How SMEs can navigate the next stages of MTD

By Roan Lavery, CEO and Co-Founder, FreeAgent

In a few short days, the next stage of Making Tax Digital (MTD) comes into effect. This will see SMEs and sole traders who have voluntarily registered for VAT being required to keep records and report VAT digitally, signifying a major change for many SME owners.

MTD represents the biggest change in the UK’s tax system in a generation, but our own research shows fewer than 15% (14.6%) of accountants and bookkeepers are confident that they understand everything about the next stage of MTD and its impact on tax.

The upcoming changes are just one of many hurdles facing business owners, specifically those operating as SMEs.

The key milestones of MTD

Recent research from FreeAgent shows that 1 in 10 SMEs have never heard of MTD despite it being a legal requirement for income tax as well as for VAT within the next two years. Additionally, 2 in 5 (38.9%) SMEs do not understand the next big stage of MTD, the income tax stage, which will affect millions of business owners and landlords.

There is a lot of work to do to ensure small businesses are effectively prepared for this momentous transition. Firstly, they need to understand what each stage of MTD is, including

• MTD for VAT

The scope of MTD for VAT will expand this April. VAT-registered businesses with a taxable turnover below £85,000 will need to follow MTD rules for their first VAT return starting on or after 1st April.

• MTD for Income Tax Self Assessment

HMRC will introduce MTD for Income Tax Self Assessment (ITSA) in 2024. This stage will require self-employed business owners and landlords with annual business or property income above £10,000, to follow the MTD for ITSA rules from 6th April 2024. Under the revised rules, anyone registered for Income Tax Self Assessment with a qualifying income of more than £10,000, will have to keep digital records, and send quarterly updates about their business income and expenses to HMRC.

• MTD for Corporation Tax

MTD for Corporation Tax is expected to be the next phase in the initiative. HMRC has advised that the earliest these rules will come into effect is 2026. The aim of the initiative is to make tax administration more effective, more efficient and easier for taxpayers, by implementing a fully digital tax system.

What SME owners can do to prepare for each step of MTD

Many SMEs have highlighted the lack of clarity about MTD as the reason for their uncertainty. More than two thirds (66.7%) believe that the government has not provided enough information about the legislation, or the effect it will have on SMEs during its implementation.

However, there are ways, despite the uncertainty, that SMEs can ensure they are prepared to tackle the upcoming changes. Most pressingly, small businesses should consult their accountants or bookkeepers. Advisors in such roles are likely to have already thought about implementing the necessary changes to comply with MTD legislation and meet specific deadlines, and will be able to offer advice and tips on what each individual business can do to ensure their clients are prepared.

There are also a number of resources available to help SME owners understand important deadlines, and what they must do to adhere to the new legislation. HMRC also has its own MTD communications pack, which helps you understand if your business needs to use MTD for VAT and MTD for ITSA, how you can sign up, and the advantages of digital record keeping.

In addition, it’s important to understand the benefits of digitising processes. HMRC will only require very lightweight regular reporting, often submitted automatically by a range of online services and apps, including HMRC’s own. Its ambitious move is not about adding burden for busy freelancers and business owners – but rather about more regularly updating your finances, running your business better and actually reducing the Self Assessment headache.

There are still many small businesses that struggle with keeping good financial records – often keeping a box of receipts which gets handed to an overworked accountant once a year and, in extreme cases, may result in a nasty unexpected tax bill. For these business owners, adopting digital tools can actually help them to run their businesses better and fundamentally improve the way they manage their admin.

Taking the time now to find the right tools for you and your business will help to make the transition to MTD as painless and easy as possible.

How accountants and bookkeepers on the front line can help SMEs

Communication with clients will be the best way to confirm they have all the information and tools they need to prepare for MTD. As different stages of the legislation may apply to different clients, it will be important to segment your client base to identify exactly who you need to introduce to MTD-ready software, and when.

As it’s such a big change, communicating with clients about MTD as often as possible will help them keep on top of deadlines, and afford them the ability to ask for clarification on any changes they do not understand. Accountants and bookkeepers may find that certain points need to be repeated – particularly if this is the client’s first experience of using cloud accounting software – but this increased communication will be invaluable in helping businesses comply in the long run.

Educating and training SME clients on what tools are appropriate for their needs will also be essential in guaranteeing SME clients smoothly transition to MTD. For many, the legislation represents a seismic change in how they manage their finances, so they will need to feel confident about the software they will be using – which is something they can achieve with the help and expertise of their accountants or bookkeepers.

Whilst the next stages of MTD may seem like further obstacles for SMEs to overcome, these digital tools should be seen as a means to making businesses more efficient. These are hugely important changes to the way that businesses will need to keep their financial records and file their tax returns, but there are still a significant number of people that have never heard of MTD, let alone understand how it will affect them.

It is vitally important that the government picks up the pace to make sure small business owners are given all of the information they need to be fully aware and confident about MTD in the months and years ahead.