The Flat Rate VAT Scheme

Simplifying VAT for self-employed people and small businesses

What is the Flat Rate VAT Scheme?

The Flat Rate VAT Scheme was implemented in 2002 to simplify the process of charging and reclaiming VAT for self-employed people and smaller businesses. Standard Rate VAT can be a daunting prospect for business with VAT amounts paid and received having to be calculated and VAT returns submitted to HM Revenue & Customs every quarter.

Meticulous record-keeping is important and the calculations can be both complex and time consuming although this is now mitigated with accounting software such as FreeAgent being mandatory for VAT-registered businesses thanks to Making Tax Digital.

Businesses that are eligible for the VAT Flat Rate scheme can calculate their VAT liability by applying a fixed rate percentage to their gross turnover. This streamlines the process compared to the Standard Rate VAT Scheme.

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  • You apply a fixed rate VAT percentage, dependent on the sector you operate in, to your gross turnover to calculate your VAT liability
  • The difference between the VAT you pay to HMRC and the VAT you charge your customers is additional turnover for the business
  • VAT can’t be reclaimed on your business costs, with the exception of capital assets that cost £2,000 or more and certain pre-registration expenses
  • The fixed rate percentage is discounted by 1% for the first year of registration in the Flat Rate VAT Scheme

Your business is eligible to join the scheme if it’s registered for VAT and you expect your VAT-taxable turnover to not exceed £150,000 in the next 12 months. You must leave the scheme if your VAT-inclusive turnover in the last 12 months was more than £230,000 or if you expect it to be in the next 12 months.

Under the Flat Rate Scheme, the rate of VAT payable differs depending on the sector that your business operates in. Rates are between 4% and 14.5% (unless you are a Limited Cost Trader) with a full list on the Government website.

Changes to the Flat Rate scheme were introduced in 2017 that impacted companies that don’t buy many goods, known as a Limited Cost Trader. You can be classed as a Limited Cost Trader if:

  • You spend less than 2% of your VAT-inclusive turnover per annum on goods
  • You spend less than £1,000 per annum on goods (if your costs are higher than 2%)

Items such as vehicles, fuel, vehicle parts, drinks or food for the business or staff, or capital expenditure must be excluded. Limited Cost Traders are subject to VAT at a special rate of 16.5% under the Flat Rate Scheme. Generally this will apply to businesses whose offering is labour-orientated and it’s important they re-check eligibility in every VAT period.

The key difference between Standard and Flat Rate VAT is how the rate of VAT payable to HMRC is calculated. On the Standard scheme, VAT is levied at 20% and your VAT liability is calculated as the difference between your input VAT and output VAT during a quarter. Output VAT is the amount of VAT that you charge on your sales and Input VAT is the amount of VAT that your suppliers charge you.

Each quarter you must add up all of the output VAT you have charged, and then subtract the total amount of input VAT paid on purchases you have made. This then leaves you with either a VAT liability to be paid to HMRC, or an amount that will be refunded back to you by HMRC.

Detailed and organised record-keeping of all transactions and the VAT rate levied are important to help ensure accuracy when calculating input and output VAT using your accounting software.

On the Flat Rate Scheme, VAT is also levied at 20% and then the amount payable to HMRC is calculated as a % of your gross turnover and is dependent on whether you are viewed as a limited cost trader or whether you can use the flat rate % applicate to your nature of trade.

There are various benefits of the Flat Rate Scheme including the fact VAT liability is much easier to calculate but the Standard Rate scheme also has its advantages including being able to reclaim a wider range of input VAT which can help to lower your overall VAT liability.

Deciding which scheme is best for you depends on various factors including the industry that you operate in, the level of company turnover, the amount you spend on goods used by the business and the amount of VAT that could be reclaimed using the Standard Rate scheme. It is also worthwhile comparing what your VAT liability would be with the Flat Rate Scheme against using Standard Rate VAT as a basis for deciding which is the right fit for you.

This is something our expert VAT accountants can advise you on so if you have any queries about the Flat Rate or Standard Rate VAT schemes or our accounting service, please call us on 0330 024 0406 or request a call back today.

If you’re ready to take the next step and form your limited company, get in touch with a member of our New Business Team by calling:

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