VAT Supplies 

To be subject to VAT, or count towards your VAT registration threshold, a supply must be all of these things: 

1. A supply of goods (anything physical) or services.  This excludes income that is exempt from VAT and income outside the scope of VAT (see below).  True grants are outside the scope of VAT (see our guide VAT and Grants).   
2. Made in the UK.  For many UK based businesses who deal with customers in the UK, it is fairly obvious their supplies are made in the UK.  However if you have any overseas connections it is worth checking our guide VAT on International Transactions as the rules on where a supply is made are fairly complex.   

Supplies outside of the UK are not subject to UK VAT, but can invoke a mandatory overseas VAT registration requirement, even if the amounts are small. 

1. Made “in the course or furtherance of a business” carried out by the VAT registered trader. 
2. A taxable supply subject to standard rate (20%), reduced rate (5%) or zero rate (0%).  Supplies that are exempt from VAT (more details below) are not VAT supplies and do not count towards the VAT threshold.   

VAT basics 

If you make a VAT supply you must add VAT to your sales price.  This is known as your output tax (as you’ve supplied an output).  If you deal with consumers then your sales price is assumed to include VAT.  For example if you charge say £12 for standard rates goods or services, this is accounted for as net price (your income) £10 and VAT output tax £2, which is recorded on your VAT return and paid to HMRC (see note 1). 

When you buy VAT supplies for and used in your business towards VAT supplies and the supplier has added VAT, the VAT element is your input tax (note 2).  This is recorded on your VAT return and reduces the amount payable to HMRC (note 1).  You must have and keep a valid VAT invoice in order to treat the VAT they have charged as input tax. 

VAT rates 

The starting point for VAT rates is the standard rate of 20%.  This applies to all VAT supplies unless HMRC rules specifically say otherwise. 

VAT exempt supplies 

For most smaller entities, the most likely type of income that is “exempt from VAT” will be rental income.  To be exempt the rent charge must be purely for space, not services such as membership, reception services etc. (see note 3) 

Financial services, such as arranging and managing pensions can also be exempt from VAT. 

A consequence of having exempt income is then not all input tax can be reclaimed.  VAT on supplies bought directly in support of exempt income streams cannot be reclaimed at all.  VAT on supplies bought for the whole entity (e.g. phone bills, accountancy costs) has to be apportioned between reclaimable and exempt.  Special rules apply to this situation which we’d be happy to guide you on. 

Supplies outside of the scope of VAT 

The main type of income most purpose-driven entities receive that may be outside the scope of VAT will be grant income.  Care must be taken as merely labelling income as “a grant” (either by you or the funder) is irrelevant to whether it is payment for VAT supplies or not.  For more details see our guide VAT and Grants. 

Other types of income that is outside the scope of VAT includes: 

• Interest received on any loans your entity makes (e.g. a loan to a director) 

• Loan repayments on any loans you have made 

• If you receive income through payroll (mainly only relevant to sole trader entities) 

• Insurance payouts. 

• Income from supplies with place of supply outside of the UK (see our guide VAT on International Transactions) 

Income that is outside the scope of VAT doesn’t count towards your UK VAT registration threshold and doesn’t have UK VAT accounted for once you are registered. 

Note 1:
If you are using the Flat Rate Scheme you still charge and record VAT as normal.  However the VAT return and amount payable are based on the FRS rules, not your output tax and input tax. 

Note 2: 
Some VAT paid to suppliers cannot be reclaimed, including VAT on cars and VAT on some entertainment. 

Note 3:
You may be wondering why is the rent you are charged subject to VAT.  A landlord (owner or lease holder) can make what’s called an option to tax.  For any given property and landlord, an option to tax makes rental income subject to standard rate VAT.  The landlord would do this so they can recover VAT on their costs associated with the property.  If you have rental income you must take advice prior to making an option to tax, not least because it is irrevocable for 20 years.