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Sigma Accounting specialises in providing accountancy and business advisory services to owner managed businesses based on the Isle of Man.

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SIGMA accounting

Sigma Accounting is registered in the Isle of Man (number 023280B)

and is a member of the ICAEW Practice Assurance Scheme.

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What is the Flat Rate Scheme for VAT?

Using standard VAT accounting, the VAT you pay to Customs & Excise or claim back from them is the difference between the VAT you charge your customers and the VAT you pay on your purchases.

Using the Flat Rate Scheme you pay VAT as a fixed percentage of your VAT inclusive turnover. The actual percentage you use depends on your type of business.

See the sections in this guide relating to the changes in the flat rate percentages to ensure that you use the correct rate.

Who can and can't join the Flat Rate Scheme?

Who can join the Flat Rate Scheme

You can join the Flat Rate Scheme for VAT and so pay VAT as a flat rate percentage of your turnover if:

• Your estimated VAT taxable turnover - excluding VAT - in the next year will be £150,000 or less. Your VAT taxable turnover is the total of everything that you sell during the year that is liable for VAT. It includes standard, reduced rate or zero rate sales or other supplies. It excludes the actual VAT that you charge, VAT exempt sales and sales of any capital assets.

Generally you don't reclaim any of the VAT that you pay on purchases, although you may be able to claim back the VAT on capital assets worth more than £2,000 - see the section in this guide on claiming back VAT on capital assets for the rules and restrictions.

Once you join the scheme you can stay in it until your total business income is more than £230,000.

Who can't join the Flat Rate Scheme

You can't join the Flat Rate Scheme if:

• you were in the scheme and left during the previous 12 months
• you are, or have been within the previous 24 months

• eligible to join an existing VAT group
• registered for VAT as a division of a larger business

• you use one of the margin schemes for second-hand goods, art, antiques and collectibles, the Tour Operators' Margin Scheme, or the Capital Goods Scheme
• you have been convicted of a VAT offence or charged a penalty for VAT evasion in the last year
• your business is closely associated with another business

The pros and cons of the Flat Rate Scheme

Benefits of using the Flat Rate Scheme

Using the Flat Rate Scheme can save you time and smooth your cash flow. It offers these benefits:

• You don't have to record the VAT that you charge on every sale and purchase, as you do with standard VAT accounting. This can mean you spending less time on the books, and more time on your business. You do need to show VAT separately on your invoices, just as you do for normal VAT accounting.
• A first year discount. If you are in your first year of VAT registration you get a one per cent reduction in your flat rate percentage until the day before the first anniversary you became VAT registered.
• Fewer rules to follow. You no longer have to work out what VAT on purchases you can and can't reclaim.
• Peace of mind. With less chance of mistakes, you have fewer worries about getting your VAT right.
• Certainty. You always know what percentage of your takings you will have to pay to Customs & Excise.

Potential disadvantages of using a Flat Rate Scheme

The flat rate percentages are calculated in a way that takes into account zero-rated and exempt sales. They also contain an allowance for the VAT you spend on your purchases. So the VAT Flat Rate Scheme might not be right for your business if:

• you buy mostly standard-rated items, as you cannot generally reclaim any VAT on your purchases
• you regularly receive a VAT repayment under standard VAT accounting
• you make a lot of zero-rated or exempt sales.

Working out your flat rate percentage and the VAT you need to pay

Working out your flat rate percentage

There is a range of flat rate percentages that correspond to different business sectors. You must choose the sector that best describes your main business activity for the coming year. You must only use one percentage. So if you work in more than one business sector, you must use the one that represents the greater part of your turnover. You then apply that percentage to your total turnover.

Please note that new flat rate percentages apply from 4 January 2011. See the table in this guide for the current flat rate percentages.

Discount in your first year of VAT registration

There's a one per cent reduction in the flat rate percentages for your first year of VAT registration. So if you are in your first year of VAT registration, you can reduce the flat rate percentage for your sector by one, until the day before the first anniversary of your VAT registration. This discount applies even if the flat rate percentage for your sector changes during your first year of registration.

