VAT registration is mandatory when your taxable turnover exceeds £90,000 in any rolling 12-month period. However, some contractors choose to register voluntarily below this threshold. Understanding the options helps you make the right decision for your business.
Mandatory registration
You must register for VAT if your taxable turnover in the previous 12 months exceeded £90,000, or if you expect it to exceed £90,000 in the next 30 days. For most contractors billing £400 or more per day for 220 days a year, this threshold is exceeded early in the tax year.
Standard VAT accounting
Under standard VAT accounting, you charge VAT at 20 percent on top of your invoices and reclaim VAT on your business purchases. If your expenses are relatively low (as they are for most IT contractors), you will be a net payer of VAT, remitting the difference between VAT charged and VAT reclaimed to HMRC each quarter.
The Flat Rate Scheme
The Flat Rate Scheme simplifies VAT accounting by applying a fixed percentage to your gross turnover. For IT contractors, the flat rate is typically 14.5 percent of gross turnover (including VAT). In your first year of VAT registration, you receive a 1 percent discount, reducing the rate to 13.5 percent. Under this scheme, you charge the full 20 percent VAT on invoices but only pay over 14.5 percent, keeping the difference. However, you cannot reclaim VAT on purchases (except capital assets over £2,000).
Which scheme is better?
For most IT contractors with low expenses, the standard scheme and Flat Rate Scheme produce similar results. The Flat Rate Scheme is simpler to administer, requiring less record-keeping. Your accountant can run the numbers for your specific situation and recommend the most beneficial approach.
Voluntary registration below the threshold
Registering voluntarily can be worthwhile if you have significant start-up costs (allowing you to reclaim VAT on equipment purchases) or if being VAT-registered adds credibility with larger clients. Some contractors register to reclaim VAT on a major equipment purchase and then deregister if their turnover drops below the threshold.