Flat rate scheme

This scheme is designed to reduce the cost of complying with VAT obligations by simplifying the way small businesses calculate their VAT. It is available to businesses who expect their VAT exclusive turnover in the next 12 months to be no more than £150,000 in taxable supplies.

Taxable supplies are calculated by looking at the total of supplies at the positive and zero rates, excluding VAT and the value of any capital assets expected to be sold. Total business income includes taxable supplies and the value of exempt and other non-taxable income.

A business must leave the scheme when turnover increases to £230,000. However, a business can remain in the scheme with HMRC's written agreement provided it can be shown that total sales in the following 12 months will be less than £191,500 including VAT.

The flat rate scheme saves time by removing the need to calculate and record output tax and input tax in calculating the net VAT due to HMRC. The VAT in a period is calculated by applying the flat rate percentage to the tax inclusive turnover for the period. No input tax is then available for reclaim, unless the business buys capital items exceeding £2,000. 

The flat rate scheme can cost extra VAT if you make supplies which are exempt from VAT as flat rate VAT will be payable on the value of all supplies made, including exempt supplies. This is particularly an issue if you also own buy to let property as the rent may have to be included in your flat rate turnover.

HMRC has published a table showing rates applicable to many business sectors. Some examples are:

Category of business carried on

Appropriate percentage

Retail of food, newspapers, confectionery 4
Retail of vehicles or fuel 6.5
Photography 11
Estate agency 12
Hairdressing 13
Legal services 14.5
Computer and IT consultancy 14.5
Limited cost trader (see below) 16.5
Speak to us about rates for the VAT flat rate scheme

The flat rate to be used depends on which trade sector most accurately reflects any particular business. If a business includes supplies in two or more sectors, the percentage to be used is that appropriate to the main business activity as measured by expected turnover in the year ahead.

If you are making supplies to other VAT registered businesses, you give them a VAT invoice charging VAT at the normal rate for the supply (not the flat rate percentage).

Most traders with qualifying turnover are eligible to join the scheme, but there are a number of exclusions designed to prevent abuse of the scheme as well as a few to avoid complex interaction with other schemes. The scheme is optional, but traders wishing to join should complete Form VAT 600 (FRS) online (if they used HMRC's online services to register for VAT) or download and print off the form, then complete and post it to HMRC. 

Businesses can voluntarily register for VAT before their turnover reaches the £85,000 VAT registration threshold so they can make use of the flat rate scheme and have a cash advantage.

Limited cost traders

From April 2017 there are changes that affect businesses with very low cost bases. These businesses will now be classed as "limited cost traders" if they spend:

  • less than 2% of their VAT inclusive turnover on relevant goods in an accounting period; or 
  • more than 2% of their VAT inclusive turnover but less then £1,000 a year.

The amount spent on relevant goods does not include the purchase of capital goods such as new equipment, food and drink and vehicles or parts of vehicles.

Limited cost traders who participate in the flat rate scheme have a fixed rate of 16.5%. This means that work sold for £120 with £20 of VAT will result in a flat rate VAT charge of £19.80.

As a result of this change, some businesses would be well advised to leave the flat rate scheme and account for VAT under the normal arrangements, or alternatively to deregister for VAT if their turnover is below the threshold of £83,000.

Who will be affected?

The measure will increase the VAT bill of businesses that are labour-intensive but spend little on goods.

Examples of the kind of entities that may be affected are IT contractors, consultants and construction workers who supply their labour but are not responsible for purchasing the raw materials.

Contact us if you would like further help or advice on this subject.

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