Working out how much VAT you need to pay using your flat rate percentage

You calculate your VAT payable to Customs & Excise by applying your flat rate VAT percentage to your 'flat rate turnover'. If you are still in your first year of VAT registration, remember to reduce your flat rate percentage by one.

Your flat rate turnover is all the supplies your business makes including all:

• VAT inclusive sales for standard rate, zero rate and reduced rate supplies
• sales of exempt supplies, such as rent or lottery commission - you don't have to make any partial exemption calculations
• sales of capital expenditure goods - unless you have previously reclaimed the VAT, in which case they must be accounted for at the standard rate and not the flat rate.
• sales to other EU countries
• sales of second-hand goods - but if you sell a lot of these, you may be better off leaving the Flat Rate Scheme and using a margin scheme

Don't include:

• services you've purchased from outside the UK that you've had to reverse charge
• disbursements - costs you pass on to your clients that meet the necessary VAT conditions
• private income, for example income from shares
• bank interest received on a business account
• the proceeds from the sale of goods you own but which have not been used in your business
• any sales of gold that are covered by the VAT Act, Section 55 - see the link below
• non-business income and any supplies outside the scope of UK VAT
• sales of capital expenditure goods on which you have claimed back the VAT you paid

Flat Rate Scheme percentage rates from 4 January 2011

*'Labour-only building or construction services' means building or construction services where the value of materials supplied is less than 10 per cent of relevant turnover from such services; any other building or construction services are 'general building or construction services'

What to do if your flat rate percentage changes

If the Table of flat rates changes then you must use the new percentage for your sector from the date it comes into force. If the rate changes during a VAT accounting period, you will have to do the following calculations for that period:

apply the old percentage rate to your flat rate turnover from the start of the period up to the day before the rate changes

apply the new percentage rate to your flat rate turnover from the first day of the new rate to the end of the period

add the two figures together to produce the total VAT you owe to Customs & Excise for the period

Cash-based turnover method

This method allows you to account for your VAT liability when you receive payment. It does not affect the time of supply (tax point). So if your flat rate percentage changes, you must apply the rate that was in place at the time of supply and not the rate that is in place when payment is received.

Invoicing, record-keeping and VAT returns

Invoicing

Although you only have to pay Customs & Excise a percentage of your turnover, you must still show VAT at the appropriate normal rate (standard, reduced or zero) on the invoices you issue.

Record-keeping

Once you are using the scheme, you must keep a record in your VAT account of the flat rate calculation that you do for each VAT period showing:

• the flat rate turnover that you used to calculate your flat rate VAT payment (or if the percentage changed during the period, the turnover figures used for each part of the period)
• the flat rate percentage you used (or if the percentage changed during the period, the percentages used for each part of the period)
• your VAT due

Completing your VAT Return

The Flat Rate Scheme does not have its own VAT Return, so you must complete a standard return in a different way.

Claiming back VAT on capital assets

If you use the Flat Rate Scheme, you can't normally claim back the VAT you spend on capital assets you buy for your business. This is already taken into account in the flat rate percentage for your type of business. However, you may be able to claim back the VAT on certain capital asset purchases with a VAT-inclusive price of £2,000 or more. You make these claims by putting the amount of VAT you were charged in Box 4 of your VAT Return.

