If your business is growing, VAT is probably sitting somewhere at the back of your mind. It is one of those taxes nobody enjoys talking about, and it trips up more small businesses than almost anything else.

None of it is complicated once someone explains it properly. Here is what actually matters if you are getting close.

There is money sitting in your business account right now that belongs to HMRC. Most business owners spend it.

What VAT is

Value Added Tax is charged on most goods and services sold in the UK. Once your business is registered, you add it to what you charge your customers, and you hand that money to HMRC. The VAT you collect is not income. It lands in your bank account, it looks like your money, but it never was.

You do not have to wait until you are forced to register

There is a turnover threshold at which registering becomes compulsory. But you can register voluntarily at any point, even on your first day of trading. Whether that is a good idea depends almost entirely on who your customers are.

If you sell mainly to other businesses, registering early often works in your favour. Your customers are likely to be registered themselves, so the VAT you charge them costs them nothing in real terms. Meanwhile you can start reclaiming the VAT on your own costs.

If you sell mainly to the general public, it works the other way round. Your customers cannot reclaim anything. Register early and you have either made yourself more expensive overnight, or you absorb the cost and take the hit on your margin.

Same rules. Opposite answers. It comes down to your business.

What happens as you approach the threshold

The test is based on a rolling twelve month period. Not your financial year. Not the tax year. Any twelve months.

This is a common misunderstanding we often come across, and it is the reason people register later than they should. If you only check the figure once a year, you can sail past the threshold without noticing.

Once you cross the threshold, you notify HMRC, and your registration takes effect from a set date shortly afterwards. That gap gives you a short window to get ready, so use it. You need to decide what happens to your pricing, maybe tell your customers, and set up invoicing correctly from the first day.

Not everything is charged at the same rate

Most things are standard rated. Some are reduced, some are zero-rated, like children’s clothing. Some are exempt altogether, like insurance.

The distinctions can be oddly specific. A sausage roll sold hot is treated differently from one sold cold. Chocolate on a biscuit changes things. A Jaffa Cake counts as a cake rather than a chocolate covered biscuit, which is why it is treated the way it is.

It sounds like trivia, but if you sell food, drink, clothing or printed material, that level of detail decides what you charge your customers.

The scheme you choose affects your cash flow

There are three main options, and the difference between them is mostly about timing.

Standard, or accrual. VAT is recorded on the date of the invoice. This is the one that catches people out. If a customer is slow to pay, you can end up handing VAT to HMRC before that customer has paid you anything at all.

Cash. VAT is recorded when the money actually moves, both on what you receive and on what you spend. If you have customers who take their time, this protects you.

Flat rate. A simplified option. You pay a single percentage of your gross income and you generally do not reclaim VAT on your expenses, with some allowances for assets.

There is no universally correct answer. There is a right answer for your business, and it usually depends on how quickly you get paid.

Two mistakes worth avoiding

Reclaiming VAT that was never charged. Not every invoice you receive has VAT on it. If your supplier is not registered, or what they sold you is not standard rated, there is nothing to reclaim. It's an easy assumption to make and it shows up when the return is reviewed.

Spending the VAT. This is the big one. The money arrives, the account looks healthy, and the return is not due for another few months. Then it is due. Move it aside as it comes in, ideally into a separate account, and the quarterly bill stops being a shock.

This is really a version of a bigger question, and one we get asked constantly. If you want to go further into it, have a read of How much money can I really take from the business?

Helping You Get The Business You Want

The worst time to start thinking about VAT is after HMRC has been in touch.

If you are approaching the threshold, or you have already crossed it and you are not confident you are on the right scheme, get in touch. We will talk it through properly and get you set up before it becomes a problem.

Get in touch: carthyaccountants.co.uk/contact