This guide explains how the UK VAT Flat Rate Scheme works for small businesses and what changes compared with standard VAT accounting. You’ll learn how HMRC sets flat rate percentages, who can join, and why the limited cost trader rule matters so much in practice. The guide also shows how to calculate what you owe, with simple examples, and how to spot cases where the scheme saves money or costs more.
The VAT Flat Rate Scheme can cut the admin side of VAT, but it does not automatically cut your VAT bill. The key factor is the limited cost trader rule, because it forces many service businesses onto the 16.5% rate. If that happens, the scheme often stops being a win. So this choice should come down to numbers, not convenience.
What is the VAT?
VAT (Value Added Tax) is a tax added to most goods and services sold in the UK.
If your business is VAT-registered, you usually do two things: charge VAT on what you sell (output VAT) and pay VAT on some business costs (input VAT). When you submit a VAT return, you normally pay HMRC the difference between the VAT you charged customers and the VAT you paid on eligible purchases. The standard VAT rate in the UK is 20%, but some items use reduced or zero rates. VAT registration becomes mandatory once your taxable turnover goes over the annual threshold set by HMRC.
What is the Flat Rate VAT scheme?
The VAT Flat Rate Scheme is a simplified way to pay VAT where you give HMRC a fixed percentage of your VAT-inclusive turnover instead of working out VAT on every purchase.
In practice, you still charge VAT to customers at the normal rate (usually 20%), but you do not calculate input VAT on most of your costs. Instead, you apply one HMRC percentage for your business type to your gross sales (your turnover including VAT) and pay that amount to HMRC. The percentage depends on your sector and can sit anywhere from low single digits to 16.5%. If you are in your first year of VAT registration, HMRC gives you a 1% reduction on your flat rate percentage for that first year.
Q&A: Do I still charge 20% VAT to customers on the Flat Rate Scheme?
Yes. You charge VAT in the usual way on your invoices. The difference is only in how you calculate what you pay to HMRC – you pay your flat rate percentage of VAT-inclusive turnover, rather than VAT charged minus VAT on purchases.
How does the VAT Flat Rate scheme work?
On the Flat Rate Scheme, HMRC does not ask you to calculate VAT on every purchase. Instead, the calculation is based on one number: your VAT-inclusive turnover for the VAT period.
Here is what happens in practice:
- You add VAT to your invoices as normal (usually 20%).
- You total your VAT-inclusive sales for the quarter (sales including VAT).
- You pay HMRC your flat rate percentage of that total, based on your business type (or 16.5% if you are a limited cost trader).
The main trade-off is input VAT. Under the Flat Rate Scheme, you normally do not reclaim VAT on purchases, even if you have VAT receipts. The exception is certain capital assets that cost GBP 2,000 or more including VAT (for example, a computer system or equipment bought for business use). Everyday costs like software subscriptions, rent, phone bills, and most tools do not qualify for reclaim under the scheme.
Real-world example:
VAT-inclusive turnover this quarter: GBP 24,000
Flat rate percentage: 14%
VAT due to HMRC: GBP 24,000 x 14% = GBP 3,360
Who can use the VAT Flat Rate Scheme?
You can join if:
- You are VAT-registered
- You expect your taxable turnover (excluding VAT) to be GBP 150,000 or less in the next 12 months
How to apply / when it starts:
You apply through your HMRC VAT online account. HMRC will confirm your start date, and the scheme applies from that date onwards (it is not backdated).
You cannot join if
- You are in a VAT group, or closely linked to another VAT-registered business in a way that makes you ineligible
- You use another VAT scheme that cannot be combined with Flat Rate (for example, margin schemes)
- You left the Flat Rate Scheme in the last 12 months
- You have had a relevant VAT offence in the last 12 months
You must leave if
- Your VAT-inclusive turnover goes over GBP 230,000 in the last 12 months, or you expect it to exceed GBP 230,000 in the next 12 months
- Your business structure changes (for example, you join a VAT group)
- You start using another VAT scheme that makes you ineligible
How to leave:
If you become ineligible, you must tell HMRC within 30 days. After you leave, you return to standard VAT accounting, which means you calculate VAT in the usual way and input VAT tracking becomes part of your VAT return process again.
