For years, many small businesses have stated that being registered for VAT is an administrative burden on their business. By being VAT registered, a business is effectively an unpaid tax collector. In order to try and help small businesses, the Flat Rate Scheme (FRS) was introduced by HM Revenue and Customs (HMRC) in 2002.
If you are VAT registered, the usual way of accounting for your VAT is to calculate how much you have charged your customers, which you need to pay over to HMRC, and how much VAT you have incurred on your purchases, which can be deducted from the amount you have to pay over.
The main way in which the FRS tries to help business is by removing the need to separate input VAT from expenses, which can take a lot of time and effort. Instead, the VAT liability of a business is calculated using a pre-determined % (based on the industry in which the business operates), which is applied to the gross amount charged to customers.
For example, Helen is an IT consultant. If she registers under the FRS, she still charges her clients standard rated VAT. So a bill for £1,000 has £200 VAT added on.
Under her sector, the relevant % is 14.5%. Therefore, the total VAT liability is £1,200 x 14.5% = £174.
So although she charges her client £200, she only has to pay £174 over. The balance effectively represents an estimate by HMRC of the input VAT that she cannot reclaim.
Obviously one of the biggest advantages of operating the FRS is that it dramatically simplifies the VAT process, plus removes some of the ambiguity of whether input VAT can be reclaimed on smaller receipts. However, it does not remove the need for normal bookkeeping requirements.
Although you cannot reclaim any input VAT, there is a provision for reclaiming input VAT on capital assets with a VAT-inclusive cost of at least £2,000.
The full details of the FRS can be found here: