Value added tax, part 1

This two-part article is relevant to candidates sitting TX (UK) in an exam in the period
1 June 2019 to 31 March 2020, and is based on tax legislation as it applies to the tax
year 2018-19 (Finance Act 2018).

Standard rate of value added tax (VAT)

The standard rate of VAT is currently 20%.

EXAMPLE 1
Zoe is in the process of completing her VAT return for the quarter ended 31 March
2019. The following information is available:
 Sales invoices totalling £128,000 were issued in respect of standard rated
sales.
 Standard rated expenses amounted to £24,800.
 On 15 February 2019, Zoe purchased machinery at a cost of £24,150. This
figure is inclusive of VAT.
Unless stated otherwise all of the above figures are exclusive of VAT.

VAT Return – Quarter ended 31 March 2019

£ £

Output VAT

Sales (128,000 x 20%) 25,600

 £ £

Input VAT

Expenses
4,960
(24,800 x 20%)

Machinery
4,025
(24,150 x 20/120)

(8,985)

16,615

VAT registration
A business making taxable supplies must register for VAT if during the previous 12
months the value of taxable supplies exceeds £85,000. However, VAT registration is
not required if taxable supplies in the following 12 months will not exceed £83,000.
These figures are exclusive of VAT. Remember that both standard rated and zero-
rated supplies are taxable supplies.
EXAMPLE 2
Albert commenced trading on 1 January 2018. His sales have been as follows:

Standard Zero-
rated £ rated £

2018

January 3,200 0
 Standard Zero-
rated £ rated £

February 2,800 0

March 3,300 0

April 5,100 600

May 2,700 0

June 3,700 400

July 3,900 200

August 5,500 100

September 4,300 0

October 13,100 0

November 6,900 700

 Standard Zero-
rated £ rated £

December 8,200 300

2019

January 8,800 900

February 16,500 1,200

 Albert will become liable to compulsory VAT registration when his taxable
supplies during any 12-month period exceed £85,000.
 This will happen on 28 February 2019 when taxable supplies will amount to
£86,400 (3,300 + 5,700 + 2,700 + 4,100 + 4,100 + 5,600 + 4,300 + 13,100 +
7,600 + 8,500 + 9,700 + 17,700).
 Albert will have to notify HM Revenue and Customs by 30 March 2019, being
30 days after the end of the period.
 Registration is required from the end of the month following the month in
which the limit is exceeded, so Albert will be registered from 1 April 2019 or
from an agreed earlier date.

A business must also register for VAT if there are reasonable grounds to believe that
taxable supplies will exceed £85,000 during the following 30 days. Again the figure is
exclusive of VAT.
EXAMPLE 3
Bee commenced trading on 1 October 2018. Her sales have been as follows:
 £

2018 October 4,600

November 5,400

December 23,900

2019 January 97,700

Bee’s sales are all standard rated.

On 1 January 2019, Bee realised that her sales for January 2019 were going to exceed
£85,000, and therefore immediately registered for VAT.
 Businesses must register for VAT if at any time they expect their taxable
supplies for the following 30-day period to exceed £85,000.
 Bee realised that her taxable supplies for January 2019 were going to exceed
the £85,000. She was therefore liable to register from 1 January 2019, being
the start of the 30-day period.
 Bee had to notify HM Revenue and Customs by 30 January 2019, being 30
days from the date that the expectation arose.

If a business continues to trade after the date that it should have registered for VAT,
then output VAT will still be due from this date.
It is important that you appreciate the distinction between making standard rated
supplies, zero-rated supplies and exempt supplies. Only standard rated supplies and
zero-rated supplies are taxable supplies.
EXAMPLE 4
Cathy will commence trading in the near future. She operates a small aeroplane, and
is considering three alternative types of business. These are (1) training, in which
case all sales will be standard rated for VAT, (2) transport, in which case all sales will
be zero-rated for VAT, and (3) an air ambulance service, in which case all sales will be
exempt from VAT.
For each alternative, Cathy’s sales will be £80,000 per month (exclusive of VAT), and
standard rated expenses will be £15,000 per month (inclusive of VAT).

