The VAT Flat Rate Scheme is a simplified method for small businesses to manage their Value Added Tax (VAT) obligations. By simplifying the VAT accounting process, the scheme provides benefits ranging from reduced administrative burdens to potentially lower tax liabilities.

This article explores the VAT Flat Rate Scheme, detailing its advantages, eligibility requirements, and key considerations. Given the potential benefits, it is a must-read for any small business looking to streamline VAT compliance while minimising VAT administrative headaches.

What is the VAT Flat Rate Scheme?

The VAT Flat Rate Scheme is a simplified VAT accounting method available only to smaller businesses. Essentially, the business considers a fixed percentage of its total VAT-inclusive turnover rather than calculating the VAT on each sale and purchase.

The percentage varies according to the particular industry sector but is usually lower than the standard VAT rate. The business retains the difference between the VAT that it charges its customers and the VAT that it pays over to HM Revenue & Customs (HMRC). It is designed to simplify VAT accounting, cut down on VAT administrative burdens and even reduce tax liabilities for smaller businesses that qualify.

How does the VAT Flat Rate Scheme work?

The VAT Flat Rate Scheme can help simplify VAT accounting for small businesses. Once one has joined the scheme, a business will be able to identify which of the flat rate percentages apply to their specific trade sector. It can then be applied to their gross turnover to arrive at the VAT payable.

So, while a business continues to charge VAT at the usual rates, it will also charge VAT to customers at the same rates. Therefore, this total is then multiplied by the relevant flat rate percentage before being paid over to HMRC.

Consequently, the business will retain the difference (i.e. what they’ve charged to customers minus what they’re paying to HMRC). However, the business will be required to restrict input VAT recovery or purchasing expenditures – this essentially results in VAT being billed on these purchases, which is normally not the case.

Eligibility criteria

You can join the VAT Flat Rate Scheme with a business turnover of £150,000 or less (with the exception of VAT), although some business types have different limits. Most businesses can apply, but businesses involved with financial services, antiques or second-hand goods cannot.

The business should be based in the UK or should have a base and intend to establish a business there. You cannot register for a failed payment from the VAT Flat Rate Scheme in the last 12 months.

Over the next year, you should consider whether claiming back VAT is less than £1,000, excluding some capital assets in the future.

Turnover threshold requirements

The VAT Flat Rate Scheme’s turnover threshold requirement is an important eligibility factor. Here’s what you need to know:

• Standard threshold: A business can sign up for the VAT Flat Rate Scheme if its turnover is expected to be no more than £150,000 (excluding VAT) in the next year.
• Quarterly review: Businesses should continuously monitor their turnover throughout the year. If they exceed the threshold during a quarter — or if at any time they expect to go over the following year — they must leave the scheme.
• Industry variations: Different industries may have variation turnover thresholds. For example, services could have a lower threshold in comparison to goods.
• Voluntary registration: Businesses can choose to register for VAT before reaching the turnover threshold, which enables them to enjoy the benefits of the VAT Flat Rate Scheme sooner.

Business activities and types eligible for the scheme

Various business activities and types are eligible for the VAT Flat Rate Scheme, but some exclusions apply. Eligible activities and types typically include:

1. Service-based businesses: Consultants, contractors, freelancers, and professionals providing services such as IT, marketing, legal, or accounting.
2. Retailers and wholesalers: Small retailers and wholesalers selling goods, such as clothing, electronics, or household items.
3. Hospitality and catering: Restaurants, cafes, bars, hotels, and catering businesses with turnover below the threshold.
4. Trades and construction: Builders, plumbers, electricians, and other tradespeople providing services and supplies.
5. Manufacturers: Small-scale manufacturers producing goods such as handmade crafts, artisanal products, or bespoke items.
6. Online sellers: E-commerce businesses selling goods or services through online platforms or marketplaces.
7. Micro-businesses: Sole traders, partnerships, limited companies, and other small business structures meeting the turnover threshold.

