registration threshold, but there a couple of advantages - as well as disadvantages - to consider before deciding to register for VAT:
Advantages
- You will be able to reclaim the VAT you pay on business supplies from the government when filing your VAT return
- Your business will look more professional if it’s VAT registered, and can also hide the fact that your turnover is lower than the VAT threshold.
Disadvantages
- You will have to charge more by adding VAT to the prices of the products/service you're selling, if they are VATAble - although you should check that your prices are competitive.
- You will have to do more accounting, such as passing on the VAT you've charged to the government and submitting quarterly VAT returns (you can seek assistance for these tasks from an accounting service such as us at Kubed Solutions).
Which VAT Scheme Should I Use?
You will need to find a suitable system to inform the government how much VAT you have charged and paid once you have registered your business for VAT. There are four methods used to do so, one of which being the Standard VAT Scheme that most people opt for.
Standard VAT Scheme
This method requires you to keep a detailed record of every purchase and sale from your business. As of April 2022, you must use a compliant Making Tax Digital (MTD) software to keep digital records and submit your VAT returns for your registered business. Alternatively, if you use a spreadsheet to record your businesses sales and purchases, you can use a bridging tool.
You also have the option to apply for a MTD for VAT exemption if using MTD software, as well as computers or the internet, is impractical or unreasonable for your business. Ensure that you file your VAT return with HMRC and pay any VAT due - you will be able to claim a VAT refund should you find that you have paid more VAT than you have charged.
Annual Accounting VAT Scheme
There are three alternative VAT accounting schemes that can also be used, one of which being the Annual Accounting VAT Scheme. For businesses with an annual turnover lower than £1.35 million, you can report and pay your VAT annually (rather than quarterly like you would using the Standard VAT Accounting method). You can make quarterly interim payments for the VAT that you estimate you will owe once the VAT return has been completed. Some businesses prefer opting for this method because they are able to set their VAT reporting and payment deadline the same as their corporation tax filing dates which makes the process simpler. Also, this scheme allows businesses to budget more carefully and is better for cash flow as payments are spread throughout the year. However, businesses using this scheme sometimes have to apply for a refund as they've overpaid HMRC, or make a final balance payment because they’ve underpaid HMRC.
Flat Rate Scheme
The Flat Rate Scheme is another option that can be used only for small businesses with an annual turnover of up to £150,000 (you can check with HMRC to see if your business is eligible). This scheme allows you to pay a percentage of your total turnover as VAT. It is important to note that the percentage you pay is dependent on two factors: the industry of your business, as there are different flat rates for different types of businesses, and whether or not your business is a limited cost business. Choosing this scheme means you won’t be required to account for the VAT details of every purchase made within the business, although you would still have to charge VAT on invoices.
Cash Accounting Scheme
Businesses with an annual turnover higher than £1.35 million can opt for the Cash Accounting Scheme - rather than accounting for VAT on the date you send the invoice, you account for it on the day you are paid. This is a great option for those with slow payers, as you won't have to pay VAT before you've been paid. However, you won't be able to reclaim the VAT until payment has been completed, and if your business buys a lot of items on credit, this may not be the best scheme to choose. Furthermore, you will still have to complete your returns quarterly - similarly to using the Standard VAT Accounting Method.
You must ensure that you register for VAT once your business has passed the registration threshold, after which you are obliged to maintain your VAT accounting records, and do so digitally (in compliant software or a spreadsheet). It is crucial that your returns are accurate - as you may face significant fines from HMRC for failing to account for VAT correctly, and on time - as you may be heavily penalised for late filing and late payment.
You may find it useful to seek guidance for the VAT accounting of your business from an accounting service, such as us here at Kubed Solutions. We understand that there are different industries and different types of businesses that will be better suited to certain accounting schemes than others. Get in touch with us today and we can help to decide which VAT scheme is right for you and your business - you can call us now at 07762657277 for a FREE 30 minute consultation.
