VAT Cash Accounting vs Accrual Accounting

When becoming VAT registered there are number of different methods you can adopt for working out your VAT each with their advantages and disadvantages. Two of the most common VAT accounting methods are cash accounting and accrual accounting.

In general VAT is calculated on the basis that the VAT you pay to your suppliers is deducted from the VAT you collect from your clients (Output VAT). This then becomes your VAT liability, or in the case where youre paying out more VAT than youre collecting this is the sum you would reclaim from HMRC.

So lets break down the two most popular methods for VAT accounting.

Cash Accounting

With the cash accounting method you are calculating your VAT in accordance to when your invoices were actually paid, not when they are raised. From a sales perspective this has the advantage of ensuring that you only pay VAT to HMRC once your client has paid and settled their invoice. Conversely you can only reclaim VAT on purchases when the supplier invoice is paid.

Key points:

Calculate VAT on the basis of when your invoices are paid.
Easier on your cash flow.
Simple to calculate.
Ideal for smaller to medium sized businesses with restricted cash-flow.
Available only if your taxable turnover is less than £1.35 million (2018 threshold).

Accrual Accounting

Unlike cash accounting, with accrual accounting you must calculate your VAT on the basis of when the invoice was received (in the case of clients) or issued (in the case of suppliers). Accrual accounting therefore is not concerned with when payments were received or made.

Typically accrual accounting is preferred, and indeed required with higher turnover businesses.

Key points

Calculate VAT on the basis of when invoices are issued and received.
Requires sufficient cash reserves to cover VAT payments to HMRC on unpaid invoices.
Mandatory if your taxable turnover exceeds £1.35 million (2018 threshold).
Typically adopted by larger businesses.

Conclusion

Most small to medium sized businesses will adopt the cash accounting method when registering for VAT. You can always switch methods later, but you must inform HMRC. With modern cloud based accounting software it is very easy to calculate and file your VAT returns for either cash or accrual VAT.

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