The VAT Flat Rate Scheme
The flat rate scheme used to be a straightforward way for small businesses to keep some of the VAT they collected. A rule introduced in 2017 removed that for most of them. Here is how it works and how to tell which side of the line you are on.
Updated 11 September 2026 · Tax year 2026/27
How the flat rate scheme works #
Normally you pay HMRC the VAT you charged minus the VAT you were charged. On the flat rate scheme you ignore both of those and pay a fixed percentage of your gross turnover, VAT included. Whatever is left over, you keep.
In exchange you give up the right to reclaim VAT on purchases. The percentage you pay is set by your trade sector and is supposed to approximate the VAT an average business in that sector would have reclaimed anyway. The appeal was never the money so much as the simplicity: one percentage, one sum, no invoice-by-invoice input tax.
Flat rate scheme percentages and thresholds #
The flat rate scheme VAT percentage you pay depends on your trade sector, and HMRC publishes the full list of flat rate scheme percentages. They run from around 4% for food retail to 14.5% for consultancy and similar services.
The flat rate scheme turnover limit comes in two figures, measured differently, which is covered below: £150,000.00 excluding VAT to join, and £230,000.00 including VAT to be required to leave.
Before looking up your sector percentage at all, check the limited cost test. If you fail it, your sector percentage is irrelevant and you pay 16.5% regardless.
The limited cost business test #
This is the rule that changed everything, and it is the first thing to check.
You are a limited cost business if your spending on goods is:
- less than 2% of your turnover, or
- less than £1,000.00 a year, even if that is more than 2%
If either applies, your flat rate is 16.5%, whatever your trade sector says. And 16.5% of gross turnover is very nearly all of the VAT you charged.
Goods means physical things used in the business. It excludes services, food and drink, vehicles and fuel (with narrow exceptions), and anything bought to be capitalised. That exclusion list is what pushes most service businesses over the line: a consultant buying software subscriptions and train tickets is buying services, not goods.
What that actually costs #
Two businesses, both turning over £60,000.00 excluding VAT, both charging 20% VAT, so both collecting £12,000.00 of VAT across the year.
| Consultant, £500.00 of goods | Trade business, £15,000.00 of goods | |
|---|---|---|
| Limited cost business? | Yes | No |
| Flat rate applied | 16.5% | 9.5% |
| Gross turnover | £72,000.00 | £72,000.00 |
| Paid to HMRC | £11,880.00 | £6,840.00 |
| Kept from the VAT charged | £120.00 | £5,160.00 |
The trade business with genuine materials spend is in a different position entirely, keeping £5,160.00. Whether that beats normal VAT accounting depends on how much input VAT they would otherwise have reclaimed, which is the calculation to do before joining.
The thresholds, and why they do not match #
| Figure | Measured how | |
|---|---|---|
| Join | £150,000.00 | Excluding VAT, expected over the next 12 months |
| Must leave | £230,000.00 | Including VAT, all taxable and exempt supplies |
| May be allowed to stay | £191,500.00 | If HMRC accepts income will fall below this over the next 12 months |
Read those two measurement bases carefully, because they are not comparable and people assume they are. The entry test strips VAT out. The exit test leaves it in and adds exempt supplies. A business on £195,000.00 of net turnover is well past the exit point once VAT is added, despite the gap between £150,000.00 and £230,000.00 looking generous.
You also cannot rejoin within 12 months of leaving, so leaving is not a decision to take lightly and come back from.
The first year discount #
Take 1 percentage point off your flat rate for your first year as a VAT registered business. It applies to the limited cost rate too, so a limited cost business pays 15.5% in year one before stepping up to 16.5%.
It runs from the date of registration, not from when you joined the scheme, so joining late in your first year gets you less of it.
The one thing you can still reclaim #
A single purchase of capital expenditure goods costing £2,000.00 or more, including VAT, sits outside the scheme. You reclaim that VAT in box 4 in the ordinary way.
It has to be one purchase, not a year of small ones added together, and it has to be goods rather than services. When you later sell that asset, the sale is handled outside the scheme too, so you account for VAT on it at the normal rate rather than at your flat rate.
If you work in construction, check this first #
The domestic reverse charge changed the arithmetic for construction businesses in 2021, and anyone who joined the flat rate scheme before then should re-run the numbers.
Reverse charge sales are excluded from your flat rate turnover. If most of your work is now reverse charged, the base you apply the flat rate to has shrunk dramatically, while the VAT you can no longer reclaim on your own purchases has not. For a lot of subcontractors the scheme stopped working on the day the reverse charge started, and nobody sent a letter.
Should you use it #
- Probably not if you sell your time, buy few goods, and would be a limited cost business.
- Probably not if you have substantial input VAT to reclaim, since you are giving that up.
- Possibly if you buy a real volume of goods, your sector percentage is low, and you value doing one sum a quarter instead of tracking every receipt.
- Worth re-checking if you are in construction and joined before the reverse charge started.
Whichever way it falls, work it out on your own figures rather than on the headline percentage. The right comparison is flat rate VAT paid against the input VAT you would otherwise have reclaimed, not against the sector rate on its own.
Common questions #
What is the VAT Flat Rate Scheme?
You charge customers VAT at the normal rate but pay HMRC a fixed percentage of your gross turnover instead of the difference between VAT charged and VAT reclaimed. You keep the difference, and in exchange you give up the right to reclaim VAT on most purchases.
Who can join the flat rate scheme?
A VAT registered business expecting VAT taxable turnover of £150,000 or less, excluding VAT, in the next 12 months. You cannot rejoin within 12 months of leaving, and there are exclusions for VAT groups and businesses closely associated with another.
When do I have to leave the flat rate scheme?
When your income for the year exceeds £230,000, including VAT and counting all taxable and exempt supplies. Note that the exit test includes VAT while the entry test excludes it, so they are not directly comparable. You may be allowed to stay if HMRC accepts income will fall below £191,500 in the next 12 months.
What is a limited cost business?
A business whose spending on goods is less than 2% of turnover, or less than £1,000 a year. Limited cost businesses pay 16.5% regardless of their trade sector, which usually wipes out any benefit from the scheme.
Is the flat rate scheme still worth it?
For most service businesses, no. The 16.5% limited cost rate introduced in 2017 removed the advantage for consultants, contractors and anyone who mainly sells their time. It can still pay for a business that buys a reasonable volume of goods and has a low sector percentage.
Can I reclaim VAT on the flat rate scheme?
Not on ordinary purchases. The one exception is a single purchase of capital expenditure goods costing £2,000 or more including VAT, which is dealt with outside the scheme and reclaimed in box 4 as normal.
Does the first year discount still apply?
Yes. You take 1 percentage point off your flat rate for your first year as a VAT registered business. It applies to the limited cost rate too, so a limited cost business pays 15.5% in year one.