How does the VAT Return work in Xero?

HM Revenue and Customs requires you to choose an accounting scheme upon which to account for VAT – Xero supports the Accrual Scheme and the Cash Scheme for both standard VAT reporting and flat rate reporting. Xero will generate a Return for either - a VAT Return or a Flat Rate VAT Return.

This guide is not intended to tell you how to code your VAT but explains how it is accounted for in Xero. If you are unsure of the VAT rate to use on a transaction please contact your accountant or bookkeeper or visit HMRC's website. You should only use the Flat Rate VAT Return in Xero if you are registered with HMRC to use the flat rate scheme.

If your organisation is not registered for VAT, none of the VAT-related reports will be available.

VAT Schemes in Xero

Your scheme is set by you on the Financial Settings screen - you can choose 'accrual' or 'cash' for either standard VAT reporting or flat rate VAT reporting.

Accrual Scheme

In Xero, the accrual scheme VAT Returns include all cash and invoice or bill transactions on the date they were made or invoiced, where that date falls in the period you are completing the Return for. This means spend money and receive money transactions on the date they occurred, or invoices or bills on the date they were raised, or expense claims on the date specified as the reporting date (regardless of whether they have been paid) that have a VAT component.

Cash Scheme

In Xero the cash scheme VAT Returns only include transactions that are cash payments on the date they were ‘paid’ in Xero, where that date falls in the period you are completing the Return for. ‘Payment’ or 'cash' transactions means any spend money, receive money or payments made or received for invoices, bills and expense claims that have a VAT component.

Xero’s VAT Return will default to the scheme and period you have specified in your Financial Settings, find all of the relevant transactions containing VAT and populate the Return for you.

Xero offers Returns for both standard and flat rate schemes - details of how VAT is calculated for each can be found below.

HMRC requires taxpayers using the cash scheme to account for EC Sales, EC Acquisitions and Reverse Charges on an accrual basis. Xero automatically generates the figures for these transactions in your VAT return on this basis.

Where does Xero get the VAT figures from?

Xero uses only one VAT account (820 - VAT). The VAT portion of all transactions you enter into Xero will go into this account to be used to create the VAT return as relevant to the type of return you're running. The VAT portion of any transaction (or line item within a transaction) in Xero is determined by the 'Tax Rate' chosen when entering the transaction (e.g. 20% (VAT on Income), 20% (VAT on Expenses)). Xero will use the VAT amount from a transaction or the whole amount of the transaction in the return to meet HMRC's requirements for the VAT return.

Xero does not lock transactions once they have been included in a VAT return. That is, a user can edit a transaction after it has been included in a VAT return. If a transaction is edited it will appear as a late claim on the next VAT return. To prevent users from editing these transactions, set a lock date.
Lock dates

How Xero determines the VAT portion of a transaction is described below.

Custom tax rates

Xero provides a number of default tax rates (applicable to standard or flat rate) but if these aren't right for your business you can create your own tax rates that can be of different tax types in order to determine where on the VAT Return they are reported. Tax amounts charged at these rates will also go through the VAT account. If you add additional accounts to be VAT accounts to your chart of accounts any VAT amounts assigned to them will not be included in the VAT Return.

Tax treatment and tax rate

On a transaction you can choose whether the overall transaction has VAT, how it is to be calculated and the tax rate to be applied to each line item.

Items that have a tax rate

Tax options

  • The tax treatment for a transaction is the setting 'No Tax', 'Tax Inclusive' or 'Tax Exclusive' - this determines how the VAT is calculated overall for the transaction based on the individual tax rate used on each line item. Specify this each time you create a transaction using the 'Amounts are' option on invoices or bills or the 'Include tax' checkbox on bank transactions and journals. Please note, the 'No Tax' option is different from a line item or transaction that simply doesn't attract tax (i.e. is 0% VAT).
  • The tax rate specified for each line item is the actual percentage rate used to calculate the tax on that line, and the transaction total will either display the total tax for the item as being included in the subtotal or excluded and added on depending on the tax treatment chosen for the transaction. The tax rate for each line item will default to the tax rate set for the account, unless you have specified a rate particular to your customer or supplier and you can change to another tax rate for just this transaction as required.
  • If you are using the flat rate scheme there are special VAT rates for capital purchases or sales and these can only be used with asset accounts (specified by 'account type' in the chart of accounts'). These special rates will not be available to choose on a transaction if you are using other account types.
  • While you can enter your own tax rates in Xero, to meet basic UK VAT reporting requirements, default tax rates are provided in Xero which can be used as they are, or edited.
  • A transaction that has a VAT component (even if that means no VAT is incurred) will be used in the calculation of your total sales or purchases for the period where that VAT rate is required to be reported to HMRC. The specific VAT amounts calculated for each tax rate will be carried through to the appropriate box on the return (described below). Each transaction is listed by tax rate on the VAT Audit Report.

