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Contents

  1. 1. What is VAT?
  2. 2. What are the UK VAT rates?
  3. 3. Making Tax Digital for VAT
  4. 4. When do I need to start charging VAT?
  5. 5. How to charge and reclaim VAT
  6. 6. Summary

What is VAT?

July 27, 2021
This article was updated on 9th September 2022.Whether you're a small business owner, a student, a company employee, or a pensioner, everyone in the UK has paid VAT. VAT is a general tax on consumption that has been implemented by increasingly more countries since its inception in the First World War.
Getting to grips with VAT is relatively simple, but it is crucial for smaller businesses and the self-employed to be aware of when they must start charging VAT and what can be claimed back in rebates. If you need a helping hand to stay on top of your tax returns, Ember can simplify and optimise your taxes and expenses automatically for you.

In this article, we'll dive into everything you need to know about VAT, from what it is and how it's calculated, to the different VAT rates you'll need to apply as a VAT-registered business owner.

What is VAT?

Value-Added Tax (VAT) is a consumer tax applied to goods and services at every stage in the production line.VAT is applicable to any item that can be classified as ‘taxable supplies’, including but not limited to the following:
    Business sales of goods or servicesHiring or loaning goodsSelling business assetsCommissionItems sold to staff, e.g. canteen mealsBusiness goods used for personal reasons‘Non-sales’, such as bartering, part-exchange and gifts
If you purchase an item from a VAT registered manufacturer or supplier, you’ll pay VAT on top of the baseline cost, and if VAT registered yourself, you'll need to charge your customers VAT on the items you sell.

In this chain, the tax you pay your supplier is referred to as input tax, whereas the tax you charge customers is output tax. Taking both of these into consideration, you can work out exactly how much VAT you owe HM Revenue and Customs (HMRC).
Diagram showing how input VAT and output VAT work

What are the UK VAT rates?

In the 2022/23 tax year, the UK VAT rates are as follows:
Rate%Applicable to
Standard20%Most goods and services
Reduced5%Children's car seats, maternity and sanitary products, fuel and power for domestic use, energy-saving materials installed for domestic use
Zero0%Books and newspapers, children's clothes and shoes, motorcycle helmets
Keep in mind that although zero-rate VAT items are not charged VAT, you'll still need to record them on your VAT Return.

For a full breakdown of the VAT rates in the UK for the current tax year, head over to our article 'How much is VAT? A guide to UK VAT rates.'

As a VAT-registered business, you'll need to record every sale and purchase and the VAT rate associated on your VAT returns. To get an idea of what each VAT rate will look like on your sales and purchase forms, head over to our blog on VAT codes.

Can't find the VAT code for your item? You can find the full list of rates that apply to specific goods and services over at gov.uk.

'Out of scope' and VAT exemption

In some circumstances, you might find that the goods or services you provide are classified as 'out of scope' or 'exempt.' Like zero-rated goods, these items are not charged VAT — but that's where the similarities between these three end.As mentioned above, while zero-rated goods are VAT free, there is still a rate of tax applicable to the item and as a result must be recorded in your VAT accounts and returns.

VAT exempt

VAT exempt items are those that you cannot charge VAT on, and include the following items:

    Insurance Postage stamps and postal services Health insurance provided by doctors
You'll still need to record these supplies in your general business accounts, but you don't need to include them in your taxable turnover for VAT purposes. For a full list of exempt and out of scope items, head over to HMRC's guide to VAT rates on different goods and services.

If you only sells VAT exempt items, your business is not eligible for VAT-registration and as a result you can't reclaim VAT on anything you've purchased for your business.

Making Tax Digital for VAT

As of April 2022, all VAT-registered business owners must now be registered for Making Tax Digital. First launched in April 2019 aimed at VAT-registered business owners earning above the VAT threshold, this scheme requires business owners to file VAT Returns using MTD-compatible software and to store VAT records digitally.

To be MTD-compliant, VAT-registered business owners will need to use either a combination of bridging software and spreadsheets to store and send their VAT records digitally, or to keep things simple can opt instead for an MTD for VAT approved accounting software that can take care of your VAT Returns end-to-end — such as Ember.

When do I need to start charging VAT?

In the UK, you'll need to start charging VAT after you exceed the VAT registration threshold of £85,000.

Once a business or a self-employed person has exceeded the threshold, they must register their business for VAT and charge VAT from then onwards.

How to charge and reclaim VAT

If you've just registered your business for VAT, here's how you'll need to charge it:
    Make sure your goods or services are eligible for VAT. As we saw earlier, many products are exempt from VAT, so it is best to ensure that your product is eligible. If it is, be sure to determine if you should charge the standard rate (20%) or the reduced rate (5%).Work out the VAT of a single unit price. You do this by multiplying the unit price without VAT by 1.2 (standard rate) or 1.05 (reduced rate).Show the VAT information on any invoices you write. Show the transaction in your VAT account. Your VAT account will be set up when you register with HMRC.
To check you're on the right tracks, you can use Ember's VAT calculator — or, to give you one less thing to worry about, you can join Ember for free today, where we'll automatically calculate how much VAT you owe for you.

As mentioned above, you can only reclaim VAT from VAT-registered suppliers. To do this, you'll need to submit a VAT Return to HMRC using MTD-compatible software.

Summary

You would be hard-pressed to find a day in which you didn't contribute something towards VAT. While many of us will go our lives without realising just how much we are paying, it's vital for business owners to be aware of when they should start charging VAT and the amount they are eligible to reclaim. This will not only ensure that they stay on the right side of the taxman, but could also end up saving them significant amounts of money on business expenditures each year.So if you run a small business or start-up, try Ember today to keep on top of your tax returns. By simplifying and optimising your taxes, we can save you money from day one, with your first 14 days on us – no strings attached.
Rachel Cameron-Potter
Rachel Cameron-PotterContent Marketer

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