Zero rated and exempt both mean the customer pays no VAT. The difference is what it means for the business. A zero rated sale stays inside the VAT system, so the business can reclaim VAT on its costs. An exempt sale sits outside the system, so the business usually cannot.
The key difference
| Point | Zero rated | Exempt |
|---|---|---|
| VAT charged to customer | 0% | None |
| Inside the VAT system | Yes | No |
| Reclaim VAT on costs | Yes | Usually no |
| Goes on a VAT return as a sale | Yes | Not as a taxable sale |
Both look the same to the customer. The gap shows up on the business side, in whether it can claim money back from HMRC.
A worked example
Two businesses each spend £10,000 of VAT on their costs.
- Business A makes zero rated sales, such as a food wholesaler. It can reclaim the full £10,000.
- Business B makes exempt sales, such as an insurance broker. It cannot reclaim the £10,000, so that VAT is a real cost.
Same sales treatment for the customer, but a £10,000 difference for the business.
[ Infographic: Zero rated vs exempt ]
Brief: two columns showing both charge the customer no VAT, but only the zero rated business can reclaim VAT on costs.
Alt text: Zero rated and exempt both mean no VAT for the customer, but only zero rated lets the business reclaim VAT.
Caption: The difference is on the business side, in reclaiming VAT.
Common zero rated items
- Most food from shops
- Books and newspapers
- Children’s clothes and shoes
- Prescription medicines
- Public transport
Common exempt items
- Insurance
- Most financial services
- Education from an eligible body
- Health services from a registered professional
- Betting and gaming
What about partial exemption
Some businesses make both taxable and exempt sales. They can only reclaim the VAT linked to their taxable sales. This is called partial exemption. There is a small limit, called the de minimis limit, below which a business can still reclaim all its VAT. The detail sits on GOV.UK, and most businesses in this position ask an accountant to check it.
Frequently asked questions
What is the difference between zero rated and exempt VAT? Zero rated sales stay inside the VAT system, so the business can reclaim VAT on costs. Exempt sales sit outside it, so the business usually cannot.
Does the customer pay VAT on either? No. The customer pays no VAT on zero rated or exempt sales.
Why does the difference matter? It decides whether the business can reclaim the VAT on its costs. Zero rated businesses can. Exempt businesses usually cannot.
Is food zero rated or exempt? Most food from shops is zero rated, not exempt.
What is partial exemption? When a business makes both taxable and exempt sales, it can only reclaim the VAT linked to the taxable ones, subject to a small limit.