How to apply the reduced VAT rate to purchases and sales

This article explains how to apply the reduced VAT rate of 5% to purchases and sales. You will need to follow this process when recording qualifying purchases and sales from the hospitality and tourism industries between 15th July 2020 and 30th September 2021.

Applying the reduced VAT rate to purchases

Before applying the reduced VAT rate to purchases by following the steps below, please review the VAT receipt you received from your supplier to check that the reduced rate was applied to the purchase in question. 

Applying the rate to individual purchase transactions

Bills and out-of-pocket expenses

To apply the reduced rate of 5% VAT to purchases that you record as either bills or out of pocket expenses in FreeAgent, create the bill or expense, enter the purchase details and change the VAT rate in the drop-down menu from 'Auto' to '5%'.

Bank transactions

To apply the reduced rate of VAT to a bank transaction, navigate to the ‘Banking’ tab at the top of the screen and select 'Bank Accounts' from the drop down menu.

Choose the relevant bank account from the list of accounts. 

Search the bank account for the relevant accounting category for the purchase transaction. If you’re applying the reduced rate of VAT as a result of the temporary introduction of the 5% rate for businesses in the hospitality and tourism industries between 15th July 2020 and 30th September 2021, select ‘Accommodation and Meals’ or any other relevant custom accounting category that you might have created.

If you only have one bank transaction that qualifies for the VAT rate reduction, click on the transaction and choose ‘Payment’ from the ‘Type’ drop-down menu. Choose ‘5% VAT’ from the ‘Including’ drop-down menu.  Select the appropriate category, enter a description and then select ‘Save Changes’.

If you have more than one transaction that qualifies for the VAT rate reduction, tick the checkbox next to each of the relevant transactions and then change the VAT rate to 5% in the ‘Explain transactions’ area in the top-right of the screen. Select 'Explain X transactions' to complete the process.

Applying the rate to all purchase transactions by default

NB: You will only be able to apply the reduced rate of VAT to all purchase transactions by default if you have full (level 8) access to FreeAgent. 

Navigate to ‘Settings’ from the drop-down menu displaying your company name in the top-right hand of the screen.

Select ‘Accounting Categories’ from the ‘Settings’ area and select ‘Admin expenses category’ from the 'Add New' drop-down menu. 

Write a description for the category, accept the default nominal code that FreeAgent generates and select the appropriate reporting name. 

NB: A temporary reduced rate of 5% VAT is in effect for businesses in the hospitality and tourism industries between 15th July 2020 and 30th September 2021. If you’re applying the reduced rate as a result of this change, select ‘Travel and subsistence expenses’ as the reporting name if your business is a limited company or a partnership or limited liability partnership (LLP). If you’re a sole trader, select ‘Car, van and travel expenses’ instead.  

Finally, tick the ‘Allowable for tax’ checkbox if appropriate and choose ‘Reduced rate’ from the drop-down menu. If you’re applying the reduced rate of VAT as a result of the temporary introduction of the 5% rate for businesses in the hospitality and tourism industries between 15th July 2020 and 30th September 2021, you should select both options.

Once you have followed this process, whenever you create a new bill or out-of-pocket expense or explain a bank transaction in FreeAgent you will be able to select this new category to automatically apply the reduced rate of VAT. 

Applying the reduced VAT rate to sales

Depending on what you sell, you may need to apply the reduced rate of VAT to your invoices and bank transactions. If you intend to apply the reduced rate of VAT as a result of the temporary introduction of the 5% rate for businesses in the hospitality and tourism industries between 15th July 2020 and 30th September 2021, please review the government guidance before following the steps outlined below. 

Invoice transactions

To apply the reduced VAT rate to invoices, create a new invoice as normal and then adjust the VAT rate for each line item you create by selecting ‘Reduced (5%)’ from the 'VAT' drop-down menu.

Bank transactions

To apply the reduced VAT rate to sales recorded as bank transactions, navigate to the relevant bank transaction and search for ‘Sales’ or any other relevant custom income categories. 

If you only have one transaction that qualifies for the VAT rate reduction, click on it and select ‘Sales’ from the ‘Type’ drop-down menu. Choose ‘5% VAT’ from the ‘Including’ drop-down menu.  Select the appropriate category, enter a description and then select ‘Save Changes’.

If you have more than one transaction that qualifies for the VAT rate reduction, tick the checkbox next to each transaction and then set the VAT rate to 5% in the ‘Explain transactions’ area in the top-right of the screen. Select 'Explain X transactions' to complete the process.