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The rising flat-rate

A popular choice for many sole traders and small businesses, the Flat Rate VAT Scheme was developed to provide a simple solution to the often tedious task of registering and tracking the VAT owed.

For businesses with an annual turnover under £150,000 (excluding VAT), the flat-rate scheme allowed them to determine how much VAT to pay HMRC at the close of each quarter.

Changes to the flat-rate VAT scheme might indicate it's time to look into other options for your business.

How the flat-rate scheme works

Businesses participating in the flat-rate scheme must register with HMRC. Depending on the type of business, the flat-rate can range from 6.5% (for pubs and some agricultural businesses) to 14.5% (for computer and IT consultancies, legal services, and architects), see more at gov.uk.

If registered for the flat-rate scheme, these businesses can continue to charge VAT on their invoices as usual, but when making their quarterly calculations to determine what they owe to HMRC, they can use the flat-rate percentage of their turnover. The difference between the VAT they receive from their customers and the amount they pay, they can keep.

A drawback is that businesses under the flat-rate scheme are not able to reclaim VAT, due to the flat-rate scheme offering a lower rate than the standard VAT. The exception to this is on the purchase of any capital assets (package deals of equipment such as computer hardware or kitchen equipment) over £2,000, purchased from the same supplier.

Changes to the flat-rate scheme

In April 2017, HMRC is making changes to the flat-rate scheme by raising the percentage to 16.5% for Low or Limited-cost Traders (businesses that spend less than £1000 on the purchase of goods, or less than 2% of their average turnover).

The fields most likely to see this increase include: business services, estate and property management, accountancy and legal services, computer & IT consultancies, management consulting and journalism professionals.

An example of the new scheme: If your quarterly sales are £6,000 plus £1,200 VAT, on the 16.5% flat rate, the amount you would keep would be: £7,200 x 16.5% = £1,188. So £1200 - £1188 means that you would keep £12. At these rates, it’s up to you to decide whether the flat-rate scheme at the increased rate is right for your business.

Leaving the flat-rate scheme

If you decide that it doesn’t make sense at the new rate, leaving the flat-rate scheme is simple. You can write an official request to withdraw from the scheme and mail it to:

HM Revenue and Customs Imperial House 77 Victoria Street Grimsby Lincolnshire DN31 1DB

You will receive confirmation of your date of withdrawal from the scheme. If you decide to leave the scheme, keep in mind that it should occur at the end of an accounting period, to avoid any added complications involving your VAT Return.

Alternative VAT-schemes

The flat-rate scheme is not the only one out there. There are a number of other VAT schemes that can apply to sole traders and small businesses. These include:

  • The VAT Cash Accounting scheme. Your business might be eligible for this scheme if your annual turnover is under £1.35 million. It is particularly useful if your business receives payments from customers slower than it pays suppliers. The cash accounting scheme allows you to account for VAT on a cash-basis.
  • The VAT Margin scheme. Aimed at businesses dealing in secondhand goods such as used cars, this scheme accounts for VAT on the margin.
  • Retail VAT schemes. Useful for retail shops and boutiques, this scheme helps with the differing VAT rates of items for sale.
  • The Standard VAT scheme. You’re probably familiar with this one. Under the standard scheme, your VAT is based on tax points directly from your invoices.

If you have questions about leaving the flat-rate scheme or finding the right VAT scheme for your business, get in touch with your accountant.