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Making Tax Digital: Are you Ready for Phase 2?

2019 saw hundreds of thousands of UK businesses register for HMRC’s “Making Tax Digital” reform that was officially implemented in April last year. But that was the easy part. VAT managers, fasten your seat belts because it’s going to be a bumpy 2021. Phase 2 is coming…

When Phase 2 of Making Tax Digital is rolled out in April of 2021, over one million businesses of all sizes will be affected by major factors that were not prevalent in phase 1. As a comparison, think of phase 1 as the little league of digital tax and phase 2 as Superbowl Sunday with all the strategy and line changes and pressure to go with it as well.

Making Tax Digital Phase 1

Phase 1 provided businesses with what HMRC dubbed a ‘soft landing’ into MTD and the uptake across UK-registered businesses was officially described as “good enough”… but is that good enough? It did not shoot the lights out and by July 2019, only 10% of UK businesses had signed on. Furthermore, it was easy to find cheap and cheerful “bridging” software to deal with MTD’s phase 1, but phase 2 will demand a more robust technology solution to ensure your business remains 100% compliant and avoids penalties.

Making Tax Digital Phase 2

Phase 2 presents some challenging factors, the main three being:

  • Stringent rules will be introduced around the way digital links and the way businesses must upload their VAT returns.
  • Very basic accounting software tools will not have the required features to provide a way to submit the financial records on purchases as well as sales meaning they may lose accreditation.
  • Penalties for non-compliance will be introduced.

What will you need to do in order to file an MTD-compliant return in 2021?

The fundamental requirement is for businesses to maintain suitable Digital Records. VAT registered businesses will need to keep the following on record digitally and be able to submit it electronically while proving they have digital links to the data. In essence, this means copy and pasting or the upload of spreadsheets will no longer be accepted. The following is mandatory:

  • permanent data (i.e. business name, address, VAT registration number, details of any VAT accounting scheme used);
  • the VAT account (broadly similar to current requirements); and
  • transaction data.

Secondly, the following is required for transactional records both for sales and purchases.

  • For both sales and purchases you need to record the time of the supply (i.e. the tax point) and the value of the supply.for each sale you have to record the rate of VAT charged; and
  • For each purchase you have to record the total amount of input tax for which credit is allowable.
  • A key thing to note is that this information is required for each supply, not each invoice.  That means that, as a general rule, you can no longer just record invoice totals where there is more than one supply on an invoice. (source)

You’ll need Robust Accounting Software for MTD Phase 2. Choose Wisely.

Does this mean farewell to Excel? It seems so. During Phase 1 many applications bridged the gap between Excel and digital accounting software in the hopes that HMRC would continue to consider the uploaded Excel sheets as “digital records”. But Phase 2 will demand digital links between permanent data and only strong, accredited applications will be able to provide this.

While most large enterprises have already adopted holistic accounting software, 2021 will see thousands of small businesses looking for affordable software solutions to comply with MTD. Small businesses who currently run their expense management and taxes on Excel or use non-accredited software applications, will have to put the effort into changing their strategy and making an investment into better technology to handle MTD. There are of course pros to all this, such as digital automation, saving time and money, preventing human error and VAT fraud, but it will come at a cost for many small businesses.

Get Ready for Penalties

During Phase 1, only companies with a revenue threshold higher than £85,000 needed to comply with MTD. Phase 2 will introduce MTD to all businesses as well as action penalties for those businesses who do not comply. Add to this, the introduction of MTD for income tax as well later on in the year and you can see why VAT managers across the UK are getting ready for the digital VAT superbowl. There’s a lot at stake.

You don’t have to go it alone

Help is available. Vatglobal built an accredited software, vfile, that is robust enough and ready to take on all your VAT needs for both phase 1 and phase 2, to explore it, click here. We built it with both the large enterprise and small business in mind.

For any queries around Making Tax Digital, get in touch with us directly at

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