Flat Rate Scheme vs standard VAT
The Flat Rate Scheme trades VAT reclaims for a simpler flat percentage of turnover. Whether that saves or costs you depends on your sector rate and how much you spend — and on whether the 16.5% limited-cost-trader rule catches you.
Your figures
The two bills
The scheme swaps paperwork for a wager
Standard VAT has you charge 20%, reclaim the VAT on your costs, and pay HMRC the difference. The Flat Rate Scheme drops the reclaiming: you keep charging customers 20% but hand over a single flat percentage of gross turnover set by your trade, from around 4% up to 14.5%, with 1% off in your first registered year. Less bookkeeping, and a built-in bet: the scheme pays off only when your flat rate takes less than the VAT you'd have netted the ordinary way. Joining needs expected taxable turnover under £150,000; you must leave once gross income passes £230,000.
An £80,000 example, and the 16.5% trap
A service business on £80,000 plus VAT with £6,000 of VAT-bearing costs, on a 14.5% trade rate, ends up £1,040 a year worse off on the scheme: the flat percentage of the gross outruns what standard accounting would have collected. Cut the costs further and it gets worse, thanks to the limited cost trader rule. Spend under £1,000 a year on goods, or under 2% of turnover, and your trade rate is replaced with 16.5% of gross, which works out at 19.8% of net sales and leaves almost nothing of the margin the scheme once offered. That rule arrived in 2017 precisely to end the era of contractors profiting from flat rates, and it did.
Decide with your own figures
The comparison swings on your cost base and trade percentage, so run real numbers rather than instinct. The plain VAT calculator handles the everyday add-and-remove arithmetic, and if quarterly digital filing is new territory, the Making Tax Digital checker shows what's arriving for income tax as well.
Common questions
How does the VAT Flat Rate Scheme work?
You still charge customers 20% VAT as normal, but instead of deducting the VAT on your purchases you simply pay HMRC a flat percentage of your VAT-inclusive turnover, set by your business sector. The gap between the 20% you collect and the flat rate you pay is yours to keep — in exchange you give up reclaiming VAT on most costs.
What is the limited cost trader rule?
If your spend on relevant goods is less than 2% of your VAT-inclusive turnover, or under £1,000 a year, you must use 16.5% instead of your sector rate. Services, capital equipment, food, and vehicles don’t count as relevant goods. Since 16.5% of gross turnover is about 19.8% of net sales, the scheme saves almost nothing for most service businesses caught by it.
Who can join and when must you leave?
You can join if you expect VAT-exclusive taxable turnover of £150,000 or less in the next year, and you must leave once total VAT-inclusive income in a year passes £230,000. In your first year of VAT registration you also get a 1% discount off your sector rate.
Where do I find my sector’s flat rate percentage?
HMRC publishes the full list in VAT Notice 733 — rates run from 4% (retailing food) to 14.5% (IT consultancy, accountancy and similar services). Enter your sector’s figure in the calculator; if two categories could apply, HMRC expects a reasonable choice which you should record.
These results are estimates for general information only and are not financial advice. VAT scheme decisions depend on your exact mix of sales and costs — confirm with your accountant before switching. Read the full disclaimer.