Making Tax Digital for VAT: software, records and digital links

What is Making Tax Digital for VAT?

Making Tax Digital (MTD) is a fundamental change to the administration of the UK tax system. For limited companies, its most significant impact so far is on Value Added Tax (VAT). Since April 2022, it has been mandatory for all VAT-registered businesses, including those voluntarily registered with turnover below the £90,000 threshold (figure for 2025/26), to comply with MTD for VAT rules. The core objective is to make tax administration more effective, efficient, and easier for taxpayers to get right. By mandating digital record-keeping and submissions through compatible software, HMRC aims to reduce the 'tax gap' caused by avoidable errors in manual processing. This means the old method of logging into the HMRC portal and manually keying in the nine figures for your VAT return is no longer available.

Complying with MTD for VAT involves three key obligations for your company. First, you must keep specified VAT records digitally. Second, you must use MTD-compatible software to calculate and prepare your VAT return. This software must be able to connect to HMRC's systems via an Application Programming Interface (API). Third, you must submit your VAT return information to HMRC directly through that software. This creates an end-to-end digital journey for your VAT data, from the initial recording of an invoice to the final submission. It’s crucial to understand that simply using a spreadsheet is not enough on its own; that spreadsheet must connect to MTD software using a 'digital link' to be compliant, a concept we will explore in detail.

• Keeping VAT records in a digital format within compatible software.
• Using software that is recognised by HMRC and connects to its systems.
• Submitting VAT returns directly to HMRC through your chosen software.
• Ensuring data flows digitally between different software parts (digital links).
• Applies to all VAT-registered businesses, regardless of turnover.

Worth knowing: MTD for VAT is the mandatory digital system for VAT record-keeping and submission, replacing the old manual portal for all registered businesses.

Choosing MTD-Compatible Software

Selecting the right software is the first practical step towards MTD compliance. There are three main categories to consider. The most common solution for limited companies is integrated accounting software, such as Xero, QuickBooks, or FreeAgent. These platforms handle everything from invoicing and expense tracking to bank reconciliation and automatic VAT return generation and submission. The second option is 'bridging software'. This is a tool that connects non-compatible software, most commonly a spreadsheet, to HMRC's MTD system. It extracts the final VAT return figures from your spreadsheet and submits them. This is a cost-effective option if you have a robust spreadsheet system already in place. The final, more advanced option is using an API-enabled spreadsheet, which requires technical expertise to build a direct API link from your spreadsheet to HMRC, often used by larger businesses with bespoke systems.

When choosing, your decision should be based on your company's specific needs and budget. For most new and small companies, an integrated accounting package offers the best balance of functionality and simplicity, automating many bookkeeping tasks. Key factors to weigh up include the monthly subscription cost, the ability to scale as your business grows, and compatibility with your accountant's systems. Check for features like automatic bank feeds, which significantly reduce manual data entry. Most importantly, before committing to any product, you must verify that it is listed on the GOV.UK website as being 'recognised by HMRC' for MTD for VAT submissions. Using unlisted software risks non-compliance and submission failures.

Worth knowing: Select HMRC-recognised software that fits your company's budget, complexity, and long-term operational needs.

Digital Record-Keeping Requirements

Under MTD rules, 'keeping digital records' means specific pieces of information about your business and its transactions must be recorded and stored electronically in functional compatible software. General business data you must record digitally includes your company name, principal place of business address, and your VAT registration number. You also need to record details of any VAT accounting schemes you use, such as the Cash Accounting or Flat Rate schemes. For every single sale (supply made) and purchase (supply received), you must digitally record the time of supply (tax point), the value of the supply (net, excluding VAT), and the rate of VAT charged. For sales, this is straightforward. For purchases, if there is more than one item on an invoice with different VAT rates, you can record the total net value and total VAT, rather than each item separately.

It is vital to understand that simply scanning a paper invoice and saving it as a PDF in a folder does not meet the digital record-keeping requirement. While you should keep copies of invoices, the transactional data from them must be entered into your accounting software. This data forms the basis of your VAT return calculation. MTD-compatible software is designed to capture and store this information correctly. All your digital VAT records must be preserved for at least six years following the end of the relevant accounting period. This is the same retention period as for traditional paper records. Your software should allow you to access or export these historical records easily should HMRC ever request to inspect them.