These are the rules for claiming back VAT when you buy capital assets:

• It must be a single purchase of capital goods with a VAT-inclusive price of £2,000 or more. That doesn't mean you are restricted to claiming back the VAT on a single item - for example, you could buy a pizza oven, fridge and dishwasher, as long as you buy them at the same time from the same supplier and the price is more than £2,000 including VAT.
• It must be a purchase of capital goods, not services. Capital goods are goods you can use in the business but are not used up by it - for example, a van, computer or bottling machine are capital goods, but not the fuel, printer ink or bottles that go in them. A van leased or hired to you is a continuous supply of services, but one bought on hire purchase is considered a supply of capital goods.
• You can't claim back VAT on goods that you intend to either resell, or incorporate into other goods to supply on to someone else.
• You can't claim back VAT on goods that you will let, lease or hire out - for example, a bouncy castle.
• You can't claim back VAT on goods that you intend to use up (consume) within a year.
• Building materials and work are not capital goods. You can't claim back the VAT if you have building work done (even if it includes expenditure on materials), and you can't claim back the VAT if you buy building materials yourself for someone else to build with.
• As long as all the other conditions are met, you can claim back all the VAT even if the goods will have some private use. For example, if you buy a van but employees are allowed free use at weekends to move private belongings, you can still claim back all the VAT.
• There is an upper limit on claims for certain items. If you buy something that falls within the Capital Goods Scheme you must write and tell Customs & Excise and leave the Flat Rate Scheme immediately. Goods that fall within the Capital Goods Scheme are computers or items of computer equipment with a VAT-exclusive price of £50,000 or more, or land and buildings, civil engineering works and refurbishments with a VAT-exclusive value of £250,000 or more.

Selling a capital asset

If you meet all the conditions and claim back the VAT on a capital asset, then when you have finished with the asset and sell it, you must charge VAT at the full standard rate - not at your flat rate percentage.

Farmers, florists and barristers and the Flat Rate Scheme

If you're a farmer, there is a separate Agricultural Flat Rate Scheme, which is an alternative to registering for VAT. You don't charge VAT, but you can add - and keep - a flat rate addition of four per cent on sales that you make to VAT-registered customers. The flat rate addition isn't VAT, but compensates you for some of the VAT that you pay on your purchases.

Barristers and advocates who use the Flat Rate Scheme and who share premises with others may need to use special accounting rules.

Florists using the Flat Rate Scheme who are members of organisations such as Interflora, Teleflorist or Flowergram must use special methods to account for their sales and purchases.

Joining and leaving the Flat Rate Scheme

How to join the Flat Rate Scheme

You can join the Flat Rate Scheme at the beginning of any VAT accounting period.

You can download and complete an application form from the Customs & Excise website

How to leave the Flat Rate Scheme

You may leave the scheme at any time by telling Customs & Excise - you will normally leave at the end of your next VAT accounting period, but you can leave the scheme at any time. Customs & Excise will confirm the date you left the scheme in writing.

You must notify Customs & Excise if there are significant changes to your business which may affect your eligibility to use the scheme.

You must leave the scheme if:

• at any anniversary of your joining the scheme your previous year's VAT-inclusive turnover was more than £230,000
• you think your turnover in the next 30 days alone will be more than £230,000
• you start to use one of the other special schemes such as one of the margin schemes for second-hand goods, art, antiques and collectibles, the Tour Operators' Margin Scheme, or the Capital Goods Scheme
• you become eligible to join an existing VAT group, or register for VAT as a division of a larger business

You may also be taken off the scheme by Customs & Excise if they find that you have calculated your VAT incorrectly or that you have become ineligible but have not told them. If you leave the Flat Rate Scheme, you can't rejoin it for at least 12 months.

The Flat Rate Scheme and other VAT schemes

Annual Accounting Scheme

You can use the Flat Rate Scheme together with the Annual Accounting Scheme.

Using annual VAT accounting, you make nine monthly or three quarterly interim payments throughout the year. You only need to complete one VAT Return at the end of the year when you either make a balancing payment or receive a balancing refund.

You can join the Flat Rate Scheme and the Annual Accounting Scheme at the same time using a single application form.

Cash Accounting Scheme

You can't use the Flat Rate Scheme with the Cash Accounting Scheme. Instead, the Flat Rate Scheme has its own cash based method for calculating the turnover.

Retail schemes

You can't use the Flat Rate Scheme with the retail schemes, but if you are a retailer, the Flat Rate Scheme has its own retailer's method for calculating the turnover.