What Are the Common VAT Mistakes and How to Avoid Them?

A small mistake in Value Added Tax (VAT) can be expensive. VAT is an essential part of running a UK business. At the same time, it is one of the most complex areas of UK tax law. Getting the rules wrong can lead to incorrect VAT returns, additional costs, and potential penalties.

In this blog, we will explain the most common VAT mistakes UK businesses make and practical steps businesses can take to reduce the risk of errors.

What are Common VAT Mistakes to Avoid?

Although the transition to digital record-keeping has reduced manual calculation and data-entry errors, businesses can still make significant VAT mistakes due to incorrect VAT treatment or misunderstanding the rules. Here are some of the common VAT mistakes to avoid:

Registering for VAT Too Late

One of the major VAT mistakes is failing to register when the business becomes liable to do so. The current UK VAT registration threshold is £90,000, meaning a business has to register if its taxable turnover for the next 12 months exceeds £90,000. You also need to register for VAT if you expect your taxable turnover to exceed £90,000 in the previous 30 days. Registering late is one of the common VAT mistakes that you must avoid.

Note: The threshold relates to taxable turnover, not simply total business income. Taxable turnover includes standard-rated, reduced-rated and zero-rated supplies. Some are exempt and out-of-scope supplies, and they are treated differently when calculating the threshold.

Incorrectly Claiming Input VAT on Ineligible Expenses

You can manage cash flow by reclaiming VAT on goods and services your business purchases. However, claiming input VAT incorrectly is included in common VAT mistakes that may lead to an HMRC compliance check. HMRC has specific rules governing when input VAT can be reclaimed.

For example, you cannot claim VAT on business entertainment such as meals, hospitality, or events hosted for clients or suppliers.

Additionally, you may not be able to reclaim VAT on the purchase of a standard passenger car unless the car is used exclusively for business purposes. VAT-exempt items do not carry VAT either. For instance, standard 1st and 2nd class Royal Mail stamps are VAT-exempt. Whereas ordinary qualifying passenger transport and many books are zero-rated. In these two cases, there is no VAT amount to reclaim.

Assuming the VAT Threshold Is Based on Profit

If you think the VAT threshold depends on profit, it is one of the common VAT mistakes. Keep in mind that VAT registration is based on taxable turnover, not profit.

For example, your business could have substantial turnover but relatively low profit, and you still may be required to register for VAT. However, if your business has high profit margins, you do not automatically have to register simply because your profit is high.

So, when monitoring VAT registration, focus on taxable turnover rather than net profit, personal income, Corporation Tax profit, and cash left in the business bank account.

Charging the Wrong VAT Rate

To avoid the common VAT mistakes, you must understand UK VAT rates. Currently, the standard UK VAT rate is 20%. Whereas a reduced rate is 5% and a zero rate is 0%, which also apply to certain goods and services. Some supplies are VAT-exempt.

You should try to avoid applying the wrong treatment to a product or service. For instance, you might assume that everything you sell should have 20% VAT added. That is not necessarily correct.

Remember, the VAT treatment depends on the specific goods or services and, in some cases, how and where they are supplied.

Claiming VAT Without Valid Invoice

One of the most common VAT mistakes is claiming VAT without any correct evidence. If you are a VAT-registered business, you may be able to recover eligible input VAT on business purchases. However, simply having a business expense does not automatically mean that you can claim VAT.

As per HMRC, a claim to deduct input tax must be supported by appropriate documentary evidence, such as a valid VAT invoice. Furthermore, there are specific rules concerning the type of expense, the recipient of the supply, and how the goods or services are used.

Submitting VAT Returns Late

You must submit your VAT Returns by the applicable deadline. Missing the deadlines is one of the most common VAT mistakes you can make. For VAT accounting periods starting on or after 1 January 2023, HMRC applies a points-based penalty system for late VAT Return submissions. Once you reach a penalty-point threshold, every late submission costs you a £200 penalty.

For more details on the penalty point threshold for your accounting period, visit the official HMRC website.

Paying VAT Late

Submitting a VAT Return on time is important, but it does not necessarily mean that all VAT obligations have been met. You must pay any VAT due by the relevant deadline. Current HMRC rules for late-payment penalties depend on how late the payment is. Also, late-payment interest can apply from the first day the payment is overdue until it is paid in full.

Not Following Making Tax Digital for VAT Requirements

Making Tax Digital (MTD) compliance is an important part of your business. VAT-registered businesses must keep digital records and submit through compatible software, subject to the relevant rules.

You need to keep required VAT records digitally and submit VAT Returns using compatible software. Relying on informal spreadsheets or manual processes is one of the most common VAT mistakes to avoid.

What Triggers an HMRC VAT Investigation?

Generally, HMRC may open a VAT compliance check when there are inconsistent filing patterns, late or inaccurate returns, unusual VAT Return figures, large repayment claims, or information received from other sources.

HMRC evaluates returns using digital data-matching systems to spot irregularities before launching formal compliance checks. Through risk-based compliance checks, it examines VAT returns and may look into businesses when VAT may have been reported incorrectly, or obligations may not have been met.

However, a compliance check by HMRC does not necessarily mean that you have done anything wrong. HMRC may contact you simply to check that your VAT position is correct.

What Tax Mistakes Can Lead to Penalties?

Common tax mistakes you may make to avoid taxes include:

• Failing to report all your business income or sales
• Keeping incomplete records
• Claiming false or personal expenses as allowable expenses
• Overclaiming tax deductions or VAT
• Using incorrect VAT rates
• Failing to report taxable income or benefits
• Missing tax filing or payment deadlines

These mistakes can lead to tax penalties and interest. In case of deliberate tax evasion, more serious consequences are involved.

How to Avoid Common VAT Mistakes?

Here are the tips you need to follow to avoid making VAT errors:

• Keep accurate records like valid VAT invoices, receipts, and other supporting documents required by HMRC.
• Make sure you apply the correct VAT rate and treatment.
• Claim only eligible input VAT.
• Meet all VAT filing and payment deadlines to avoid penalties and interest.
• Compare your accounting records with VAT Returns and investigate discrepancies on time.
• Keep business and personal expenses separate to ensure that only VAT relating to business activities is reclaimed.

How Far Back Can You Correct VAT Errors?

You can correct VAT errors for accounting periods within the previous four years. Usually, if the net value of the error is £10,000 or less, or between £10,000 and £50,000, you can adjust the error on your next return.

However, you may need to report directly to HMRC when the net errors are over £50,000, errors over £10,000 that exceed 1% of total sales, or any deliberate inaccuracies.

Moreover, the four-year limit has exceptions, including deliberate errors. So, if your mistakes are deliberate, it means they are not subject to the normal four-year limit.

To Sum Up

Staying on top of your VAT obligations can feel stressful, but you can do so by avoiding the common VAT mistakes. You should monitor VAT registration and turnover, invoices, VAT rates, input VAT claims, digital records, and VAT Return deadlines.

As soon as you find a VAT error, correct it using the appropriate HMRC procedure. If you have complex issues, such as international transactions or partial exemption, it is advisable to seek professional advice.

Our specialist team at MicroEntityAccounts can help you with all areas of VAT, from initial registration and VAT returns submission to more complex issues, such as assessments and cross-border transactions.