• For each sale: tax point, net value, and VAT rate applied.
• For each purchase: tax point, net value, and amount of input tax to be claimed.
• Adjustments for any corrections or credit notes must also be recorded digitally.
• Your business name, VAT number, and details of any VAT schemes used.
• Daily Gross Takings (DGT) if you use a retail scheme.

Worth knowing: MTD requires specific transactional data, not just scanned invoices, to be entered and stored electronically in compatible software for at least six years.

Understanding and Implementing Digital Links

A 'digital link' is a critical concept in MTD compliance. It refers to the transfer of data between different pieces of software, applications, or even separate spreadsheets that make up your accounting system. The fundamental rule is that this transfer must happen digitally, without any manual intervention. This means that re-typing data or copying and pasting values from one place to another is no longer compliant. The aim is to create an unbroken, automated digital trail from the moment a transaction is first recorded to the final figures being submitted to HMRC. This requirement applies to all businesses, as the initial 'soft landing period' that allowed for copy-and-paste has now ended.

In practice, a digital link can take several forms. If you use a single, integrated piece of accounting software, digital links are handled automatically within the program. If you use multiple programs, for example, a separate invoicing system and a spreadsheet for accounting, you need to ensure the data moves between them digitally. Compliant examples include linking cells and formulas between two spreadsheets, using a CSV file download-and-upload process, or an automated data transfer via a direct API connection. The key is that the data itself is not manually altered or re-entered during the move. Your process must be reviewed to ensure every step in your VAT journey is digitally linked.

1. 1

   First, map out every stage of your VAT data journey, from initial sale or purchase entry to the final VAT return summary.

2. 2

   Next, identify every point where data is transferred between different software applications, spreadsheets, or modules.

3. 3

   Then, for each transfer point, critically assess whether the process is automated or involves manual keying or copy-pasting.

4. 4

   If a manual step is identified, you must replace it with a compliant digital link, such as a CSV import/export function or by linking spreadsheets with formulas.

5. 5

   Finally, document this digitally linked process as evidence of your MTD compliance.

Worth knowing: Digital links are the mandatory digital chain connecting your raw transaction data to your final VAT return submission, and manual copy-pasting is not allowed.

Submitting Your VAT Return via MTD Software

The process of submitting your VAT return is fundamentally different under MTD. Instead of logging into the HMRC website, the entire process is handled within your compatible software. Once your accounting period ends, the software will use the digital records you have been keeping to automatically calculate the figures for the nine boxes of your VAT return. Your primary responsibility at this stage is to review these figures thoroughly before submission. You should cross-reference the summary figures with your own understanding of the period's trading activity to spot any obvious anomalies. Good software will allow you to drill down from the summary figure in each box to the individual transactions that make it up, making this review process transparent and effective.

Once you are satisfied with the figures, you will authorise the submission within the software. The software then uses its API to transmit the nine box values directly to HMRC's systems. You should receive an immediate on-screen confirmation and a submission receipt, which includes a unique correlation ID. It is vital to save a copy of this receipt as proof of a successful and timely filing. Common issues can include authorisation problems, where the software's permission to access your HMRC account has expired and needs to be re-granted, or connection timeouts. If a submission fails, do not panic; check your internet connection, re-authorise the software, and try again, ensuring you do not miss your deadline.

Worth knowing: Your MTD software calculates and submits the VAT return, but you remain responsible for reviewing the figures and saving the submission receipt.

Correcting Errors and Making Adjustments

Making Tax Digital changes the process of submission, but not the underlying rules for correcting errors on past VAT returns. If you discover a mistake after filing, the method of correction depends on the size of the net error. For net errors of £10,000 or less (and provided the error was not deliberate and does not exceed 1% of your box 6 turnover figure, up to a maximum of £50,000), you can normally correct it by making an adjustment on your next VAT return. Most MTD-compatible software has a specific function for posting VAT adjustments. It is crucial that you record the details of the adjustment digitally, explaining what the error was and how the correction was calculated, as this forms part of your digital records.

