Under the standard VAT scheme, you repay the VAT element charged on all your invoices to HMRC each quarter, whether or not your clients have paid you.
Of course, if you suffer late payment problems, or if a client defaults completely, your cash flow management can suffer. This situation can only be made worse if you have to repay the VATable element of each invoice to HMRC in advance of being paid.
For many businesses, the Cash Accounting Scheme for VAT can solve any cash flow concerns, as you only account for VAT once your invoices have been paid.
Importantly, it should be noted that you cannot use the Cash Accounting Scheme alongside the Flat Rate VAT scheme, which contains its own cash-based turnover method.
The pros and cons of the Cash Accounting Scheme
As mentioned before, the main benefit of joining this scheme is that it can greatly improve cash flow – especially if you have experienced slow-paying customers or clients.
You only account for VAT once you receive payment, and if you suffer a bad debt, then no VAT is payable.
Although not a great consideration for many IT contractors, you cannot reclaim for any VAT paid on purchases until you have actually paid for the relevant goods or services.
How do you join the Cash Accounting Scheme?
If your turnover during the coming 12 months does not exceed £1.35m, your business can join the scheme. Businesses can remain within the scheme until their turnover reaches the £1.6m mark.
There are no forms to fill in; you can simply switch from standard to cash accounting for VAT from the start of any given VAT quarter (or from the date you started trading).
Your business can leave the scheme voluntarily at the end of any given VAT quarter.
We recommend that you talk to your accountant before deciding which VAT scheme best suits your company. Although the Cash Accounting Scheme is a sensible option for many businesses, the Flat Rate Scheme is often more suitable for contractors, especially if you do not make a lot of purchases via the company.
You can find out more in this dedicated HMRC guide.
Find out more in our overview of the different VAT schemes available to contractors.