Standard rated supplies

 Cathy will be required to register for VAT because she is making taxable
supplies.
 Output VAT of £16,000 (80,000 x 20%) per month will be due, and input VAT
of £2,500 (15,000 x 20/120) per month will be recoverable.

Zero-rated supplies
 Cathy can apply for exemption from registration for VAT because she is
making zero-rated supplies, otherwise she should still register as these are
taxable supplies.
 Output VAT will not be due, but input VAT of £2,500 per month will be
recoverable.

Exempt supplies
 Cathy will not be required or permitted to register for VAT because she will
not be making taxable supplies.
 Output VAT will not be due and no input VAT will be recoverable.
Voluntary VAT registration
A business may decide to voluntarily register for VAT where taxable supplies are
below the £85,000 registration limit, or where it is possible to apply for exemption.
This will be beneficial when:
 The business makes zero-rated supplies. As seen in example 4, output VAT will
not be due but input VAT will be recoverable.
 The business makes supplies to VAT registered customers. Input VAT will be
reclaimed, and it should be possible to charge output VAT on top of the pre-
registration selling price. This is because the output VAT will be recoverable by
the customers.
However, it will probably not be beneficial to voluntarily register for VAT where
customers are members of the general public, since such customers cannot recover
the output VAT charged. If selling prices cannot be increased, the output VAT will
become an additional cost for the business.
EXAMPLE 5
Continuing with example 3, assume that Bee’s sales are all made to VAT registered
businesses, and that input VAT for the period 1 October to 31 December 2018 was
£12,400. This input VAT would not be recoverable were Bee to register for VAT on 1
January 2019.
 Bee’s sales are all to VAT registered businesses, so output VAT can be passed
on to customers.
 Her revenue would therefore not have altered if she had voluntarily registered
for VAT on 1 October 2018.
 It would therefore have been beneficial for Bee to have voluntarily registered
for VAT on 1 October 2018 because additional input VAT of £12,400 would
have been recovered.

Whether or not output VAT can be passed on to customers is also an important

factor when deciding whether to remain below the VAT registration limit, or whether
it is beneficial to accept additional work which results in the limit being exceeded.
EXAMPLE 6
Danny has been in business for several years. All of his sales are standard rated and
are to members of the general public. He is not registered for VAT.
At present, Danny’s annual sales are £82,500. He is planning to put up his prices, and
this will increase annual sales to £88,000. There is no further scope for any price
increases. Danny’s standard rated expenses are £15,700 per year (inclusive of VAT).
 Prior to putting up his prices, Danny’s net profit is £66,800 (82,500 – 15,700).
 If Danny puts up his prices, then he will exceed the VAT registration limit of
£85,000, and will have to register for VAT.
 Output VAT will have to be absorbed by Danny because sales are to the
general public and there is no further scope for price increases.
 The revised annual net profit will be:
 £

Income (88,000 x 100/120) 73,333

Expenses (15,700 x 100/120) (13,083)

Net profit 60,250

 This is a decrease in net profit of £6,550 (66,800 – 60,250), and so it is not

beneficial for Danny to put up his prices.
Pre-registration input VAT
Input VAT incurred prior to registration can be recovered in certain circumstances.
EXAMPLE 7
Elisa commenced trading on 1 January 2019 and registered for VAT on 1 April 2019.
She had the following inputs for the period 1 January to 31 March 2019:

