Christmas pre-orders: the VAT is due when the money arrives

When a customer pays in October for a gift you will post in December, the VAT on that sale is usually due on the return that covers October. It does not wait for the parcel. For a VAT-registered seller taking Christmas pre-orders over the next few weeks, that can move a large slice of December's VAT into an earlier quarter, and into an earlier payment.

The rule is the tax point, and it is in HMRC's VAT guide, Notice 700, at section 14.

Payment first means VAT first

For goods, the basic tax point is usually the date you send them to the customer. But if you receive a payment, or issue a VAT invoice, before that date, the tax point for the amount received becomes the date you received it or issued the invoice, whichever came first. You account for the VAT in the period in which that tax point falls.

A pre-order paid in full at checkout is a payment before dispatch. So the tax point is the day the customer paid, and the VAT belongs to that period, even though nothing has left your workshop.

Deposits follow the same rule. HMRC says most deposits "serve primarily as advance payments" and create a tax point when you receive them. A £20 deposit on a made-to-order piece is VATable on the day it arrives, and the balance is VATable when that arrives. A true security deposit, such as one taken against the safe return of hired goods, is different: HMRC says it creates no tax point.

A worked example

Illustration, not a real client: a potter in Bethnal Green, VAT-registered on quarters ending January, April, July and October, opens Christmas pre-orders on 20 October. By 31 October customers have paid £7,200, including VAT, for mugs and bowls she will post from 1 December. The VAT in that £7,200 is £1,200.

That £1,200 goes on her return for August to October, due on 7 December. The tempting mistake is to put it on the November to January return, because that is when the parcels go out. That makes the VAT a quarter late, and HMRC charges late payment interest when an error means VAT was not paid by its due date.

The cash is in her account, so in one sense nothing is lost. The danger is spending it. A seller who treats pre-order money as December's income can arrive at 7 December with the VAT already gone on clay and glaze.

Cancelled pre-orders

If a customer cancels and you refund them, you can reclaim the VAT you accounted for on your next return. If you keep the money because the customer did not take up the order, the VAT stays due. HMRC's rule is that a retained payment cannot be treated as outside the scope of VAT just because the supply never happened.

Why your books will not match your VAT return

For income tax, a sole trader on the cash basis, which gov.uk calls the standard way for sole traders, records income when the money arrives, so VAT and profit move together. A limited company cannot use the cash basis. Its accounts normally hold pre-order money back as income not yet earned until the goods go out, while the VAT follows the payment.

So on a company's books, October's VAT return will show sales that October's profit and loss does not. That is not a mistake. Our note on why deferred income is not deferred VAT walks through the same gap for deposits.

What to set up this week

Tag pre-orders separately in your shop, so you can pull October's paid pre-orders in one report. Move the VAT on them to a separate account the day they land. And check which quarter your return covers before you assume the VAT belongs to the month you post.

For sellers juggling pre-orders, marketplace sales and their own shop, our notes on accounts and VAT for online sellers set out how the pieces fit.

The mugs go out in December. The VAT on them goes out on 7 December, from the return that covers the day the customer paid.

About the author

Harvey Dhillon is Founder and CEO of Zmartly, a UK accountancy firm for ecommerce sellers. He grew up in West London and began his career in investment banking finance at Barclays, before going full-time on Zmartly in 2020. He is a Chartered Management Accountant (ACMA, CGMA).

Featured photo by Liana S on Unsplash.