We commonly get asked the question ‘Should I register for VAT’ and unfortunately there isn’t always a straight forward answer. There are many factors to consider, such as your turnover and who you are selling to.
Do I have to register for VAT?
If your turnover in the previous 12 months exceeds the compulsory registration threshold (currently £81,000), then you are legally obliged to register for VAT. Failure to do so can result in penalties so it’s important to continually review your turnover on a rolling 12 month basis (i.e. the last 12 months from any given point), not based on turnover in your accounting year.
If you haven’t exceeded the threshold for compulsory registration you can still register voluntarily if it makes sense for you to do so.
How does VAT work?
Whether you are legally obliged to register for VAT or you are considering voluntarily registering, it’s very important to understand the basics on how VAT actually works.
If you’re a VAT registered business then you are essentially an unpaid tax collector with the added benefit of being able to reclaim VAT on what you buy. Being VAT registered will of course mean you have to add VAT at the appropriate rate to everything you sell (normally 20%).
This additional income you’re collecting isn’t yours to keep; you are collecting this on behalf of HM Revenue & Customs (HMRC).
Thankfully there are several advantages to being VAT registered, mainly the ability to reclaim VAT that your business has been charged.
So, lets assume that in a 3 month period your sales are £10,000 plus VAT (Total: £12,000) and in the same period you also purchase goods from a supplier and you’re charged £1,000 plus VAT (Total: £1,200).
The amount you have to pass over to HMRC is the VAT you’ve collected (“Output VAT”) minus the VAT you’ve paid out (“Input VAT”). So in this example you’ll be handing over £1,800 (£2,000 minus £200).
So, you’re £200 better off than you would have been if you weren’t VAT registered.
Why else would I want to register?
Other than the obvious financial benefit of being able to reclaim input VAT, another reason for becoming VAT registered is the perception it will give to your customers or more importantly your potential customers.
By not being VAT registered, you are effectively telling potential customers that your company’s sales are less than £81,000 a year, which may discourage other businesses from working with you as they may favour a VAT registered business instead.
Why would I not want to register for VAT?
We have so far focused on the advantages of being VAT registered, there are however a few downsides to VAT registration that should be considered carefully before taking the leap.
Let’s take our scenario from ‘How does VAT work’. In this example you were £200 better off, or so it may appear. For example, if you were in retail, you would agree that you are in a highly competitive market. This doesn’t mean that just because you are now VAT registered you can automatically put your prices up by 20% overnight; it is more likely that you will have to keep your prices the same and absorb the output VAT.
So, if you sell to consumers or non VAT registered businesses careful consideration is needed as voluntarily registration for VAT could be a costly mistake.
There are many other instances that VAT may not be required, or where voluntary registration may be to your advantage, we suggest you take expert advice and speak to Danbro.
Different VAT Schemes Available
If you do decide to register for VAT, you should be aware that there are a number of different schemes available to you. The main three are:
On the standard scheme, the amount of VAT due to HMRC is based on the actual date of your sales and purchase invoices. So if you invoice someone for £1,000 + VAT – that VAT is deemed to be owed to HMRC at the end of the quarter in which you dated the invoice. This can mean that you pay over VAT to HMRC before you have received the funds from your customer, this can lead to cash flow difficulties for smaller businesses.
Cash Accounting Scheme
On the Cash Accounting Scheme, the VAT is deemed to be owed at the end of the quarter in which you were actually paid for your sales invoices, or when you actually pay your suppliers. This scheme is advantageous when you have more money owed to you than you owe out to suppliers. Businesses who do not have any money owed to them, such as a Public House should always use the Standard Scheme for VAT.
Flat Rate Scheme (FRS)
This scheme can save you a lot of money depending on the industry you operate in. For example, an IT Consultant would attract a flat rate percentage 14.5%. You continue to charge VAT to your customers at the usual rate but you only pay over to HMRC 14.5% of your Gross (meaning inclusive of VAT) turnover. You can’t claim back any VAT on your purchases (with a few exceptions), but you don’t hand over all of the VAT you receive to HMRC.