January February March

£ £ £

Goods purchased 3,400 14,200 26,400

Advertising services 2,600 3,000 3,600

Non-current assets 0 0 64,000

On 1 April 2019, Elisa had an inventory of goods which had cost £13,800. The non-
current assets were not used until after Elisa registered for VAT on 1 April 2019.
The above figures are all exclusive of VAT.
  Input VAT of £2,760 (13,800 x 20%) can be recovered on the inventory at 1
April 2019.
 The inventory was not acquired more than four years prior to registration, nor
was it sold or consumed prior to registration. The goods must have been
acquired for business purposes.
 The same principle applies to non-current assets, so input VAT of £12,800
(64,000 x 20%) can be recovered on the non-current assets purchased during
March 2019.
 Input VAT of £1,840 ((2,600 + 3,000 + 3,600) x 20%) can be recovered on the
advertising services incurred from 1 January to 31 March 2019.
 This is because the services were not supplied more than six months prior to
registration. The services must have been supplied for business purposes.
 The total input VAT recovery is £17,400 (2,760 + 12,800 + 1,840).
VAT deregistration
A business stops being liable to VAT registration when it ceases to make taxable
supplies. HM Revenue and Customs must be notified within 30 days, and the
business will then be deregistered from the date of cessation or from an agreed later
date.
A business can also request voluntarily VAT deregistration.
There is a deemed supply of business assets such as plant, equipment and inventory
when a business ceases to be registered for VAT.
However, the transfer of a business as a going concern does not normally give rise to
any VAT implications.
EXAMPLE 8
Fang is registered for VAT but intends to cease trading on 31 March 2019. On the
cessation of trading, Fang can either sell his non-current assets and inventory on a
piecemeal basis to individual purchasers, or he can sell his entire business as a going
concern to a single purchaser.

Sale of assets on a piecemeal basis

 Upon the cessation of trading, Fang will cease to make taxable supplies so his
VAT registration will be cancelled on 31 March 2019 or an agreed later date.
 He will have to notify HM revenue and Customs by 30 April 2019, being 30
days after the date of cessation.
  Output VAT will be due in respect of non-current assets and inventory on
hand at 31 March 2019 on which input VAT has been claimed (although
output VAT is not due if it totals less than £1,000).

Sale of business as a going concern

 If the purchaser is already registered for VAT, then Fang’s VAT registration will
be cancelled as above.
 If the purchaser is not registered for VAT, then they can take over Fang’s VAT
registration, though from a commercial point of view this may be inadvisable.
 A sale of a business as a going concern is not treated as a taxable supply, and
therefore output VAT is not due.
Group VAT registration
Two or more companies can register as a group for VAT purposes if they are under
common control (such as a parent company and its subsidiary companies) and each
of them is resident in the UK.
A VAT group is treated for VAT purposes as if it was a single company registered for
VAT on its own. Group VAT registration is made in the name of a representative
member, and this company is then responsible for completing and submitting a
single VAT return and paying VAT on behalf of the group. However, all the companies
in the VAT group remain jointly and severally liable for any VAT liabilities.
EXAMPLE 9
Yung Ltd and its two 100% subsidiaries are considering registering as a group for VAT
purposes.
 The advantage of group VAT registration is that there will be no need to
account for VAT on goods and services supplied between group members.
Such supplies are simply ignored for VAT purposes.
 It will also only be necessary to complete one VAT return for the whole group,
so there should be a saving in administrative costs.
The tax point
It is very important to correctly identify the date of supply or tax point, as this
determines when output VAT will be due.
EXAMPLE 10
Explain the VAT rules which determine the tax point in respect of (1) a supply of
goods, and (2) a supply of services.
  The basic tax point for goods is the date that they are made available to the
customer.
 The basic tax point for services is the date that they are completed.
 If an invoice is issued within 14 days of the basic tax point, the invoice date
will usually replace that given above.
 If an invoice is issued or payment received before the basic tax point, then this
becomes the actual tax point.

However, there may be more than one tax point.

