What is the Flat Rate VAT Scheme?

The Flat Rate VAT Scheme is a way of calculating VAT that is designed to simplify the process for small businesses.

Instead of working out the exact VAT you owe on every sale and reclaiming the exact VAT on every expense, you:

• Charge VAT to your customers at the normal rate

• Pay HMRC a fixed percentage of your gross turnover

• Usually do not reclaim VAT on most purchases

The fixed percentage you pay depends on your business sector. The full list of flat rate percentages is available on the HMRC website:

https://www.gov.uk/vat-flat-rate-scheme/how-much-you-pay

The scheme is run by HMRC and is optional.

Who can use the Flat Rate VAT Scheme?

You can join the Flat Rate VAT Scheme if:

• You are VAT registered or about to register

• Your VAT taxable turnover is £150,000 or less, excluding VAT

If your total income including VAT goes over £230,000, you must leave the scheme.

These thresholds are set by HMRC and can change, so they should be checked if you are close to the limits.

How does it work in practice?

Here is a simple example.

If you are a consultant using the Flat Rate Scheme with a flat rate of 14.5 percent:

• You charge your client £1,000 plus 20 percent VAT

• The client pays you £1,200 in total

• Instead of paying HMRC the full £200 VAT, you pay 14.5 percent of £1,200, which is £174

• You keep the difference

However, under this scheme, you usually cannot reclaim VAT on your business expenses. The main exception is capital assets that cost £2,000 or more including VAT, where VAT can normally be reclaimed in full.

Limited cost businesses

Some businesses fall under special rules called the limited cost business rules.

If you spend very little on goods, you may need to use a higher flat rate of 16.5 percent, regardless of your industry. This can make the scheme less beneficial.

A business is usually classed as limited cost if it spends less than either:

• 2 percent of its turnover on relevant goods

• Or £1,000 a year on relevant goods, if that is more than 2 percent of turnover

This test is done quarterly when you complete your VAT return.

Advantages of the Flat Rate Scheme

• Simpler VAT calculations

• Less detailed record keeping

• You know in advance what percentage you will pay

For some businesses, it can also result in paying slightly less VAT than under standard VAT accounting.

Disadvantages of the Flat Rate Scheme

• You usually cannot reclaim VAT on day to day expenses

• The limited cost business rate can reduce the benefit

• It may not be suitable if you have high VAT bearing costs

Is the Flat Rate Scheme right for you?

The scheme can work well for businesses with low expenses and straightforward income.

It is important to review your figures carefully before joining, as once you are in the scheme, the way VAT is calculated changes. Not every business will save money under this method.

If you are unsure whether the Flat Rate Scheme is suitable for your business, it is worth reviewing your expected turnover and expenses first so you can compare the outcome with standard VAT accounting.