Annual Accounting Scheme – Simplify your VAT return

VAT is a topic that many entrepreneurs still associate with problems. Many are also unaware that they can adapt the filing process to their own needs – within legal limits, of course.

Making Tax Digital (MTD), which mandates VAT reporting using HMRC-approved software, came into effect in 2019. Most VAT payers know they can file monthly or quarterly, but few are aware that VAT can also be filed annually. In such cases, the reporting rules differ slightly.

File VAT Annually - Annual Accounting Scheme

We often hear that the frequency of filing returns makes entrepreneurs' lives much more difficult and that the process is too complicated. A solution to this could be switching to an annual accounting system.

The Annual Accounting Scheme reduces bureaucracy – a company only files one VAT return at the end of the year. Throughout the year, VAT payments are made in installments, which collectively amount to the sum the company expects to pay during that year.‍

Installments can be paid monthly or quarterly, exclusively by electronic means such as standing order, direct debit, etc.

If you decide to join this scheme and notify the tax office, they will send you a notice detailing the installment amounts and their payment deadlines.

The date from which a company switches to the new rules will be the first day of the current VAT accounting period, meaning the first VAT accounting period under the scheme will usually be counted from the first day of the VAT accounting period in which the application was made, or – if the application was submitted on a later day of the accounting period – from the first day of the next accounting period. For example, if a company's monthly accounting period begins on April 1st and ends on April 30th, and it was accepted into the scheme on April 14th, then the company's first accounting period begins on April 1st. If the application was submitted on April 26th, the first accounting period will begin on May 1st.

The last annual accounting period is the last day of the month and is usually twelve months after you started using the scheme. However, the choice is yours – you can set the accounting year to be as convenient as possible for your company, for example, you can align it with your financial year-end or with the annual dynamics of your business by considering periods of higher and lower workload. However, the accounting year cannot be set for a period longer than 12 months. If you set your annual accounting period for less than 4 months, you will not need to make periodic payments.

At the end of the tax year, you must submit your VAT return along with any necessary adjustment (balancing payment), if the tax due was higher than anticipated. If, however, the return shows an overpayment, HMRC will refund it to your company bank account.

If you find that the installments set by HMRC are insufficient to avoid a large balancing payment at the end of the year, you can also make additional, voluntary payments towards your tax throughout the year.

IMPORTANT! Installments must be paid on time – no payment deadline extensions are granted under this scheme. Failure to meet the scheme's conditions will result in your company being removed from it. And if you do not make the annual balancing payment and submit your declaration on time, you risk incurring a surcharge as a penalty for late payment.

Example.

Last year, from January to December, the company paid £12,000 in VAT. In the new year, using the Annual Accounting Scheme with monthly payments, £1,200 was paid to HMRC each month. In January, the reconciliation was made, and it turned out that the company should pay £15,000 in VAT for the current year.

So far, £10,800 (£1,200 x 9 months) has been paid over nine months. The company must pay the tenth installment of £4,200 (£15,000 - £10,800) within two months.

The final installment is usually due within two months of the reconciliation, unless your accounting year is shorter than 4 months – in which case you only have one month to submit your declaration and settle the payment.

 As you can see, this accounting system makes it clear exactly what amounts will be due monthly. This aids cash flow and greatly simplifies accounting – instead of four or twelve VAT returns, you'll only complete one. You have two months for this, and you can align your VAT tax year with your company's financial year-end to make reconciliation even simpler.

Annually accounted VAT - condition

To use the annual VAT accounting system, a company must have an annual turnover of no more than £1,350,000 (excluding VAT). If you are already using the Annual Accounting Scheme and your company's turnover exceeds this amount, you can continue to use the scheme until your turnover reaches £1,600,000 annually. Once this amount is exceeded, your company will be removed from the scheme at the end of the accounting year.

If it turns out your estimates were incorrect – don't worry! HMRC will not penalize you for this, provided you can demonstrate that the incorrect estimation had reasonable grounds. Otherwise, your company will be immediately removed from the scheme. Therefore, you should always keep proper documentation regarding how these estimates were made.

If your business's turnover has exceeded the £1,600,000 threshold during the tax year, or you know it will, inform HMRC immediately.

More information about the Annual Accounting Scheme and the forms you can use to apply for the scheme can be found at this HMRC page.