EXAMPLE 11
Denzil is a self-employed printer who makes standard rated supplies. For a typical
printing contract he receives a 10% deposit at the time that the customer makes the
order. The order normally takes 14 days to complete, and Denzil issues the sales
invoice three to five days after completion. Some customers pay immediately upon
receiving the sales invoice, but many do not pay for up to two months.
 The tax point for each 10% deposit is the date that it is received.
 Invoices are issued within 14 days of the basic tax point (the date of
completion), so the invoice date is the tax point for the balance of the
contract price.
Output VAT and input VAT
There are several important points regarding output VAT and input VAT which should
be remembered:
 For VAT purposes there is no distinction between revenue and capital items as
there is for income tax and corporation tax.
 Output VAT is charged on the actual amount received where a discount is
offered for prompt payment. The supplier therefore has to either provide
details of the potential discount on the sales invoice, or to issue a subsequent
credit note for the discount.
 Relief for an impairment loss is only available if the claim is made more than
six months from the time that payment was due and the debt has been
written off in the business’s books.
 Input VAT cannot be recovered in respect of business entertainment (unless it
relates to the cost of entertaining overseas customers) or the purchase of a
motor car (unless the car is used 100% for business purposes).
  Output VAT is charged where goods are taken from a business for non-
business purposes, and similarly where services are used by the taxable
person for non-business purposes.
 An apportionment is made where goods or services are used partly for
business purposes and partly for private purposes.

EXAMPLE 12
Gwen is in the process of completing her VAT return for the quarter ended 31 March
2019. The following information is available:
 Cash sales amounted to £50,400, of which £46,200 was in respect of standard
rated sales and £4,200 was in respect of zero-rated sales. All of these sales
were to non-VAT registered customers.
 Sales invoices totalling £128,000 were issued in respect of credit sales to VAT
registered customers. These sales were all standard rated, and none of these
customers were offered a discount for prompt payment.
 On 20 February 2019, a credit sales invoice for £7,400 was issued in respect of
a standard rated supply to a VAT registered customer. To encourage this
previously late paying customer to pay promptly, Gwen offered a 10%
discount for payment within 14 days of the date of the sales invoice. The
customer paid within the 14-day period.
 Standard rated materials amounted to £32,400, of which £600 were taken by
Gwen for her personal use.
 Standard rated expenses amounted to £24,800. This includes £1,200 for
entertaining UK customers.
 On 15 March 2019, Gwen sold a motor car for £9,600, and purchased a new
motor car at a cost of £16,800. Both motor cars were used for business and
private mileage, but no fuel was provided for private mileage. These figures
are inclusive of VAT where applicable.
 On 28 March 2019, Gwen sold machinery for £3,600, and purchased new
machinery at a cost of £21,600. She paid for the new machinery on this date,
but did not take delivery or receive an invoice until 6 April 2019. These figures
are inclusive of VAT where applicable.
 On 31 March 2019, Gwen wrote off impairment losses in respect of three
invoices which were due for payment on 15 August 2018, 15 September 2018
and 15 October 2018 respectively. The amount of output VAT originally paid in
respect of each invoice was £340.
  During the quarter ended 31 March 2019, £600 was spent on mobile
telephone calls, of which 40% relates to private calls.

Unless stated otherwise all of the above figures are exclusive of VAT.
VAT Return – Quarter ended 31 March 2019

Output VAT

Cash sales
9,240
(46,200 x 20%)

Credit sales
25,600
(128,000 x 20%)

Discounted sale
1,332
(7,400 x 90% x 20%)

Motor car 0

Machinery
600
(3,600 x 20/120)

Goods for personal use

120
(600 x 20%)

£
 £

Input VAT

Materials
(6,480)
(32,400 x 20%)

Expenses
((24,800 – 1,200) (4,720)
x 20%)

Motor car 0

Machinery
(3,600)
(21,600 x 20/120)

Impairment losses
(680)
(340 + 340)

Telephone
(600 x 60% x 20%) (72)

