Cash accounting is a form of accounting in which transaction payments reports in the period where they get obtained and record expenses in the period where they get paid. In other words, if money is earned and charged, revenue and losses are reported respectively. Cash accounting is also called cash-basis accounting.
In larger companies with a large inventory, cash accounting does not operate because it may distort the actual financial condition. Therefore, most small and medium-sized business adopts this method when registering for VAT.
The VAT Cash Accounting Scheme is a form of recording VAT by which VAT is reported based on payments made or received. It follows cash accounting principles, which ensures that revenue is declared when earned and expenses are recorded in the time when paid. It is a scheme that every business needs to consider.
The VAT cash accounting scheme is a useful tool for many small businesses, as you only charge VAT to HMRC until you receive your payment. If you are concerned regarding cash flow, the scheme might be a lifesaver. It is different from the Standard VAT Accounting Scheme under which you pay/reclaim VAT any time you send or receive an invoice.
You can enter the cash accounting system if your expected revenue for the next tax year is not higher than £1.35 million. Similarly, you can continue to use the scheme until your turnover reaches £ 1.6 million. You are not eligible to use VAT if you are either behind on your returns for VAT or have excessive payments for VAT. Moreover, another reason includes that you have committed a VAT crime such as tax evasion over the past 12 months.
If you enter the VAT Cash Accounting Scheme, you do not need to notify HMRC. Nevertheless, you must join at the start of a new VAT accounting period. Likewise, you must quit the program at the end of the accounting period.
Following types of transactions are not included in the VAT scheme:
The VAT Cash accounting scheme increases cash flow for many companies as you do not charge VAT before you receive payment. Unlike the Standard VAT Accounting Scheme, the Cash Accounting System does not allow businesses to pay VAT on unpaid invoices.
It is especially helpful if you have a lot of customers who pay late regularly or if you experience bad debt from customers who do not pay invoices.
The scheme provides problems if you get paid immediately, or if you regularly receive more VAT than you spend. It is less likely to benefit your business organization this way. Similarly, this system also ensures that you will not be able to reclaim VAT on sales until you have paid the manufacturer. It can be troublesome for companies that buy a lot of credit inventory.
It's easy to stay on top of your VAT with Debitoor invoicing technology. You can also apply VAT to your invoices and expenses by enabling VAT in your account settings and producing automated VAT reports on a monthly, quarterly or annual basis.
Once your taxable turnover exceeds £1.6 m, you must leave the scheme. You should quit at the end of the VAT quarter, and for that, you don't have to inform HMRC. You need to keep VAT records of what you have done and your calculations.
Consequently, with its nature of managing the payments and transactions, this system is best suited to handle small business setups and not the large ones because of being inefficient.