Explore the Flat Rate Scheme for VAT with this quick guide. Learn eligibility criteria, benefits, and considerations before joining.
What is the flat rate VAT scheme?
The VAT flat rate VAT scheme lets you work out what you owe HMRC in VAT as a percentage of your gross turnover. The amount of VAT you pay depends on your industry and type of business – most contractors will apply 16.5% to their gross turnover (if you are a limited cost trader) received in the VAT quarter and pay this over to HMRC. You keep the difference between what you charge your clients and pay to the HMRC. This means you don’t generally need to track the VAT on purchases as you can’t reclaim the VAT on same – with the exception of for certain assets over £2,000.
What is the eligibility criteria to join the flat rate VAT scheme?
- You can join if you are a VAT-registered company.
- If you expect your VAT taxable turnover to be £150,000 or less in the next 12 months.
Who cannot join the Flat Rate Scheme?
- You left the scheme in the last 12 months.
- If you expect your company turnover to exceed £150,000.
- In the event of you being convicted of a VAT related offence.
- When your part of a VAT group or are closely associated with another business.
What are the benefits of the Flat Rate Scheme?
- Easy cash flow management
- Lower administrative burden
- Simplified VAT calculation
- Predictable VAT payments based on a fixed rate.
What should I consider before I join the flat rate VAT scheme?
Although the Flat Rate Scheme can simplify VAT reporting and you benefit from a VAT saving (at the expense of reclaiming VAT), there are a few things to bear in mind before joining the scheme.
1. VAT is paid at the flat rate even on zero-rated supplies.
Under the Flat Rate Scheme, you pay VAT at a flat rate against all your sales, even if some of their sales were zero-rated – therefore this would mean you would be obliged to account for VAT where no VAT was originally charged.
2. The flat rate is calculated on the total amount invoiced, inclusive of VAT.
The flat rate of VAT is calculated on the business’s sales plus the VAT it charges on those sales. As such, the flat rate is calculated against the 120% total billed to customers.
3. Assess your expenses and purchases before joining to ensure it is beneficial- i.e.consider VAT lost on expenses versus the Flat Rate scheme benefit.
If you have a lot of VATable business expenses, then the standard rated scheme rather than the flat rate scheme, may be best for you.
4.Think about VAT recovery on significant capital assets.
If you have purchased or looking to purchase separate capital items at a cost of less than £2,000 per item – then you cannot claim the vat on same, so the standard rate scheme may be more advantageous in this respect.
What is the Limited Cost Trader Flat Rate VAT scheme and who does it apply to?
‘Limited cost traders’ are ‘labour-only’ businesses that have to use the 16.5% rate when using the Flat Rate VAT scheme ( although other businesses may use a different rate if they spend more than 2% of the value of sales on “relevant goods”. A limited cost trader is defined as one that spends less than 2% of the value of its sales on goods (not services) over the period you submit a VAT return (HMRC call this ‘the accounting period’ for VAT – it is usually quarterly). Therefore, most contractors would apply this percentage to their gross turnover.
Do limited cost traders still get the 1% discount in the first year of VAT registration on the Flat Rate scheme?
Yes, HMRC has confirmed that limited cost traders do still receive the 1% discount on the Flat Rate VAT scheme for the first year. This reduces the rate for the first 12 months to 15.5%.
What expenses are not classified as “relevant goods?”
- Capital goods (such as new equipment used in a business)
- Food and drink (such as lunches for staff)
- Vehicles or parts for vehicles (unless running a vehicle hiring business).
- If a firm spends less than £1,000 in their accounting period (if the period was a year), they also count as ‘labour-only’ even if this is more than 2% of your sales. If your accounting period is longer/shorter than 12 months, the £1,000 threshold is pro-rated accordingly.