The Lowdown on Making Tax Digital (MTD)

Way back in March 2015, then Chancellor of the Exchequer George Osborne first broached Making Tax Digital in his Spring Budget announcement. 9 months later HMRC published their Making Tax Digital strategy. But what is Making Tax Digital, and how will it affect you as a self-employed person?

What is Making Tax Digital?

Making Tax Digital is the biggest ever shake up and modernisation of the UK tax system. It’s a long-term overarching HMRC strategy to standardise and digitise UK taxation. Some of the key aims are to improve the overall tax experience, making taxation simpler for all and to increase accuracy and efficiency.

It would be remiss to not mention that HMRC also aims to close the tax gap – the theoretical difference between how much tax they should receive and how much they actually receive. The tax gap costs the Government billions of pounds each year in lost tax revenue and it’s no surprise that they want to address that.

Some of the changes mandated to effect this include submission of quarterly tax reports, the use of MTD-compatible accounting software, digital storage of records and documents and digital tax return submissions.

Many self-employed people and small business owners still utilise spreadsheets and paper-based recording for some of their reporting and accounting obligations. These manual processes significantly increase the chances of mistakes such as incorrect calculations or misplaced documentation, and issues like these are what Making Tax Digital will phase out in time.

When Will You Be Impacted By MTD?

For early adopters of MTD-compatible accounting software, the impact of Making Tax Digital will be relatively minimal. A long term phased rollout of Making Tax Digital is currently in progress for different taxes and income thresholds. Let’s take a look at the timeline.

After April 2019…

VAT-registered businesses with a taxable turnover of more than £85,000 had to file quarterly VAT returns using MTD-compatible software. VAT-registered businesses that already filed their VAT returns quarterly had to use MTD-compatible accounting software to digitally record their transactions.

After April 2021…

Digital links became mandatory for VAT. Digital links standardised processes for businesses that were still using spreadsheets for their VAT returns. CSV or XML imports and exports must be used or automated data transfer using APIs if different software programmes were being used.

Using formulas and linked cells in spreadsheets also became compulsory with the overall aim being to eradicate manual data input and calculations, and use of copy and paste, to reduce the errors associated with these methods.

After April 2022…

All VAT-registered businesses had to store and submit their VAT returns digitally using MTD-compatible software regardless of their turnover. April 2022 also saw the launch of the making tax digital for income tax self-assessment (ITSA) pilot scheme.

From April 2026…

The use of MTD-compatible accounting software for ITSA will become mandatory for Sole Traders and Landlords with a turnover of £50,000 or more.

From April 2027…

MTD for ITSA will become compulsory for all Sole Traders and Landlords with a turnover of £30,000 or more.

What are the Penalties for Non-Compliance with MTD Legislation?

Any VAT-registered businesses that don’t comply with the Making Tax Digital for VAT rules risks incurring the below penalties:

  • Up to £400 for each VAT return not submitted through ‘functional compatible software’
  • Between £5 and £15 per day for not digitally storing any required records
  • A penalty of up to 100% of the VAT you owe if you make a mistake by not using ‘checking functions’ in your software. In addition, you must pay the VAT you owe

Additional penalties apply for late submission of your VAT returns and late payment of your VAT liability, and similar penalties will be in place for MTD for ITSA.

How to follow the MTD Rules

Once you are mandated to comply with Making Tax Digital, you’ll need to follow the below steps:

  • Register for MTD on the HMRC website
  • Get set up with MTD-compatible accounting software
  • Connect accounting software with HMRC
  • Prepare your accounts using the software
  • Electronically Submit your returns to HMRC using your accounting software
  • You must also keep digital records and submit quarterly updates to HMRC.

Using FreeAgent MTD-Compatible Accounting Software

HMRC surveyed more than 2,000 businesses about their transition to using MTD-compatible accounting software. 69% of respondents experienced one or more benefits from using accounting software and 67% of respondents found that the potential for errors in the tax returns was reduced in one or more aspects of statement prep, bookkeeping and the overall tax return process.

But the benefits of using accounting software go way beyond just ensuring MTD-compliance, and this is where FreeAgent comes in!

FreeAgent cloud accounting software has won multiple awards and is fully MTD-compatible. Even better, we provide FreeAgent to all our clients free of charge inclusive as part of our accounting service. As well as having peace of mind that your bookkeeping and accounting is MTD-compliant, the benefits of using FreeAgent Accounting Software are significant and wide-ranging.

We have partnered with FreeAgent since our inception in 2015 and are proud to have achieved FreeAgent Platinum Partner status. As forward-thinking technology-focused accountants, we are passionate about the benefits of FreeAgent for both our clients and ourselves.

FreeAgent’s features, functionality and inbuilt automation simplify and streamline time-consuming admin and bookkeeping tasks which will free up more of your time to focus on core activities and growing your business.

  • Your self-assessment tax returns and VAT returns can be automatically prepared and electronically submitted to HMRC based on the financial data you input throughout the year
  • Create and send branded invoices and payment reminders and set them to be automatically chased. Unpaid invoices can be tracked to eradicate any missed payments
  • Payment gateway integration makes it easy for your clients to quickly and securely pay you
  • Log the time you spend on projects and tasks using FreeAgent’s time tracking functionality to ensure you bill your clients accurately
  • Use the app to upload receipts and manage your expenses on the go
  • Get insightful real-time reports and an at-a-glance overview of the financial health of your business using the configurable dashboard
  • Bank feeds upload transactions from your bank account daily and automatically reconcile and categorise them

If you have any queries about Making Tax Digital, FreeAgent or our accounting services, please call 0330 024 0406 to or request a call back to speak to an accountant today.