VAT and Freelance Contractors

Q. What is VAT?

A. Value Added Tax (VAT) is a tax on most goods and services, and is collected at every stage of production and distribution. Most business-related goods and services are therefore subjected to VAT.

The standard VAT rate is 20%. If you have a VAT registered company, you must charge VAT on all invoices you send to clients. In effect, you are collecting VAT on behalf of HMRC, and repay it each quarter minus any VAT you reclaim for goods or services your company has purchased over the previous period.

Q. Is VAT a cost to me?

A. No, you simply add VAT onto your agreed contract rate (which you are billing for), and then pay it over to the government at the end of each VAT period. Before paying it over, you can deduct any VAT you have paid on any business expenses you have incurred (e.g. hotel bills, broadband fees), so you can actually benefit financially from being VAT registered.

Q. When must you register for VAT?

A. From 1st April 2015, you must register for VAT if your company turnover is (or likely to be) £82,000 or more. You can also voluntarily register even if your turnover is below this threshold.

Q. I have heard about the flat rate VAT scheme. What is it?

A. As an alternative to the traditional method of VAT accounting (above), the flat rate scheme allows you to pay VAT as a flat rate percentage on your gross sales inclusive of VAT. If you register under this scheme you will not reclaim VAT on your normal business expenses, but for the average contractor it is more advantageous to be on this scheme unless your expenses are particularly high.

For most IT contractors, the fixed rate is currently 14.5% (13.5% in year one). You can read a good overview of the flat rate VAT scheme here, as well as the official HMRC guide to flat rate VAT.