VAT and Profit Margin in the UK

Margin on a VAT inclusive price

Enter the shelf price with tax in it and the cost without.

Fill in the fields above and the answer appears here.

Net price—
VAT—
Profit—
Margin—
Markup—
Cost—
Revenue—

CostProfit

The working out is shown here once the calculator has enough information.

Why does VAT distort a margin calculation?

Because VAT is not your money. You collect it at the till and hand it to HMRC, so counting it as revenue inflates the top of the fraction while the cost underneath stays exactly where it was.

The size of the error catches people out. A product costing £70 that sells at £120 on the shelf reads as a 41.67% margin if you use the shelf price. Take the £20 of VAT out and the real numbers are £100 of revenue, £30 of profit, a 30% margin. Almost twelve percentage points, on a completely ordinary retail line.

The error then spreads. Prices set from an inflated margin come out too low, stock gets bought on the strength of profitability that was never there, and the year-end accounts, always prepared net of VAT, come back looking worse than the management figures said. That gap between the two sets of numbers is a common reason business owners stop trusting their own reporting, and the cause is usually this and nothing more exotic.

Which rate applies?

Three rates and one category that behaves differently from all of them.

  • Standard, 20%. The default for most goods and services. Divide the gross price by 1.2 to reach the net figure.
  • Reduced, 5%. Applies to a defined list including domestic fuel and power, child car seats and certain energy-saving installations. Divide by 1.05.
  • Zero, 0%. Most food, books, newspapers and children's clothing. The gross and net prices are the same, but the supply is still taxable, so input VAT on related purchases remains reclaimable.
  • Exempt. Insurance, most financial services, postage stamps and some education and health. Not the same as zero rated, because input VAT on costs attributable to exempt supplies cannot be reclaimed and therefore sits inside your cost of sales.

Mixed-rate businesses need to be careful with blended figures. A café selling hot food at 20% alongside cold takeaway items at 0% cannot just divide total takings by 1.2, because part of those takings carried no tax at all.

How do registration and schemes change the picture?

Not registered

You charge no VAT, so your selling price is your revenue. The change lands on the cost side instead: the VAT your suppliers charge cannot be reclaimed, so it becomes part of your cost of goods sold. A £70 net purchase actually costs you £84, and your margin should be worked out on that.

Which is the counter-intuitive part of crossing the registration threshold. Adding tax to your prices can improve your margin, because input VAT becomes recoverable and cost of sales drops by a sixth on standard-rated purchases.

Flat rate scheme

You charge VAT at the normal rate, pay HMRC a fixed percentage of your VAT-inclusive turnover, and generally cannot reclaim input VAT. The difference between what you collect and what you hand over is real income and belongs in the margin. Treat flat rate turnover the same way you would treat standard scheme turnover and you will understate how well the business is doing.

Margin scheme for second-hand goods

Dealers in used items, antiques and art can pay VAT on the difference between purchase and sale price rather than on the full sale price. The word margin means something specific there. It is a tax base, not a profitability ratio, and it is not what the calculators on Margin Calculator UK produce.

How do you work from till takings?

Tills report gross. Getting from there to something you can put in a margin calculation takes three moves.

Split the takings by VAT rate first, if you sell across more than one. Most modern EPOS systems do this by department. If yours does not, the split has to be estimated from your product mix, and that estimate becomes the weakest link in everything downstream.

Then divide each band by one plus its rate. Standard-rated takings by 1.2, reduced by 1.05, zero-rated left exactly as they are.

Take refunds off before you divide, not after. Refunds carry VAT out with them, and netting them at the wrong point shifts your answer by a small amount that never goes away.

Once you have net revenue and net cost of sales, our gross margin calculator gives the period figure, and the step-by-step method covers the other adjustments worth making first.

VAT questions

Should profit margin include VAT?
No. Calculate on figures that exclude VAT. The tax you charge is collected on behalf of HMRC and never belongs to the business, so including it overstates both revenue and margin.
How do I remove VAT from a price?
Divide by 1.2 at the standard rate. A £120 price becomes £100 of net revenue and £20 of VAT. At the reduced rate divide by 1.05.
What are the UK VAT rates?
Standard 20%, reduced 5% on items such as domestic fuel and child car seats, and zero on most food, books and children’s clothing. Some supplies are exempt, which is different from zero rated.
Does VAT change my margin if I am not registered?
It changes your cost rather than your price. Unregistered businesses cannot reclaim input VAT, so the tax on purchases becomes part of the cost of goods sold and reduces the margin.
How does the flat rate scheme affect margin?
You charge VAT normally but pay HMRC a fixed percentage of gross turnover and cannot usually reclaim input VAT. The difference between what you collect and what you pay over is real income, so it belongs in the margin calculation.

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