Guide

The VAT Flat Rate Scheme explained

The Flat Rate Scheme is a simpler way for a small VAT-registered business to work out what it owes HMRC. You charge VAT as normal, pay HMRC a fixed percentage of your VAT-inclusive takings, and keep the difference. In return you give up reclaiming VAT on most of what you buy. This guide covers how the scheme works, who can join, when you must leave, the limited cost trader rule, and how to tell whether it would leave you better or worse off.

Last checked 9 November 2026 against GOV.UK's Flat Rate Scheme guidance and VAT Notice 733. This is general information, not tax advice.

How the scheme works

Under normal VAT accounting you pay HMRC the VAT you charged on sales less the VAT you paid on purchases. Under the Flat Rate Scheme you pay a percentage of your VAT-inclusive turnover instead. GOV.UK's example: a photographer bills £1,000 and adds £200 VAT, making £1,200. The flat rate for photography is 11%, so the payment is 11% of £1,200, which is £132. The photographer keeps the other £68 of the VAT charged.

Three things follow from that:

• your invoices do not change: you still show VAT at 20%, 5% or 0% as normal, and your customers reclaim it as normal;
• you do not reclaim VAT on purchases, because an allowance for it is built into the percentage, except on a single purchase of capital goods costing £2,000 or more including VAT;
• the percentage applies to all your takings, including any zero-rated or exempt income, so a business with a lot of such income pays flat-rate VAT on sales it would otherwise pay nothing on.

The percentages run from 4% for retailing food, confectionery, tobacco, newspapers or children's clothing to 14.5% for accountancy, IT consultancy, legal services, architects and labour-only construction. The VAT Flat Rate Scheme calculator has the full HMRC table and works out both methods side by side.

Who can join: the £150,000 test

You can apply to join if you are a VAT-registered business and you expect your VAT taxable turnover, excluding VAT, to be £150,000 or less in the next 12 months. VAT taxable turnover is everything you sell that is not exempt from VAT, so zero-rated sales count towards the £150,000. You forecast it in any reasonable way: your last four returns if you have been registered a year or more, or your trading so far, your business plan or the previous owner's figures if you are new.

You cannot join if any of these applies:

• you left the scheme in the last 12 months;
• you committed a VAT offence, such as evasion, in the last 12 months;
• you joined, or were eligible to join, a VAT group in the last 24 months, or registered as a business division in the last 24 months;
• your business is closely associated with another business;
• you use a margin scheme or the Capital Goods Scheme.

You cannot combine it with the Cash Accounting Scheme either; the Flat Rate Scheme has its own cash-based method for working out turnover. You can use it with the Annual Accounting Scheme.

If you are not yet VAT registered, you apply for the scheme when you register. If you are already registered, you apply online or by post, and HMRC confirms the start date in your VAT online account or by letter.

When you must leave: the £230,000 test

The joining test looks forward and excludes VAT; the leaving test looks back and includes it. You must leave the scheme if:

• on the anniversary of joining, your total income including VAT in the past 12 months was more than £230,000, or you expect it to be in the next 12 months;
• you expect your total income in the next 30 days alone to be more than £230,000 including VAT;
• you are no longer eligible for another reason, for example you join a VAT group or start using a margin scheme.

For a quarterly filer the leaving date after the anniversary test is the end of the VAT period that contains the anniversary. If your business is growing fast you need to check the 30-day rule at least monthly. You can also leave by choice at any time by writing to HMRC with your name, signature, VAT number and business details; HMRC confirms the date. After leaving, for any reason, you wait 12 months before you can rejoin.

The limited cost trader rule: 16.5%

Since 1 April 2017 a business that spends little on goods uses 16.5% whatever its sector. HMRC calls this a limited cost business. For each VAT return, you are one if the goods you bought, including VAT, come to either:

• less than 2% of your VAT-inclusive turnover for the period; or
• more than 2% of it but less than £1,000 a year. For a quarterly return the figure is £250.

