VAT Basics for New Businesses - Part 1: Rates, Inputs & Outputs


This serialised guide will give you a basic introduction to the key principles and debunk any preconceived misconceptions.

The Different VAT Rates

Value Added Tax (VAT) is a tax system controlled by HMRC. Most of your purchases will have a VAT charge added. This means VAT is applied to most business transactions. There are three rates of VAT in the UK:
  • The standard rate is 20%.
  • The reduced rate is 5%.
  • The zero rate is, unsurprisingly, 0%.
The majority of goods and services are at the standard rate. If you feel the need to delve into the wonderful world of VAT rates for different goods and services, please visit the government’s website.

VAT Jargon: Inputs and Outputs
  • Businesses charge VAT on sales. This is called ‘output VAT’. 
  • VAT will be payable on most goods and services purchased by the business. This is called ‘input VAT’.
The output VAT is collected from the customer by the business on behalf of HMRC. Yes, this means you are an unpaid tax collector! However, the input VAT on purchases for the business is deducted from the amount of output tax owed to HMRC.

Here’s simple example:
  1. You buy a laptop for £1,000 + VAT of £200. 
  2. This means in total you will pay for the laptop is £1,200. 
  3. In this example, the input VAT is £200. 
  4. This means HMRC owe you the £200.
  5. However, you use the laptop to design a website and charge the customer £5,000 + VAT of £1,000. That will be a total of £6,000 for the job.
  6. The output VAT is £1,000. 
  7. This means you owe HMRC the £1,000.
  8. £1,000 (Your output VAT) minus £200 (Your input VAT) means that you will need to pay HMRC a total of £800 in your next quarterly VAT payment.
In the above example there are only two transactions. In reality, you’ll probably have far more than transactions than that per quarter.

If your input tax is greater than your output tax, HMRC will owe you a refund.

Next time…

So, we’ve started slow. VAT is a complicated issue and we don’t want to get ahead of ourselves. Next time, in Part 2, we’ll be looking at when and how you register for VAT.