Value added tax (VAT) control account
In this module we are going to look at the value added tax (VAT) control account. We will see:
what it is used for
where the entries in the account come from
what impact the entries in the account have on the VAT liability.
What is it used for?
The VAT control account is used by businesses that are registered for VAT. The account is located in
the main ledger. Registered businesses must:
collect VAT by adding it to the amounts charged to customers for most goods and services,
but can
offset against this the VAT that they have been charged by their suppliers
pay the VAT balance to Her Majesty’s Revenue and Customs (HMRC) – or get a refund if
they are owed VAT.
To do this the VAT amounts must be kept separate from the business income and expenditure. This
is carried out by maintaining a VAT control account in the main ledger.
The VAT control account records all the VAT on both sales (outputs) and purchases (inputs) so that
the balance on the account shows the amount that should be paid to (or claimed from) HMRC.
The details of the business’s transactions and the related VAT are recorded on a VAT return, which is
sent to HMRC. This is usually carried out every quarter. The information on the VAT return should
agree with the amounts recorded in the VAT control account.
Where do the entries come from?
Transactions that include VAT are analysed in the various books of prime entry (where transactions
are first recorded) and the VAT element is then posted directly to the VAT control account.
Postings to the VAT control account could come from the following books of prime entry:
Sales day book
Purchases day book
Sales returns day book
Purchases returns day book
Cash book
Petty cash book
Journal.
Postings to the VAT control account must follow the normal rules of double-entry accounting and will
be either debit or credit entries.
Credit entries in the VAT control account
Postings to the credit side of the VAT control account are the amounts of VAT that the business has
charged its customers. This VAT does not belong to the business and therefore forms a liability (to
HMRC). That is why these entries are recorded on the credit side – liabilities are always credit
balances.
The main credit entries in the VAT control account come from the:
sales day book – the VAT on the invoices that have been sent to credit customers
cash book – the receipts from cash sales that include VAT.
There may also be credit entries from the:
purchases returns day book – the VAT on credit notes that have been received from
suppliers. This effectively reduces the impact of the debit entries from suppliers’ invoices (see
next section).
Debit entries in the VAT control account
Debit entries reduce the amount owing to HMRC. These are the amounts of VAT that the business
has had to pay to its suppliers. Because it can offset these amounts against its VAT liability the
amounts are posted to the debit side of the VAT control account.
The main debit entries come from the:
purchases day book – the VAT on credit suppliers’ invoices
cash book – payments to cash suppliers that include VAT
petty cash book – payments for minor items that include VAT.
There may also be debit entries from the:
sales returns day book – the VAT on credit notes sent to customers will reduce the VAT
liability (in a similar but opposite way to how the purchases returns day book reduces the
impact of purchase invoices).
There is also a possibility of postings from the journal. These could be debit or credit entries
depending on the reason for the entry. For example, recording the VAT on the write-off of an
irrecoverable debt would be a debit entry.
Now your turn
Have a look at the following list of entries into the VAT control account, and decide which side of the
account they should be posted to. Then click on the icon to see if you were correct.
Entries Debit Credit
VAT from payments in the petty cash book
VAT from invoices in the purchases day book
VAT from credit notes in the purchases returns day book
VAT from cash sales receipts in the cash book
VAT from invoices in the sales day book
VAT from credit notes in the sales returns day book
VAT from irrecoverable debt written off in journal
VAT from cash payments in the cash book
Click to display/hide the solution.
What is the impact of entries?
Remember that the balance on the VAT control account should equal the amount owing to HMRC (if it
is a credit balance), or the amount owing to the business (if it is a debit balance).
If the credit entries are greater than the debit entries the impact will be a liability to HMRC.
If the debit entries are greater this means that HMRC will owe the business money.
The payment to HMRC (or receipt of a refund from HMRC) will be posted from the cash book to the
VAT control account and this will clear the earlier balance.
Most businesses have a credit balance on their VAT control account – meaning they will owe VAT to
HMRC. Examine the following list of entries in the account and decide which will increase the VAT
liability and which will reduce it. Then click on the icon to check that you were right.
Entry Reduce liability Increase liability
VAT recorded in purchases day book
VAT recorded in cash book from cash sales
VAT recorded in sales day book
VAT recorded in petty cash book
VAT recorded in purchases returns cash book
Click to display/hide the solution.
