What is the VAT Flat Rate Scheme? A guide for small businesses

Businesses can use the VAT Flat Rate Scheme to help reduce the admin efforts around VAT record keeping. This guide explains how VAT-registered businesses can join the scheme, potential benefits for new businesses, and advice on deciding if it’s the right option for you.

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What is the VAT Flat Rate Scheme?

The Flat Rate Scheme is an alternative way to pay your VAT to HMRC, which can save you valuable time when it comes to your quarterly bookkeeping.

Instead of paying the difference between the VAT you charge customers and the VAT you reclaim on business purchases, you can pay a fixed rate based on your total sales.

This helps simplify your reporting as you can keep less detailed VAT records. That, along with the government’s Making Tax Digital plans, means you’ll be able to maximise efficiency when it comes to your business admin.

Is the scheme right for your business?

The Flat Rate Scheme isn’t the right choice for all businesses. Depending on your sector, you may find that you pay more VAT this way than through standard VAT accounting.

A few things to consider when making your decision:

• using flat rates means you can’t claim VAT back on goods you buy, except for certain capital assets over £2,000
• if you make a lot of zero-rated or exempt sales, the Flat Rate Scheme might mean you pay more VAT than you need to

How do you join the scheme?

You can join the scheme at the same time as registering for VAT, or any time later.

There are three ways to do this:

• online
• email
• post

For email and postal applications, you’ll need to complete a VAT600FRS form.

Is my business eligible for the flat rate?

To be eligible for the VAT Flat Rate Scheme, you must expect that your VAT taxable turnover will be £150,000 or less in the next 12 months. You must also be a VAT-registered business.

However, you won’t be eligible to join the scheme if you’ve left the scheme within the last 12 months.

You’ll have to leave the scheme if your business grows to the point that:

• you expect your annual turnover to be more than £230,000 in the next 12 months
• your turnover, on the anniversary of joining the scheme, is over £230,000 for the past 12 months
• you expect your total income in the next 30 days alone to be more than £230,000 (including VAT)

Flat rates for new businesses

Are you a new business? If you’re in your first year as a VAT-registered business, you may be entitled to a one per cent reduction in VAT through the scheme.

If you join part-way through your first year, you can still benefit from this reduction but it’s calculated 12 months from the date you registered as a VAT business (rather than the date you join the scheme).

What are the flat rates?

The Flat Rate Scheme percentages vary depending on your main type of business activity, usually ranging from four to 16.5 per cent. However, because of the coronavirus pandemic, rates for catering, accommodation, and pubs have been reduced from 15 July 2020 to 31 March 2021.

You can find details on how much you pay on the government website.

What about limited cost businesses?

HMRC defines you as a limited cost business if your goods cost less than either:

• two per cent of your turnover
• £1,000 a year (if your costs are more than two per cent)

As a limited cost business you’ll pay a 16.5 per cent flat rate.

In 2017, HMRC specified this new higher rate for ‘limited cost businesses’ as some businesses had previously been able to use the scheme to their economic benefit.

For example, the flat rate paid to HMRC on sales could be lower than the VAT rate businesses charged to their customers, so businesses could keep the difference.

Now it’s likely that these changes to the VAT Flat Rate Scheme in 2017 have made the scheme less attractive for small businesses in terms of cost-saving, but you’ll still be able to benefit from saving time on your VAT reports.

How does VAT affect your business? Let us know in the comments.