Zero-rated VAT: Everything you need to know

Zero-rated VAT – it sounds a bit impossible, doesn’t it? If VAT rates are zero then surely the VAT  doesn’t exist?

And whilst we’re here, how on earth are zero-rated VAT items different from items that are VAT exempt?

Not only is zero-rated VAT different from being VAT exempt: it can actually be beneficial to your business model and cash flow.

Keep reading to learn all about VAT, zero-rate VAT and why it’s not the same as being VAT exempt.

What is zero-rated VAT?

Zero-rated VAT means there are certain goods and services which the government is currently charging 0% VAT on. Zero-rated supplies can include things like food, advertising for charities, equipment for disabled people, books and newspapers.

Even though you’re being charged 0% you must still record sales of zero-rated VAT items or services, and report them on your VAT return.

The standard VAT rate for businesses in the UK is 20%, but this rate changes based on the good or service you’re providing and a number of other factors. Economically, zero-rated VAT exists to give consumers financial relief on essential basic items.

Zero-rate VAT also comes into play when exporting goods abroad. The government lets you charge zero-rate on goods you export from Great Britain to somewhere outside the UK. Northern Irish businesses are also eligible for zero-rate VAT when exporting somewhere outside of the UK and EU or to registered EU businesses so long as their VAT number is valid.

And, just to make sure we’re all on the same page – if you’re not sure what VAT is:

VAT is a type of consumption tax that the government applies to most goods and services. Businesses are responsible for charging a little extra, collecting it and sending it to the government. That’s why you might hear VAT referred to as an indirect tax on the final consumer.

There are lots of different rules and regulations around VAT, like only businesses and sole traders who have a taxable turnover over £85,000 a year needing to register and pay it.

Zero-rated VAT is just another of those rules and regulations. There’s also reduced rate VAT, which you can learn more about here: Reduced rate VAT: Do you qualify for a lower rate?

What goods and services fall under zero-rated VAT?

Some of the most common zero-rated supplies include food, drinks, prescription drugs, children’s clothes and footwear.

For a closer look at other zero-rated VAT items, take a look at our handy table below:

For a full overview of eligible goods and services, we recommend you hop over to the government’s website.

What conditions do I need to meet for zero-rated VAT to apply?

Whether you’re eligible for zero-rated VAT will depend on a number of factors, like whether you’re registered for VAT and whether the goods and services you provide are eligible.

Some other factors you’ll need to consider are:

• Who’s providing or buying the goods or services
• Where they’re provided
• How they’re presented for sale
• The precise nature of the goods or services
• Whether you obtain the necessary evidence
• Whether you keep the right records, and whether they’re provided with other goods and services.

There are also specific VAT rules for certain trades that affect:

• How you account for VAT
• How much you must pay
• How much you can reclaim

To make sure that you meet the conditions for zero-rated VAT, consult HMRC’s website and read their guidance, called a VAT notice, on your specific industry.

What’s the difference between zero-rated VAT and exempt items?

A zero-rated VAT item is an item that falls within the VAT scheme, but the VAT charge is 0%. This means reclaiming VAT on zero-rated supplies is still an option if you’ve bought things necessary for your business that year.

This has massive implications for your cash flow and supply chain as you can claim more money back through this rate.

When it comes to exempt items, however, you do not have to charge VAT, but you also cannot reclaim any VAT you pay. You still have to record exempt items on your VAT return, though.

For example, if you're a company selling equipment to blind or partially sighted people you will not charge your customers VAT. This makes this equipment 20% cheaper for blind or partially sighted people. But you may have to pay the standard rate of VAT, an extra 20%, for the materials or tools you buy to make your equipment.

When it comes to your VAT return you can claim that back from the government, even though you won't be giving anything to HMRC from your sales. Whereas if you're exempt from VAT you can neither charge VAT nor reclaim VAT.

Reclaiming VAT on zero-rated supplies is what makes the zero rate such a favourable tax rate. You can claim all the benefits without the drawback of charging your customers extra. 

How to account for and reclaim zero-rate VAT

You can account for and reclaim the zero-rate of VAT in the same way you would approach other VAT rates.

To keep your VAT accounts in order you must keep a record of the following according to HMRC:

• Everything you buy and sell (including zero-rated, reduced and exempt items)
• Copies of all invoices you issue
• All invoices you receive (originals or electronic copies)
• Self-billing agreements (where the customer prepares the invoice)
• The name, address and VAT number of any self-billing suppliers
• Debit or credit notes
• Any goods you give away or take from stock for your private use

Businesses must also keep a record of the VAT they’ve charged and the amount they’ve reclaimed. This record must be easily retrievable and available for inspection.

Bear in mind the government’s Making Tax Digital initiative: unless you’re exempt you must keep detailed and extensive digital records on appropriate software as well.

Keep track of your VAT with Pleo

Our automated invoice software helps you retain all the evidence you need to pay VAT or show that you’ve accurately reversed it. You can even integrate it with your accounting system of choice, from Sage to Quickbooks.

Pretty cool, right? We think so, too.

Try automating your invoices with Pleo today.