VAT savings with the flat rate scheme
Spring 2009
If the value of your annual sales is less than £150,000, you could save VAT by using the flat rate scheme. Since the scheme was introduced in 2002, many businesses have taken advantage of the VAT savings it offers – and reduced their annual VAT bills by thousands of pounds in some cases. The scheme also saves time by simplifying the process of completing VAT returns.
The basic principle of the scheme is that you still charge VAT to your customers at the relevant rate (currently 15% for standard rated sales) and still pay VAT to your suppliers on the expenses and overheads that you incur.
However, instead of paying tax based on the VAT charged to your customers (output tax) less VAT paid to your suppliers (input tax), the VAT payment is calculated as a flat rate percentage of your gross (VAT inclusive) income. The specific percentage depends on your category of business.
The following example illustrates the potential savings:
Example
John is a management consultant and his sales for the period ended 31 March 2009 will be £35,000 plus VAT of £5,250, ie £40,250. The VAT on his expenses will only be £200 because he does not have any major overheads. Under normal VAT accounting, John would pay VAT of £5,050, ie £5,250 less £200.
The relevant flat rate percentage for ‘management consultants’ is 11% – so John’s VAT bill under the flat rate scheme would be £4,427.50, ie £40,250 x 11%. He has saved £622.50 of VAT by using the scheme, an annual saving of £2,490.
The scheme produces winners and losers. John had a good outcome in the above example because he does not have much input VAT to claim back on his expenses. But what if he had used the services of a subcontractor who was also VAT registered? He might have been worse off using the scheme because he would not be able to reclaim the VAT charged on these costs.
Other issues
There are a few important points to remember about the scheme:
- The flat rate percentage is applied to all of your sales – including sales that are zero-rated or exempt from VAT. This could mean the scheme is not suitable for your business, because you will end up paying VAT on sales where no VAT has actually been charged to your customers.
- The flat rate percentages are reduced by 1% in the first year that a business is VAT registered. This concession will save even more tax.
Final tips
For businesses already using the scheme, don’t forget that most flat rate percentages were reduced on 1 December 2008 to reflect the reduction in the standard rate of VAT from 17.5% to 15%. Make sure that you apply your new percentage from this date.
In addition, the scheme requires you to check that the category of your business has not changed in the last year. The flat rates vary for different businesses and you need to review your chosen category each year on the anniversary date of when you first joined the scheme.
Contact us to find out if you are eligible to use the scheme and whether it could save you tax. It can be adopted from the beginning of a VAT period – there is a simple application form that we can help you to complete.
