Making Tax Digital (MTD): The UK’s Major Tax Reform

Making Tax Digital (MTD) is an initiative by HM Revenue and Customs (HMRC) designed to modernise the UK tax system. By making digital record-keeping mandatory and transforming the way tax returns are submitted, MTD is changing how businesses and individuals engage with the UK tax system. Under MTD, businesses, self-employed individuals, and landlords are required to maintain digital records of their income, expenses, and financial data using compatible accounting software or digital tools. These records must be regularly updated to provide real-time tax information.

MTD is widely regarded as the most significant change for UK taxpayers since the introduction of self-assessment in 1996/97. This transition will affect not only individual taxpayers and businesses but also accountants, who will need to adapt. With the changes to take effect between April 2026 and April 2027, depending on a taxpayer’s annual income, it is essential for both accountants and taxpayers to prepare accordingly for a smooth transition.

MTD: Background and Objectives

Prior to 19 December 2022, the government had the following plans:

• Businesses, self-employed individuals and landlords with total gross income over £10,000 from self-employment and property would be mandated to keep digital records and send a quarterly summary of their business income and expenses to HRMC using MTD-compatible software from April 2024.
• Partnerships with self-employment and property income would be mandated to be compliant with MTD from April 2025.

However, the government decided to cancel their initial plans and announced an updated plan which would require the self-employed and landlords to keep digital records, but the income thresholds and deadlines were extended. Under this new regime, the mandatory use of MTD will start to apply from April 2026 and not April 2024.

One of the key things addressed by HMRC with this regime is to shape the device to meet the needs of small businesses and the best way for them to fulfil their income tax obligations. The following are some of the objectives HMRC is hoping to achieve with the implementation of MTD:

MTD for Income Tax – Registration Procedure

While signing up for MTD is not compulsory for everyone, some individuals and companies may opt to do so voluntarily now. The MTD requirement depends on the property income of the individual and whether they fall under the MTD exemption. Those choosing to keep the digital records and account for MTD voluntarily can do so using the following steps:

MTD for Income Tax: Record-Keeping Obligations

Taxpayers falling within the MTD regime are required to maintain digital records for both their self-employment and property income and expenses; the responsibility to keep track of records from employment does not fall under this MTD regime.

If an individual has multiple self-employment businesses, they must maintain separate business records for each business and file separate submissions to HMRC for each one. However, for landlords with property income, multiple properties do not translate to multiple businesses, and separate record-keeping and filing obligations do not arise. Instead, all properties within the UK are treated as a single ‘UK property business,’ while all properties outside the UK are treated as a single ‘foreign property business.’ If a landlord has property income from multiple countries, they must keep separate records for each country.

MTD for Income Tax: Creating and Updating Digital Records

As highlighted previously, the key notion of MTD is the need to create digital records of self-employment and property income. Taxpayers bound by the MTD regime must create the amount, the date when the income and expenses are incurred, and the category of the transactions. As the category of the records aligns with the category on the Self-Assessment, this should be fairly easy. Some common categories for landlords are repairs and maintenance, professional fees, rent, etc.

Once registered for MTD and the compatible software is authorised, taxpayers must submit updates for each source of business income on a quarterly basis. Since these digital records are sent to HMRC quarterly, they must be completed before the quarterly deadline or prior to submitting the update. Taxpayers can choose to follow either the standard update period (aligned with the tax year) or the calendar update period (ending on the last day of the month). Regardless of the update period chosen, the deadlines for maintaining digital records are the same, as illustrated below:

After submitting the fourth quarterly update, the software will display the income and expenses for the entire year, allowing for any necessary adjustments. These adjustments might include corrections to the figures, reclassification of transactions, or including any missed income or expenses. Once these adjustments are completed, the software will update the final business income. After the final business income is generated, the next step is to finalise the income tax position of the taxpayer.

To finalise the income tax position for a tax year, taxpayers must send details of any other income sources to HMRC and submit a final declaration confirming that the information provided is correct and complete and that their income tax position is finalised. This declaration can be made through MTD software. If the MTD software does not support the submission of income sources, the declaration can be made using the HMRC online services account.

The time limit for retaining digital records under MTD is the same as the Self-Assessment record-keeping requirement: five years after the 31st of January following the tax year to which the records relate.

MTD for VAT-Registered Businesses

MTD was initially brought into action to specifically affect the businesses registered for Value Added Tax (VAT), and the MTD is a significant step for businesses affected by this regime. The MTD mandate means that it now requires all VAT-registered businesses to maintain digital records and submit their tax returns using compatible software. Businesses, including Sole traders, limited companies, partnerships, and landlords with at least one UK property, are affected by MTD.

From 1 April 2022, All VAT-registered businesses must keep a digital record of their VAT-related transactions unless the exemption applies to them or they have applied for the exemption. Exemptions from MTD to VAT-registered businesses are given automatically and do not need to apply for exemption if either of the following applies:

• The business is already exempt from filing VAT returns online or
• The business is subject to an insolvency procedure

In certain circumstances, it may be possible for businesses to apply for VAT exemption even though the conditions mentioned above may not be met. For this to apply, claimants must prove that it is not reasonable or practical for them to use computers, software or the internet, making them unable to comply with MTD.

To apply for an exemption, businesses can either call or send a letter to HMRC on the following address:

The letter must include the VAT registration number, the name and address of the business, details of how the VAT returns are currently filed, and the reasons why they are exempt from MTD. HMRC’s decision will be communicated via letter.

For businesses that are not eligible for the exemption, HMRC automatically registers them for MTD for VAT. Once informed by HMRC, the next crucial step for businesses involves selecting suitable software that facilitates the direct submission of VAT returns to HMRC, eliminating the need for manual visits to HMRC's websites.

The available software options on HMRC's platform generally fall into two categories:

• record-keeping software, which updates and stores your records, enabling direct VAT return filing and
• bridging software which are designed to work with non-compatible tools like spreadsheets and accounting systems, ensuring the correct format when transmitting information to HMRC.

MTD for Income Tax: Authorising an Agent

Individual taxpayers or businesses do not need to handle MTD compliance on their own; they can choose to authorise an agent to manage it on their behalf. To authorise an agent, the agent must first have an online agent services account. The authorisation process remains the same as for other tax services, such as CGT agent authorisation or agent authorisation for ATED.

This account is used to request authorisation from the client. Once the request is successful, a link will appear on the screen, which should be forwarded to the client. The client will use this link to complete the authorisation process.

After successful authorisation, agents can manage their clients' MTD affairs. HMRC allows multiple agents to perform different MTD services, with each agent having varying levels of permission. For example, a taxpayer might have one agent handling MTD for VAT and another for MTD for Income Tax. It is the client's responsibility to authorise the level of information and permissions each agent receives.

Conclusion and Next Steps

Making Tax Digital (MTD) represents a profound shift in the UK tax system, marking one of the most significant changes since the advent of self-assessment in 1996. This initiative by HMRC is designed to modernise tax administration by mandating digital record-keeping and real-time reporting for VAT-registered businesses,
self-employed individuals, and landlords. MTD aims to enhance accuracy, streamline tax processes, and prepare the UK tax system for future digital advancements.

With a phased implementation strategy, MTD started with VAT-registered businesses and is expanding to include Income Tax Self-Assessment for self-employed individuals and landlords. The deadlines for compliance vary based on income thresholds, with full implementation expected by April 2027 for the broad range of taxpayers. These changes are set to improve efficiency, reduce errors, and provide a more resilient and modern tax system.