Common VAT errors and how to avoid them

VAT compliance can be a stumbling block for many businesses, especially for owner-managers juggling multiple responsibilities. Mistakes are not only costly but can also damage your relationship with HMRC, leading to audits or penalties. In this blog, we’ll highlight frequent VAT errors, explain how they occur and provide practical strategies to keep your business compliant and avoid unnecessary stress.

Misclassifying goods or services

Applying the wrong VAT rate is one of the most common errors businesses make. In the UK, there are three main VAT rates.

Standard rate (20%): Applies to most goods and services.
Reduced rate (5%): Covers specific items such as energy-saving materials, children’s car seats and certain medical equipment.
Zero rate (0%): Includes essentials like most food, books and children’s clothing.

Misclassifications can occur when businesses sell items that fall into more than one category. For example, hot takeaway food is generally subject to the standard rate, whereas cold takeaway food may fall under the zero rate. Similarly, businesses offering mixed supplies, such as catering or accommodation packages, often struggle to apply the correct VAT rates.

How to avoid this error: Regularly review your product or service classifications and consult HMRC’s VAT guidelines to ensure accuracy. It’s worth investing in accounting software or engaging a VAT specialist to reduce the risk of errors.

Incorrect invoicing

A VAT invoice must include specific details to be valid, including:

an invoice number
your business name and address
your VAT registration number
the VAT rate applied
a breakdown of the VAT charged for each item or service.

Mistakes such as leaving out essential details, using incorrect VAT rates or issuing invoices in the wrong format can lead to compliance issues. Worse, non-compliant invoices can delay payments, which could impact your cashflow.

How to avoid this error: Use software designed to produce VAT-compliant invoices. Additionally, train your staff on invoice requirements and periodically review your invoicing process for accuracy.

Not registering for VAT on time

If your taxable turnover exceeds £90,000 within any rolling 12-month period, you are legally required to register for VAT. Missing this deadline can result in penalties and backdated VAT liabilities, adding unnecessary financial strain.

Many businesses fail to register on time because they don’t realise the threshold applies to a rolling period rather than a fixed financial year. This oversight is especially common among growing businesses that suddenly find themselves breaching the threshold.

How to avoid this error: Regularly monitor your turnover and set up alerts if you’re nearing the VAT threshold. Consider registering voluntarily if you expect growth, as this gives you more control over the process and avoids last-minute panic.

Overclaiming VAT on expenses

While claiming VAT on business expenses is straightforward in theory, the rules can become tricky in practice. Common mistakes include claiming VAT on:

client entertainment
personal-use items
items that don’t have a valid VAT invoice.

For example, if you purchase an item for both business and personal use, you may only claim VAT on the business-related portion. Similarly, VAT incurred on non-recoverable items, such as staff lunches or gifts above a certain value, cannot be reclaimed.

How to avoid this error: Keep meticulous records of all expenses, including VAT invoices, receipts and any justifications for claims. Use accounting software that helps categorise expenses correctly, or work with an accountant who understands the rules.

Ignoring VAT on imports and exports

Post-Brexit VAT rules have added new complexities for businesses that trade internationally. Key points to consider include the following.

Imports: Businesses importing goods into the UK must account for VAT, often using the postponed VAT accounting scheme. This means paying and reclaiming VAT on the same VAT return.
Exports: Exports to non-UK countries may qualify for zero-rated VAT, provided you have the correct documentation.

Many businesses overlook the importance of accurate paperwork and declarations, leading to delays, penalties or incorrect VAT calculations.

How to avoid this error: Familiarise yourself with the VAT rules for imports and exports. If your business handles significant cross-border trade, it’s worth working with an accountant or customs expert to navigate these requirements.

Failing to comply with Making Tax Digital (MTD)

Most VAT-registered businesses are now required to comply with HMRC’s Making Tax Digital (MTD) initiative. This means maintaining digital records and submitting VAT returns using MTD-compatible software. Non-compliance can lead to penalties or additional scrutiny from HMRC.

How to avoid this error: Ensure your accounting software is MTD-compatible and that your team understands how to use it. Schedule regular training sessions to keep up with software updates and any changes to the rules.

Submitting late VAT returns or payments

Missing the deadline for submitting your VAT return or making payments is an error that can quickly become costly. Since January 2023, HMRC has introduced a new penalty system based on a points system. Each missed deadline adds penalty points, which can accumulate into fines.

How to avoid this error: Mark VAT deadlines on your calendar and set up reminders. Automating payments through direct debits can also help ensure you don’t miss a deadline.

Overlooking changes in VAT rules

HMRC frequently updates VAT rules and thresholds, which can catch businesses off guard. For example, changes to VAT rates on energy-saving materials and the introduction of new penalties for late submissions are just a few updates businesses have had to contend with recently.

How to avoid this error: Subscribe to updates from HMRC or work with an accountant who can keep you informed of any changes that may affect your business.

Top tips for staying VAT-compliant

Keep records organised: Maintain clear records of invoices, receipts and VAT returns for at least six years. This will make audits less stressful and reduce the risk of errors.
Reconcile accounts regularly: Monthly reconciliations between your VAT account and your business transactions will help catch mistakes early.
Invest in training: Train your staff on VAT rules and requirements to avoid common errors. Periodic refreshers can also be useful, especially if HMRC introduces new rules.
Seek professional advice: VAT is complex, and mistakes can be costly. Engaging an accountant ensures you remain compliant and can save you time and stress in the long run.

By understanding and addressing these common VAT errors, you can avoid penalties, improve your cashflow and focus on growing your business.

If you’re unsure about any aspect of VAT compliance, we’re here to help. Get in touch to find out how we can support your business and stamp out VAT errors.