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Is the VAT Flat Rate Scheme right for your small business?

VAT is a key factor for businesses, impacting cash flow and administration. The VAT Flat Rate Scheme (FRS), available to businesses with a turnover of £150,000 or less, offers simplified VAT accounting. However, its adoption requires careful consideration.

Value Added Tax (VAT) is a significant consideration for businesses. It impacts your cash flow, the amount of admin work needed, and even your overall profitability. One option available to businesses – with a VAT exclusive turnover of £150,000 or less – is the VAT Flat Rate Scheme (FRS), which offers a simplified approach to VAT accounting. However, deciding whether to adopt this scheme requires careful consideration of its benefits and drawbacks.

The VAT Flat Rate Scheme operates by applying a fixed percentage to your turnover to determine the VAT payable to HM Revenue and Customs (HMRC). This fixed rate varies depending on the industry sector that your business operates in. While this simplicity can be appealing, it’s crucial for businesses to evaluate whether this scheme aligns with their specific circumstances.

The advantages

One of the primary advantages of the VAT Flat Rate Scheme is how simple it is to operate. Unlike traditional VAT accounting, where businesses need to track VAT on sales and purchases separately, FRS simplifies this process by applying a flat rate to the total turnover. This can save time and reduce the administrative burden for manual bookkeepers, but if you are already using software such as Xero, Quickbooks or Sage, you really won’t see a difference. 

Businesses under the VAT Flat Rate Scheme can also benefit from potentially paying less VAT to HMRC compared to the traditional accounting methods of accounting for VAT. Which let’s face it, is far more interesting than how you manage your bookkeeping!

The scheme allows for your business to keep the difference between the VAT charged to customers and the flat rate VAT paid to HMRC in exchange for claiming back the input VAT suffered on costs, which can provide an additional margin for your business.

The disadvantages

However, while the VAT Flat Rate Scheme offers simplicity and potential cost savings, it is not suitable for all businesses. One of the notable drawbacks is the inability to reclaim VAT on purchases, except for certain capital assets over £2,000. This means that if your business buys in a lot of supplies where you pay VAT on them, you may not benefit from the scheme as much as others.

Additionally, the fixed rates provided by HMRC may not always accurately reflect your business’s specific VAT position. While these rates are designed to approximate the average VAT payable for different industries, businesses with atypical cost structures or profit margins may find themselves disadvantaged by the scheme.  This is particularly true of consultancy businesses where very few “goods” are purchased and higher non-VAT costs such as payroll are incurred.

As turnover increases, the fixed percentage applied to turnover may result in higher VAT payments compared to the traditional methods of accounting for VAT eroding the scheme’s benefits.

Get in touch

Before deciding whether to adopt the VAT Flat Rate Scheme, it is important that you carefully evaluate your current VAT position, including the proportion of VATable sales and purchases, as well as any potential future changes in turnover or business model.

If you would like an appraisal of your circumstances, please book an appointment for a no-obligation consultation.


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