This article on UK VAT last checked and updated November 2016 by Quentin Pain
If you offer a discount for early payment of your invoices, then the VAT is also discounted at the same rate.
This is a new rule that came into effect from 1st April 2015 onwards.
Full details are available on HMRC’s website in the publications section to do with (UK) VAT: https://www.gov.uk/government/publications/revenue-and-customs-brief-49-2014-vat-prompt-payment-discounts/revenue-and-customs-brief-49-2014-vat-prompt-payment-discounts
Example Invoice: If you issue an invoice for £100 + VAT (at 20%), the total is £120 with a VAT liability of £20. If on that invoice you offer a 10% discount if paid within a certain time period, then the invoice total will reduce to £90 + VAT, which makes the final total £108 (£90 + £18 VAT at 20%).
So the customer has a choice in this example: 1) pay the invoice early and pay £108 or pay it within the normal agreed period and pay £120. Either way, the VAT is properly apportioned at 20% and both the suppliers and customers books will agree.
This is of course the logical way to deal with VAT, but it wasn’t like this at all prior to April 2015, when this article originally came out.
So for posterity (and anyone who needs to resubmit earlier tax returns) I’m leaving the original article in full below.
==============ORIGINAL VAT ARTICLE===============
In the UK, if you allow a discount for early settlement of an invoice (aka prompt payment) then the VAT is calculated on the discounted amount regardless of whether the discount is taken.
Sub Total: 10.00
Net Total: 11.80
10% Early Settlement Discount (ESD)
So the VAT (20% in this example) is applied to 9.00, not 10.00 (hence the 1.80 and not 2.00).
However, if the customer pays by instalment, then you must account for VAT at the actual price paid.
Also, if you offer any incentive to a customer, known as an unconditional discount, then the VAT is calculated on the discounted amount provided the customer pays the discounted amount. Otherwise the VAT is calculated on the full value.
Finally there are contingent discounts. If you offer a discount on some contingency, eg. pay x amount by such and such a date, whatever happens, the VAT is calculated on what is actually paid. That of course may mean an adjustment is required in your accounts to accommodate it (eg. the discount taken).
Bear in mind that laws and regulations are subject to change so always check with UK HMRC if in doubt (as they have – see the start of this updated article – Ed).
Note: it seems that this VAT rule only applies in the UK as I can find no reference to the rest of the Eurozone. Countries like the USA don’t suffer from this type of beaurocracy, but note that VAT is being talked about in the States as an alternative to Sales Tax.
==============END OF ORIGINAL VAT ARTICLE===============Bookkeeping for Beginners