Items that have no tax rate

No Tax

  • If you don't want sales tax to be included at all on your transaction, you need to use 'No Tax' (rather than 'Tax Inclusive' or 'Tax Exclusive'). Specify this each time you create a transaction using the 'Amounts are' option on invoices or bills or uncheck the 'Include tax' checkbox on bank transactions and journals.
  • If your transaction is set to 'No Tax', Xero determines that you do not want this transaction included in any tax reporting and therefore the tax rate column or field will not be editable and the transaction will not be included in the calculation of your total sales or purchases figures on the VAT Return for the period.
  • Alternatively, if you mean that your transaction is reportable but incurs no VAT (i.e. VAT is 0%) then you should leave your overall tax treatment as 'Tax Inclusive' or 'Tax Exclusive' and choose an appropriate tax rate that doesn't attract VAT - in the case of UK VAT, this will be sales or purchases tax rates that are 'Zero Rated', 'Exempt' or your own sales or purchases rates that have VAT of 0% (see below for exactly which rates are reported in each box on the Return).
  • Transaction amounts set to 'No VAT' won't be included in the VAT Return calculations at all i.e. where all line items on a transaction are set to 'No VAT' the whole transaction will not be included in the total sales/income and purchases/expenses figures on your Return. If 'No VAT' is used on one of many line items, then just that portion of the transaction will be excluded.
  • Transactions that are 'No Tax' overall or transactions that have line items set to 'No VAT' will still be listed on the VAT Audit report (in the 'No VAT' section) as being transactions that occurred in that period. You can use this as a useful reference when checking that all the transactions you expect to be included in your VAT Return totals have been correctly accounted for.
  • Remember, if you need a transaction to be reported on your Return yet it does not have a VAT component, make sure you choose a tax rate that doesn't attract tax (e.g. 'Zero Rated Income', 'Zero Rated Expenses' etc) rather than choosing that the transaction be 'No Tax' and excluded from the Return calculations altogether.

VAT Return - standard

For the period and basis chosen for the VAT Return, Xero will perform calculations across all transactions that attracted VAT as required for reporting on the Return. Please note as explained above regarding transactions without a tax rate, not all transactions are required to be reported. If you want to create your own custom tax rates, take a look at the boxes in which Xero will report transactions or VAT portions of transactions using your rate so that your VAT and overall sales/purchases are reported correctly.

Box 1 - VAT on sales and other outputs

The VAT portion of all income transactions for the period and any late claims (if you've chosen to include late claims). These transactions use the tax rates:

  • ‘VAT on Income’
  • Your own rates with the tax type ‘Sales’
  • Any rate with the tax type 'Reverse Charges'. Note that an offsetting amount is included in box 4, giving a net amount of 0.

Note:

  • Acquisitions from the EC are not included.
  • VAT from transactions that use type 'EC Sales Goods' or 'EC Sales Services' are not included. The total value of the EC Sales Goods transactions is reported at Box 6 and 8. The total value of the EC Sales Services transactions is reported only at Box 6. If you want VAT to be reported here in Box 1, use 'VAT on Income' or your own tax rate or type 'Sales'.
Box 2 - VAT on EC Acquisitions

This box includes the VAT portion of transactions in the period using a tax rate with the tax type of:

  • 'EC Purchases'
  • 'EC Acquisitions'. Note that an offsetting amount is included in box 4, giving a net amount of 0.
Box 3 - Total VAT Due

Box 3 is the total of Boxes 1 and 2. This figure is the VAT due on outputs for the period.

Box 4 - VAT on purchases and other inputs (including acquisitions from the EC)

This includes:

  • The VAT portion of all purchase/expense transactions in the period and any late claims (if you've chosen to include late claims). These are transactions using the following tax rates:
    • 'VAT on Expenses'
    • Your own rates with the tax type 'Purchases'
    • Your own rates with the tax type 'EC Purchases'
    • Any tax rates with the tax type 'EC Acquisitions'. Note that an offsetting amount is included in box 2, giving a net amount of 0.
    • Any tax rates with the tax type 'Reverse Charges'. Note that an offsetting amount is included in box 1, giving a net amount of 0.
  • The entire transaction amount for the tax rate 'VAT on Imports'. Please note that the 'VAT on Imports' tax rate should be used with the VAT account to code transaction line items that are 100% refundable - the whole amount coded to this tax rate will be included in Box 4 for inclusion in your VAT Refund/VAT to Pay total.
Box 5 - Net VAT to be paid or reclaimed

The difference between Boxes 3 and 4 being the amount to be reclaimed or paid by you to HMRC.

