The VAT Flat Rate Scheme

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The amount of VAT a business pays or claims back from HM Revenue and Customs (HMRC) is usually the difference between the VAT charged by the business to customers and the VAT the business pays on their own purchases. The VAT Flat Rate Scheme replaces this calculation, and businesses pay a set percentage of their sales (including the VAT charged to customers) to HMRC instead.

What is the VAT Flat Rate Scheme and how does it work?

If you use the Flat Rate Scheme, you charge VAT to your customers, and pay VAT to your suppliers when you buy goods or services from them in the normal way. However, when it comes to preparing your VAT return and paying VAT to HMRC you do things slightly differently.

With the Flat Rate Scheme:

  • you pay a fixed rate of VAT to HMRC;
  • you keep the difference between what you invoice your customers and pay to HMRC;
  • you cannot reclaim the VAT on your purchases – except for certain capital assets over £2,000; and
  • to join the scheme your VAT turnover must be £150,000 or less (excluding VAT), and you must apply to HMRC.

The main benefits of the scheme are:

  • simplified record keeping, as HMRC say you do not have to keep detailed records of sales and invoices;
  • fixed rate percentages that are lower than the standard rate; and
  • it helps manage cash flow.

HMRC has launched a new online form for businesses to apply for the VAT flat rate scheme: Form VAT600FRS.

*UPDATED. Understanding the pros and cons of the VAT Flat Rate Scheme for businesses

It’s crucial for businesses to evaluate whether this scheme aligns with their specific circumstances.

The advantages

One of the primary advantages of the VAT Flat Rate Scheme is how simple it is to operate. Unlike traditional VAT accounting, where businesses need to track VAT on sales and purchases separately, FRS simplifies this process by applying a flat rate to the total turnover. This can save time and reduce the administrative burden, and if you run a smaller business this can be a big help!

Businesses under the VAT Flat Rate Scheme can also benefit from potentially paying less VAT to HMRC compared to the traditional accounting methods of accounting for VAT. The scheme allows for your business to keep the difference between the VAT charged to customers and the VAT paid to HMRC, which can provide an additional margin for your business.

The disadvantages

However, while the VAT Flat Rate Scheme offers simplicity and potential cost savings, it may not be suitable for all businesses. One of the notable drawbacks is the inability to reclaim VAT on purchases, except for certain capital assets over £2,000. This means that if your business buys in a lot of supplies where you pay VAT on them, you may not benefit from the scheme as much as others.

Additionally, the fixed rates provided by HMRC may not always accurately reflect your business’s specific VAT position. While these rates are designed to approximate the average VAT payable for different industries, businesses with atypical cost structures or profit margins may find themselves disadvantaged by the scheme.

Furthermore, you need to consider the future growth of your business and how this might impact your VAT liabilities under the Flat Rate Scheme. As turnover increases, the fixed percentage applied to turnover may result in higher VAT payments compared to the traditional methods of accounting for VAT. This could potentially erode the scheme’s cost-saving benefits.

The Flat Rate Scheme isn’t the best choice for all businesses. Depending on your sector, you may find that you pay more VAT this way than through standard VAT accounting, so if you’d like to talk through and get all the information you need to make the right decision, get in touch.

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