VAT — flat rate scheme

The flat rate scheme for small busi­ness­es was intro­duced to reduce the admin­is­tra­tive bur­den imposed when oper­at­ing VAT.

Under the scheme a set per­cent­age is applied to the turnover of the busi­ness as a one-off cal­cu­la­tion instead of hav­ing to iden­ti­fy and record the VAT on each sale and pur­chase that is made.

Who can join?

The scheme is option­al and avail­able to busi­ness­es with antic­i­pat­ed tax­able turnover (exclud­ing VAT) of £150,000 or less in the next 12 months. A busi­ness must leave the scheme when income in the last twelve months exceeds £230,000, unless HMRC are sat­is­fied that income will fall below £191,500 in the fol­low­ing year. A busi­ness must also leave the scheme if there are rea­son­able grounds to believe that total income is like­ly to exceed £230,000 in the next 30 days.

The turnover test applies to your antic­i­pat­ed turnover in the fol­low­ing 12 months. Your turnover may be cal­cu­lat­ed in any rea­son­able way but would usu­al­ly be based on the pre­vi­ous 12 months if you have been reg­is­tered for VAT for at least a year.

To join the scheme you can apply by post, email or phone and if you are not already reg­is­tered for VAT you can apply online for the flat rate scheme at the same time as reg­is­ter­ing for VAT.

You may not oper­ate the scheme until you have received noti­fi­ca­tion that your appli­ca­tion has been accept­ed and HMRC will inform you of the date of com­mence­ment.

When is the scheme not available?

How the scheme operates

VAT due is cal­cu­lat­ed by apply­ing a pre­de­ter­mined flat rate per­cent­age to the busi­ness turnover of the VAT peri­od. This will include any exempt sup­plies and it will there­fore not gen­er­al­ly be ben­e­fi­cial to join the scheme where there are sig­nif­i­cant exempt sup­plies.

The per­cent­age rates are deter­mined accord­ing to the trade sec­tor of your busi­ness and gen­er­al­ly range from 4% to 16.5%. The table in the appen­dix to this fact­sheet sum­maris­es the per­cent­ages. In addi­tion there is a fur­ther 1% reduc­tion off the nor­mal rates for busi­ness­es in their first year of VAT reg­is­tra­tion.

If your busi­ness falls into more than one sec­tor it is the main busi­ness activ­i­ty as mea­sured by turnover which counts. This can be advan­ta­geous if you have a large per­cent­age rate sec­ondary activ­i­ty and a mod­est major per­cent­age trade. You should review the posi­tion on each anniver­sary of join­ing the scheme and if the main busi­ness activ­i­ty changes or you expect it to change dur­ing the fol­low­ing year you should use the appro­pri­ate rate for that sec­tor.

Although you pay VAT at the flat rate per­cent­age under the scheme you will still be required to pre­pare invoic­es to VAT reg­is­tered cus­tomers show­ing the nor­mal rate of VAT. This is so that they can reclaim input VAT at the appro­pri­ate rate.

Limited cost trader

A 16.5% rate applies for busi­ness­es with lim­it­ed costs, such as many labour-only busi­ness­es. Busi­ness­es using the FRS, or con­sid­er­ing join­ing the scheme, will need to decide if they are a “lim­it­ed cost trad­er”.

A lim­it­ed cost trad­er will be defined as one whose VAT inclu­sive expen­di­ture on goods is either:

• less than 2% of their VAT inclu­sive turnover in a pre­scribed account­ing peri­od
• greater than 2% of their VAT inclu­sive turnover but less than £1,000 per annum if the pre­scribed account­ing peri­od is one year (if it is not one year, the fig­ure is the rel­e­vant pro­por­tion of £1,000).

Goods, for the pur­pos­es of this mea­sure, must be used exclu­sive­ly for the pur­pose of the busi­ness but exclude the fol­low­ing items:

• cap­i­tal expen­di­ture
• food or drink for con­sump­tion by the flat rate busi­ness or its employ­ees
• vehi­cles, vehi­cle parts and fuel (except where the busi­ness is one that car­ries out trans­port ser­vices — for exam­ple a taxi busi­ness — and uses its own or a leased vehi­cle to car­ry out those ser­vices)
• goods for re-sale, or hir­ing out, unless sell­ing or hir­ing is the main busi­ness activ­i­ty
• goods to be used as pro­mo­tion­al items or gifts.

These exclu­sions are part of the test to pre­vent traders buy­ing either low val­ue every­day items or one off pur­chas­es in order to inflate their costs beyond 2%.

Treatment of capital assets

The pur­chase of cap­i­tal assets cost­ing more than £2,000 (includ­ing VAT) may be dealt with out­side the scheme. You can claim input VAT on such items on your VAT return in the nor­mal way. Where the input VAT is reclaimed you must account for VAT on a sub­se­quent sale of the asset at the nor­mal rate instead of the flat rate.

Items under the cap­i­tal goods scheme are exclud­ed from the flat rate scheme.

Records to keep

Under the scheme you must keep a record of your flat rate cal­cu­la­tion show­ing:

• your flat rate turnover
• the flat rate per­cent­age you have used
• the tax cal­cu­lat­ed as due.

You must still keep a VAT account although if the only VAT to be account­ed for is that cal­cu­lat­ed under the scheme there will only be one entry for each peri­od.

Summary

The scheme is designed to reduce admin­is­tra­tion although it will only be attrac­tive if it does not result in addi­tion­al VAT lia­bil­i­ties. The only way to estab­lish whether your busi­ness will ben­e­fit is to car­ry out a cal­cu­la­tion and com­par­i­son of the nor­mal rules and the flat rate rules.

APPENDIX: Table of sectors and rates

’Labour-only build­ing or con­struc­tion ser­vices’ means build­ing or con­struc­tion ser­vices where the val­ue of mate­ri­als sup­plied is less than 10 per cent of rel­e­vant turnover from such ser­vices; any oth­er build­ing or con­struc­tion ser­vices are ‘gen­er­al build­ing or con­struc­tion ser­vices’.