Boxes 6 and 7 - Sales and purchases excluding VAT

The total value of sales and outputs reported in Box 6 is the sum of all sales in the period excluding VAT. Transactions using any of the following tax rates are included:

  • 'VAT on Income'
  • 'Zero Rated Income'
  • 'Zero Rated EC Goods Income'
  • 'Zero Rated EC Services'
  • 'Exempt Income'
  • Your own rates with the tax type 'Sales'
  • Your own rates with the tax type 'EC Sales Goods'
  • Your own rates with the tax type 'EC Sales Services'
  • Your own rates with the tax type 'Exempt Sales'
  • Any rate with the tax type 'Reverse Charges'

The total value of purchases and inputs reported in Box 7 is the sum of all purchases in the period excluding VAT. Transactions using any of the following tax rates are included:

  • 'VAT on Expenses'
  • 'Zero Rated Expenses'
  • 'Zero Rated EC Expenses'
  • 'Exempt Expenses'
  • Your own rates with the tax type 'Purchases'
  • Your own rates with the tax type 'EC Purchases'
  • Your own rates with the tax type 'Exempt Purchases'
  • Any rate with the tax type 'EC Acquisitions', including zero rated transactions
  • Any rate with the tax type 'Reverse Charges'
Boxes 8 and 9 - EC Supplies and purchases excluding VAT

The total value of supplies to other EC Member States reported in Box 8 is the sum of all EC Sales Goods transactions in the period and any late claims (if you've chosen to include late claims) excluding VAT. Transactions using the following tax rates are included:

  • 'Zero Rated EC Goods Income'
  • Your own rates with the tax type 'EC Sales Goods'

The total value of acquisitions from EC Member States reported in Box 9 is the sum of all EC Purchase transactions in the period excluding VAT. Transactions using the following tax rates are included:

  • 'Zero Rated EC Expenses'
  • Your own rates with the tax type 'EC Purchases'
  • Any rate with the tax type 'EC Acquisitions', including zero rated transactions

VAT Return - flat rate

Flat Rate Percentage used on the return

Using the flat rate percentage your business is registered for and entered on the Flat Rate VAT Return Xero will perform calculations across all transactions that attracted VAT as required for reporting on the Return in that period. VAT on sales in Box 1 cannot be calculated correctly until you have entered your flat rate percentage on the Return.

Only those tax rates applicable to be reported on the flat rate Return will be used - if a rate does not appear below as being used in box calculations it means that transactions using that tax rate are not included in the Return.

Box 1 - VAT on sales and other outputs

This box includes:

  • The VAT inclusive amount of all income transactions for the period and any late claims (if you've chosen to include late claims). These are transactions using the tax rates:
    • ‘VAT on Income’
    • 'Zero Rated Income'
    • 'Exempt Income'
    • Your own rates with the tax type ‘Sales’
  • The VAT portion of transactions using the rate 'VAT on Capital Sales' (or any tax rates you've created yourself of the tax type 'Capital Sales').
  • The VAT portion of transactions with a tax rate using the tax type 'Reverse Charges'. Note that an offsetting amount is included in box 4, giving a net amount of 0.

Acquisitions from the EC are not included.

The value of all VAT inclusive amounts with the above tax rates will be multiplied by your flat rate percentage instead of the rate you used on the invoice. The VAT portion of all VAT on Capital Sales will be added to this amount.

Box 2 - Standard Rate VAT on EC Acquisitions

This box includes the VAT portion at the standard rate of all transactions in the period that use an EC tax rate with a tax type of:

Box 3 - Total VAT due

Box 3 is the total of Boxes 1 and 2. This figure is the VAT due on outputs for the period and any late claims (if you've chosen to include late claims).

Box 4 - VAT reclaimed on Capital Purchases

This box is the sum of the VAT portion of all transactions using the following:

  • The 'VAT on Capital Purchases' tax rate or any tax rates you've made up yourself of the tax type 'Capital Purchases'.
  • A tax rate using the tax type 'Reverse Charges'. Note that an offsetting amount is included in box 1, giving a net amount of 0.

The value of all VAT inclusive amounts with the above tax rates will be multiplied by your flat rate percentage instead of the rate you used on the invoice.

Box 5 - VAT to Pay/Reclaim From Customs

The difference between Boxes 3 and 4 being the amount to be reclaimed or paid by you to HMRC.

