When VAT gets complicated: VAT Partial Exemption and foreign customers

What is a VAT Partial Exemption?

Some businesses provide both VATable supplies (at standard, reduced or zero rated VAT) and exempt supplies. This means that VAT on the expenses relating to VATable supplies can be claimed back, but the input VAT relating to the exempt supplies cannot be recovered. This is relatively straight forward for “directly attributable expenses” – that is expenses that are solely for either VATable or exempt supplies.

But what about expenses, known as residual expenses, which would relate to both? Overheads like office costs would relate to both, and it would not be fair to claim all the input VAT but it also would not be fair to claim none of it. The sensible solution would be to claim a proportion of the residual input VAT – but how would that proportion be calculated?

This is where a VAT partial exemption comes in. The proportion of residual input tax to be claimed is based on the percentage of taxable supplies in the quarter out of the total supplies for that quarter.

You can claim the input VAT relating to exempt supplies (whether directly attributable or residual) if the total value of your exempt input tax is not more than:

  • £625 per month on average; and
  • half of your total input tax in the quarter.

This is known as the “de minimus” test.

Do I charge VAT to foreign customers?

This is quite a complex area. The rules are different depending on whether you’re selling goods or services, whether the customer is in the EU or the rest of the world and whether the customer is VAT registered or not.

The HMRC website has guidance on how to work out which country’s VAT rules apply when supplying services overseas.

The following is a general guide – there are special rules and exceptions:-

Sale of goods to another EU VAT registered business:

Zero-rated if the goods are in fact sent out of the UK to another EU country, you have evidence of removal proving the goods have been dispatched to another country, you dispatch the goods and obtain evidence of removal within 3 months and you state the customer’s VAT number – including the two letter country code – on the sales invoice.

Sale of goods to an organisation/person in the EU not VAT registered:

Charge VAT as you normally would if the customer was in the UK.

Sale of goods to an organisation/person outside of the EU:

Zero-rated providing you have evidence the goods were exported

Sale of services to a business customer in the EU:

The “reverse charge” mechanism is used, which essentially means the customer accounts for the VAT in their own country. You do not have any sales VAT to account for on your VAT return. You should state on the sales invoices that the invoice is subject to reverse along with the amount of VAT to be accounted for by your customer.

Sale of services to a non-business customer in the EU:

Charge VAT as you normally would if the customer was in the UK.

Sale of services to a customer outside of the EU:

Outside the scope for VAT. No VAT is charged and the sale does not appear on the VAT return at all.

Professional guidance should be sought if you have customers abroad. There may be requirements to register for VAT in your customer’s country, additional returns may be required (such as EC sales lists) and there are exceptions to the above rules for certain types of supplies.

If you would like to learn more about VAT, then have a look at our Basic Introduction to VAT.