I'm a VAT professional with years of experience helping businesses with compliance and reporting. My goal is to simplify VAT calculation and provide valuable insights through my engaging writing style and clear explanations of complex concepts.
VAT is a consumption tax that you must pay on all your goods and services at each supply chain step if you are running a business in the UK and Ireland. All businesses, whether large-scale or small-scale, are required to register for VAT through "HM Revenue and Customs (HMRC)."
VAT exists in two types, i.e., Output and Input VAT. The primary difference between output and input VAT is that the recipient is the business, while the customer pays the tax in the other. Both types hold sheer significance in a business' operation.
Therefore, having in-depth knowledge of VAT is mandatory. Check out the following article to learn extensively about the types of VAT and how you can calculate them.
Input VAT refers to the tax you pay for the products or services you consume to run your business. For instance, you buy thread to stitch clothes for your business. The amount of VAT you will pay for the thread will be considered as an input VAT example.
The input VAT has nothing to do with HMRC registration. If your business is not VAT registered, you will still be liable to pay input VAT for items purchased to carry out business activities. But you can reclaim consumption tax from HMRC if you are VAT registered.
Output VAT refers to the consumption tax added to the overall price of the item or service at the time of purchase. The customer pays off the output VAT at the time of buying/availing the product/service.
The output VAT amount is usually enlisted at the bottom of the cash receipt, added to the total price. But the businesses can only charge output VAT if their business is registered with HMRC.
The percentage of VAT is dependent on the nature of the service and product. No VAT will be charged if the product or service comes under the zero-rated category. However, if they fall under the standard category, then VAT will be imposed according to the general rates.
By using following formula, the input VAT amount for each purchase can be calculated;
Input VAT= Purchase Amount × VAT Rate
If you have made multiple purchases in your business with different VAT rates, you can calculate the input VAT for each purchase and then add them up to calculate the total input VAT for that period.
Input VAT is the amount you will be paying for the items you purchased to operate your business. It does not matter whether you are registered with HMRC; you will still be liable to pay the input VAT. If the business you purchase the items from is registered with VAT, they will charge you the input VAT.
However, you are entitled to reclaim the input VAT if your company is HMRC-registered. But the process to do so is not that simple. In fact, the procedure is quite systematic, implying that you should follow each step carefully to reclaim the input VAT.
Sometimes, a person may have purchased an item for both business-related and personal uses. You can still reclaim VAT on these items but for the business-related portion only. For instance, you have purchased paper pads- half for personal and the other half for professional use. In this case, you can reclaim the input VAT for half of the paper pads.
Moreover, you can also reclaim the input VAT for the items you purchased before registering with HMRC. But with the condition that the times must be purchased within the course of four years. This implies that you cannot reclaim VAT on items purchased four years before registration.
By using following formula, the output VAT amount for each sale can be calculated;
Output VAT= Sales Amount × VAT Rate
If you have made multiple Sales transactions in your business with different VAT rates, you can calculate the output VAT for each sale and then add them up to calculate the total output VAT for that period.
Calculating output VAT is very simple and straightforward. Its process is similar to the general tax that citizens pay yearly. The businesses receive output VAT at the time of sale and are liable to forward it to HMRC.
Before imposing output VAT on your product/service prices, you need to determine which category they belong to. After the category is determined, you can add the VAT to the overall price of the product.
If you run a B2B company, the output VAT for your business will be someone's input VAT. Whether the purchaser is associated with HMRC or not, they will have to pay VAT as long as your business (seller) is VAT-registered.
VAT amounts are quite complex to calculate. Their complexion comes from the fact that the VAT rates differ from product to product. Generally, there are four categories of VAT-rated products. These include; zero-rated, super-reduced, reduced, and standard-rated products.
If the products are zero-rated, 0% VAT will be charged. If they belong to the super-reduced category (bread, butter, vegetables, etc.), a 4% VAT is imposed. The items belonging to the reduced rate category (housing, agriculture, processed food) are charged 10% VAT. Whereas the rest of the items, such as cosmetics, are charged standard VAT, which is around 21%. If you want a detailed description of VAT for different products.
Depending upon which items you sell, you can include the corresponding VAT amount to the product's total price. The VAT you receive from the customer must be submitted to the HMRC. Those involved in fraud will be charged a hefty penalty and may even face legal consequences.
The calculation of output VAT formula is described as; “The output VAT is paid when it becomes higher than the tax borne in a quarter or a month”. It means that on every 20th of the month, the businessman is liable to pay the output VAT. However, this rule applies to all months except for January, when the output VAT is turned in on the 30th of the month.
One of the most frequently asked questions about output and input VAT is how you can distinguish them. Because at the time of submitting the VAT report to the HMRC, you have to reclaim input VAT and submit output VAT. Contrary to what most people think, separating output and input VAT is fairly easy. All you must do is employ the following formula for the balance sheet.
VAT Payment = Output VAT - Input VAT
All businesses make a balance sheet of their revenues and expenses for accounting purposes. But at the end of the accounting period, you reclaim the input VAT and submit the output VAT to HMRC.
Thus the transactions of input VAT and output VAT in the balance sheet will differ. You can opt for the following method to record the respective VATs in the balance sheet.
Input VAT is categorized as “current assets” on the balance sheet. While the output VAT is treated as a “liability.”
In some regions, VAT is already included in the product. Thus, when you purchase a product with INCLUSIVE TAX, its total cost will be accompanied by the tax. However, the products with an EXCLUSIVE TAX policy imply that the tax has yet to be added to the total price.
The output VAT is the value-added tax you charge customers when purchasing your items. Depending upon the product category, a certain VAT percentage is charged. On the other hand, the input VAT is the tax you incur when you purchase items for your business activities.