Value Added Tax (VAT) isn’t exactly one of those fun topics of chat on a night out, but unfortunately for lots of business owners it’s a fact of life.

Once your taxable turnover goes above the VAT registration threshold (£90,000 in a 12-month period), or if you expect it to do so within the next 30 days, you must register for VAT. But did you know there’s more than just one VAT scheme you can sign up to? There are actually several, and it’s important to choose one that suits your business best.

Don’t forget, you can also decide to voluntarily register for VAT if doing so is beneficial to your business – even if your turnover is under the £90,000 threshold. It might sound a little crazy, but for some businesses this can actually be a tax efficient thing to do.

VAT is a sales tax which VAT-registered sellers must charge their customers based on the value of the taxable services or goods they supply to them. In that respect, the trader acts a bit like a VAT collector, taking the VAT from the customer as well as the sale price, and then paying the VAT element on to HMRC (which is why registering for VAT can have an impact on your sale price!).
 

If you’re VAT-registered, you’ll need to submit returns to HMRC which show how much VAT you have charged. The return will also show how much VAT you paid to your suppliers on any purchases.

If you charge more VAT to customers than you pay to suppliers, you’ll need to pay the difference to HMRC as your VAT bill. If you pay more VAT on the things you buy from your suppliers than you collect from your customers, you can reclaim the difference from HMRC.

There are different VAT schemes to choose from depending on what suits your needs, although some of these have specific eligibility conditions, and the rules and reporting requirements can vary. We’ll go over these in more detail, but the most common ones include:

• Standard VAT accounting scheme
• VAT Flat Rate Scheme
• VAT Cash Accounting Scheme
• VAT Annual Accounting Scheme
• VAT retail schemes
• VAT margin schemes

Choosing the best VAT accounting scheme to suit your needs largely depends on how your business operates. For example, if you usually pay more VAT on your purchases than you charge on sales, it can be useful for you to register for a scheme which allows you to make VAT submissions more frequently so that you can claim the VAT back sooner. It can help make your VAT accounting much simpler, and even help you improve cash flow in your business.
 

The most common method of accounting for VAT is to keep a record of the VAT on all your purchases and sales. You’ll account for the VAT on the basis of the tax point – this is the date that a transaction takes place for VAT purposes.

The big advantage of standard accounting is that you can claim back the VAT you pay on purchases using the date on the invoice, rather than when you actually pay them. Unfortunately, this also works the other way though, so you’ll need to pay HMRC the VAT on all your sales invoices, even if the customer hasn’t paid you. This can have implications for your cash flow.

In general, standard VAT accounting works well if you know your customers are prompt payers, or you receive immediate payments from shop sales or online.

Key facts about standard VAT accounting

• VAT bill is the different between the VAT you charge to customers and the VAT you pay on purchases
• You can reclaim VAT on purchases

The Flat Rate Scheme was created with the aim of making VAT accounting much simpler. Rather than calculating your bill by working out the difference between the VAT on all your purchases and sales, the VAT you owe to HMRC is a percentage of your annual turnover.

It’s particularly popular with small businesses because it’s much easier to get the hang of, and there’s a bit less paperwork. The flat rate that you use for the calculation depends on your industry.

Because you pay the VAT to HMRC as a flat rate, you can simply keep the difference if you collect more VAT from customers than you need to pay. Having said that, operating VAT on the Flat Rate Scheme means you can’t reclaim the VAT that you pay on purchases, though there are some exceptions for capital assets worth more than £2,000.

To use the VAT Flat Rate Scheme, you must be VAT registered and have a business turnover less than £150,000 (excluding VAT). Bear in mind that there’s a 1% discount on the flat rate if you use the scheme during your first year of being VAT registered.

Key facts about the VAT Flat Rate Scheme (FRS)

• VAT bill is a percentage of your turnover
• The fixed rate of VAT that you pay depends on your business sector
• You can’t reclaim VAT on purchases
• Turnover must be £150,000 or less

Limited cost trader

Some businesses that use the Flat Rate Scheme (FRS) must use a special rate – 16.5%. Known as limited cost traders, these businesses only buy a few goods, and the amount they spend on relevant goods is:

• Either less than 2% of your VAT flat rate turnover
• Or more than 2%, but less than £1,000 per year

There are restrictions on the goods and services that you can include in this calculation when deciding if you qualify to remain on a lower rate. For example, some business expenses, such as professional services, capital expenditure, and vehicle running costs, are not eligible.

The transactions that you need to include in your VAT return are normally worked out on the basis of the tax point date (the date shown on the VAT invoice) for your sales and purchases. The trouble with this method is that you’ll need to pay HMRC the VAT on a sale even if your customer hasn’t paid you for it yet.

With VAT Cash Accounting the calculation is based on the payment date, not the invoice date, meaning that you’ll only have to pay the VAT to HMRC once your clients pay their bills. Just keep in mind that it works the other way, too; you’ll only be able to reclaim VAT on a purchase once you pay your supplier.

It makes it particularly crucial to keep squeaky clean VAT records which include the actual date of payment, as well as the invoice date.

You can only sign-up for VAT cash accounting if your estimated taxable turnover is £1.35 million or less, and only remain in the scheme if it stays below £1.6 million.

Key facts about the VAT Cash Accounting Scheme

• Based on the payment date, not the invoice date
• Only eligible if turnover is £1.35 million or less
• Can only remain in the scheme if turnover remains below £1.6 million

With the VAT Annual Accounting scheme you’ll make advance payments towards your bill throughout the year (either 9 instalments on a monthly basis, or 3 payments on a quarterly basis), and then submit a single VAT return at the end of the 12 month period. If you’ve overpaid, you’ll be able to request a refund.

The upside is that it keeps things much simpler, but it does mean you’ll only be able to reclaim VAT on an annual basis. This might be a problem for businesses which usually reclaim VAT, rather than incurring a bill.

You can only join the Annual Accounting Scheme if your estimated taxable turnover is £1.35 million or less, and you can only remain in the scheme whilst your turnover stays below £1.6 million.

Key facts about the VAT Annual Accounting Scheme

• Make advance payments towards your VAT bill, and request a refund for any overpayments
• Submit your VAT return annually
• Only eligible if turnover is £1.35 million or less
• Can only remain in the scheme if turnover remains below £1.6 million

VAT retail schemes can also simplify VAT though there are a number of them to choose from. The right scheme for your business depends on how you operate, and what your retail turnover (excluding VAT) is. For instance, you can only use the Point-of-Sale Scheme if you identify and record VAT at the point that you make a sale, whereas the Apportionment Scheme is available if you buy goods for resale.

In some cases you can combine the retail scheme with the Cash Accounting Scheme or the Annual Accounting Scheme. Add to that the separate rules for caterers, pharmacists and florists, and the whole thing gets a bit confusing! We’re more than happy to help.

VAT margin schemes can be used by business owners who sell second-hand goods, works of art, antiques, and other collectors’ items. The scheme taxes the difference between what a business has paid for an item and how much it sold it for (instead of taxing the full selling price).

To join a VAT margin scheme business owners need to keep a detailed record of the goods eligible to be reported on their VAT return. These records should include invoices for every item, plus a stock record.

There are some exceptions to VAT margin schemes. These include investment in gold, precious metals and stone, and any purchases for which you were charged VAT. There are also special conditions with regard to things like auctions, second-hand vehicles, horses and ponies, and pawnbrokers.

Don’t forget, you’re also welcome to contact our team for advice, plus find out more about our online accounting services. Call 020 3355 4047 or get an instant online quote.