The VAT Basics You Need to Know!
There’s a lot to understand when you’re running your own small business, you need to take in a lot as well as dealing with your customers. But VAT can be something that’s easily made mistakes on. So follow my video or read below, and I’ll explain all of the VAT basics in layman’s terms.
What is VAT?
VAT is a sales tax. This means that whenever you sell something, it gets added to your product or service. So the people that pay VAT in the end, are the final customer, businesses in between will charge VAT on their sales and reclaim the VAT from their costs.
Just remember, VAT is a sales tax, it could be a big washing machine of money coming in and going out of businesses, but it’s the final user that will pay the VAT.
VAT registration and threshold
If you want more detail on when to register for VAT and what is the threshold, follow my video specifically on VAT registration! But to recap again, the current VAT registration limit is £85000. However, be mindful that by the time you’ve read this video, the VAT rate could have changed. So make sure you check the current rate of VAT thresholds. But currently, it’s at £85000, and that is based on a rolling 12 months.
VAT certificate
When you register for VAT, you’ll get a document called a VAT certificate. This is like a birth certificate for your company or business for VAT. This will contain the date registered for VAT, your VAT quarters, and your company’s details. It’s really important that you keep this because this certificate is an important document, so make sure you keep this safe all the time.
VAT Returns
VAT returns are normally completed by businesses on a quarterly basis. The majority of businesses in the UK do this, but there are some circumstances where a business may choose to run a VAT return monthly.
A good example of this is a construction company that may incur input VAT which is VAT that you can claim off your costs upfront, and they will allow them to get the money earlier in their account.
VAT Terms
Output tax – this is VAT on your sales.
If you sell a product or service for £1000, you’re going to add £200 VAT to this, this £200 is known as output tax. So if you ever come across this again, and you’re not quite sure, just remember, the output is what you charge on your sales.
Input VAT – This is the opposite of output VAT. This is what you claim back on your expenses. When you buy something for £120, you will have £100 cost and £20 VAT. This will allow you to claim back the VAT on your expenses on your VAT return.
Are there any benefits?
Yes, there are, but ultimately, if you qualify you have to be VAT registered. You are a glorified tax collector, get over it, you’re doing it for free. This is the law, so make sure you stay compliant.
The benefits of being VAT registered Are you can reclaim back VAT on your costs. This gets you more money because if you weren’t VAT registered, you wouldn’t be able to claim these at all. The flip side of that is if your customers are business to business, they’re not going to care whether you’re VAT registered or not because they can reclaim this back on their own VAT returns and this is not going to be caught the cost in their profit and loss account reducing their profits.
If your customers are the consumers, they are going to feel the pinch on this, they don’t have the benefit of being able to reclaim VAT, whatever your total cost is, will be the cost to them. So bear in mind, for this, you don’t need to VAT register if your turnover is less than £85,000. This can take away a lot of the admin and bureaucracy which will allow you to concentrate on building your income up and getting great customers.
Another thing to keep in mind is how is your income classified. The main two are you can either be standard-rated for VAT or exempt. You don’t need to know everything about this, not even I do, when I take over a business as an accountant or a business coach, with a product or service I’ve never done before, I research their income streams and specify their classifications.
As an example, I had a new client recently who sells salt. If the salt is culinary then it’s zero-rated for VAT. This means, he doesn’t charge VAT on his sales but is still able to claim back the VAT on all the costs. However, he also sells bath salts, which fall into a different classification.
So, go and research the classifications of your own product or service, or if you can’t do this yourself, sit down with your accountant or your business advisor. I do this with every new client if I have not worked in that industry for a while or ever at all.
Pricing
As I mentioned earlier, it’s key to understand who your customers are, but also whether they can reclaim the vat or not.
I’ll give you an example. If you’re getting some construction work done in your house, and a builder has given you a quote, a lot of builders will quote 10k plus VAT well to the consumer which means 12k. So initially, they thought they were paying 10k, and then they sit there and work out and, that’s another 20% which they did not expect.
I would say quote, 12k in the first place, and say this includes VAT, so there will be no nasty surprise.
I always quote excluding VAT, as the majority of our businesses are VAT registered, and they are not going to care whether I’m VAT registered or not.
When you are pricing for your work, services, or product, make sure that you’re quoting in mind who your customers are and whether are you quoting the total price. Or are you making it a bit less to give them a nasty surprise with the VAT, because when anyone recalculates this, they always go, “Do I really have to pay that?”
Let’s do a quick calculation!
As an example, I’ve talked throughout this video, we’ve got £1000 service or product plus VAT. The sale is £1000, and that will go into your profit loss account or sales or turnover, you will then add 20% VAT, this goes into your VAT control account, which is basically an account that is just for your VAT, and then the total price will be £1200, so ultimately, this amount will go into your bank account.
When you’re looking at a product or service, you will have a net amount, a VAT amount and the gross total.
If you’re doing this the other way, and your total invoice for your customer is £1200, and that doesn’t state the VAT, work this out backwards. To work out the VAT on this, you would need to times that figure by 20 and divide it by 120. This will work out your VAT amount, and in this case, is £200. Because we’ve seen it come the other way, your net amount will be £1000. So what you’ll be losing on that cell is £200, if you didn’t put your prices up from your VAT. Again, it comes back down to knowing your customers. What type of industry are they in? Are their business, a business to business or consumer? Are they VAT registered and can claim back VAT?
Making tax digital
It’s been around for quite a while a lot of businesses have been doing it for a long time. And there are lot of businesses that are still not doing this properly.
Making Tax Digital in layman’s terms, means you have to file your VAT return with HMRC electronically. And this has to be done with an approved software.
The approved softwares in the market are great because instead of keeping endless files of invoices, and receipts, you can actually save picture copies of these directly on your software. No more files, no more rubbish, it will stay on your system for good. How good is it that it saves a load of paperwork with invoices that are submitted, normally people get their invoices by email, so you don’t have to print them off at all, this saves you time and money too.
When you’re filing your VAT returns, you need to make sure that you’ve got a gateway, which is a portal that gives you access to your VAT account, where you can submit your VAT returns electronically. This is mandatory now, so make sure that you have the appropriate system in place.
I hope this article was informative, and if you think you need some help please contact us, and I’ll take on board any questions that you’ve got and I promise there’ll be no pushy sales pitch!
