A Guide to Making Tax Digital

Small businesses and freelancers will have to embrace technology to satisfy the government’s Making Tax Digital goals.

Over the past few years, the government has been digitising the tax process with the goal of becoming entirely paperless. It started in 2015 with the introduction of personal tax accounts which are designed to make it easier for people and businesses to pay their taxes. It continued with Making Tax Digital which aims to push people and businesses to file their tax returns entirely online. This will have considerable benefits for the Treasury, but it will also help your business considerably. Many, though, will have to overhaul their accountancy systems to make it work.

What is Making Tax Digital?

As the name implies, MTD is the government’s way to make it ‘easier for individuals and businesses to get their tax right and keep on top of their affairs. The thinking is that the easier they make it for businesses and people to pay, the less time they’ll spend chasing people who miss deadlines.

The first phase came in 2019 with MTD for VAT. This requires all businesses and individuals to keep digital records and use accounting software to complete their VAR returns. As these rules become embedded in, old fashioned paper-based methods will no longer meet the requirements under tax legislation.

Beyond that there are further deadlines starting with businesses with high turnovers and moving on down. In April 2019, these rules applied to VAT registered businesses with a taxable turnover of above the VAT threshold of £85,000. Some complex businesses were given a six month deferral until October of that year. These might be businesses which include trusts, not for profit organisations which aren’t set up as a company, public sector organisations which need more information on their VAT return, VAT divisions or groups, local authorities, public corporations or traders operating overseas.

From April 2022, MTD will become compulsory for all businesses with a turnover below the £85,000 threshold making it applicable for any small business. This is especially relevant, because these small businesses are often those with the least developed accounts systems. Many may be family run businesses which have been doing their accounts in the same way for years. Others may be small and early stage businesses which only have the most basic of accounts system. For example, if you’re a sole trader who has recently incorporated to become a limited company, you’ll come under this category.

From April 2024, MTD becomes more or less universal applying to anyone who fills in a self-assessment tax return for business or property income of more than £10,000 per year. Those businesses for whom this is not yet compulsory are being encouraged to sign up voluntarily.

Regardless of the size of your business, therefore, Making Tax Digital is on its way and it’s going to be here soon.

How to make it work

So what does this mean in practice. Firstly you’ll have to digitise the following records:

  • Contact details and the name of your business.
  • Your VAT number and details of any schemes used.
  • VAT on supplies made and received
  • Any adjustments to returns
  • Time of supply (tax point)
  • The rate of VAT charged on supplies.
  • Reverse charge transactions (if your software doesn’t record them, you should record them twice as a supply made and a supply received)
  • Daily gross takings (DGT) if you use a retail scheme
  • Asset purchases which you can reclaim tax on if you use the flat rate VAT scheme.
  • The value of sales made and total output tax on Gold Accounting Scheme purchases (if applicable)
  • Any documents covering multiple supplies made or received on behalf of your business (by volunteers, third party businesses or employees)

You should make sure you use compatible software to submit your returns. Most accountancy software package have adjusted themselves to take account of the regulations and declare themselves as MTD compliant such as Xero and FreeAgent – indeed for many of them this is just the kind of development they have been anticipating for years. However, it’s always worth checking any software you choose is compliant.

Systems will pull any information from your digital records and ensure they are preserved for at least six years. Although you can use the traditional spreadsheet approach to work out what information you need to send, you’ll have to use special compatible software to actually send it. Depending on your system, you may also need bridging software which converts this information to the right format before sending it.

Getting in early

Sole traders will have an extra year to get ready. The original deadline had been for 2023, but is now extended until April 2024. However you can make the move early and sign up for their Digital Tax Returns Pilot Scheme. This lets you keep records digitally and send them to HMRC as you go rather than waiting until the end of the year to complete a self-assessment tax return.

So far, the government estimates that a third of all businesses and landlords who qualify for this scheme has signed up. It creates a more real-time system in which you can keep track of how much you owe as you go, and avoid the prospect of an unpleasant bill at the end of the year.

For this, you’ll already need to be operating on compatible software and to send updates records to HMRC everything three months. You will then be able to see estimates of how much tax you owe. At the end of the year you’ll send a final report and your tax for that year will be calculated. This is where you can claim any allowances and reliefs.

The intention of MTD is to simplify income tax and make it easier for people to complete their returns, keep track of their information and to pay HMRC. However, for those individuals and businesses which don’t have this software, it may lead to one-off costs in terms of equipment purchases and training staff to use the software. However, once up and running the government hopes it will make life a little easier for everyone.  

In short, though, MTD is coming soon whether you like it or not. Even if your business is not yet included, it pays to put in the work sooner rather than later.

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