Exploring VAT Flat Rate Scheme: A Complete Overview

The VAT flat rate scheme simplifies and speeds up VAT return completion for small businesses.

Instead of calculating the VAT payable to HMRC as the difference between VAT on individual sales and purchases, businesses use a specific percentage of their gross turnover. This eliminates the need to record VAT incurred on most purchases and determine its reliability, reducing error chances. The amount of VAT charged to customers remains consistent, regardless of the flat rate scheme usage.

Some businesses may pay less VAT using the scheme, while others may pay more, as the percentages are based on the average VAT payable by particular trade sectors. It’s crucial to calculate the financial impact before applying to the scheme.

Flat Rate Scheme Calculation

Here are the calculation steps:

1. Establish the output VAT for a VAT return by multiplying the VAT-inclusive turnover by a fixed percentage determined by the business sector. This amount goes in Box 1 on the return.
2. Include all turnover in the taxable supplies, whether standard, reduced, zero-rated, or exempt. This gross turnover figure goes into Box 6.
3. Usually, you cannot reclaim VAT on purchases, with exceptions for VAT on purchases made before business registration and VAT on a single capital asset costing over £2000 inclusive of VAT. Report this VAT in Box 4 and the net amount of the purchase in Box 7.

For example, if your gross turnover is £20,000 and the sector percentage is 10%, the VAT due is £2000. If you purchased a capital asset for £3833, including £500 VAT, the VAT payment due would be £1500.

Qualifying to Join the Scheme

A business must meet these criteria to join:

• Have a taxable turnover, excluding VAT, of no more than £150,000 a year.
• Do not use second-hand goods, tour operators, or retail schemes.
• Not be required to use the capital goods scheme for certain capital items.
• Not have been guilty of a VAT offense in the past year, associated with another business, or part of a VAT group in the past 2 years.

You must apply to join the flat rate VAT scheme and can leave anytime by informing HMRC in writing.

Business Sector Flat Rates

Different business sectors have their flat rates. A business must choose the sector that most closely describes its main trading activities. If the trading mix changes, such as moving from supplying restaurant meals to alcoholic drinks, you should change the trade sector accordingly, effective from the start of the VAT period containing the anniversary of joining the scheme.

Documenting your trade sector selection reasoning is advisable.

Rates changed following the VAT increase to 20% on January 4, 2011. Here are the rates from that date.

1% Reduction in the First Year of VAT Registration

In your first VAT registration year, you get a 1% reduction in the flat rate applied to your turnover. This reduction applies for the 12 months following the VAT registration date, not the flat rate scheme joining date. You are not entitled to this reduction if you register for VAT 12 months after the required date.

A Trap in the Flat Rate Scheme

Apply the flat rate to all business income, including rents and sales of assets where you did not reclaim VAT, like cars or property, but not to interest from business bank accounts. This means paying VAT on gross sales receipts without collected VAT.

For sole traders, apply the flat rate to any sole name letting income, as lettings are considered a business for VAT purposes. Lettings done in partnership, such as with a spouse, do not count as part of sole trader business income. Apply the flat rate to total proceeds when selling a let property. You can exit the flat rate scheme before selling a high-value item like a property but must stay out of the scheme for at least 12 months.

How We Can Help You

We can advise on the flat rate scheme’s suitability for your business, assist with joining the scheme, and help complete your VAT returns.