If the net value of the errors is greater than £10,000, or if the error was deliberate, you cannot simply adjust your next return. Instead, you must formally notify HMRC by completing and submitting a VAT652 'Notification of errors in VAT returns' form. This is done outside of your MTD software, usually through your Government Gateway account or by post. Prompt and voluntary disclosure of any error is always the best course of action, as it can help to mitigate potential penalties for inaccuracies. Failing to correct a known error can be treated as a deliberate act by HMRC, which carries much more severe financial consequences.

Worth knowing: Small, non-deliberate errors can be adjusted on your next MTD return, but larger errors require separate notification to HMRC using Form VAT652.

MTD and Special VAT Schemes

If your company uses a special VAT scheme, you must still comply with MTD, but the specific requirements for your digital records may vary. The core principles of digital record-keeping, digital links, and software submission remain unchanged. It is vital that you choose MTD software that explicitly supports your chosen scheme and that you configure it correctly from the outset. For example, if you use the Cash Accounting Scheme, your software must be set to use the date of payment or receipt as the tax point, rather than the invoice date, as this determines which VAT period a transaction falls into. The software will then calculate the VAT due based on cash flow, not on sales and purchases invoiced.

For companies on the Flat Rate Scheme, you must still digitally record all your sales and apply the correct flat rate percentage for your industry sector. While you cannot generally reclaim input VAT on purchases, HMRC still requires you to keep a digital record of all your business expenses. This is important for your wider business accounting and Corporation Tax calculations. If you use one of the Retail Schemes, the requirement to record your Daily Gross Takings (DGT) must be met digitally. MTD-compatible software designed for retail will have functions to handle these specific calculations and record them in a compliant manner, forming the basis of the VAT return.

• Cash Accounting Scheme: Software must use payment dates, not invoice dates, for tax points.
• Flat Rate Scheme: Records of all purchases must still be kept digitally, even if input VAT is not claimed on them.
• Annual Accounting Scheme: Digital records must be kept throughout the year, even though you only submit one return.
• Retail Schemes: Specific calculations like Daily Gross Takings (DGT) must be performed and recorded digitally.
• Margin Schemes: You must digitally record the purchase and selling price of each item and the margin calculation.

Worth knowing: MTD applies to all VAT schemes; ensure your software is correctly configured to handle the specific record-keeping rules of the scheme you use.

Penalties for Late VAT Submissions and Payments

HMRC has introduced a new penalty system for VAT periods starting on or after 1 January 2023, designed to work alongside MTD. For late submissions, there is now a points-based system. For each VAT return you submit late, you will receive one penalty point. A financial penalty of £200 is only triggered once you reach a certain points threshold, which depends on your filing frequency. For most companies filing quarterly returns, this threshold is 4 points. This means a single late filing will not automatically result in a financial penalty. However, once the threshold is reached and a penalty is issued, any subsequent late submission will trigger another £200 penalty without adding more points. This new system is designed to penalise persistent non-compliance rather than isolated mistakes.

Separate penalties apply for paying your VAT bill late. This is a two-part penalty system. A first penalty is calculated as a percentage of the tax you owe, and the rate depends on how late your payment is. If the tax remains unpaid after 30 days, a second, additional penalty is levied. Alongside these penalties, HMRC also charges late payment interest on the outstanding amount from the due date until the date it is paid in full. The best way to avoid all penalties is to ensure your digital records are kept up-to-date throughout the quarter, allowing you to review and submit your return and make payment well before the deadline.

Worth knowing: The new penalty regime targets persistent late filers with a points system, while late payments incur separate, escalating financial penalties.

Common questions

Official sources & further reading

This guide draws on the official guidance below. Rules, fees and individual circumstances can change; check the relevant source before acting.

• VAT Notice 700/22: Making Tax Digital for VAT
• Find software that's compatible with Making Tax Digital for VAT
• Penalties for late submission and late payment of VAT
• Keep digital records for Making Tax Digital for VAT

General UK information, primarily for private companies limited by shares. This is not personalised legal, tax or financial advice. An accountant or solicitor can help apply the rules to your situation.