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VAT Flat Rate Scheme - What is it and who is it for?

VAT is one of the most complex issues in accounting. HMRC has a simplified VAT settlement option for those entrepreneurs without an accounting department and those who do not have the time or willingness to deal with their settlements – the  VAT Flat Rate Scheme. Here’s what’s it all about.

Who is the VAT Flat Rate Scheme for?

VAT Flat Rate Scheme is most commonly used by small businesses that want to simplify their accounting as much as possible. It means that a VAT Flat Rate Scheme registered business does not settle VAT with individual expense invoices. Instead, it pays a fixed VAT rate to HMRC. Depending on the industry, different businesses have different VAT rates, from 4.5% to 16.5%.

What is the VAT Flat Rate Scheme?

As an entrepreneur, You must register for VAT when Your business turnover exceeds £ 85,000 - regardless of the company’s field. Should it prove beneficial, You can, of course, register in advance. However, You can only choose the Flat Rate Scheme if Your business annual turnover is less than £ 150,000. The entire Flat Rate Scheme has nothing to do with the invoices issued to Your customers, Your FRS rate applies only to VAT settlements with HMRC.

What VAT rate will I pay?

HMRC assigned different rates to specific industries. There is, however, an exception, and it involves the so-called limited cost trader. A limited cost trader is a company that has very limited direct costs: no more than £ 1,000 per year (£ 250 per quarter), or no more than 2% of the total turnover. Regardless of the industry, a business that does not exceed this threshold of expenditure, must pay a fixed VAT rate of 16.5%.

In other cases, businesses settle at rates set by the HMRC, e.g. accounting services - 14.5%, hairdressers - 13%, or vehicle repairs - 8.5%.

How does VAT Flat Rate Scheme work?

As a VAT Flat Rate Scheme business, You invoice Your customers at the VAT rate applicable to Your products or services. Usually, VAT will amount to 20%, however, as far as settling with the HMRC You pay a fixed percentage of Your turnover.

Example: You issue an invoice for £ 1,000 and add 20% VAT to it. The amount is therefore 1,200. If You work in catering, Your VAT rate is 12.5% ​​of those £ 1,200, i.e. £ 150. You pay that amount to the HMRC, and the difference, in this case £ 50, stays in Your pocket.

Pros and cons of Flat Rate Scheme

Using the Flat Rate Scheme system simplifies accounting considerably, You only pay one fixed VAT rate to HMRC. However, this means that You will not be able to recover VAT on purchases. Summarize Your expenses and calculate how much VAT is potentially recoverable when included in the settlement before making a decision.

If You are using the Cash Accounting Scheme, i.e. settling VAT on the basis of actually paid invoices, You cannot use FRS. This is a detail that many people forget!

Who is the VAT Flat Rate scheme for?

VAT Flat Rate Scheme is usually used by small business owners and freelancers who don’t like to deal with bureaucracy and collecting receipts. Is it profitable? It really depends on the amount of VAT You get from Your customers. Flat Rate Scheme’s VAT rate is always less than 20%, so there’s often a few pennies left in our pocket. The lower our VAT rate, the more we get to keep.

Who can use the VAT Flat Rate Scheme?

Any business with a turnover that does not exceed £ 150,000 within 12 months. There are exceptions of course, e.g. unregistering from FRS within the last 12 months or VAT fraud.

Is it possible to earn on VAT?

It is not a considerable income. We must remember that sooner or later HMRC will get at least some of its money back. The difference between the collected invoice VAT and paid VAT remain in Your business account - it is therefore, included in the turnover and subjected to Corporation Tax.

VAT Flat Rate Scheme is not for every business but, it is a good solution for those with lower fixed costs. However, this is not a rule! To find out if FRS is right for You, contact our office!