Only relevant goods count: goods used exclusively for the business, such as stock for a shop, stationery, cleaning products, materials, gas and electricity used only for the business, or fuel for a taxi owned by a taxi firm. These do not count:

• any services: rent, accountancy, advertising, software you download, subscriptions, postage;
• capital expenditure goods of any value, such as a laptop or a phone for the business;
• food or drink for you or your staff;
• vehicle costs and fuel, unless you are in the transport sector using your own or a leased vehicle;
• goods bought to resell or hire out, unless that is your main business;
• goods bought only to pass the test, which HMRC says are not used exclusively for the business.

Notice 733 gives three examples. A business with £10,000 of takings a quarter that spends £260 on goods is above both 2% (£200) and £250, so it uses its sector rate. One with £20,000 a quarter that spends £325 is above £250 but below 2% (£400), so it uses 16.5%. One with £10,000 a quarter that spends £225 is above 2% but below £250, so it also uses 16.5%. Because the test runs every return, a business near the line can move between the two rates from one quarter to the next.

At 16.5% of gross takings the scheme is nearly always worse than normal accounting: 20% VAT is 16.67% of a VAT-inclusive price, so you hand over almost all the VAT you charged and reclaim nothing. The rule mostly catches contractors and consultants who sell their time and buy little.

The first-year discount

In your first year of VAT registration you take 1 percentage point off your flat rate, so a limited cost business pays 15.5% and a photographer 10%. The year runs from the date you registered for VAT, not the date you joined the scheme, and ends the day before your first anniversary of registration. If you register for VAT late, more than 12 months after you were required to, you do not get the discount.

Pros and cons

For the scheme

• Simpler records: you do not have to record the VAT on every purchase, because you are not reclaiming it.
• A fixed, predictable percentage, which helps with cash flow.
• A business that buys less than the average for its sector keeps more of the VAT it charges.
• Bad debt relief is still available, and the cash-based turnover method means you pay only on money received.

Against it

• No VAT back on purchases, apart from single capital items of £2,000 or more. A business with a lot of VAT on its costs loses out.
• The 16.5% limited cost rate, which turns the scheme into a cost for most service businesses with few goods.
• Zero-rated and exempt sales are charged at your flat rate, so the scheme suits a business with those sales badly.
• You cannot use it with cash accounting, margin schemes or the Capital Goods Scheme, and you wait 12 months to rejoin after leaving.
• You still have to issue proper VAT invoices and keep a VAT account, so the paperwork saving is smaller than it sounds.

The arithmetic is quick to check. Take a quarter's sales excluding VAT, add 20%, apply your flat rate, and compare the result with 20% of your net sales less the VAT on your purchases for the same quarter. The calculator does this, runs the limited cost test, applies the first-year discount and tells you the difference. If the answer is close, remember that the limited cost test can flip from one quarter to the next, and talk to an accountant before you apply.

Records and returns on the scheme

You choose one of three ways to work out your turnover and keep it for at least 12 months: the basic turnover method, based on invoices issued; the cash-based method, based on payments received; or the retailer's method, based on daily takings. You keep a VAT account showing the flat rate calculation for each period and a record of the flat rate you used. You still issue VAT invoices to VAT-registered customers in the normal way, and the UK invoice generator shows the VAT rate and amount on each line as the rules require. If a rate changes part-way through a period, or you leave the scheme mid-period, you do two calculations and add them together on the return.

Sources

• VAT Flat Rate Scheme, GOV.UK: who can join, how to join, work out your flat rate (the sector table, the limited cost business test and the photographer example), if your circumstances change, leaving the scheme.
• Flat Rate Scheme for small businesses (VAT Notice 733), GOV.UK (updated 18 December 2025): paragraphs 2.4, 3.1 to 3.3, 4.4, 4.6, 4.7, 6.1 to 6.3, 12.1 to 12.6, 15.1 and 15.2.