Flat VAT Rate vs Standard VAT Rate

Value-added tax (VAT) is a consumption tax that is added to most goods and services. Governments impose it at every stage where value is added to a product, from production to point of sale. In the UK, a company must have a taxable turnover threshold of at least £85,000 to qualify for VAT. Sole traders, self-employed business owners or freelancers who are VAT-registered are responsible for keeping up to date with VAT rates, which can change or be temporarily reduced, and for submitting a VAT return every quarter to HMRC even if no VAT is owed.  

There are two types of VAT rate schemes based on eligibility factors, with different approaches to calculation. It’s important to have a concrete understanding of the differences to decide what’s right for your business.  Flat VAT rate or standard VAT rate – the basics.

What is Flat VAT Rate

VAT-registered businesses can join the flat rate scheme if they expect their VAT taxable income to be ‎£150,000 ‎or less (excluding VAT). However, under the flat rate scheme, businesses can’t reclaim VAT on goods, services, and company expenses, except for certain capital assets over £2,000. Businesses will still charge VAT as usual and can keep the difference between the VAT charged and VAT paid, for a potential additional profit.

Paying a set rate means you don’t have to record the VAT that you charge on every sale and purchase as you do with standard ‎VAT accounting, reducing the administrative burden. Record keeping is simpler and less time-consuming, leaving more time for your business and making  cash flow monitoring smoother. 

However, not being able to reclaim VAT for purchases is a potential disadvantage for companies that purchase mostly standard-rated items, or that make many zero-rated or exempt sales, which might end up costing more in VAT.

What is Standard VAT Rate?

Standard rated VAT is calculated by deducting the VAT paid on expenses from the VAT charged on the sales invoices. Businesses with a turnover of more than £230,000 (including VAT) must use the standard VAT rate. The standard VAT rate allows more flexibility and is better for small businesses who expect sales to increase over time or have fluctuating sales. However, it demands more thorough record-keeping.

Flat VAT vs Standard Rates

The standard rate applies to most businesses, goods and services. Businesses eligible for the flat rate VAT are assigned a lower VAT rate, depending on the type of business.

The fixed VAT rate ranges from 4% to 14.5%. Businesses using the flat VAT rate scheme must choose the rate of the sector type closest to their business to determine the applicable VAT rate. Limited cost businesses, defined as spending less than 2% of the value of its sales on goods, pay a higher rate of 16.5% regardless of sector.

Typically, companies on the flat rate scheme sell goods that are already taxed at 0%, 15% or 20%.  The tax is calculated by multiplying the relevant VAT flat rate by the business’ VAT-inclusive turnover. 

Blue dot’s VAT calculator can estimate the available VAT reclamation for businesses using the standard VAT rate, helping to maximise reclaim while improving compliance.

Factors to Consider When Choosing Between Flat and Standard VAT Rates

Eligibility for VAT scheme is determined by UK government guidelines. There are a few factors to consider:

Implications for businesses

In the flat rate scheme, there are less chances for making costly mistakes and fewer worries about maintaining compliance in VAT reporting. It’s also easier to work out how much you will have to pay. 

However, small companies that are just starting out managing cash flow and overheads should consider the fact that the flat rate scheme could limit their commercial success.

Nature of business and industry

The UK government provides a guide to eligibility for the VAT flat rate scheme, with a list ‎of exceptions and percentages according to types of businesses and industry, that enables ‎you to work out your applicable flat rate. First-year VAT-registered businesses also get a 1% discount. Businesses that are no longer eligible must leave the scheme and pay the ‎standard rate.‎

Transaction volumes and turnover

The choice of VAT scheme also depends on a business’ expectations for VAT taxable turnover for the coming 12-month period. Small businesses should constantly monitor for any changes. The flat rate scheme is only for businesses with an annual taxable turnover of ‎£150,000 ‎or less.

Compliance and Legal Considerations

Since VAT rules may vary, it’s critical to know the requirements for each VAT rate and the associated compliance obligations, as well as the risks and penalties of non-compliance. Tax tech automation can help businesses efficiently and accurately track and calculate VAT and increase reclaim. Having up to date knowledge is especially important in calculating and reporting business expenses. 

For the flat rate, choosing the incorrect sector may lead to paying too much or too little tax and inaccurate reports, which may in turn lead to penalties.

Making the Decision: Which VAT Rate is Right for Your Business?

The choice of VAT flat rate scheme over the standard VAT accounting scheme is not necessarily straightforward, and should consider individual expectations and management factors. Consulting with tax professionals is vital to help understand the long-term implications of each and make the correct decision from both the taxation and the administrative aspect, as well as to ensure accurate calculations and compliance. That’s where Blue dot comes in. 

Blue dot is transforming the way organisations worldwide manage their transactional data and navigate the complexities of calculating VAT, offering its leading, AI-driven, cloud-based tax compliance platform to meet the rising demand for digital tax compliance solutions. Learn more about how Blue dot can help you make the right choices for your business, streamline your processes, and reduce the burden of your finance teams with technology-based services that ensure full compliance and peace of mind.