Summary Tax Processes for Business AAT Level 3 (AQ2022) Notes

Learning outcomes:
1. Understanding legislation requirements relating to VAT
2. Calculate VAT
3. Review and verify VAT returns
4. Understand principles of payroll
5. Report information within the organisation




Chapter 1: Introduction to VAT


What is VAT?
VAT is:
 An indirect tax on consumer spending
 Charged on most goods and services supplied within the UK
 Charged by taxable persons when they make taxable supplies
 Suffered by the final consumer, and
 Collected by businesses on behalf of HM Revenue and Customs
(HMRC)




Charges Charges Charges
£200 + £280 + £315 +
VAT VAT VAT




Manufacturer Wholesaler Retailer Individual
(you)


£ £ £ Final
customer
Output 40 Output 56 Output 63
pays
VAT VAT VAT
£378
Input (40) Input (56)
VAT VAT £315 plus
Pay to 40
£63 VAT)
HMRC Pay to 16 Pay to 7
HMRC HMRC




Businesses pay to HMRC £63
(£40 + £16 + £7)




1. Overview of how VAT works
VAT is collected by business at each stage in the production and distribution
process of supplying goods and services as follows:

,  Businesses account to HMRC for the tax (known as the output tax)
on sales
 If the customer is VAT-registered and uses the goods or services for
business purposes, they can recover the tax they have paid on the
purchase of item or service (known as input tax)
 Accordingly, businesses actually account to HMRC for the tax on the
'value added' to the product at that stage of the process
 Businesses are merely acting as collectors of VAT on behalf of HMRC
and they do not suffer any tax. It is only the final consumer, who
cannot recover the input VAT, who suffers the tax
 VAT is therefore an indirect tax because it is paid indirectly to
traders when you buy most goods and services, rather than being
collected directly by HMRC from the taxpayer as a proportion of their
income or gains


Output The VAT charged on sales or taxable supplies
tax
Input tax The VAT paid by a business on purchase or
expenses




2. Types of supply
Supplies can be taxable, exempt or outside the scope of VAT. VAT is charged
on taxable supplies but not on exempt supplies or supplies outside the scope of
VAT. Exempt supplies are supplies that the law states should not have VAT charged
on them, such as insurance.


2.1 Taxable supplies - rates of VAT
Taxable supplies are charged to VAT at one of three rates:
 Zero rate (0%) This is a tax rate of nil. No output VAT is charged
but it is classed as a taxable supply. Therefore, it is taken into
account whether a trader should register for VAT and whether input
VAT is recoverable. Examples are: water, most food, books,
newspapers, public transport, children's cloths and new house
building
 Reduced rate (5%) Some supplies, mainly for certain domestic and
charitable purposes, are charged at the reduced rate. Examples are:
rent, insurance, postal services, finance (making loans), education
(not for profit), betting and lotteries.
 Standard rate (20%) Any taxable supply that is not charged at the
zero or reduced rates is charged at the standard rate




3. Mixed supplies

 Applies to traders making both taxable and exempt supplies
 Cannot normally recover input VAT on inputs used to make
exempt supplies
 Can recover all input tax if part relating to exempt supplies is
below De Minimis Limit
 Calculations of exempt input tax not required

, De Minimis Limit is where input tax is below £625 per month on average
and not more than 50% of all input tax.
 If the amount of input tax incurred relating to exempt supplies
is below a minimum de minimis amount, input tax can be
reclaimed in full
 If the amount of input tax incurred relating to exempt supplies
is above a minimum de minimis amount, only the part of the
input tax that related to non-exempt supplies can be reclaimed




Input tax
must be
apportioned



Input tax on inputs used Input tax on Input tax on inputs used in
wholly for taxable inputs used both taxable and exempt
supplies e.g. for estate wholly for part of the business e.g.
agent (advertising) exempt for estate agent (office
supplies e.g. for photocopier)
estate agent
(costs relating
to insurance
business)



Recoverable Irrecoverable Split in proportion to ratio
of taxable to total supplies
to ascertain
 Part
recoverable
 Part
irrecoverabl
e
If total irrecoverable
input VAT is below a de
minimis limit:
 All input
VAT can be
recovered




4. Calculating the VAT

Rate of VAT % to apply to VAT-exclusive Fraction to apply to VAT-
amounts to calculate VAT inclusive amounts to
calculate VAT
Standard 20% 20/120 or 1/6
Reduced 5% 5/105 or 1/21

, Chapter 2: VAT Registration




Businesses making
taxable supplies



Compulsory Voluntary
registration registration



Required when value of Traders making taxable
taxable supplies exceeds supplies (standard-rated
the registration threshold or zero-rated) can
(i.e. £85,000) register at any time




Not all businesses need to register for VAT, even if they make taxable
supplies. Only businesses that have taxable supplies exceeding the
registration threshold have to register under the compulsory registration rules
(according to Finance Act 2021). A registration must be cancelled within 30
days if the businesses ceases to make taxable supplies. There are two
separate tests for compulsory registration:


1. Compulsory registration

Historic turnover method Future turnover method
 Taxable supplies in the last 12  Taxable supplies in the
months exceed £85,000 next 30 days in isolation
 Perform test at the end of each are likely to exceed
month £85,000
 Perform test constantly

Inform HMRC: