Cash accounting or Flat Rate Scheme for VAT

Cash accounting changes when you pay VAT, not how much: you account for VAT on sales when customers pay you and reclaim VAT on purchases when you pay suppliers. The Flat Rate Scheme changes how much you pay, replacing output tax minus input tax with a fixed percentage of VAT inclusive turnover. You cannot use both together, but the Flat Rate Scheme has its own cash based turnover method that gives similar timing.

What is the basic difference between the two schemes?

Both are optional schemes for smaller VAT registered businesses, but they solve different problems. Cash accounting, set out in VAT Notice 731 and Part VIII of the VAT Regulations 1995 (regulations 56 to 65), deals with the cash flow strain of paying HMRC VAT on invoices your customers have not yet paid. The Flat Rate Scheme, set out in VAT Notice 733 and regulations 55A to 55V, deals with the admin of working out input tax by giving you a single percentage to apply to turnover.

Feature	Cash accounting	Flat Rate Scheme
Joining limit	Expected taxable turnover of £1.35 million or less, excluding VAT	Expected taxable turnover of £150,000 or less, excluding VAT
Must leave when	Taxable supplies exceed £1.6 million a year, excluding VAT	VAT inclusive income exceeds £230,000 on an anniversary of joining, or is expected to exceed £230,000 in the next 30 days alone
How to join	No application; start at the beginning of a VAT period	Apply to HMRC and wait for confirmation
VAT on sales	The actual VAT charged, when payment is received	A flat percentage of VAT inclusive turnover
VAT on purchases	Reclaimed when you pay the supplier	Not reclaimed, except a single purchase of capital expenditure goods of £2,000 or more including VAT
Rejoining after leaving	From the start of a later VAT period if eligible	Not for 12 months

Can I use both at once?

No. GOV.UK states that you cannot use cash accounting if you use the Flat Rate Scheme. Instead, Notice 733 section 9 offers a cash based turnover method, under which you apply your flat rate to the VAT inclusive amounts you have actually been paid in the period. The rules on when a payment counts as received are the same as for cash accounting: the date cash is received, the date a bank account is credited for transfers and direct debits, the later of the date received or the date on a cheque, and the date the sales voucher is made out for card payments.

Either scheme can be combined with the VAT Annual Accounting Scheme if you also want to file one return a year.

Which scheme helps cash flow more?

Cash accounting is built for cash flow. Notice 731 paragraph 1.3 says it helps most if you give customers extended credit or suffer a lot of bad debts, and may give no benefit if you are usually paid at the point of sale, often reclaim more VAT than you pay, or make continuous supplies of services. The trade off is that you cannot reclaim VAT on a purchase until you have paid for it. Notice 731 warns that a construction subcontractor whose sales mostly fall under the domestic reverse charge may be worse off, because it waits to recover input tax while having little output tax to defer.

The Flat Rate Scheme helps cash flow in a different way. You charge customers VAT at the normal rate but pay HMRC a lower percentage, so the difference stays in the business. With the cash based turnover method you also defer tax until you are paid. It is a poor fit for a business that normally receives repayments, as Notice 733 says the scheme is unsuitable where you regularly receive repayments from HMRC.

Which scheme costs less in VAT overall?

Over time, cash accounting does not change the total VAT you pay. It only moves the dates. The Flat Rate Scheme can make you better or worse off, because flat rates are sector averages. Notice 733 lists three common reasons it costs more than expected:

• you are a limited cost business, spending less than 2% of turnover, or less than £1,000 a year, on relevant goods, and must use 16.5%
• a large share of your sales is zero rated or exempt, yet the flat rate is applied to that income too
• your costs are higher than average for your sector, so the input tax allowance built into the rate is too low for you

Illustration only. A bookkeeping business has VAT inclusive turnover of £24,000 for a quarter, of which £4,000 is VAT. It buys goods costing more than 2% of turnover and above £250 for the quarter, so it is not a limited cost business and uses the 14.5% accountancy rate, paying £3,480. Its purchases carry £300 of VAT, so normal accounting or cash accounting would cost £3,700 in the quarter. Here the Flat Rate Scheme saves £220. If it were a limited cost business at 16.5%, it would pay £3,960 and lose £260 against normal accounting. The exercise of testing the scheme each year is covered in should I leave the Flat Rate Scheme.

