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Understanding VAT (Value Added Tax)

Value Added Tax (VAT) is a consumption tax applied to goods and services at each stage of the supply chain where value is added. Unlike a simple sales tax charged only at the point of final sale, VAT is collected incrementally by all sellers in the chain, with each business reclaiming the VAT it paid on its own purchases. The end consumer bears the full cost.

VAT vs. Sales Tax

The key difference is the collection mechanism. A sales tax is levied once at the point of sale to the end consumer. VAT, by contrast, is charged at every step — from raw materials to manufacturer to wholesaler to retailer. Each business remits only the VAT on the value it added, creating a self-enforcing audit trail that reduces tax evasion. More than 170 countries use some form of VAT or Goods and Services Tax (GST).

VAT Rates Around the World

Standard VAT rates vary widely. EU member states must have a minimum standard rate of 15%, but most set theirs between 19% and 27%. Hungary has the world's highest standard rate at 27%. The Nordic countries (Sweden, Denmark, Norway) all levy 25%. Outside Europe, rates tend to be lower: Japan charges 10%, Australia and Singapore levy 10% and 9% respectively, and the UAE introduced a 5% rate in 2018. Many countries also apply reduced rates for essentials like food, medicine, and children's clothing.

Adding and Removing VAT

To add VAT to a net price, multiply the price by the VAT rate and add it: Gross = Net × (1 + Rate). For example, a £100 item with 20% VAT becomes £120.

To remove VAT from a gross price, divide by (1 + Rate): Net = Gross ÷ (1 + Rate). For that same £120 gross price at 20%, the net is £120 ÷ 1.20 = £100, and the VAT is £20. A common mistake is simply subtracting the percentage — 20% of £120 is £24, which would be incorrect.

The Reverse Charge Mechanism

In cross-border B2B transactions within the EU, the reverse charge mechanism shifts the responsibility for reporting VAT from the seller to the buyer. The seller invoices without VAT, and the buyer self-assesses and reports both the output and input VAT on the same return. This simplifies compliance and avoids the need for businesses to register for VAT in every EU country where they make sales.

VAT Registration Thresholds

Businesses must register for VAT once their taxable turnover exceeds the registration threshold. In the UK, this is £90,000 per year (current threshold as of February 2026). In the EU, thresholds vary by country — from as low as €0 in Spain (all businesses must register) to €85,000 in Germany. Businesses below the threshold may choose to register voluntarily to reclaim input VAT on their purchases.