Choosing the Right VAT Scheme: Flat Rate, Cash Accounting, or Standard?

Standard VAT Accounting: The Default Option

How it works:
Under standard (invoice) VAT accounting, you account for VAT at the invoice date (the “tax point”), not when money actually changes hands. You charge VAT on your sales, reclaim VAT on your purchases—and your VAT bill is the difference.

Pros:

• Reclaim VAT quickly: You can reclaim input VAT as soon as you’re invoiced—no need to wait until payment.

• Straightforward if customers pay promptly: If your cash flow is solid, this may work seamlessly.

Cons:

• Cash flow squeeze: You must pay HMRC VAT even if your customer hasn’t yet paid you.

• Admin burden: You need to track VAT invoices and manage corresponding returns regularly.

Best for: Businesses with prompt-paying clients and regular VAT to reclaim.

Cash Accounting Scheme: Align VAT with Cash Flow

How it works:
You account for VAT based on actual payments—only paying VAT when you receive money from your clients, and reclaiming VAT only after you’ve paid your suppliers.

Eligibility:

• Estimated taxable turnover must be £1.35 million or less.

• You must leave the scheme if turnover exceeds £1.6 million.

Pros:

• Improved cash flow: VAT payments align with your actual income.

• Helpful for businesses with delayed payments: If you’ve got slow-paying customers, this can be a lifeline.

Cons:

• Delayed VAT reclaim: You can only reclaim input VAT once it’s paid.

• Complex exclusions: Some transactions—like invoices with payment terms of six months or more or advance payments—are ineligible.

• Extra record-keeping: You must track payments received and made as well as the relevant invoices.

Best for: Small businesses or start-ups with lagging customer payments and predictable outgoings. 

Flat Rate Scheme: Simplify VAT Calculations

How it works:
You pay VAT to HMRC as a fixed percentage of your gross turnover, and keep the difference between what you charge customers and this flat-rate percentage.

Eligibility:

• Taxable turnover (excluding VAT) must be £150,000 or less.

Pros:

• Easy record-keeping: You only need gross turnover and the flat rate—no detailed input VAT claims.

• Potential savings: If you reclaim little VAT, you may benefit from the flat rate difference.

Cons:

• You forgo reclaiming VAT on most purchases (except large capital spending over £2,000).

• Sector-based flat rates: Rates vary by industry, and you might pay more VAT than standard if your business purchases heavily.

• Limited-cost traders: If your spend on goods is low (under 2% of turnover or £1,000/year), you’re subject to a higher flat rate (~16.5%).

• Cannot combine with Cash Accounting Scheme, although it has its own cash-based turnover method.

Best for: Small businesses with low input VAT (e.g. service providers with minimal purchases) wanting simplicity.

At-a-Glance Comparison

Choosing the Right Scheme for You

• Have fast payments and regular input VAT? Stick with Standard Accounting—easy to reclaim and familiar.

• Struggle with slow payments or cash flow issues? Cash Accounting may improve timing and reduce pressure.

• Operate with minimal input costs and want admin simplicity? Flat Rate Scheme could save time and potentially money.

Final Thoughts

Selecting the best VAT scheme boils down to your cash flow situation, purchasing habits, and admin capacity. At Payless Accountants, we specialise in guiding UK small businesses through VAT decision-making—whether balancing cash flow or cutting paperwork. Contact us today, and let’s find the VAT scheme that works for your business.