Which involves less admin?

The Flat Rate Scheme usually means fewer VAT figures. You do not need to record input tax on everyday purchases, only on qualifying capital purchases. You still need full sales records, and Notice 733 points out that if your customers are VAT registered you must still issue VAT invoices in the normal way. A business close to the 2% limited cost line may also need to retest every return.

Cash accounting adds a layer. Notice 731 paragraph 4.3, which has force of law, requires records that cross refer each payment received to its sales invoice and each payment made to its purchase invoice, and both to bank statements or similar evidence. HMRC suggests a cash book with separate VAT columns. If you pay a supplier in notes and coins you need a receipted invoice before reclaiming the VAT.

How does each scheme protect me against bad debts?

Under cash accounting, protection is automatic. If a customer never pays, you never account for the VAT. Notice 731 paragraph 6.6 describes this as one advantage of the scheme.

Under the Flat Rate Scheme it depends on the turnover method:

• Basic turnover method. You pay flat rate VAT when you invoice. If the debt goes bad you claim relief under the normal conditions in VAT Notice 700/18, and Notice 733 paragraph 14.1 lets you claim at the standard rate rather than the flat rate, because you never had the benefit of the input tax allowance on that sale.
• Cash based turnover method. You pay nothing on the unpaid invoice, but paragraph 14.2 allows a special claim once 6 months have passed since the supply and you have written off the debt. Using HMRC’s example, on an unpaid £1,200 invoice including £200 VAT at a 10% flat rate, you would have paid £120 if paid, so you claim £200 minus £120, which is £80.

For the accounting side of write offs, see bad debts in accounting and tax.

Which transactions does each scheme exclude?

Regulation 58(2) keeps several transactions outside cash accounting, so you account for them under normal rules even while in the scheme: lease purchase, hire purchase, conditional sale and credit sale agreements; invoices where full payment is not due within 6 months of issue; invoices issued in advance of supplying the goods or services; and supplies where the customer accounts for the VAT under a reverse charge. Imported goods are also excluded.

The Flat Rate Scheme cannot be used for supplies covered by a domestic reverse charge, cannot run alongside a margin scheme, and you must leave if you intend or expect to buy an asset covered by the Capital Goods Scheme.

What happens if I switch from one scheme to the other?

• Cash accounting to the Flat Rate Scheme. Notice 733 paragraph 9.3 says that if you move onto the cash based turnover method you carry on as before. You do not pay over the VAT customers still owe; you include those payments in flat rate turnover as they arrive.
• Flat Rate Scheme to cash accounting. If you leave the cash based turnover method and immediately start cash accounting, paragraph 9.6 lets you apply the flat rate to supplies made while on the scheme as payment comes in, rather than accounting for all unpaid invoices at once.
• Leaving cash accounting altogether. You must account for VAT on all unpaid sales, and may reclaim VAT on unpaid purchases. You can choose to spread this over 6 months, unless your taxable supplies have gone over £1.6 million and supplies in the previous 3 months exceeded £1.35 million, or HMRC has withdrawn the scheme.

For full detail on each scheme, see the guides to the VAT Cash Accounting Scheme and the VAT Flat Rate Scheme.

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Related Accountapedia entries

• Construction reverse charge and the Flat Rate Scheme
• The limited cost trader rule in the Flat Rate Scheme
• How VAT works: output tax and input tax
• VAT retail schemes
• Zero rated vs exempt supplies

Sources

• legislation.gov.uk: SI 1995/2518, part VIII
• GOV.UK: Vat cash accounting scheme
• legislation.gov.uk: SI 1995/2518, regulation 58
• GOV.UK: Flat rate scheme for small businesses vat notice 733 2
• GOV.UK: Vat flat rate scheme
• legislation.gov.uk: SI 1995/2518, regulation 55M
• GOV.UK: Vat cash accounting scheme notice 731

Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 19 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.