VAT is a tax that is collected on behalf of the government by businesses. You don't have to register for VAT, but you will probably want to; there are loads of benefits and it helps you look professional.
Businesses that register for Value Added Tax (VAT) will charge Output VAT on the goods and services that they supply, and reclaim Input VAT on expenses they pay out. The balancing amount of VAT is paid over to HMRC quarterly.
You don't have to register for VAT if your annual sales are below the registration threshold. Businesses will often choose to register if their own customers or clients are also VAT registered and can reclaim any VAT you charge.
- Registering for VAT means you can:Reclaim VAT paid on things you buy for your business.
- Boost the credibility of your business to customers - it helps hide the size of a small business.
VAT usually means extra administration. Your record-keeping must separate out the VAT for each item listed in your expenses. Businesses have to fill in VAT Returns which detail the VAT Inputs and Outputs, every three months. You'll normally have your accountant do this for you.
HMRC have introduced a Flat Rate Scheme(FRS) to help reduce small businesses admin. This scheme allows the VAT you charge to be paid over to HMRC at a lower rate than it is charged to customers - your business keeps the difference. The VAT on purchases you make is ignored (except for larger capital items). When your accountant is calculating the amount payable to HMRC they apply a fixed percentage, agreed upfront with HMRC for the type of industry you trade in. An extra 1% discount on this industry percentage applies for the first 12 months as an incentive to join FRS.
The Flat Rate Scheme has been very popular, especially with service businesses where VAT reclaimed under the standard rules is often quite small. A “Ready Reckoner” is available on the HMRC site to estimate the financial effects of joining.
The Annual Accounting Scheme (AAS) is also available to small businesses, and can be combined with the Flat Rate Scheme to reduce admin even further. AAS means preparing only one VAT Return annually, and making regular estimated payments followed by an annual balancing charge or refund. Generally the scheme hasn’t caught on, probably because there are over payment issues if your sales levels drop. AAS may be suitable if turnover is consistent year to year but do think carefully before adopting Annual Accounting.
Whichever scheme you decide on, the VAT added onto your sales invoices belongs to HMRC and should be kept in the business bank account until it’s time to pay up. Don't ever be tempted to spend VAT money and pay it back later.
VAT Registration usually takes about 6 weeks from when the application is submitted. HMRC will issue a VAT Certificate detailing the date of registration and your VAT number. The VAT number must be quoted on all sales invoices.