The VAT Flat Rate Scheme

What is the VAT Flat Rate Scheme?

Many limited company contractors find the VAT Flat Rate Scheme a great alternative to cash accounting. A company registered for the scheme does not have to account internally for Value Added Tax (VAT) on sales and purchases. Instead the company calculates its VAT liability by applying a flat rate percentage to tax inclusive turnover.

The percentage used to calculate VAT liability depends upon the type of business the company is engaged in. For computer consultancy the flat rate percentage is 13%. However, as this is paid on the Gross sum (ie on 117.5% of the net figure), the effective rate is 15.28%

Companies that have large amounts of reclaimable Input VAT should not use the scheme as more tax will be paid than necessary on company purchases.

How does the VAT Flat Rate Scheme benefit Contractors?

Limited Company contractors generally benefit in two ways from using the VAT Flat Rate Scheme:

Limited Company VAT administration is reduced
Depending upon Input VAT levels the scheme may actually increase profit levels

If an IT contractor with a limited company were to register for the VAT Flat Rate Scheme they would normally apply a flat rate percentage of 13% to tax inclusive turnover. However, in the first year of registration they get a ‘bonus’; the rate is reduced by 1%. For IT consultancies this means a rate of 12% (effectively 14.1%) rather than 13% (effectively 15.28%).

If the Company had annual (ex VAT) revenue of £80,000, the output VAT charged would be £14,000, meaning there would be total revenues including VAT of £94,000. Using a discounted 12% VAT Flat Rate Percentage the total payment to the HMRC would be £11,280 (£94,000 x 12%). This means that the amount retained as profit would be £2,720 (£14,000 - £11,280).

So long as the company did not have input VAT charges in excess of £2,720, a saving would be made. For the majority of Contractors using the scheme, the greater the revenue generated by the company the greater the VAT saving as Input VAT levels tend to be low.

Who can join the scheme?

The VAT Flat Rate Scheme is designed for small businesses. Companies should apply for the scheme if:

Taxable Turnover (excluding VAT) in the following year is expected to be £150,000 or less
Total Business Income (including VAT) in the following year is expected to be £187,500 or less

The VAT Flat Rate Percentage & First Year Reduction

The VAT Flat Rate Percentage used depends on the business sector the company is in. The Flat Rate for Computer and IT Consultancy is 13%. Companies in the first year of VAT Registration get a 1% reduction on the Flat Rate meaning that IT Contractors in the first year of business use a percentage of 12% to calculate the liability.

Claiming back Input VAT

It’s not normally possible to claim back Input VAT from the HMRC as the flat rate percentage takes into account VAT paid to suppliers. However, where the company purchases a capital asset of more than £2,000 (including VAT) it may be possible to claim back VAT on the item.

To find out more about going into business with a Limited Company call Commonwealth Contractors now on 0800 294 4388 or submit your details and we will get right back to you

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