Benefits of the VAT Flat Rate Scheme

The VAT Flat Rate Scheme offers several benefits to eligible businesses:

Simplified VAT accounting

Businesses can streamline their VAT calculations under the scheme by applying a fixed flat rate percentage to their total turnover, including VAT-inclusive sales. This straightforward approach dramatically reduces the likelihood of errors and the administrative complexities associated with traditional VAT accounting methods.

Potential cost savings

Participants can realise significant cost savings by paying HMRC a fixed rate based on their turnover. Businesses can keep the difference between the VAT they charge their customers and the VAT paid to HMRC. This savings potential is particularly advantageous when the flat rate percentage is lower than the standard VAT rate, giving businesses a competitive edge and increased profitability.

Reduced administrative burden

With simplified processes and the requirement to report just once a quarter, the VAT Flat Rate Scheme greatly reduces the administrative burden on small businesses. This allows them to devote less time and resources to VAT compliance and dedicate more attention to core operational activities, strategic planning and growth initiatives. In addition to improving efficiency, the reduction in administrative tasks creates an environment more conducive to business development and expansion.

How to apply for the VAT Flat Rate Scheme

These are the simple steps to apply to the VAT Flat Rate Scheme:

1. Check eligibility: Check that your business is eligible. HMRC says “you must apply to join the scheme” if you meet these criteria – including having a projected turnover of £150,000 or less (excluding VAT) in the next year
2. Register for VAT: Your business must be registered for VAT before it can apply to the Flat Rate Scheme. You can register for VAT online via the HMRC website or by completing Form VAT1.
3. Log in to your HMRC online account: Access your HMRC online account using your Government Gateway details. If you don’t have an account, you’ll need to create one.
4. Apply for the Flat Rate Scheme: Go to the VAT section of your HMRC online account and select Flat Rate Scheme from the available options. Follow the prompts to complete the application.
5. Choose your flat rate percentage: Pick the most appropriate flat rate percentage for your business’s business activities. HMRC provides a list of applicable percentages for different types of business, which concluded in January 2017
6. Review and confirm: Please check the application in full before sending it. Ensure that the projected turnover and your chosen flat rate percentage are correct.
7. Await confirmation: HMRC will review your application. It typically confirms acceptance within a few days.
8. Start using the scheme: If your application is accepted, your Flat Rate Scheme for VAT accounting purposes begins on an agreed start date. From this point, the scheme rules and guidance will be applied.

Considerations before joining

• Evaluate your business’s turnover patterns to ensure they remain within the scheme’s threshold.
• Assess whether your business regularly incurs significant VAT on purchases.
• Research and understand the flat rate percentages applicable to your business’s industry.
• Consider how the scheme’s payment mechanism, where VAT is paid based on turnover rather than actual VAT charged, may affect your business’s cash flow.
• Understand the procedure for leaving the Flat Rate Scheme if your business circumstances change or if the scheme no longer offers advantages.

VAT Flat Rate Scheme FAQs

What is the flat rate percentage for my industry?

The flat rate percentage varies depending on the industry. HMRC has a list of different business sectors and the flat rate percentage that applies to each. So it is essential to choose the most appropriate percentage for your business to get the most from the scheme.

Can I reclaim VAT on purchases under the Flat Rate Scheme?

In most cases, no. Businesses using the Flat Rate Scheme do not claim back VAT on purchases, with some exceptions for certain capital assets over £2,000 (including VAT). It is very important to understand the rules around reclaiming input VAT and how they could affect your business’ finances.

How do I leave the Flat Rate Scheme?

If your business circumstances change or the scheme becomes financially unattractive. You can leave the Flat Rate Scheme at any time, but you need to tell HMRC you want to leave through your online VAT account. There are some exit rules you’ll need to follow, and leaving early could result in a penalty, so it’s important to use the right process if you decide to withdraw.

Key takeaways

In summary, the VAT Flat Rate Scheme simplifies VAT accounting, potentially reducing administrative burdens and offering cost savings. Businesses must carefully assess eligibility, turnover thresholds, and industry-specific considerations before joining.

Consultation with Reed & Co Accountants can provide personalised guidance on selecting the most suitable VAT scheme based on individual circumstances. Make informed decisions to optimise VAT compliance and financial efficiency.