If you’re registered for VAT or thinking about it, you may be weighing up whether the Flat Rate Scheme or the Standard VAT Scheme is a better fit.
Choosing the right VAT scheme can make a big difference to your small business’s cash flow and admin burden.
In this article, we’ll break down the key differences, help you understand the pros and cons of each, and walk you through how to decide which scheme works best for your circumstances.
What Are the Flat Rate and Standard VAT Schemes?
The Standard VAT Scheme is the default scheme for VAT-registered businesses.
You charge VAT on your sales (output VAT), reclaim VAT on your purchases (input VAT), and pay HMRC the difference.
This usually involves submitting a quarterly VAT return with detailed records of all income and expenses.
The Flat Rate Scheme (FRS) is designed to simplify VAT for small businesses.
Instead of calculating VAT on each transaction, you pay a fixed percentage of your total VAT-inclusive turnover.
You keep the difference between what you charge customers and what you pay to HMRC, but you generally can’t reclaim VAT on purchases (with a few exceptions).
Download our free Taxes Made Simple guide which breaks down all you need to know about taxes as a UK business owner, not just VAT.
How the Standard VAT Scheme Works
Under the Standard VAT Scheme, you:
- Charge VAT on all eligible sales (known as output VAT).
- Reclaim VAT on business purchases and expenses (known as input VAT).
- Pay HMRC the difference between the VAT you’ve collected and the VAT you’ve spent.
You submit a quarterly VAT return showing your total sales, purchases, and the VAT amounts involved.
You must also keep digital VAT records using MTD-compliant software.
Example:
If you charge £2,000 in VAT and reclaim £500 on expenses, you pay £1,500 to HMRC.
If your expenses outweigh your sales VAT, HMRC may owe you a refund.
This scheme is best if you incur a lot of VAT on goods, services or capital items—especially in early-stage or growing businesses
To join the Flat Rate Scheme, your business must:
- Be VAT registered
- Have a VAT-taxable turnover of £150,000 or less (excluding VAT)
- Apply to HMRC to join the scheme
How the Flat Rate Scheme Works
Each type of business has a fixed flat rate percentage.
Instead of calculating VAT on each sale and purchase, you apply this percentage to your gross (VAT-inclusive) turnover.
You still charge 20% VAT to customers, but you pay a lower rate to HMRC.
Steps:
- Invoice clients with standard VAT (e.g., £10,000 + £2,000 VAT = £12,000).
- Apply your industry’s flat rate to the full £12,000.
- Pay that amount to HMRC.
Example (IT Consultant, 14.5% rate):
- Invoice: £12,000 (inc. VAT)
- Flat rate VAT: £12,000 x 14.5% = £1,740 paid to HMRC
- Keep the difference between VAT charged and flat rate paid
Note: In your first year of VAT registration, you get a 1% discount on your flat rate.
You generally cannot reclaim input VAT, except on capital purchases over £2,000 (including VAT).
The Flat Rate Scheme simplifies VAT for businesses with low VAT-able expenses, but may cost more if you buy a lot of goods or services.
Pros and Cons of Each Scheme
Standard VAT Scheme
Pros:
- Reclaim VAT on purchases and capital expenses
- Fairer if you incur a lot of VAT on costs
- Works well if you deal with VAT-registered suppliers
Cons:
- More admin: detailed tracking and quarterly VAT returns
- May result in HMRC repayments to you, which can be delayed
- MTD-compatible software required
Flat Rate Scheme
Pros:
- Simpler VAT calculations
- Less bookkeeping required
- Fixed VAT payment rate means predictable liabilities
Cons:
- Cannot reclaim most input VAT
- Flat rate may cost more if you have high VAT-inclusive expenses
- Not available if you spend little on goods (limited cost trader rule may apply)
When the Flat Rate Scheme Makes Sense
The FRS can be cost-effective for:
- Service-based businesses with low overheads
- Freelancers or consultants working from home
- Businesses with minimal VAT-able expenses
However, it’s not suitable if you:
- Spend a lot on stock, materials, or subcontractors
- Buy expensive capital items (computers, tools, etc.)
- Have a mixed supply chain of exempt and standard-rated items
What Is the Limited Cost Trader Rule?
Since April 2017, HMRC applies a 16.5% flat rate for businesses classed as “limited cost traders.” This applies if you spend less than 2% of your VAT-inclusive turnover (or less than £1,000 per year) on goods.
It excludes:
- Capital goods
- Food and drink
- Vehicles or fuel (unless your business is transport-based)
This rule makes the Flat Rate Scheme much less beneficial for some service businesses, so always check before applying.
Switching Between Scheme
You can switch from the Flat Rate to the Standard Scheme (or vice versa) if your circumstances change. Just notify HMRC and ensure you follow the correct process for the changeover period.
Make sure your bookkeeping system is set up to handle the new VAT method and that you understand the record-keeping requirements for the new scheme.
Final Thoughts: What’s Best for You and Your Business?
Choosing the right VAT scheme depends on your industry, expenses, and capacity for admin.
If you’re spending very little on VAT-able goods, the Flat Rate Scheme might save you time but not money.
If you have higher expenses or plan to grow quickly, the Standard Scheme may offer better value.
If you have any questions or need some guidance, get in touch today for a friendly, no-obligation chat.
