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When a VAT registered business issues an invoice to their customer, they must seek to ensure that they charge the correct rate of VAT.
Whilst most businesses in the UK charge VAT at the standard rate of 20% there are a number of different VAT rates and exemptions to be aware of. This includes the reduced VAT rate of 5% and the positive zero rate (0%).
There are two other categories that the supplies of goods and services can fall under:
- Exempt - where no VAT is charged on the supply. This means that goods and services that are exempt from VAT are not taxable. Examples of exempt items include the provision of insurance, postage stamps and health services provided by doctors.
- Supplies that are 'outside the scope' of the UK VAT system altogether. These supplies are beyond the realm of the UK VAT system and you cannot charge or reclaim VAT on these supplies. Examples include goods or services you buy and use outside of the UK, statutory fees - like the London congestion charge, goods you sell as part of a hobby and donations to a charity - if given without receiving anything in return.
This article focuses on the VAT exempt category. It is important to be aware of the difference between zero rated and VAT exempt supplies. In both cases, it appears that there is no VAT on the supply. However, there is an immense difference between the two types of supply.
Where there is an exempt supply, no tax is payable but equally, the person making the supply cannot normally recover any of the VAT on their own expenses. On the other hand, zero-rated goods or services are taxable for VAT - at 0% and VAT incurred on purchases is usually recoverable.
Businesses that sell VAT exempt goods should be aware of the following rules:
- VAT should not be included in the price of any exempt items that you sell.
- Businesses cannot reclaim VAT on any exempt items that they purchase or on any expenses incurred.
- Any VAT exempt sales do not count when calculating your VAT taxable turnover. For example, this would be used to ascertain if you exceed the VAT registration threshold (currently £85,000). This means that if a business only sells VAT-exempt goods and services, they cannot register for VAT.
- No VAT invoice should be issued for exempt sales.
- No VAT is chargeable on an exempt supply, and input VAT cannot be recovered except as allowed under the partial exemption provisions.
We have listed below some of the main categories where you can find exempt supplies, but it is important to be aware there are exceptions in almost every category.
- Land. Many transactions involving land and buildings are exempt from VAT. However, there are special VAT rules that allow businesses to convert the treatment of most non-residential and commercial land and buildings to taxable at the standard rate. This is known as the option to tax. This means that subsequent supplies by the person making the election will be taxable at the standard rate including the subsequent sale of the relevant land and buildings. Once an option to tax has been made it can only be revoked under limited circumstances so proper consideration of the issue is important.
- Insurance. Almost all insurance transactions are exempt from VAT. However, some premiums received under contracts of insurance are liable to Insurance Premium Tax.
- Postal services. Public postal services provided by the Royal Mail under a universal service obligation are VAT exempt. Other postal services are standard rated for VAT.
- Education and training. Education, vocational training and other connected services provided by an eligible body like a school, college or university are VAT exempt.
- Finance. Most supplies of financial services are exempt from VAT. However, other services connecting to financial services such as bookkeeping, debt collection, management consultancy and investment, finance and taxation advice are usually not exempt.
- Health and welfare. Healthcare is a complex area for VAT but exempt supplies include care or medical treatment provided by a qualifying institution like a hospital, hospice or nursing home and for health services provided by registered doctors, dentists, opticians, pharmacists and other health professionals.
- Investment gold. Investment gold coins are exempt from VAT.
- Sport. The exemption applies to certain sporting and physical education services by eligible bodies as well as entry to certain competitions in sport or physical recreation.
- Gaming. The provision of facilities for betting and gaming, bingo, and lotteries are normally exempt from VAT. However, there are some important exceptions where you must account for VAT such as admission charges to premises where betting and gaming takes place.
- Culture. The VAT exemption for admission charges applies to public bodies and other cultural bodies that satisfy certain conditions.
- Fundraising events by charities. Qualifying events held by charities are VAT exempt.
When discussing exempt supplies, it is important to note that there are many business that are partially exempt for VAT purposes. This categorisation applies to VAT-registered businesses that are registered for VAT and sell both taxable and VAT-exempt goods or services. The business has to make an apportionment between their activities using a ‘partial exemption method’ in order to calculate how much input tax is recoverable.
HMRC’s guidance explains that as a VAT-registered business, you can recover the VAT on your purchases which relates to taxable supplies that you make or intend to make. There are also some items where input tax recovery is ‘blocked’.
There are a number of partial exemption methods available. The standard method of recovering any remaining input tax is to apply the ratio of the value of taxable supplies to total supplies, subject to the exclusion of certain items which could prove distortive. The standard method is automatically overridden where it produces a result that differs substantially from one based on the actual use of inputs. It is possible to agree a special method with HMRC.
In principle, you cannot recover VAT that relates to any exempt supplies, although you may be able to if the VAT is below certain limits. The VAT incurred on exempt supplies can be recovered subject to two parallel de-minimis limits.
The tests are met where the total value of exempt input tax:
- Is under £625 a month (£1,875 a quarter/£7,500 a year); and
- Is less than half of the total input tax incurred.
If both tests are met then the VAT can be recovered. Businesses that are partially exempt, need to complete this calculation on a quarterly basis and must also complete an annual calculation.