If you are registered for VAT, cash you collect from your customers will include VAT – if the sales are subject to VAT – and you will pay the VAT collected (less any VAT you pay on purchases) to HMRC. As you are collecting VAT from your customers, paying VAT on purchases to your suppliers and paying the difference to HMRC, there is no overall cost to your business.

Whilst there is no effect on our profitability if we are registered for VAT, if we have to pay over VAT added to our sales before our customers pay our bills then there can be a cashflow issue. Fortunately, HMRC allow traders affected in this way to use a special process called cash accounting for VAT. If you qualify for this method, you will only pay VAT added to your sales when your customers pay you, and conversely, you can only reclaim VAT on purchases when you have paid for them.

Consequently, those of us who are registered for VAT and are required to calculate and make returns to HMRC, are indeed unpaid tax collectors.

Once you have made a sale, if you allow customers extended credit terms you are basically saying it is OK to leave your money in their bank accounts.

A further, major risk from offering over generous credit terms is over-trading. As mentioned above, if you have to pay for your goods and services on terms less generous than those you offer your customers, you will run out of spending power unless you have substantial cash reserves.

The next time you are tempted to extend credit in order to win a sale, take advice. We can help you consider the wider consequences of your sales strategy and its impact on cash flow.