Boxes 6 and 7 - Sales and purchases

The total value of sales and outputs reported in Box 6 is the VAT inclusive total of transactions using the following rates:

  • 'VAT on Income'
  • 'Zero Rated Income'
  • 'Zero Rated EC Income'
  • 'Zero Rated EC Services'
  • 'Exempt Income'
  • Your own rates with the tax type 'EC Sales Goods'
  • Your own rates with the tax type 'EC Sales Services'
  • Your own rates with the tax type 'Capital Sales'
  • Any rate with the tax type 'Reverse Charges'

Plus the net amount of all transactions which use the 'VAT on Capital Sales' tax rate.

The amount in Box 7 includes the VAT-exclusive amounts for all transactions where the tax rate includes one of the following tax types:

Boxes 8 and 9 - EC Supplies and purchases excluding VAT

The total value of all supplies to other EC Member States reported in Box 8 is the sum of all EC Sales Goods transactions in the period excluding VAT. Only transactions using tax rates of the type 'EC Sales Goods' are included.

The amount in Box 9 includes the VAT-exclusive amounts for acquisitions from EC Member States where the tax rate includes one of the following tax types:

Flat Rate Adjustment required to balance VAT Account

The total, at the very bottom of the Return, is the difference between the standard VAT used on invoices or bills and the VAT amount claimed based on your flat rate percentage. When you file or publish the Return, the difference is journalled to balance the VAT account. If you've selected a Flat Rate Adjustment Account in financial settings, your journal is posted for you. If you haven't, Xero creates a draft journal ready for you to add an account to, then post.

Other reports & VAT payments

VAT Audit Report

From your VAT Return in Xero, you can access a VAT Audit Report that lists all the transactions that are the basis of calculations used in generating the Return for the period being reported. This allows you to quickly check the transactions that have been picked up by your Return and ensure they have been assigned to the correct code in your chart of accounts. All transactions, even those that are not included on the Return are shown.

VAT Reconciliation Report

Once your VAT Return is published in Xero, the published total and the actual VAT from that period are carried through to the VAT Reconciliation report where you can reconcile the VAT recorded in Xero and the VAT you've filed with HMRC. The report contains sections for comparing VAT paid and collected during the period with what was filed during the period and a section showing all transactions through the VAT account specifically.

The VAT Reconciliation report is designed to work period by period with the standard VAT Return. You can still use it if you are on a flat rate reporting scheme however the nature of applying a flat rate to your transactions after a standard rate has been applied means that you will rarely file what Xero has recorded as the VAT charged in a period. However you can refer to it as a record of VAT filed and to see the movement of VAT through the VAT account.

Payments to/from HMRC

Any payments or refunds of VAT that you receive from HMRC should be coded to the VAT account as a spend or receive money transaction on the date you receive or make the payment.

VAT on Imports

After importing goods, you may be required to pay the VAT component directly to Customs or an importer or courier.  You should code these payments to the VAT account and use the tax rate VAT on Imports' so that the VAT is captured as 100% refundable in Xero. You do not need to create a your own account or tax rate, use these default settings on each line item and the total amount will be included in Box 4.

If you're unsure how to account for VAT on imports, please refer to How do I account for VAT on Imports in Xero?

Journals directly to the VAT account

You can code amounts directly to the VAT account in Xero. As this has the potential to incorrectly adjust the balance of the VAT account from the total VAT charged or paid via transactions, we suggest that you ask your accountant or bookkeeper to enter any VAT journals required.

HM Revenue and Customs can help you with VAT information:

  • General information on VAT and filing your return.
  • Understanding when you should use the different VAT rates and options e.g. 20%, No VAT, Zero Rate etc.
EC Sales List report

The EC Sales List report in Xero displays the total values of goods and services you have sold to customers in the European Union for a selected period. Use this report to help you file your EC Sales List with HMRC.

EC Sales List Report

VAT adjustments

There may be times when you need to make adjustments to VAT. For example, when a prompt payment discount results in a non-standard rate of VAT being applied, when the items are second-hand, or when you want to summarise different tax amounts in a single line.

VAT adjustments can be made where the amounts are set to Tax Exclusive on the following transactions:

  • Invoices
  • Bills
  • Credit notes
  • Spend money transactions
  • Receive money transactions
  • Prepayments
  • Manual journals

The adjustment can be made on any editable transaction by using the '+' icon on the Tax Rate column to open up the Tax Amount column. If you enter a non-standard tax amount in the Tax Amount column, the difference between the standard tax amount and your adjusted amount will show in the 'Includes Adjustments to Tax' box above the invoice or credit note total.

