What is Making Tax Digital?

Making Tax Digital is a bold move by HMRC to replace piles of paperwork and traditional tax returns with a modern digital system. 

But how will going 100% paperless work? And will it be more or less hassle for taxpayers? Here’s what you need to know about Making Tax Digital.

Making Tax Digital is a bold move by HMRC to replace piles of paperwork and traditional tax returns with a modern digital system. 

But how will going 100% paperless work? And will it be more or less hassle for taxpayers? Here’s what you need to know about Making Tax Digital.

Emily Kindness
Business insurance expert
6
minute read
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Posted 16 FEBRUARY 2022

What is Making Tax Digital? 

Making Tax Digital (MTD) is a government initiative that plans to revolutionise the way small businesses and the self-employed submit their returns and pay their taxes. 

HMRC is gradually replacing all paper records and tax returns with a fully digitalised, online tax system. HMRC’s ambition is to ‘make it easier for individuals and businesses to get their tax right and keep on top of their affairs’. 

At the moment, the self-employed still have the option of doing paper tax returns. But pretty soon, paper records will be phased out and the only way to file a self-assessment will be online.

When did Making Tax Digital start? 

MTD is being released gradually. The first phase, Making Tax Digital for VAT, started on 1 April 2019 for businesses with a taxable turnover above the VAT threshold of £85,000. 

Making Tax Digital timeline: 

  • From April 2019 – MDT was made compulsory for VAT-registered businesses with a taxable turnover above £85,000.
  • From April 2022 – MDT will be compulsory for businesses with a taxable turnover below £85,000.
  • From April 2024 – MDT will be compulsory for Self-Assessment taxpayers with an income of more than £10,000 a year.

What are the advantages of Making Tax Digital? 

More efficient
Thanks to MDT-compatible software, record-keeping and submitting tax returns will be quicker. It will also be more accurate with less risk of making errors – potential mistakes will be easier to spot. Things like expenses can be entered as soon as they’re earned, so the claiming process will be more accurate. 

Less hassle
The point of MDT is to make life easier for small businesses and the self-employed. The plan is to introduce user-friendly compatible software that can automatically prepare tax returns, saving businesses the hassle of entering VAT returns manually. 

It’s hoped that the digital system will reduce the stress and worry of filling in and submitting tax returns.

Less paperwork
The traditional tax system involves piles of paperwork – documents and receipts can be easily lost, making it a headache to keep on top of things. Cutting down on paperwork is also better for the environment. 

The new system will also be mobile-friendly, so businesses can keep a track of their tax affairs from their smartphones and tablets. 

Time saving
By cutting down on administrative tasks, small businesses will have more time to focus on other activities. So, this in turn, could help increase productivity. HMRC research has shown that businesses with fully integrated accounting and tax software are spending less time on their tax. Going digital could save up to one day a week in administration.

What are the disadvantages of Making Tax Digital? 

More deadlines
Unlike the traditional tax system, Making Tax Digital involves submitting tax information four times a year (quarterly): 

  • Quarterly period 1 (6 April-5 July) deadline:
    5 August
  • Quarterly period 2 (6 July-5 October) deadline:
    5 November
  • Quarterly period 3 (6 October-5 January) deadline: 
    5 February
  • Quarterly period 4 (6 January-5 April) deadline:
    5 May 

However, submitting quarterly tax returns could mean that taxpayers receive a more accurate tax bill.

 

Transition to digital could be more difficult for some
If you’re not particularly tech-savvy, moving to a digital system might seem a bit overwhelming – even with the promise of ‘user-friendly’ bridging software. Some business owners may feel happier and more secure with good old-fashioned paper returns. 

Teething troubles
In the initial stages, HMRC has reported that some small businesses and agents have experienced difficulties setting up their Agent Services Account (ASA). While HMRC is continuously working to improve the service, blips are inevitable in the early days. 

Costs
Finding MTD-compliant and affordable bridging software can be difficult and some firms have found the transition more costly than expected. However, the type of software needed can depend on the size and complexity of your business. As well as more advanced software packages, there are some free software products out there that might be fine for microbusinesses and sole traders.

Making Tax Digital for VAT 

Businesses with an annual taxable turnover of more than £85,000 must now use MTD. Businesses with a turnover below the VAT threshold can sign up voluntarily before the April 2022 deadline. 

You’ll need to keep digital records and use compatible software to submit your returns. You might also need ‘bridging software’, which converts your digital records into the right format before submitting them to HMRC. 

Did you know?
HMRC estimates that Making Tax Digital for VAT could save the state around £300 million a year.

Making Tax Digital for income tax 

Sole traders and landlords who make more than £10,000 a year will need to follow MTD rules from April 2024. The original 2023 deadline has been pushed back to give businesses more time to prepare following the coronavirus pandemic. 

Although it’s not yet compulsory, moving to digital sooner rather than later can make things easier. You also get three months more to send in your Self-Assessment tax return than you would with a paper return. 

HMRC is encouraging self-employed people and landlords to sign up for the digital tax returns pilot scheme now. By voluntarily using MTD-compatible software, you won’t have to fill in a Self-Assessment tax return as the software will generate updates and statements for you. It also means that you won’t need to change to a new process later on when MTD becomes compulsory.

Making Tax Digital for corporation tax 

MTD for corporation tax is still in the planning stages, with the possible opportunity of a pilot scheme. HMRC is still waiting to see how the full VAT roll-out goes before making a decision. It could be as far away as 2026 before MDT for corporation tax becomes mandatory.

Frequently asked questions

Is it compulsory to Make Tax Digital?

At the moment, MTD is only compulsory for VAT-registered businesses with an annual turnover of more than £85,000. However, businesses below the threshold and self-employed taxpayers can sign up voluntarily before their respective deadlines in April 2022 and April 2024.

What type of software will I need?

You’ll need MTD-compatible software to send updates to HMRC. If you already keep digital records, you may need ‘bridging software’, which can convert your records into the right format before transferring the data to HMRC. 

There’s a number of affordable, cloud-based accounting software packages, popular with freelancers and sole traders. Those that are compatible with Making Tax Digital include: 

  • FreeAgent
  • QuickBooks
  • Xero
  • Zoho Books
  • FreshBooks
  • Sage 

HMRC also has a handy find software for MTD for VAT tool that you can use to find compatible software.

Will I still be able to use spreadsheets?

HMRC says that businesses will still be able to use spreadsheets to calculate VAT and other tax information. But the spreadsheets must be combined with bridging software so that the info can be converted into the right format for HMRC. Ultimately, fully compatible MTD software will make the whole process far simpler than converting spreadsheets.

How much will Making Tax Digital cost?

If you don’t already use accounting software, then you’ll need to factor in the initial costs to get you MTD compliant. 

The government estimates the cost of basic software for a VAT business will be around £132 a year – but, of course, this will depend on the type of accounting software you buy. Most let you take out a monthly subscription to spread the cost. However, HMRC has also committed to there being more free software products available for microbusinesses and sole traders with simple tax affairs.

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