VAT Accounting Schemes for UK Entrepreneurs
VAT for small businesses may be confusing. We help you understand VAT Accounting Schemes and decide which one is best for your business.
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Choosing a VAT Scheme
Accounting for VAT
Congratulations! You are have passed your earning threshold and your business is registered for VAT. Now you have to maintain your VAT accounting records. You will need to choose the method of notifying the government of the total VAT amount you have charged and paid. These methods are called accounting schemes.
Why do I need it?
VAT accounting is not a choice, but a legal obligation. HMRC can charge significant fines for failure to accurately account for VAT. You will need to ensure your returns are done correctly and on time to avoid strict penalties. Having an experienced accountant do your VAT taxes for you is the easy way to stay organised.
If you are not yet registered for VAT, talk to our Osome experts so they can explain how to get this setup.
Chose Your VAT Scheme Wisely
There are a few different methods to pay VAT to HMRC. Different Accounting Schemes will be suitable for certain types of businesses, and the size of the business can affect your choice of scheme. Osome accountants work with clients in different industries, so they know how to choose the best VAT scheme for you, here's an overview of each option.
Standard Accounting Scheme
Keep a detailed record of all VAT that you charge on each sale - and the VAT you pay with each purchase as a result. This scheme requires businesses to record VAT on the date of issuing or receiving a new VAT invoice, regardless of when it is paid. Refunds are paid quarterly. This scheme is less commonly used.
Flat Rate Scheme
This only applies to businesses with an annual turnover of less than £150,000. It is most commonly used by small businesses and sole traders because it is easiest to understand. You pay a fixed percentage of your turnover to HMRC each quarter. And you don't need to record VAT that you charge customers or pay yourself. Note that with the Flat Rate Scheme, VAT can only be reclaimed on some capital goods that cost over £2,000.
Annual Accounting Scheme
This scheme is only suitable for businesses with a turnover below £1.35 million per year. You pay VAT on a quarterly basis based on the most accurate estimates, and only submit one VAT return each year.
You either pay nine monthly payments amounting to 10% of the previous year's VAT payments (10% of the previous year's estimated VAT payments if you've been registered for less than one year.)
Or your business can apply to pay three quarterly payments totalling 25% of the previous year's VAT payments. However, this scheme isn't for everyone - short term losses must be considered. The Annual Accounting Scheme would be unsuitable for companies who have to regularly claim back VAT. While submitting a VAT Return once a year saves time, it also means you can only reclaim your VAT for your business once a year.
Cash Accounting Scheme
This scheme is also suitable for businesses with a turnover of £1.35 million per year, this scheme means that you pay VAT on all sales (provided the customer has paid you) as well as reclaiming VAT on any purchases (provided you have paid the supplier). The Cash Accounting Scheme requires businesses to record income when it's received, and record expenses when they are paid. This scheme is more beneficial than the Standard VAT Accounting Scheme if you have customers who regularly pay late. However, startups making initial investments in new equipment (and purchasing this on credit) should avoid the Cash Accounting Scheme, as you cannot reclaim VAT until you have paid the supplier.
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When should you register for VAT?
When it comes to VAT for small businesses, you should register for it when the taxable turnover of your business exceeds £85,000. There are three types of VAT in the UK – standard, reduced, zero-rated.
Your company’s taxable turnover is the total value of the items sold that are not VAT exempt.
You can also register your business for VAT voluntarily.
It is mandatory to register for VAT if:
- The taxable turnover of your business is likely to be over £85,000 in the next 30 days.
- The taxable turnover of your business has been more than £85,000 over the last 12 months.
You may also need to register in a few other cases, depending on what types of products or services you sell and where.
After the registration, HMRC will send a VAT registration certificate, along with your:
- VAT number
- Details of your first VAT return
- The effective date of VAT registration
You will not be able to charge or show VAT on your business invoices until you get your VAT number. However, you may still have to pay VAT for that period.
What is postponed VAT accounting, and how does it work?
Since January 1, 2021, businesses registered for VAT in the UK that import goods into the country from any part of the world can implement postponed VAT accounting.
Postponed VAT allows businesses to carry out VAT accounting on their VAT Return, instead of paying the due right away.
The objective of implementing postponed VAT accounting is to avoid any cash flow interruption of a business when importing.
