There are 3 alternative schemes suited to small businesses, each with its own pros and cons.
The flat rate scheme
A business pays a fixed rate of VAT to HMRC and keeps the difference between what the customer is charged and what is paid to HMRC. For example, an IT consultant’s flat rate is 14.5%, they charge the customer 20% VAT, and keep 5.5%. Different types of businesses pay different rates. These rates are listed on the Government website. VAT payments are calculated as a fixed percentage of your total turnover. In this scheme, VAT cannot be reclaimed on purchases - except for certain capital assets over £2,000. To join the scheme VAT turnover must be £150,000 or less (excluding VAT), and you must apply to HMRC.
For more information, read VAT Flat Rate Scheme.
Cash accounting scheme
VAT returns are based on when money for purchases or sales physically changes hands, not the date stated on invoices. This is a good scheme if you use cash accounting. Otherwise, you risk paying VAT on sales you’ve not yet been paid for (as is the case with the flat rate scheme).
Under this scheme you:
Note that to be eligible for this scheme, you need a maximum annual turnover of £1.35 million.
For more information, read VAT Cash Accounting Scheme.
Annual accounting scheme
You do one VAT return a year, whereas with the other two schemes you do so once a quarter (ie you submit your VAT Returns and payments to HMRC 4 times per year). Based on the figures in this annual return, you then make advanced monthly payments in the following year. These start in month 4 and continue until month 12, a total of 9 payments. There is a balancing payment in month 14.
If you’re able to sync your annual VAT return with your financial year, you’ll avoid additional paperwork too. And spreading the payments out will help with budgeting and financial forecasting. To be eligible for the scheme you need a maximum annual turnover of £1.35 million.
For more information, read VAT Annual Accounting Scheme.