VAT cash accounting and bad debt relief: stop paying VAT on money you haven't been paid

By Matthew Hunt FMAAT, founder of Digivolve Accountants, Haywards Heath. Last reviewed 5 October 2026 for the 2026/27 tax year.

Under the normal VAT rules you pay HMRC the VAT on every invoice you raise, whether or not your customer has paid. For a business that gives credit, that can mean funding HMRC from your own bank account. The VAT Cash Accounting Scheme and VAT bad debt relief exist to fix this.

The short version

Under standard VAT accounting, VAT is due on invoices issued, even if the customer has not paid.
The Cash Accounting Scheme lets you pay VAT on sales only when your customer pays you.
You can join if your estimated VAT taxable turnover is £1.35 million or less, and must leave once it is more than £1.6 million.
If you are not on cash accounting, bad debt relief lets you reclaim the VAT on a debt that is at least 6 months overdue and written off in your accounts.
Bad debt relief must be claimed within 4 years and 6 months, so old debts can still be worth looking at.

How standard VAT accounting catches you out

Most businesses use the invoice basis: VAT is reported in the period the invoice falls in, and HMRC is clear that you must pay it even if the invoice has not been paid. With the standard rate at 20%, every £10,000 of unpaid sales means £2,000 of VAT handed to HMRC before you see a penny. If you give long terms or have late payers, that is working capital you are lending to the government.

How the Cash Accounting Scheme works

On cash accounting you pay VAT on your sales when your customers pay you, and reclaim VAT on your purchases when you have paid your supplier. The trigger is the payment date, not the invoice date.

HMRC notes that one advantage of the scheme is that you do not have to account for VAT on bad debts: if a customer never pays, you never paid the VAT.

Who can use it

You must be VAT registered and expect your VAT taxable turnover to be £1.35 million or less in the next 12 months.
You cannot use it alongside the Flat Rate Scheme, although you can combine it with the Annual Accounting Scheme.
You cannot join if you are behind with VAT Returns or payments, or have committed a VAT offence in the last 12 months.
Some transactions stay on standard accounting, including invoices with payment terms of 6 months or more, invoices issued in advance, and hire purchase or lease purchase deals.

You do not need to tell HMRC you are joining. You simply start at the beginning of a VAT accounting period. When you switch, exclude payments for invoices already declared under the normal method so the same VAT is not counted twice.

Leaving the scheme

You must leave if your VAT taxable turnover goes over £1.6 million, and can choose to leave at the end of any VAT period. You then owe VAT on sales not yet paid for, normally payable over 6 months. You must pay straight away if your turnover in the last 3 months was more than £1.35 million, or if HMRC has written to withdraw the scheme from you.

The trade off on purchases

You can only reclaim VAT on purchases once you have paid the supplier. If you pay suppliers slowly, or usually receive VAT repayments from HMRC, cash accounting can delay your refunds. It suits businesses whose problem is slow paying customers.

Comparison: which route fits your business

	Standard accounting	Cash Accounting Scheme	Standard accounting plus bad debt relief
When VAT on sales is due	When you invoice	When the customer pays	When you invoice
When VAT on purchases is reclaimed	When you are invoiced	When you pay the supplier	When you are invoiced
VAT on a customer who never pays	Paid to HMRC and lost	Never paid to HMRC	Reclaimed after 6 months, once written off
Turnover limit	None	Join at £1.35 million or less, leave above £1.6 million	None

How VAT bad debt relief works

On standard accounting, you can reclaim the VAT on an unpaid invoice when all of these apply:

You have already accounted for and paid the VAT on the supply.
At least 6 months have passed from the later of the date payment was due and the date of the supply.
You have written the debt off in your accounts and moved it to a separate bad debt account.
You claim within 4 years and 6 months of the later of the payment due date and the date of supply.

The claim goes in box 4 of your VAT Return. You do not need to tell your customer; a VAT registered customer who has not paid within 6 months must repay the input tax they reclaimed themselves.

If the customer pays something after you have claimed, you must repay the VAT element of that payment to HMRC through box 1 of your next return. Payments are allocated to the earliest unpaid invoice first, unless the customer says which invoice they are paying and pays it in full. Bad debt relief is not available on cash accounting, because you have only paid VAT on what you have actually received.

Worked example: claiming relief on a part paid invoice

A Haywards Heath building firm on standard accounting issues an invoice on 15 January 2026 for £30,000 plus £6,000 VAT, a total of £36,000, payable within 30 days by 14 February 2026. The firm pays the £6,000 VAT to HMRC on its next return.

The customer pays £12,000 and then stops responding.

The £12,000 received includes £2,000 of VAT (one sixth of a VAT inclusive amount at 20%).
The unpaid balance is £24,000, which includes £4,000 of VAT.
Six months from the 14 February 2026 due date is 14 August 2026.
Once the debt is written off to a bad debt account, the firm can claim £4,000 in box 4 of the first VAT Return covering a date on or after 14 August 2026.
The last date to claim is 4 years and 6 months after 14 February 2026, which is 14 August 2030.

On cash accounting, the firm would only ever have paid £2,000, and the £4,000 would never have left its bank account.

Common mistakes we see

Never reviewing old debts. Invoices from two or three years ago can still qualify, inside the 4 years and 6 months window.
Not writing the debt off. Without the entry in a separate bad debt account, the claim does not meet HMRC’s conditions.
Forgetting to repay VAT on later receipts. If the customer pays after you claim, the VAT element goes back through box 1.
Double counting when joining cash accounting. Receipts for invoices already declared under the invoice basis must be excluded.

Questions and answers

Do I need HMRC’s permission to use the Cash Accounting Scheme?

No. If you meet the eligibility conditions you can start at the beginning of any VAT accounting period without telling HMRC. You must keep records that cross refer each payment to its invoice.

Can I use cash accounting with the Flat Rate Scheme?

No. You cannot join the Cash Accounting Scheme if you use the Flat Rate Scheme. You can, however, use it together with the Annual Accounting Scheme.

How far back can I claim VAT bad debt relief?

You have 4 years and 6 months from the later of the date payment was due and the date of supply. The debt must also be at least 6 months overdue and written off in your accounts.

What happens if a customer pays after I have claimed bad debt relief?

You must repay the VAT included in that payment to HMRC by adding it to box 1 of your next VAT Return.

Want us to check your VAT position?

If you are paying HMRC on time while waiting on customers, a quick review can show whether cash accounting, a bad debt relief claim, or both would help. Book a free consultation, no obligation, and bring your aged debtors report: book a free consultation. Prefer to talk? Call or WhatsApp us on 01444 300981.

Find out more about our VAT returns service in Haywards Heath, or use our VAT calculator and registration threshold checker to see where your turnover sits against the £90,000 registration threshold.

Sources

This guide is general information based on the rules for the 2026/27 tax year and is not personal advice. Your own position depends on your full circumstances.