Should a contractor become VAT registered?

One of the questions we regularly get asked by our clients is “should they register for VAT?”. Many of our clients operate via a Limited Company set-up. In this article, we look at if a contractor operating via their own Limited Company should register for VAT.

What is VAT?

VAT (Value Added Tax) is a tax that is levied on the sale of most goods and services. HMRC collects this tax through businesses who are VAT registered. (only businesses can be registered for VAT, individual consumers can’t).

Why should a Limited Company register for VAT

A business must register for VAT if at the end of any month its taxable turnover for any consecutive 12 month period is more than the VAT threshold (£83,000 for 2016/17).

This is on a rolling 12 months basis, so, looking at it now, you would need to check August 2015 to July 2016 and for next month you would look at September 2015 to August 2016.

If you are below the threshold but expect to receive a large income payment in the next 30 days that will take you over the threshold then you must register straight away.

Most Limited Companies decide to voluntarily become VAT registered even if they won’t reach the threshold. You may be thinking why would you voluntarily register for VAT? Well, some of the reasons are:

• In some industries and professions, it is expected that businesses are VAT registered
• It looks more professional to be VAT registered
• If you make a lot of purchases for the business it may be beneficial to be VAT registered as you may be able to claim the VAT back (only if they are eligible)
• The Flat Rate Scheme – often used by contractors – See next week’s article.

Sounds good, but are there any drawbacks to being VAT registered? Yes, but only a few:

• More paperwork – You have to submit a quarterly VAT return (this is done online and here at Cogent we will do this for you)
• You have to make quarterly VAT payments (again this is done online and we will advise you when to pay and the amount.)
• If you are late in making these payments you may be hit by a penalty charge

How to become VAT registered

The easiest way is to register online with HMRC (we will do this for you) or by using form VAT1.

It can take anything from 10 days to a month (or longer in some instances) to receive your VAT registration certificate which contains your VAT number. You should keep the certificate with your other company records.

Charging VAT

If you are registered for VAT, you must charge VAT to your customers and you may also be able to reclaim VAT that you pay on your purchases. In other words, you pay over to HMRC the VAT you have charged less the VAT you can reclaim.

Once you receive your VAT number you must show this on your invoices and charge VAT at the appropriate rate, currently 20%.

So, for example: If you invoice your agency for 5 days work at £500.00 per day =£2500.00

You add VAT at 20% (2500/100*20) = £500.00

Total including VAT (£2500.00+£500.00) =£3000.00

HMRC advise not to charge VAT in the time that you are waiting for the registration number to arrive. Instead, increase the amount you are charging by 20% and explain that you will reissue the invoice with the VAT-able amount as soon as you receive the VAT number.

N.B: For contractors who operate in certain sectors (such as Financial Services, Public Sector and Charities) it may be a disadvantage to become VAT registered. Businesses that operate in these areas are frequently not VAT registered. Therefore, they may not appreciate the contractor adding 20% onto their rate. However, if the contractor expects to go over the threshold they will have to be VAT registered and charge 20% on their invoices.

In next week’s article, we will look further into which scheme is best for you (including the Flat Rate Scheme) and the process of claiming back VAT.

It is very easy to be unsure if you should be VAT registered as it is a complex area of tax. We are on-hand to answer your questions and offer guidance.