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VAT returns explained for small business owners

If your business generates a taxable turnover of (+) £85,000 (over the preceding 12 months or the following 30 days) you are required to register for VAT. As a VAT-registered business, you must submit a VAT Return to HMRC periodically. That can be monthly, quarterly or annually.

When you register for VAT, you have an opportunity to reclaim some of the VAT already incurred before VAT registration. HMRC allows you to go back six months for any service and four years for any goods. Those goods and services must still be part of the business on the VAT registration date.

For example, you can claim for the VAT on a logo that your digital agency created five months ago, however, you cannot claim the VAT on the internet bill from one month before because the internet has been used (consumed) up before registration.

Any kit that was purchased four years prior to VAT registration can also be claimed as long as there is a VAT receipt. It is important that you discuss this with a professional before making the first VAT return as it is a one-time opportunity.

The VAT Return is an opportunity to reclaim taxes paid and charged on taxable goods and services. As a business owner, you can submit a VAT Return for purchases made for your business and the VAT charged on the items you sell. However, even if you do not have any VAT to pay or claim, you must submit a VAT Return to HMRC.

The procedure for reclaiming VAT can be complex because there are different rates and schemes that businesses need to consider before submitting a claim.

VAT returns

What you need to know about VAT Rates

VAT charges are based on the category that items fall into; full information can be found, here, but in brief:

Standard rate 20%: charged on most goods and services.

Reduced rate 5%: charged on specific items such as children’s car seats, installing energy-efficient materials, domestic fuel and power.

Zero rate: no VAT is included on items such as children’s clothes and books.

Exempt: refers to goods and services that the law stipulates are exempt from VAT such as education and charities.

Keeping track of VAT transactions

Your business must keep a detailed record of all transactions. During the VAT period (for which you’ll submit your VAT Return), the process of collecting transaction records is referred to as the ‘accounting period’. Once you’ve gathered all of the data and paperwork, you’ll be ready to submit your VAT Return.

What you need:

  • VAT that you owe
  • VAT that you can reclaim
  • Total sales and purchases (excluding VAT)

The most important factor in the VAT process is keeping track of transactions. The ideal method is to use an invoicing system, manual or digital. There are three different types of invoices that have been specified by HMRC. (For a detailed list of requirements, visit their website.)

  • Full VAT invoices: used for most transactions they contain a lot of detail such as the supplier's information (VAT registration number), recipient details, date, time, price, VAT rate, discounts, a unique identification number, description of the goods or services, total amounts that include and exclude VAT and so forth.
  • Modified VAT invoices: for retail supplies that exceed the amount of £250, the modified invoice must include the same details as the Full VAT invoice as well as the total including VAT.
  • Simplified VAT invoices: much like the modified invoice, the simplified invoice applies to retail supplies. The difference is that the simplified invoice comes into play when the supplies amount to less than £250. This type of invoice will include fewer details but must have the supplier’s information, a unique identification number, description of the supplies, VAT rate and the amount including VAT.

Pro tip: Every transaction requires a unique identification number or invoice number. With an infinite pool of sequential numbers available, we recommend creating a unique invoice sequence that suits your business or customer by including a prefix. The prefix will function as the identifier of either your customer or the business.

What are VAT schemes? 

There are multiple types of VAT schemes to suit various business needs, that is, the Flat Rate Scheme, Cash Accounting Scheme, Accrual Accounting Scheme and the Annual Accounting Scheme. To join a scheme, VAT-registered businesses need to submit an application to HMRC.

The VAT schemes vary in terms of conditions for submitting tax returns and the annual business turnover.

  • Flat Rate Scheme: to be eligible to join, the business taxable turnover must be £150,000 or less (excluding VAT). For this scheme, the business will pay a fixed flat rate of VAT (a percentage of the total VAT-inclusive turnover) and keep the difference that remains between the amount charged to customers and what is paid to HMRC. You will need to withdraw from this scheme when the turnover is greater than £230,000 (incl VAT).
  • Cash Accounting Scheme: allows businesses to pay VAT on sales only once the customers have paid as well as reclaim VAT on purchases only when the supplier is paid. Businesses that have a taxable turnover of £1.35 million or less are considered eligible to join. You have to leave this scheme if the turnover is greater than £1.6m. Hitting this limit can be tough on cash as the business will owe VAT on invoices that have not been paid. HMRC recognizes this and allows six months for the transition from Cash to Accrual VAT accounting.
  • Accrual Accounting Scheme – refers to the date invoices are issued by your business. You are required to pay VAT on all transactions that take place during your VAT accounting period regardless of whether the invoice has been paid or not. When submitting a return, you can reclaim the tax as long as you have the VAT invoice available as evidence.
  • Annual Accounting Scheme: allows businesses to submit one tax return each year instead of every quarter and permits advanced VAT payments. If the business’s taxable turnover is £1.35 million or less, it will be considered eligible.

VAT schemes

Claiming back VAT

Now that you’re familiar with VAT rates and schemes, you’re ready to prepare for a VAT Return.

It is important to ensure that all of your business records are accurate before submitting it to HMRC, any errors could lead to an investigation of your business or a fine.

Before beginning your claim, you need to understand what items you can reclaim VAT on. The rule of thumb would be to claim back solely on goods and services provided by your business and items purchased for your business.

Some of the items you can claim VAT on include:

  • Mobile network service plan - in all cases, any expense for online rental for mobile phones are seen as being incurred for business purposes. The VAT on this part of the phone bill is input tax.
  • Vehicle maintenance and fuel on a company vehicle.
  • Utilities – the VAT reclaimable will differ if your office is on a business tariff or residential tariff. Utility companies will charge 20% for business tariffs and only 5% for residential tariffs.

You cannot claim VAT on any business entertainment expenses such as client hospitality (including lunches where you are having a meeting). In addition to that, you cannot claim for items purchased in an EU country nor items for private use.

VAT Return submissions require proof of purchases and expenses for your business, that is, a collection of all receipts and invoices containing the specified supplier details, item descriptions and VAT information.

For more advice on VAT, or if you need a helping hand to assist with business tax, get in touch with us at Holistic Financial Group.