VAT Cash Accounting Scheme: How It Works and Who Can Use It

The VAT cash accounting scheme lets UK businesses with VAT taxable turnover of £1.35 million or less pay VAT on sales when their customers actually pay, and reclaim VAT on purchases when they pay their suppliers. Under standard VAT accounting, VAT is due based on invoice dates, even if the invoice is still unpaid.

For a small business waiting 60 or 90 days for payment, that difference can decide whether a VAT bill is paid from cash in the bank or from an overdraft. This guide explains how cash accounting compares with standard VAT accounting, the £1.35m and £1.6m thresholds, which transactions are excluded, how joining and leaving work, and a worked example with real numbers.

Note: this is general guidance based on HMRC's GOV.UK pages at the time of writing (October 2026), not tax advice. Check the current rules and speak to a qualified accountant before changing how you account for VAT.

How the VAT cash accounting scheme works

Every VAT return reports output tax (VAT on your sales) and input tax (VAT on your purchases). The question is when each sale or purchase counts.

• Standard (invoice) accounting: you include VAT on a sale in the return for the period in which the tax point falls, usually the invoice date. You reclaim VAT on a purchase when you receive the supplier's invoice.
• Cash accounting: you include VAT on a sale only in the period you receive payment, and reclaim VAT on a purchase only in the period you pay for it.

Nothing changes for your customers. You still issue full VAT invoices with your VAT number and the 20% (or other) rate. Cash accounting only changes the timing of when you report that VAT to HMRC. The total VAT over the life of your business is the same; it is a cash flow tool, not a tax saving.

Cash accounting vs standard VAT accounting

Feature	Standard VAT accounting	Cash accounting
When output VAT is due	Tax point, usually invoice date	When the customer pays
When input VAT is reclaimed	When you hold the supplier invoice	When you pay the supplier
Unpaid customer invoices	VAT paid anyway; bad debt relief after 6 months	No VAT due until paid
Best for	Businesses paid upfront, or that buy on long credit	Businesses that wait for payment and pay suppliers quickly
Turnover limit	None	£1.35m to join, £1.6m to stay
Need to apply?	Default method	No, start at the beginning of a VAT period

The same idea exists in general bookkeeping. If you want the wider picture, read our explainer on cash vs accrual accounting. Note that using cash basis for Income Tax and using cash accounting for VAT are separate choices with separate rules.

Who can use cash accounting: the £1.35m threshold

You can use the VAT cash accounting scheme if your estimated VAT taxable turnover for the next 12 months is £1.35 million or less, excluding VAT. VAT taxable turnover means the total of everything you sell that is not exempt from VAT, including zero-rated sales.

You cannot use it if:

• you use the VAT Flat Rate Scheme (it has its own cash-based turnover method instead)
• you are not up to date with your VAT returns or payments
• you were convicted of a VAT offence, or charged a penalty for VAT evasion, in the last 12 months

If you have only just registered for VAT, you can start using cash accounting from your first return. Our guide to the VAT registration threshold covers when registration becomes compulsory.

Transactions you must account for normally

Even inside the scheme, some transactions must be accounted for using standard rules:

• sales or purchases where the payment terms on the VAT invoice are six months or longer
• sales where you issue a VAT invoice in advance of supplying the goods or services
• goods bought or sold under lease purchase, hire purchase, conditional sale or credit sale
• imports of goods into Northern Ireland from the EU
• goods moved out of a customs warehouse

The advance invoice rule matters for anyone who bills deposits or retainers. If you send a VAT invoice before you do the work, that invoice falls outside cash accounting. Some businesses send a request for payment or proforma instead, then issue the VAT invoice when paid. Our deposit invoice guide explains the options.

Worked example: one quarter under both methods

Sam runs a small design studio. In the July to September quarter:

• Sam invoices clients £30,000 plus £6,000 VAT, but by 30 September clients have paid only £18,000 plus £3,600 VAT. The rest is on 60-day terms.
• Sam receives supplier invoices for £5,000 plus £1,000 VAT and has paid £3,000 plus £600 VAT of them by the quarter end.

Line	Standard accounting	Cash accounting
Output VAT (Box 1)	£6,000	£3,600
Input VAT (Box 4)	£1,000	£600
VAT payable	£5,000	£3,000

Under the VAT cash accounting scheme, Sam pays £2,000 less this quarter. That £2,000 is not saved; it is paid in the next quarter, once the remaining clients pay. But Sam never has to fund VAT on money not yet received.

Now suppose one client, owing £2,400 including £400 VAT, goes out of business and never pays. Under standard accounting, Sam has already paid that £400 to HMRC and must wait at least six months from the due date to claim bad debt relief. Under cash accounting, the £400 is simply never due.

