How can I pay my VAT and make a little money from it – Legally

As part of my GYM (Grasping Your Money) series let me share a little tip on how you can actually get HMRC to let you keep VAT you have collected.

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If you dread VAT Return time, don’t despair. VAT can even be fun.

Alright maybe that is pushing it, but it can at least be less daunting.

Firstly decide that VAT funds were never yours to begin with. If you make a sale and charge £2000 and you add VAT, using the current 20% standard rate that would add £400 to your invoice.

Many business people collect that £2400 bank the whole lot and it forms part of their cash for expenses. If you accept that your money is the £2000 for the sale only, then you need to move the £400 out of the equation.

Set up a separate bank account and move the VAT portion of every sale you make into it.

So far so good; but how does that make me money? I hear you say. Bear with me.

Firstly the most obvious advantage is that when it does come time to pay your VAT, you have the money available and you are not panicking about how you are going to pay it.

Secondly the chances are that your VAT liability in any period will be less than the amount you collected, because it will be reduced by the VAT on any purchases you made. So if you have set aside the original £400 VAT, and the VAT you owe for the period is £300, you have saved £100.

Leave it where it is, or better still shift it to a deposit or savings account and use it build up your cash reserves. Watching money grow is a past time I could never tire of.

That assumes you are on a standard VAT scheme and you make enough purchases to offset against your sales. But even if you don’t, your VAT liability will always be no more than the 20% (or whatever the rate of the day is) anyway, so no more late payment warnings or surcharges.

Even better! If your turnover is less than £150,000 there is potentially even more money you can claw back. For those businesses, there is a VAT scheme called the Flat Rate Scheme (FRS) which enables businesses to apply a lower percentage rate to the amount they have to pay over to HMRC.

HMRC must enrol you and the rate varies depending of what type of business you are in. It is particularly suited to the self-employed, consultants, and professionals. The key is that while you still add the full standard VAT rate to your sales you are only liable for the lower percentage when it comes time to pay your VAT.

It is primarily designed to simplify VAT calculations for small businesses because you only have to account for the VAT on your sales. VAT on expenses cannot be claimed under the scheme (except for assets over £2000) so the lower rate is designed to compensate for this.

Let’s assume HMRC have agreed your rate under FRS is 13%; using our £2000 + VAT, you will still invoice £2400 gross, but if on your scheme you are only liable for 13%, you will again collect £400 VAT, but you will only pay £260 to HMRC and retain the £140 difference.

The disadvantage comes if you have a high percentage of supplier bills and expenses from which you regularly claim or you receive regular refunds from HMRC anyway; then you may be better off on the standard VAT scheme. And remember, over £150,000 turnover makes you automatically ineligible.

Also because the retained amount adds to your profit, there is self-assessment tax and corporation tax to consider. But this is still only a proportion and the rest is growing in your account.

This one may not make you rich, but you can use it unearth “hidden” cash, as well as keep the tax man at bay.

Please feel free to leave any comments and share this blog with anyone who you believe may benefit.

Better still if you are able to give it a try, why not let me know how you got on.