What Is VAT? A Straight-Talking Guide for UK Businesses

VAT is one of the biggest revenue raisers in the UK, yet it’s still one of the most misunderstood taxes. If you run a business, VAT isn’t just a line on an invoice - it’s your responsibility to manage properly.

Below is an updated, plain-English guide covering UK VAT rates, VAT thresholds for 2025/26 and 2026/27, registration rules, VAT returns, penalties, and reclaiming VAT.

What Is VAT?

VAT (Value Added Tax) is a tax charged on most goods and services in the UK.

It’s a consumption tax, meaning the end customer ultimately pays it.. but businesses collect it and pass it on to HM Revenue & Customs (HMRC).

If you’re VAT registered, you:

• Charge VAT on your sales (output VAT)

• Reclaim VAT on business purchases (input VAT)

• Pay the difference to HMRC

VAT was introduced in the UK in 1973 and remains a core part of the tax system.

What are the UK VAT Rates

Rate	Percentage	Applies To
Standard Rate	20%	Most goods and services
Reduced Rate	5%	Some energy-saving materials, children’s car seats, residential conversions
Zero Rate	0%	Most food and children’s clothing

Some supplies are:

• VAT exempt (e.g. insurance, healthcare, certain education)

• Outside the scope of VAT (e.g. statutory fees, goods used outside the UK)

Important: Zero-rated sales still count towards your VAT threshold.

VAT Threshold for 2025/26 and 2026/27

The VAT registration threshold remains:

• £90,000 taxable turnover

• Deregistration threshold: £88,000

The government previously froze the threshold until 31 March 2026.

As of the latest confirmed position, the threshold remains £90,000 for the 2026/27 tax year.

What Counts Towards the VAT Threshold?

The £90,000 limit is based on taxable turnover, which includes:

• Standard-rated sales (20%)

• Reduced-rated sales (5%)

• Zero-rated sales (0%)

  
  

It does not include VAT-exempt income.

The key thing many business owners miss: The threshold is calculated on a rolling 12-month basis, not by tax year.

That means every month you should look back at the previous 12 months’ turnover.

When Must You Register for VAT?

You must register if:

• Your taxable turnover exceeds £90,000 in any rolling 12-month period.

• You expect to exceed £90,000 in the next 30 days alone.

  
  

You can also register voluntarily if you're below the threshold.

Voluntary registration can make sense if:

• Most of your clients are VAT registered

• You want to reclaim VAT on large purchases

• You want to appear more established

  
  

What Happens After VAT Registration?

Once registered, you must:

• Charge VAT on taxable sales

• Issue VAT-compliant invoices

• Submit VAT returns (usually quarterly)

• Keep digital records under Making Tax Digital (MTD)

  
  

MTD for VAT applies to all VAT-registered businesses, regardless of turnover.

Returns must be submitted using compatible accounting software

How to Calculate VAT

Add VAT (20%)

Multiply by 1.2

Example:£1,000 × 1.2 = £1,200

Remove VAT (20%)

Divide by 1.2

For 5% VAT, use 1.05 instead.

What Is a VAT Return?

A VAT return reports:

• Output VAT (VAT you’ve charged)

• Input VAT (VAT you’ve paid)

• The balance owed to or reclaimed from HMRC

Most businesses file quarterly, though some use annual or monthly schemes.

VAT Penalties (Current Regime)

The VAT penalty system introduced in January 2023 remains in place for 2025/26 and 2026/27.

Late VAT Returns

• Points-based system

• £200 fine once threshold is reached

• Further £200 penalties for continued late filing

  
  

Late VAT Payments

• Interest charged at Bank of England base rate + 4%

• Additional penalties may apply for persistent late payment

  
  

Late VAT Registration

Penalties range from 5% to 15% of VAT owed depending on how late you notify HMRC.

Can You Reclaim VAT?

You can usually reclaim VAT if the purchase is wholly and exclusively for business use, including:

• Equipment and tools

• Office furniture

• Stock for resale

• Professional fees

  
  

You generally cannot reclaim VAT on:

• Business entertainment

• Personal purchases

• Most cars (with exceptions)

Mixed-use purchases require careful calculation.

VAT and Property

Property VAT remains one of the most complex areas.

Transactions can be:

• Exempt

• Zero-rated

• Reduced-rated

• Standard-rated

  
  

Different rules apply depending on:

• Residential vs commercial

• New build vs renovation

• Option to tax elections

  
  

Because property transactions are high value, VAT mistakes here can be costly.

Do Charities Pay VAT?

Charities must register if they exceed the £90,000 threshold.

They may qualify for:

• Certain VAT reliefs

• Special reclaim schemes

  
  

Rules vary depending on trading activities and subsidiaries.

If you're approaching £90,000 turnover, reviewing VAT monthly is essential. Registering late can trigger penalties quickly.

VAT is often “profit neutral”, but getting it wrong rarely is.

If you’re unsure whether to register, reclaim VAT, or deal with complex areas like property or cross-border sales, it’s worth getting proper advice early rather than fixing mistakes later, feel free to get in touch - we’re always happy to help.