Opening up the Tax Amount column on one transaction opens the column on subsequent tax-exclusive transactions any user in your organisation creates.

User clicking the plus sign in the Tax Rate column to open up the Tax Amount column.

Editing the tax amount in the Tax Amount column.

Adjustment to tax amount showing in adjustment box at bottom of invoice.

There is no special treatment for VAT adjustments on the VAT Return. All VAT totals will include any adjustments to tax you have made in this way.

Adjusted amounts will appear in the VAT Audit Report under a separate 'Adjusted' section for the tax amount and type applicable to the rate showing on the Tax Rate column on the invoice or credit note:

Tax showing on Audit Report with 'Adjusted' in tax rate name.

Note that only the tax amounts entered into the Tax Amount column will display on the VAT Audit Report. What appears in the tax adjustments box on the invoice will not show in the VAT Audit Report:

VAT amount adjusted on this invoice will show up on the VAT Audit Report.

VAT adjustments showing under separate heading on VAT Audit Report.

This also applies to PDF versions of invoices, bills and credit notes: VAT adjustment amounts will not be noted.

How does Xero account for MOSS sales?

If you provide digital services to consumers in the EU, and have registered for HMRC's MOSS scheme, you can set up Xero to record and report MOSS sales.

For further information about the MOSS scheme, refer to the HMRC's website.
Register for and use the VAT Mini One Stop Shop

Set up MOSS tax rates

Add a separate tax rate for each EU member state where you make MOSS sales. Choose the tax type MOSS Sales. Use these tax rates on your invoices for MOSS sales so that these sales can be easily tracked and reported.

We recommend you name your MOSS tax rates in the format 'MOSS + Country Name + Amount %' so that they appear together in your tax rate list in Xero. For example, MOSS France 20%.

Image showing new tax rate set up for MOSS.

How do MOSS sales appear on the Xero VAT return?

Sales using a tax rate with a MOSS Sales tax type are not included in the Xero VAT return, but they are listed on the VAT Audit Report. We recommend you run the Account Transactions report to find your MOSS sales for your VAT MOSS return.

Run the Account Transactions report to prepare for your VAT MOSS return

If you are registered for VAT on the Cash basis, your MOSS sales appear in the VAT Audit report on the cash basis. Run the Account Transactions report to get a list of your MOSS transactions on the accrual basis for your MOSS return.

Run the Account Transactions report to prepare for your VAT MOSS return

You can run the Account Transactions report to find your MOSS sales for your VAT MOSS return.

Ensure that in Report Settings:

  • Under the General heading, you have selected Accrual for the accounting basis
  • Under the Display heading, you have grouped by VAT Rate Name
  • You have included the following columns:
    • Gross
    • VAT
    • VAT Rate

Image showing report settings.

Your report will display as follows.

Image showing Account Transactions report with VAT MOSS transactions.

How does Xero account for EC Sales, EC Acquisitions and Reverse Charges?

If you trade with customers or suppliers in other EC countries, you can use tax rates to assign your transactions to the relevant box in your VAT Return.

Where does Xero get the VAT figures from?

VAT Return - standard

VAT Return - flat rate

EC Sales

If you sell goods or services to other EC countries, use tax rates with the tax type EC Sales Goods or EC Sales Services. Xero will assign these sales to your VAT Return and EC Sales List report.

EC Sales List report

EC Acquisitions

If you buy goods from other EC countries, use tax rates with the tax type EC Acquisitions when entering your bill. Xero will assign these transactions to the correct boxes in your VAT Return.

If you use the EC Acquisitions (20%) tax rate for purchases, Xero will include them in the EC Acquisitions section of the VAT Return and add an offsetting item to the EC Acquisitions (20%) Reclaimed VAT section of the return.

Reverse Charges

If you purchase services from suppliers in other EC countries, you may have to account for the VAT yourself. This is called the 'reverse charge'. Use tax rates with the tax type Reverse Charges when entering your bill. Xero will assign these transactions to the correct boxes in your VAT Return.

If you use the Reverse Charge (20%) tax rate for the purchase of services, Xero will include them the Reverse Charge section of the VAT return and will add an offsetting item in the Reverse Charges (20%) Reclaimed VAT section of the return.

Zero rated services

Occasionally you may have a Zero rated service, this transaction is reverse charged. You need to create a new tax rate at 0%, with the Reverse Charges tax type. Using this tax type assigns the transaction to boxes 6 and 7 and posts 0.00 to boxes 1 and 4.

 

See the HMRC website for more information on: EC Sales, EC Acquisitions, Reverse Charges

Learn More

Video: VAT Reverse Charges and EC Acquisitions (Xero TV)