21,340

 If the late paying customer had not paid within the 14-day period, then output
VAT on the discounted sale would have been £1,480 (7,400 at 20%).
 Input VAT would not have been recovered in respect of the motor car sold
because it was not used exclusively for business purposes. Therefore, output
 VAT is not due on the disposal. Similarly, input VAT cannot be recovered in
respect of purchase of the new motor car.
 Output VAT is charged on the materials which Gwen has taken out from the
business for her personal use.
 Input VAT on business entertainment is not recoverable unless it relates to the
cost of entertaining overseas customers.
 Gwen can recover the input VAT in respect of the new machinery purchased in
the quarter ended 31 March 2019 because the actual tax point was the date
that the machinery was paid for.
 Relief for an impairment loss is not given until six months from the time that
payment is due. Therefore, relief can only be claimed in respect of the
invoices due for payment on 15 August 2018 and 15 September 2018.
 An apportionment is made where a service such as the use of a telephone is
partly for business purposes and partly for private purposes.
Refunds
The refund of VAT that has been overpaid is normally subject to a four-year time
limit.
EXAMPLE 13
Hedge Ltd is completing its VAT return for the quarter ended 31 March 2019. The
company has discovered that it has not been claiming for the input VAT of £35 that it
has paid each quarter for the rental of coffee machines since 1 January 2009.
 Claims for the refund of VAT are subject to a four-year time limit.
 In addition to the input VAT incurred during the quarter ended 31 March
2019, Hedge Ltd can also claim for the input VAT incurred during the period 1
January 2015 to 31 December 2018.
 The total amount of input VAT refunded on the VAT return for the quarter
ended 31 March 2019 will therefore be £595 (35 x 17).
Goods supplied free of charge
When goods are supplied free of charge, then output VAT must normally be
accounted for on the cost of the goods. However, there is an exemption for the gift
of goods where the cost of the gifts does not exceed £50 per customer over a 12-
month period.
Free samples given to customers are not treated as a supply of goods for VAT
purposes, so no output VAT will be due.
Motor expenses
Provided there is some business use, the full amount of input VAT can be reclaimed
in respect of repairs.
Where fuel is provided, then all the input VAT (for both private and business
mileage) can be recovered, but the private use element is then normally accounted
for by way of an output VAT scale charge. The scale charge can apply to sole traders,
partners, employees or directors. The scale charge will be given to you in the exam if
required.
EXAMPLE 14
Vanessa is self-employed, and has a motor car which is used 70% for business
mileage. During the quarter ended 31 March 2019, Vanessa spent £1,128 on repairs
to the motor car and £984 on fuel for both business and private mileage. The
relevant quarterly scale charge is £336. All figures are inclusive of VAT.
Vanessa will include the following entries on her VAT return for the quarter ended 31
March 2019:

Output VAT
Fuel scale charge
(336 x 20/120) 56

Input VAT
Motor repairs (1,128 x 20/120) 188
Fuel (984 x 20/120) 164

However, if an employee or director is charged the full cost for the private fuel
provided, output VAT will instead be calculated on this charge to the employee or
director.
EXAMPLE 15
Ivy Ltd provides one of its directors with a company motor car which is used for both
business and private mileage. For the quarter ended 31 March 2019 the total cost of
petrol was £720, with the director being charged £216 for the private use element.
Both figures are inclusive of VAT.
Ivy Ltd will include the following entries on its VAT return for the quarter ended 31
March 2019:

Output VAT
Charge to director
(216 x 20/120) 36

Input VAT
Fuel (720 x 20/120) 120

Where a leased motor car is available for private use, then 50% of input VAT on
leasing costs is non-deductible.
EXAMPLE 16
During the quarter ended 31 March 2019, Jimi, a sole trader, leased a motor car at a
cost of £960 (inclusive of VAT). The motor car is used by Jimi and 70% of the mileage
is for private journeys.
The motor car is available for private use, so £80 (960 x 20/120 x 50%) of the input
VAT is non-deductible.
The second part of the article will cover VAT returns, VAT invoices, penalties,
overseas aspects of VAT and special VAT schemes. It also includes a test of your
understanding.
Written by a member of the TX (UK) examining team