Understanding the difference between VAT input and VAT output can help you get your VAT accounting right. Indeed, a clearer understanding can help you avoid problems with the UAE Federal Tax Authority (FTA), events that could come with serious penalties.
VAT input and VAT output are the key components that determine the VAT amount you owe the FTA or that the FTA owes you, as the case may be. As a business registered for VAT, understanding these two concepts will be crucial to correctly filing your VAT returns.
In this article, we will help you understand the difference between VAT input and VAT output, how to calculate them, and how to determine VAT payable to the FTA.
We’ll cover:
- What is input VAT?
- What is output VAT?
- Recoverable input VAT and VAT payable
- How to minimise your VAT liability in the UAE
1. What is input VAT?
Input VAT is the VAT that registered businesses pay on the purchase of taxable goods and services used for business operations. In the UAE, the VAT rate is currently 5%.
Let’s suppose ABC Limited ordered 100 laptops from XYZ Limited. If the total cost is AED 500,000, ABC Limited will pay a VAT of AED 25,000 (5% * AED 500,000) on the purchase, bringing the total cost to AED 525,000.
In the above case, the VAT payable is exclusive of the price of the laptops (AED 500,000) and has to be calculated and added to get the final price. The AED 500,000 is also known as the VAT-exclusive price, while the AED 525,000 is known as the VAT-inclusive price.
When a business makes a purchase, the quoted price might be VAT-exclusive, in which case VAT will then be calculated and added, or VAT-inclusive, in which case the amount paid for VAT has already been added.
The VAT-inclusive price is the common practice today.
Nevertheless, businesses making purchases as part of operational expenses should ensure that the specific amount paid for VAT is included in sales documents – that is, invoices, receipts, etc.
In the above case where the quoted price is AED 525,000 (VATiInclusive), the receipt must show that:
- AED 500,000 is the VAT-exclusive price
- AED 25,000 is the VAT paid, and
- AED 525,000 is the VAT-inclusive price
Why this exact information is important will become more evident later on.
The calculation process outlined above is the same for the purchase of goods and services, as well as purchases from businesses and individuals.
2. What is output VAT?
In contrast to input VAT, output VAT is the VAT that a VAT-registered business charges on the sales of taxable goods and services to individuals and businesses. Input and output VAT are charged at the same 5% rate in the UAE.
The process of calculation is the same as input tax.
So, suppose that ABC Limited is a law firm and charges a particular client AED 600,000 for a one-off legal service package. If ABC Limited is registered for VAT, it will collect AED 30,000 as VAT. The AED 600,000 will be the VAT-exclusive price, AED 30,000 the VAT, and AED 630,000 the VAT-inclusive price.
As with input VAT, the registered business must ensure that the particular amount paid as VAT by the customer/client is specifically stated in the sales documents – such as invoices, receipts, etc.
To summarise, the difference between VAT input and VAT output is that the former applies to the purchase of goods and services used as operational expenses for a VAT-registered business while the latter applies to the sales of goods and services provided by a business.
3. Recoverable input VAT and VAT payable
Why is this distinction important?
The FTA allows VAT-registered businesses in the UAE to recover some of the input VAT they have paid and deduct it from the output VAT they have received on the tax authority’s behalf.
The difference between input and output VAT here is the amount they are required to return to the FTA.
In our example, ABC Limited has paid AED 25,000 input VAT to XYZ Limited while receiving AED 30,000 on behalf of the tax authority for a legal service they sold. If the input VAT is recoverable, then ABC Limited is only required to return AED 5,000 to the tax authority (this calculator is output VAT – input VAT).
Suppose we reverse the situation for the sake of illustration and ABC paid AED 30,000 input VAT and received AED 25,000 in output VAT. In this case, it is the tax authority that would owe ABC Limited AED 5,000 (output VAT – input VAT is negative).
Said simply, when output VAT is greater than (recoverable) input VAT, VAT payable is positive and the VAT-registered business will return the excess to the FTA. On the other hand, when output VAT is less than (recoverable) input VAT, VAT payable is negative and the VAT-registered business will get a VAT refund from the FTA.
If the output VAT equals the input VAT, there is no payment to or from the FTA but VAT returns must still be filed for documentation.
When is input VAT recoverable?
Notice that input VAT reduces tax payable only when it’s recoverable.
There are certain situations where input VAT is not recoverable and the VAT-registered business will pay the full amount of output VAT they collected will eventually go to the pockets of the FTA.
Generally, input VAT is recoverable when the goods and services purchased are for business purposes in the normal course of operation.
Even then, three conditions must be met:
- The goods or services purchased must qualify for output VAT: There are certain goods and services that the government considers exempted from output VAT. In the UAE, these are highlighted in Article 46 of the Federal Decree-Law No. (8) of 2017 on Value Added Tax. They include the supply of local passenger transport, supply of bare land, supply of residential buildings for sale or lease, among others.
While these goods or services are exempted from output VAT when a registered business is selling them, they are not exempted from input VAT when a registered business purchases the input to make or deliver them. Also, the input VAT that the business pays on them cannot be recovered since the outputs made from them are tax-exempt.
- There must be documentation confirming that VAT has been paid to the supplier.
- The VAT-registered business has paid, or will pay within six months of the agreed date, the VAT-inclusive price of the goods and services.
Once these three conditions are satisfied, a business can recover input VAT on goods and services purchased for business purposes in the normal course of operation.
However, for goods and services not directly related to the business or the normal course of operation, input VAT cannot be recovered. Examples include taking customers out to lunch or dinner in a restaurant, inviting employees to a show or festival, buying cars or gym equipment for employees, etc. The employee expenses above can only qualify for input VAT recovery if the law mandates them and the employment contract states that such will be provided.
Let’s say that ABC Limited has collected a total of AED 300,000 output VAT in May from services/goods sold. In the same month, it paid the following input VAT, detailed on this numbered list:
- AED 50,000 on work laptops for new employees
- AED 25,000 on various office supplies, including pen, sticky notes, pencils, notebooks, etc.
- AED 10,000 on dinners with prospective clients
- AED 70,000 on a new car for a managing partner
- AED 10,000 for the visa expenses of new employees
- AED 5,000 for the mortgage payment on a residential building it rents out
In this case, how much input VAT can ABC Limited recover?
The first and second expenses are recoverable because laptops and office supplies are for business purposes in the ordinary course of operations. The third and fourth expenses are not recoverable because they are not in the normal course of business operations. The fifth expense qualifies because the UAE government requires it. And the last expense does not qualify because the supply of residential buildings for rent is exempt from output VAT.
In total, ABC limited can only recover AED 85,000. With output VAT at AED 300,000, it will need to pay the FTA AED 215,000 for May.
[For more on recoverable input VAT, read “7 Ways Input VAT Can Be Recovered on Employee Expenses in the UAE]
4. How to minimise your VAT liability in the UAE
For businesses that want to reduce their tax liability, it is crucial to know when they can recover input VAT and also get the required documentation necessary for such recovery.
To recover these expenses, you need to keep a track of them to know when they have occurred and receive the documents to back them up.
Takeaways
- Input VAT is the tax that VAT-registered businesses pay on taxable goods and services they purchase.
- Output VAT is the tax that VAT-registered businesses receive on taxable goods and services they sell.
- The difference between the output VAT and recoverable input VAT is what the VAT-registered business will remit to the FTA (if the difference is positive) or receive from them (if the difference is negative).
- By recovering more input VAT, businesses can reduce their tax liability and even get a refund from the tax authority.