This is how postponed VAT accounting work
When importing, VAT will be considered on the VAT Return, and you are required to fill three boxes out of the 9 boxes.
According to HMRC, business owners need to fill out the following sections:
- Section 1: Pending VAT on sales/other transactions – Consider the VAT pending for a certain period on imported items via postponed VAT accounting.
- Section 2: VAT reclaimed on purchases – Consider the VAT you recovered for your business during this period on imported items via postponed VAT accounting.
- Section 3: Total purchase value/various other inputs excluding VAT – Consider the overall value of all the items imported and included in the monthly statement, excluding VAT.
If you do not use this accounting scheme and rather pay the VAT when importing goods, you need to fill out box number 4 and 7 only.
Please remember that you will not be able to adjust these values manually in the VAT return section under the Making Tax Digital section. You need to record these in your accounting software.
It will be easier to manage postponed VAT accounting by using the monthly digital statements. These statements will only show the postponed VAT in the month before.
When does your VAT accounting period end?
Your VAT accounting period comprises 12 months. Your VAT return will be due once a year, two months after the end of your accounting period. However, if you are using any of the VAT accounting schemes, especially the VAT annual accounting scheme, the due date will differ. Businesses now have to maintain digital records for VAT records and use software to submit VAT Returns.
You need to pay VAT in advance towards your monthly or quarterly VAT bill during the accounting period and also make a final payment when submitting your VAT Return.
Payment Deadline Monthly Pending at the end of months 4, 5, 6, 7, 8, 9, 10, 11 and 12 Quarterly Pending at the end of months 4, 7 and 10 Final payment Within 2 months of month 12
If you are not sure about the deadline of your VAT return, log into your online account, and select the checkbox to receive timely reminders regarding your outstanding VAT date.
What is VAT cash accounting?
There are different VAT schemes in the UK, and VAT cash accounting is one of them.
VAT cash accounting scheme enables you to include your VAT (output tax) on your total sales based on the payments you receive instead of the tax invoices you issued.
If you use this scheme, you will only be able to reclaim the VAT paid on your purchases (input tax) after you pay the supplier.
How the VAT cash accounting scheme is helpful for your business
The VAT accounting scheme can help the cash flow of your business. It is because generally you need not pay VAT to HMRC until receiving payments from your customers.
This scheme can be particularly useful if you regularly offer credit extension to your customers and incur significant bad debts.
However, this scheme may not be beneficial for you if:
- You receive payments right after selling something.
- You recover more VAT amount than you pay.
- You provide services continuously.
If you realise that the scheme does not benefit your business, you may put an end to it once your VAT accounting period is over. Subsequently, you can get back to the regular method of VAT accounting.
What is the VAT Flat Rate Scheme?
A VAT flat rate scheme is one of the VAT rate schemes for which you need to pay a flat rate VAT to HMRC.
The purpose of this scheme is to simplify the VAT return process for small businesses. It ensures that businesses pay almost the same amount of VAT without going through the hassles of completing a lot of paperwork like other VAT schemes.
In the VAT flat rate scheme:
- You pay VAT at a fixed rate to HMRC.
- You will keep the difference between what you receive from your customers and pay to HMRC.
- You will not be able to recover the VAT on the items you purchased, except for specific capital assets worth more than £2,000.
To use this scheme the VAT turnover of your business must be £150,000 or less (excludes VAT), and you need to apply to HMRC.
How to change the VAT scheme?
At some point, you may want to change your VAT scheme. For example, if you are currently using the flat rate VAT scheme, you can change it to the VAT cash accounting scheme, standard VAT scheme or VAT accrual scheme.
According to HMRC, you can only change your VAT scheme at the beginning of a new accounting period.
Steps to change VAT scheme:
- Go to More, then click Settings
- In the Financial Settings, click Account Dates & VAT.
- Enter the information mentioned below:
- Select the new VAT Scheme.
- Choose the intended frequency of submitting your VAT Return to HMRC.
- Put in your VAT number.
- If you are changing to a flat rate or standard rate scheme, mention the percentage.
- If you are changing from “not registered,” put in HMRC user ID for the Government Gateway.
- Click Save.
Now, you have successfully changed your VAT scheme. During the next VAT return, the system will capture relevant transactions according to the new scheme.