How Does VAT Cash Accounting Scheme Work?

08/10/2022 - 12 minutes read

VAT Cash Accounting Scheme is very popular with small businesses due to the cashflow benefits it offers whereby you don’t have to pay VAT to HMRC until your customer has paid the VAT to you.

Who can use the VAT Cash Accounting Scheme?

You are eligible to start using the VAT Cash Accounting scheme if you meet the following conditions:

• – you expect the value of your taxable supplies in the next year will be £1,350,000 or less ― to work out the value of your taxable supplies read paragraph 2.2)
• – you have no VAT Returns outstanding
• – you have not been convicted of a VAT offence in the last year
• – you have not accepted an offer to compound proceedings in connection with a VAT offence in the last year
• – you have not been assessed to a penalty for VAT evasion involving dishonest conduct in the last year
• – you do not owe HMRC any money or if you do, you have made arrangements with them to clear the total amount of your outstanding VAT payments (including surcharges and penalties)
• – HMRC has not written to you withdrawing the use of the scheme during the last year
• – HMRC has not written to you and denied you access to the scheme

How to estimate your future taxable supplies for VAT Cash Accounting Scheme?

If you have been registered for less than 12 months, the simplest way is to estimate in the same way you did when you completed form VAT 1: application for registration. You can read VAT 1: application for registration in Register for VAT by post. If you have been registered for 12 months or more, you can use the value of your past year’s taxable supplies as a guide.

If you believe these methods are not a good indicator of your future taxable supplies, you can make the estimate in any reasonable way.

You might use:

• – your business plans
• – information relating to pre-registration business activity
• – business information from a previous owner

Faulty VAT turnover estimation

If you estimate that your VAT turnover will not exceed £1,350,000 in the coming year and you are wrong, HMRC will not penalise you for this provided you can show that there were reasonable grounds for your estimate when you started using VAT Cash Accounting Scheme.

If your estimate of turnover had no reasonable estimate, HMRC will immediately remove you from the scheme. So it is sensible to keep a record of how the estimate was made.

What to do if the value of your taxable supplies exceeds £1,350,000

Once you have joined the VAT Cash Accounting Scheme you may continue to use it until the annual value of your taxable supplies including the disposal of stock and capital assets, but excluding VAT, reaches £1,600,000.

If this figure is exceeded, you will have to leave the VAT Cash Accounting Scheme at the end of your current tax period and use the normal method of accounting in future.

For example, you must leave the VAT Cash Accounting Scheme on 30 November and begin paying normal VAT accounting from 1 December if your:

• – VAT quarter ends on 30 November
• – taxable supplies in the 12 months ending 30 November exceeded £1,600,000

An exception to this rule for one-off sales is explained in paragraph 2.6.

You should monitor the number of your taxable supplies regularly so that you have time to modify your books and records if you have to leave the scheme.

If you do leave the VAT Cash Accounting Scheme, you must bring all outstanding VAT to account.

How to account for VAT if you leave the VAT Cash Accounting Scheme voluntarily or because your turnover has exceeded the ceiling

When you leave the VAT Cash Accounting Scheme there may be supplies that you have made for which you have not been paid and as a result, you have not accounted for any VAT. You will need to account for this VAT even if you have not been paid by the customer. There may also be cases where you have not paid your suppliers and you have not yet claimed your input tax. You are entitled to claim this input tax subject to the normal VAT rules. You may choose either to:

• – account for all your outstanding VAT due in the period in which you stop using the scheme ― this may be simpler but could have a serious effect on your cash flow if the amounts of unpaid VAT on supplies you have made are high
• – opt for a further 6 months in which to account for the outstanding VAT

You cannot opt for a further 6 months in which to account for the outstanding VAT if:

• – HMRC has withdrawn the use of the VAT Cash Accounting Scheme from you
• – the value of your taxable supplies has exceeded £1,600,000 and the value of your supplies made in the previous 3 months totalled more than £1,350,000

You do not need to notify HMRC about which method you have chosen.

How to account for VAT if you use the 6-month option

To avoid double accounting you will need to keep your normal cash accounting records for the supplies you made and received while you used the VAT Cash Accounting Scheme. In particular, you will need to keep a record of payments you make and receive during the 6 months. In addition, you will need to keep separate records required under normal VAT accounting for new supplies you make and receive after you left the VAT Cash Accounting Scheme.

Accounting for outstanding VAT on bad debts when you leave the VAT Cash Accounting Scheme

One advantage of the VAT Cash Accounting Scheme is that you do not have to account for VAT on bad debts. However, if you stop using cash accounting, you have to account for VAT on supplies you have made and received even if they have not been paid for (read paragraph 6.4).

If you have not received any payment then you may be able to claim relief for your bad debts which meet the conditions of the Bad Debt Relief Scheme.

The key conditions are:

• – that it is 6 months from the date on which the debt became due and payable or the supply was made, whichever is later
• – you can provide evidence that the bad debt has been written off in your ‘refunds for bad debts’ account
• – for supplies made prior to 1 January 2003, where your customer is registered for VAT, you have notified your customer of your claim for bad debt relief

For more information read Relief from VAT on bad debts (VAT Notice 700/18).

If your taxable supplies exceed £1,600,000 because of a ‘one-off’ increase in sales

If you exceed the £1,600,000 limit because of a one-off increase in sales, you may be able to remain on cash accounting on condition that you meet all of the following criteria:

• – the one-off increase has not happened before and is not expected to happen again, for example, the sale of a capital asset
• – the sale arose from a genuine commercial activity
• – there are reasonable grounds for believing that the value of your taxable supplies in the next 12 months will be below £1,350,000

You must keep a record of how you came to your decision to remain on the scheme. If HMRC finds that you do not meet all the conditions then they may exclude you from the scheme immediately, or from the date, your ineligible use began.

How to calculate your VAT due if you’re a new VAT registration

If you use the scheme from the first date of your VAT registration you may be eligible to reclaim, as though it was input tax, VAT on certain purchases made prior to being registered. For more information read the VAT guide (VAT Notice 700).

For example, you may be able to reclaim VAT on:

• – initial stocks
• – tools
• – machinery
• – office furniture
• – other capital equipment

If you choose to use the scheme from the date of your VAT registration, you must recover the VAT on such purchases as follows:

The next 2 sentences have the force of law under regulations 57 and 59 in VAT Regulations 1995.

If you have already paid for the qualifying goods and services, reclaim the VAT as though it was input tax on your first VAT Return.

If you pay for the goods or services after you have registered for VAT, claim the VAT, as though it was input tax, in the tax period in which you pay for them.

How can MCL Accountants help?

Contact MCL Accountants on 01702 593 029 if you have any queries on how does VAT Cash Accounting Scheme work or if you need any assistance with the preparation and submission of your business accounts or self-assessment tax returns to HMRC.