In this article, we explore the potential benefits to businesses of registering for VAT in the UK. There are many different factors to consider when registering your business for VAT. Depending on your individual circumstances, it may be that you will overall see a benefit in registering or it may be that the overall impact is a negative one on your business. It may be the case that you are in a position where you have a choice to register voluntarily or you may have no choice but to register your business for VAT.
What Is VAT?
VAT stands for value-added tax. It is a tax applicable to the sale of the majority of goods and services in the UK. It is a tax that is intended to tax the ultimate consumer of goods or services. This is because registered businesses are usually able to reclaim the VAT that they have incurred on their expenditure. As a result, there is no impact on their costs incurred. However, the end consumer of a product as a non-VAT registered individual will not be able to reclaim the VAT they have been charged and will therefore ultimately pay the cost of this tax.
What rate is VAT charged at?
There are different rates applicable to different products and services, these being:
20% – standard – this is the standard rate in the UK and is applicable to the majority of goods and services
5% – reduced – this is the reduced rate in the UK and is applicable to goods such as children’s car seats, energy-saving materials, gas and electricity for home use.
0% – zero-rated – there are many products in the UK that are zero-rated, these include goods such as children’s clothes and basic food items.
Exempt – these are goods or services that are completely exempt from VAT. This rate is applicable to services such as insurance or lottery ticket sales. Providing exempt goods or services differs from providing zero-rated services in that if you are providing goods or services exempt, you are not able to reclaim VAT incurred in providing these goods or services.
If you are looking to expand your range of products or services and need help with which rate should be applied, then we would recommend taking a look at HMRC’s summary of the different rates applicable to different product and service categories. However, please be mindful that there is more detailed guidance available for certain product categories where VAT rate determination can be more complex. A great example of this is how the VAT treatment of a biscuit will differ depending on whether it is chocolate coated or has chocolate inside of it.
Who Needs to Register for VAT?
For many businesses, the answer to this will be that they need to register once their turnover has reached the registration threshold of £85,000. This means that if in any 12-month rolling period, the sales of businesses that are inside the scope of UK VAT have exceeded £85,000, then they will need to register in the UK. Once businesses have exceeded the threshold, they will need to register for and start charging VAT to your UK customers by the 1st of the month following the month in which they exceeded the registration threshold. For example, if a business exceeds the registration threshold on the 15th of January, they would need to register for VAT in the UK effective from 1 March. There is therefore a significant grace period of up to 60 days after a business has exceeded the registration threshold during which it will be able to continue to make sales and not charge UK VAT.
If you have a rapidly growing business and you expect that your business will achieve sales inside the scope of UK VAT of £85,000 in the next 30 days alone, then you will need to register for VAT in the UK straight away rather than waiting. Your effective date for registration will be the date that you realised you would breach the £85,000 threshold, rather than the date you actually breached it.
There are however circumstances in which you may need to register even though you haven’t reached or don’t expect to reach the registration threshold. A few common examples of this are:
- An overseas-based business – whether you are a company incorporated overseas and fulfilling your orders to UK customers from the UK or are fulfilling them from overseas, the registration threshold will not be applicable to your business. You will therefore need to register for VAT in the UK in order to make your first sale to a UK customer.
- Dropshipping using an overseas supplier – if you are dropshipping to UK customers and your supplier is based overseas, then you will need to register for and charge UK VAT from when you make your first sale. Unfortunately, the UK VAT registration threshold is not applicable to you because your goods are outside of the UK at the point of sale.
- Using certain suppliers – there are some suppliers, particularly those that are based in the EU, that will want to know your VAT number in order to validate that you are a legitimate business. Therefore, if you want to work with a particular supplier that requires this, then you may need to register voluntarily even though your sales have not exceeded the registration threshold.
Which VAT Scheme You Should Use?
When registering, there are three main schemes for businesses to consider. Some of these may be more beneficial to businesses than others depending upon their individual circumstances.
Standard (or Accrual) Scheme
The Standard (Accrual) Scheme is the most commonly used VAT scheme in the UK. Under this scheme, you account for VAT on your sales at the point when invoices are raised to your customers and account for VAT on purchases which you can reclaim when you receive the purchase invoices from your suppliers.
Cash Accounting Scheme
The Cash Accounting Scheme is similar to the standard scheme. The key difference is that sales and purchase invoices are recognised in your return when you pay or have been paid for them, rather than simply when the invoices are issued. You can join the cash accounting scheme if you expect your sales in the next 12 months to be less than £1.35 million. However, you will have to leave the cash accounting scheme and revert to the standard scheme once your turnover exceeds £1.6m in a 12-month period.
Flat Rate Scheme
The Flat Rate Scheme is a scheme designed to help small businesses as a simplification scheme to make it easier for them to be compliant. In order to be eligible to join the Flat Rate Scheme, your turnover must be less than £150,000. You can then stay in the scheme until your sales reach £230,000 in the anniversary period (i.e. in a 12-month cycle following the date of application for this scheme). The Flat Rate Scheme simplifies the process for small businesses as it does not require them to account for VAT on purchases.
Instead, the business will simply pay a flat rate percentage of their gross turnover to HMRC. The percentage due varies depending on the type of business and ranges from 4 – 16%. For an e-commerce business, the applicable rate will be 7.5%. In the first year of using the flat rate scheme, there is a 1% discount given, so taking the example of an e-commerce business, the applicable rate would reduce from 7.5% to 6.5% in the first 12 months. It is important to highlight that the flat rate scheme rates are applicable to gross rather than net turnover as would be the case with the standard or cash accounting schemes.
Looking at an example, if you had received a payment of £120 from a customer, on the standard scheme, 20% of the net price (£100) would be £20 (this can be more easily calculated as 1/6th of the gross price). On the flat rate scheme, the 7.5% applicable to e-commerce, would be 7.5% of the gross price of £120, therefore £9. This is therefore equivalent to 9% of the net sales price.
Which scheme is best for my business?
When considering which scheme to register for, it is best to speak to an accountant so that they can review your specific circumstances. However, here are some key considerations to use as a guide when determining which scheme is best for you:
- E-commerce – an e-commerce business typically gets paid very quickly by its customers, there is therefore little difference between when sales invoices are raised or paid. So in that respect, there would be little difference between the standard scheme and the cash accounting scheme. However, if your suppliers are offering you credit, then the purchase invoice date will be earlier than the payment date. Therefore, by being on the standard scheme, your business will be able to reclaim VAT on purchase invoices sooner than on the cash accounting scheme where the VAT reclaim would be delayed to the point of payment.
- Offering credit to customers – if you are offering credit to your customers, particularly if over a longer period (e.g. monthly instalments over several months), then using the cash accounting scheme rather than the standard accounting scheme is likely to be best for you. This is because the point at which you pay VAT on your sales will be delayed until the point when you actually receive the cash from your customer rather than when you raise the invoice to them.
- High-profit margin business – the higher the profit margin that your business makes, the more likely it is that the flat rate scheme will be beneficial for your business. The Flat Rate Scheme essentially assumes that you will incur a certain amount of VATable expenditure relative to your turnover. If you incur more than the amount assumed within the flat rate applicable to your business, then you are better off on the standard or cash schemes so that you are able to reclaim this additional VAT. However, if the VAT you are incurring on your expenditure is less than the amount assumed within the flat rate, then you will be better off on the Flat Rate Scheme. The lower your VATable expenditure is, the greater the benefits will be to your business from using the Flat Rate Scheme. For example, if you are an e-commerce business where the standard percentage due is 7.5%, in applying that rate HMRC is essentially assuming that on average, for each £100 in sales you make, you will incur £55 in VATable expenditure. So if for example you only incur £30 of VATable expenditure for each £100 of sales, you will be better off on the Flat Rate Scheme compared to the standard scheme.
What Do You Need to Register?
The VAT registration process in the UK is fairly easy and quick to complete. In order to be able to complete registration for VAT in the UK, the majority of the information you will require is readily available information such as the company name and contact details. Some information that you may need to gather for your application though is:
- Company registration number (available from Companies House)
- Date of incorporation (available from Companies House)
- Unique Taxpayer Reference (UTR – available from letters received from HMRC)
- Date you wish to be registered from – this will usually be determined by the date on which you have exceeded the VAT registration threshold unless you are choosing to register voluntarily.
- Turnover estimate for the next 12 months
- VAT return periods – you can choose between January, April, July and October; February, May, August, and November; or March, June, September and December. We would recommend choosing the quarterly cycle that aligns with your company’s financial year-end.
- An overseas business will also have to provide proof of identity and more than likely will be sent a questionnaire by HMRC. This questionnaire asks for details of fulfilment solutions that the business has in place and supplier contracts. Essentially HMRC is trying to satisfy themselves that it is a genuine business. This delays the registration process by about a month.
Is It Worth Being VAT Registered?
In most cases, it isn’t in your interests to register voluntarily. However, as set out above, there are circumstances that will be applicable to most businesses in which they will need to register for VAT. In which case, it will be in your interest to do so to avoid being in a position where backdated VAT liabilities or penalties are applicable. There are also certain circumstances where VAT registering voluntarily can be beneficial:
- Primarily B2B sales – if the majority of your sales are to other VAT-registered businesses, then it is likely to be in your interests to register for VAT. This is because your customers, as VAT-registered businesses, will be able to reclaim the VAT you have charged them and there will therefore be no impact on your cost to them. However, you will then be able to reclaim any VAT you have incurred on your expenditure, therefore providing a benefit to your business.
- Selling zero-rated products – if your business is selling products that are zero-rated, then you will not need to charge any VAT on your sales but will be able to reclaim VAT on any expenditure incurred. It’s important to note though that if you are selling zero-rated products, it’s likely that your inputs in making those products are also likely to be zero-rated, therefore the amount of VAT you are able to reclaim may not be that significant.
Overall, the benefits of VAT registration are fairly limited and it is generally best to wait until you have to register for VAT before doing so. However, it is always worth considering your individual circumstances to check whether the benefits outweigh the costs and if so voluntary registration may be right for your business. It is also important to ensure that the scheme that you apply for is the right one for your business as getting this right will help to improve your profit margins.