How Does VAT Work for Small Businesses?
Many small businesses are unfamiliar with how VAT works and arent sure whether it applies to them. Even if youre reasonably sure that you dont need to register for VAT, its important to find out for sure. If you meet the small business VAT threshold, failing to register could lead to serious penalties, including substantial monetary fines. Find out the answers to these questions, and more, with our comprehensive guide to VAT explained for small businesses. VAT stands for Value Added Tax, a consumption tax thats applied to the sale of goods and services in the UK. In other words, VAT represents a price-bump on most purchases for the consumer. Currently, the rate of VAT is set at 20%. So, if the price of the product pre-VAT is 25, then the price post-VAT is 30 ((25 x 0.2) + 25 = 30). Technically, VAT isnt a tax on businesses, but a tax on customers, and while businesses pay VAT to HMRC, the cost has been covered by the consumer. This is why VAT is referred to as an indirect tax. Well, some do, and some dont. Whether or not your business pays VAT isnt so much to do with the size of your business as it is to do with your annual turnover. This is referred to as the VAT threshold. In the UK, the VAT threshold is 85,000. Put simply, this means that if your businesss annual turnover is 85,000 or above, you will need to register for and start paying VAT. Yes, if your sole trade business earns more than the VAT threshold of 85,000, then you will need to register for VAT. The fact that youre a sole trader  or even a partnership  doesnt provide you with any exemption from VAT. However, if your companys annual turnover falls below the small business VAT threshold, you wont need to register for VAT, although you can do so if you want. Even if your business earns less than the small business VAT threshold, you can still register for VAT. If you do choose to register for VAT, youll need to send VAT returns to the HMRC four times a year and increase the amount that you charge for your products. As such, it might sound like an unnecessary amount of hassle to deal with, when you could simply wait until youre legally obligated. However, there are a couple of reasons why it might make sense to register for VAT voluntarily. Firstly, it gives you an opportunity to recover the VAT that you incurred in start-up costs. So, if you spend a considerable amount of money on new equipment and supplies when starting your business, you may be able to reclaim a portion of that cost back through VAT, giving your business a healthier cash flow. Furthermore, being a VAT-registered business will lend your company an air of authority and permanence that many clients look for when doing business. Plus, registering for VAT means that potential clients wont know your annual turnover, whereas if youre not registered for VAT, theyll know for sure that youre making less than 85,000. While in many cases, this wont matter, some clients prefer to do business with more established brands. As a result, registering for VAT could be a good idea. Registering for VAT is simple. All you need to do is complete your small business VAT registration online and youre good to go. Once youre registered, youll be able to fill in your VAT returns, although if youd prefer, you can appoint an accountant/agent to deal with HMRC on your behalf. We can help  GoCardless helps you automate payment collection, cutting down on the amount of admin your team needs to deal with when chasing invoices. Find out how GoCardless can help you with ad hoc payments or recurring payments.