When cash accounting costs you

Reverse the situation. A retailer that buys stock on 30-day terms but sells to consumers who pay at the till gains nothing on output VAT, because sales are paid immediately anyway, and loses on input VAT, because the reclaim is delayed until the supplier is paid. A business that mostly makes zero-rated sales and normally receives VAT repayments is also usually better off on standard accounting, because repayments come sooner.

Joining and leaving the scheme

Joining is simple. You do not apply to HMRC. If you are eligible, you start at the beginning of a VAT accounting period and keep records that show payment dates. Set your accounting software to the cash basis for VAT, because Making Tax Digital returns are calculated from those records. Our guide on how to file a VAT return in the UK covers the filing process.

You can leave at any time, ideally at the end of a VAT period, and you must leave if you are no longer eligible, for example because VAT taxable turnover passes £1.6 million. When you leave:

1. List every sales invoice that has not been paid and every purchase invoice you have not paid.
2. Work out the VAT on those invoices, since it has never been included in a return.
3. Account for it in your returns. HMRC allows you to spread this over six months in most cases.
4. Pay it immediately instead if turnover went over £1.35 million in the last three months or HMRC has withdrawn your use of the scheme.
5. Switch your software to standard VAT accounting for all new transactions.

Record keeping and invoicing tips

Cash accounting depends on accurate payment records. HMRC expects you to be able to match each payment to the invoice it relates to. Practical habits that make this easy:

• Number invoices in an unbroken sequence; our invoice number generator helps if you are starting fresh.
• Ask customers to quote the invoice number when they pay, and put your bank details and the reference on every invoice.
• Record part payments against the right invoice. If a customer pays half, you account for half the VAT.
• Keep bank statements, paying-in slips and card settlement reports alongside your invoices.
• Track overdue invoices so you know how much VAT will become due when they are paid. An accounts receivable aging report gives you that view.

A partially paid invoice under cash accounting works pro rata. If you invoice £1,200 including £200 VAT and receive £600, you include £100 of output VAT in the period the £600 arrived. Our partial payment invoice guide explains how to show amounts paid and the balance due.

Cash accounting vs other HMRC VAT schemes

Scheme	What it does	Entry limit	Combine with cash accounting?
Cash accounting	VAT on payments, not invoices	£1.35m	Not applicable
Annual accounting	One return a year with interim payments	£1.35m	Yes
Flat Rate Scheme	Fixed percentage of VAT-inclusive turnover	£150,000	No (has its own cash-based option)

Smaller businesses often compare cash accounting with the VAT Flat Rate Scheme. Flat rate simplifies calculations but blocks most input VAT reclaims; cash accounting keeps normal VAT calculations but changes their timing. You can only pick one of them.

Common mistakes with cash accounting

Most problems HMRC finds with cash accounting come from records, not from the scheme itself. Watch out for these:

1. Using the wrong date. The relevant date for a sale is when you receive the money. For a cheque, that is the date you receive it, not the date it clears; for card payments, it is the date of the transaction, not the date the card provider settles with you.
2. Ignoring payments in kind or set-offs. If a customer pays partly by offsetting a debt you owe them, the offset counts as payment and VAT is due on it.
3. Treating deposits loosely. A deposit received counts as a payment, so the VAT on it is due in the period you receive it, even if the work finishes later.
4. Applying the scheme to excluded deals. Hire purchase sales, invoices with terms of six months or more and invoices raised in advance must still be accounted for under standard rules.
5. Staying in too long. Growing businesses sometimes miss the point where turnover passes £1.6 million. Review your rolling 12-month turnover each quarter.
6. Forgetting unpaid invoices on exit. When you leave, VAT on every outstanding invoice becomes due, which can create a larger-than-expected bill.

If you sell through marketplaces or payment processors that deduct fees before paying you, record the gross sale amount and the fee separately. VAT is due on the full price the customer paid, not on the net payout that reaches your bank. The processor's fee is a separate purchase, and you reclaim any VAT on it when it is paid, which in practice is when it is deducted.

Is the VAT cash accounting scheme right for you?

It usually suits you if most of these are true:

• You sell mainly to other businesses on credit terms such as 30 or 60 days.
• Late payment is common in your industry.
• You pay most suppliers quickly or upfront.
• You make mostly standard-rated sales, so you normally pay VAT rather than reclaim it.

It usually does not suit you if your customers pay at the point of sale, you buy on long credit terms, or you mainly make zero-rated sales and get regular refunds. If you are unsure, model the last four quarters under both methods. If the difference is small, standard accounting has one advantage: it matches the invoice-based accounts most accountants already prepare.

Conclusion

The VAT cash accounting scheme is one of the easiest HMRC schemes to adopt: no application, a generous £1.35 million entry threshold, and automatic protection when customers fail to pay. It does not reduce the VAT you owe, but it means you only hand over VAT once it is in your account. Whatever method you use, your invoices still need to be full, accurate VAT invoices. Create one with your VAT number, 20% rate and payment details using our free UK invoice generator.