VAT for small business

3 min read

Understanding VAT for small business is a top concern for those operating in the UK. If you want VAT explained for small businesses, you’re going to have to first come to terms with value-added tax, thresholds, different VAT rates, accounting and how the HMRC is involved.

In this article we’ll be covering:

  • Do I need to pay VAT as a small business?
  • How much can a small business earn before paying VAT?
  • How does VAT work for small businesses?
  • What is the VAT threshold for small businesses?
  • What is the VAT flat rate scheme for small businesses?

Do I need to pay VAT as a small business?

Do small businesses have to pay VAT? The answer for your small business depends on several deciding factors. 

Firstly, if you’re a sole trader or business which turns over less than the VAT threshold, you don’t have to register for, charge, or even pay VAT. 

While VAT is generally charged at the rate of 20%, there are different rates and exceptions depending on particular products and services. 

For a better understanding of how much VAT is and the different VAT rates, please refer to our article, ‘What is VAT?’.

How much can a small business earn before paying VAT?

A very pivotal question. If your small business doesn’t turn over a high amount, you may be exempt from paying VAT. 

Let’s look at the details which decide this eventuality.

What is the VAT threshold for small businesses?

In the UK, you need to be earning over the £85,000 taxable turnover threshold before you need to pay VAT to HM Revenue and Customs.

This is the current threshold, regardless of whether you’re a small business or a sole trader.

This means that you must register and charge VAT in your business dealings and keep meticulous records of how much VAT you’ve both paid and charged.

How does VAT work for small businesses?

Many small business owners simply assume that VAT is either compulsory or if they don’t need to pay VAT, then they don’t need to register. The truth is a little more complex.

As we saw with the £85,000 threshold, this is the point where VAT is a necessity, and you must be registered.

However, you can also choose to voluntarily register for VAT, and both charge it and pay it. 

Why would you voluntarily register for VAT if you’re operating under the VAT threshold?

  • To seem as though you’re a larger and more profitable businesses than you actually are. While you’ll have to add VAT to your prices, you create the impression of a more professional and trustworthy business which inspires consumer confidence.
  • You want to claim VAT for your business expenses. By registering for VAT, you also gain the benefit of being able to claim VAT for any business expenses you may incur, which included VAT. If you have a large amount of business expenses, this can make a lot of sense.

Registering for VAT

Once you’re either operating above the taxable turnover threshold, or have chosen to start charging VAT, you’ll need to register for VAT with the HMRC. To do so, visit the HMRC and enter your business details.

Once registered, you’ll be provided with a schedule detailing when and how you need to submit a VAT return.

Charging VAT

Now that your small business has been registered for VAT, you’ll need to include this in your prices. This is known as ‘output VAT’. If you operate a retail business, you simply add this to your prices and receipts.

If you get paid through the issuing of invoices, you’ll need to clearly include both the base price and the VAT portion in the invoice.

Accounting for VAT

You’ll need to keep thorough records of all your business transactions when VAT becomes involved. You need to account for VAT earned (output VAT) and VAT paid (input VAT) as well as recording all associated details.

You’ll essentially have to pay the HMRC the difference between input VAT and output VAT. If you end up paying more input VAT, for example on business supplies or raw materials, the HMRC will alternatively have to pay you this difference.

This recording of VAT is most easily achieved using cloud accounting software. This software should be complimented by an initial consultation with an accountant or bookkeeper to be sure of your methods and responsibilities.

What is VAT flat rate scheme for small businesses?

There’s a chance that if you’re a small business in the UK, what’s known as the ‘VAT flat rate scheme’ may suit you better. 

What is the VAT flat rate scheme and what are the associated benefits, eligibility details and drawbacks?

  • The flat rate scheme is designed to simplify the VAT process and all associated accounting and administration by prompting businesses to pay a flat rate of VAT.
  • The scheme is aimed at small businesses and to be eligible your taxable turnover must not exceed £150,000.
  • The flat rate will differ depending on your business and industry type. Details can be found here as to the different industry rates.
  • Under the scheme, you don’t receive VAT back from business purchases and expenses (except certain capital assets over £2,000) thus the flat rate will always be lower than the regular 20% rate as compensation.
  • This flat rate scheme may or may not leave you better off financially, although the simplified nature is certainly appealing to smaller operations. To decide whether this scheme is suitable for you, it’s always best to consult with an accountant or bookkeeper.

If you have any further questions about VAT for small businesses, please refer to the HMRC who have a number of FAQ and query options for you to engage with.