Further Reading: Company UTR Numbers Explained: What They Are, How They’re Used, and Why They Matter
What are Flat Rate percentages in 2026
When you join the VAT Flat Rate Scheme, HMRC assigns your business a Flat Rate percentage based on what you mainly do. The key point is that the percentage is not chosen by the VAT rate you charge customers, but by your business activity category. If your business covers more than one type of work, you normally apply the percentage for the activity that brings in the largest share of turnover. If your main activity changes over time, you are expected to switch to the new category percentage from the relevant date, so your VAT return stays aligned with what your business actually sells.
Examples of common Flat Rate percentages
Here are some business categories that have their own Flat Rate percentages:
- Accountancy or legal services
- Computer and IT consultancy
- Management consultancy
- Advertising services
- Architectural services
- Retail food, confectionery, or newspapers
Limited cost trader rate (separate rule): 16.5%.
What is a limited cost trader and how does it affect Flat Rate VAT?
The limited cost trader rule is the main reason the VAT Flat Rate Scheme can end up costing more, especially for service businesses. You are classed as a limited cost trader if your spending on relevant goods is less than 2% of your VAT-inclusive turnover, or less than GBP 1,000 per year (if that is higher). If this rule applies, you must use the 16.5% Flat Rate percentage, even if your sector percentage would normally be lower.
Relevant goods are usually physical items used in the business, such as stationery, cleaning products, or stock purchased for resale. Many everyday costs do not count, which is where businesses often get caught out. Services are excluded, so software subscriptions, rent, accountancy fees, phone plans, and other service-based spending does not help you pass the test. Food and drink for staff does not count. Capital goods are also excluded. Vehicles and fuel only count in specific cases, mainly where transport is the core business activity.
Q&A: Does software count as goods for the limited cost trader test?
No. Software subscriptions are treated as services, so they do not count as goods for this calculation.
Is the VAT Flat Rate Scheme worth it?
The Flat Rate Scheme can be a good deal, but only for the right business type. It works best when your VAT on purchases is low and the Flat Rate percentage is lower than the VAT you would normally pay after reclaiming input VAT. If you have significant VATable costs, or you fall under the limited cost trader rule, the scheme often becomes expensive.
When it usually saves money
- You have low VATable costs, so you are not losing much by giving up input VAT reclaim
- You are not pushed into the limited cost trader rate
- You want simpler VAT admin and a stable VAT calculation each quarter
When it usually costs more
- You have high VATable expenses, where input VAT reclaim makes a real difference
- You spend heavily on items that do not qualify for the capital goods exception
- You fall under the limited cost trader rule, which forces the 16.5% rate
Decision shortcut: If your input VAT is low and you are not a limited cost trader, Flat Rate often works well. If your input VAT is high or you are a limited cost trader, standard VAT accounting often works better.
Flat Rate vs standard VAT accounting
| Topic | Flat Rate Scheme | Standard VAT |
| How VAT is calculated | Flat rate percentage of VAT-inclusive turnover | Output VAT minus input VAT |
| Input VAT reclaim | Usually no (except certain capital assets costing GBP 2,000+ including VAT) | Yes, subject to VAT rules |
| Admin workload | Lower | Higher |
| Best for | Low-cost service businesses that are not limited cost traders | Businesses with significant VATable costs |
| Main risk | Being forced into the limited cost trader rate | Errors in record-keeping and VAT reclaim |
Common mistakes HMRC cares about
- Using the wrong business activity rate
- Applying the 1% discount after the first year
- Misapplying the limited cost trader test
- Using net turnover instead of VAT-inclusive turnover in calculations
- Missing the leave threshold and failing to notify HMRC within 30 days
Further Reading: P60 explained: your year-end tax summary in the UK
How Wallester can help with VAT admin
Even if you use the VAT Flat Rate Scheme, you still need clean records of business spending, especially if you want to stay on top of the limited cost trader rule and avoid VAT surprises. Wallester Business gives you a clear view of company card transactions in one place, with spend split by card, employee, team, or project. That makes it easier to review what counts as goods spending in each VAT period and keep your reporting consistent.
Wallester can also reduce the routine admin that usually sits around VAT. You can export transaction data and attach supporting details to expenses, which helps when you need to justify costs, track recurring payments, or reconcile spend against invoices. If you later switch back to standard VAT accounting, having card spending structured and searchable makes VAT reclaim and bookkeeping much cleaner.
For businesses with multiple staff members, Wallester also supports tighter spend control. Finance teams can set card limits, restrict merchant categories, and separate budgets across teams.
