What is Making Tax Digital? Everything your business needs to know in 2025

Making Tax Digital (MTD) was introduced by the UK government to make it easier for individuals and businesses to get their taxes digitalised. Now all VAT-registered businesses are automatically enrolled in MTD for VAT. The next stage is set to be rolled out next year, with MTD for Income Tax applying to the self-employed and landlords.

One of the most important aspects for business owners, sole traders, and landlords to be aware of: you need to be signed up with MTD-compliant software. That means you’ll need to get to grips with the best accounting software for small businesses that is HMRC approved.

We’ve been helping small businesses for 25 years, and in the article below we’ll go through the new legislation and what it means, as well as taking you through the two key steps to making sure your business meets all the new requirements.

What is Making Tax Digital (MTD)?

Making Tax Digital  (MTD) is an initiative from the government which makes it compulsory for all businesses in the UK to keep digital tax records, and submit their tax return online.

The scheme is intended to be beneficial to businesses, landlords, and sole traders registered for tax as it makes bookkeeping and paying tax simpler and more efficient. It’s designed to get away from the standard annual tax return, and foster a more real-time approach to tax which allows businesses to stay on top of their cash-flow.

It’s also been introduced as a measure to reduce the “tax gap”: this refers to the discrepancy between the amount of tax owed to HMRC, and the amount that is actually paid.

Making Tax Digital timeline

As of April 2022, MTD for VAT became mandatory for all businesses who meet the threshold to be registered for VAT, regardless of turnover. As of now, any business signed up for VAT is automatically registered for MTD by HMRC.

Since April 1 2024, the threshold for VAT registration for UK businesses is £90,000.

As of right now, MTD only applies to VAT, but MTD for Income Tax is due to be introduced in stages from 2026.

This is a list of all the key dates that business owners need to be aware of for Making Tax Digital for Income Tax:

• 6 April 2026: this marks the start of MTD for Income Tax, where the self-employed or landlords cross the income threshold of £50,000. If this applies to you, then you will be required to:

– Keep complete digital records of your income and expenses.
– Use MTD-compatible accounting software to submit quarterly updates to HMRC.
– File a ‘final declaration’ with details of any other taxable income by 31 January every year.

• 6 April 2027: the list of rules above will begin to apply to the self-employed and landlords who are earning between £30,000 and £50,000 annually.
• 6 April 2028: the rules above will kick in for the self-employed and landlords who are earning over £20,000.

While it will not become mandatory until April 2026, individuals can volunteer to take part in the MTD for Income Tax pilot scheme.

What is the penalty if you’re not registered?

If your business is registered for VAT, then HMRC will have automatically enrolled you in the MTD for VAT scheme. However, there are important penalties to be aware of within the MTD scheme.

First of all, you must use functional compatible software to file your VAT return, or you could face a penalty of £400 for every return filed to HMRC. You can find more information in our section below.

You also must keep records digitally, or you could face a penalty of between £5 and £15 per day that you fail to meet the requirement. 

You need to keep these records in the aforementioned compatible software, which is known as your ‘electronic account’.

You will need to use digital links to transfer data between software programs, apps, or products or you could be charged a penalty of £5 to £15 for each day you fail to do so.

For example, this could include linked cells within a spreadsheet, transferring your records to a portable device like a memory stick, or importing and exporting XML or CSV files.

You are also required to use the checking functions within your software, ensuring your returns are correct prior to filing them. If you file an incorrect return, you will need to pay back any VAT that you owe, and you could also be charged a penalty of up to 100% of the VAT owed.

What are the penalties for a late submission?

Late submissions for MTD work on a points based system, similar to points on a driver’s license. For each submission deadline that you miss, you will be penalised by one point. If you amass too many points you will be required to pay a fine of £200.

HMRC has also recently announced that the late payments penalty system will also apply for MTD for Income Tax. You also receive separate points for VAT and Income Tax, so don’t get caught out by this! You don’t want to be hit with a double-fine.

If you submit monthly returns then you’ll be fined after five points. For quarterly returns, a fine is levied after four points, and if you submit annually you get fined after just two points.

If payment is more than 15 days late, the penalty is 3% of the outstanding tax. If your payment is not made in 30 days after payment is due, you’ll be fined a further 3% of the amount due at 15 days, and an additional 3% on the outstanding amount at day 30.

If you submit on any day after the initial 30 days, a further penalty is subject to an additional penalty of 10% per year for each day your tax is unpaid.

How to register for Making Tax Digital

Currently, you are no longer required to manually sign up for MTD for VAT if you are already registered for VAT. You can find out more in our full guide to how to register your business for VAT.

All new VAT businesses will get automatically signed up for MTD by HMRC, unless they are exempt.

The most important thing for VAT-registered businesses to do is make sure they are signed up with MTD compatible software.

We’d recommend speaking to an accountant in order to find the best software package for your business, and if you don’t have access to one you can use our guide to finding an accountant for your small business.

Signing up for Making Tax Digital for Income Tax

As we stated earlier, it’s currently voluntary to sign up for MTD for Income Tax. You currently have two options though; you can sign up to test the service, or you can enrol early.

This will depend on your eligibility though. If you want to sign up voluntarily, you’ll need to meet the following criteria:

• You have up-to-date details with HMRC.
• You’re a UK resident.
• You have your National Insurance number.
• You have previously submitted at least one Self Assessment tax return.
• All your tax records are up to date, with no outstanding liabilities.
• You use an accounting period running from either 06 April to 05 April, or 1st April to 31st March.

And as the same with MTD for VAT, it’s key to ensure you have software that is compatible with Making Tax Digital for Income Tax. You need to make sure you have set up the correct software prior to signing up for MTD for Income Tax.

You’ll also need:

• Your National Insurance number.
• Either the start date of your business or the date you started receiving property income (if it was within the last two tax years).
• Which accounting method you use.
• The tax which you want to start using MTD for Income Tax from.
• Sole traders will also need: your business name, address, and nature of the business.

Once you have all this ready and to hand, you can sign up through the government gateway. You need to make sure you have your Self Assessment user ID and password in order to sign in.

Don’t forget: you’re still required to submit a Self Assessment tax return for the tax year prior to using MTD for Income Tax.

Making Tax Digital accounting software guide

It’s paramount that your business is set up with software that is compatible with MTD. HMRC defines functional compatible software as:

• Being able to record and store digital records.
• Provide HMRC with information and VAT returns from the data held in your digital records.
• Be able to receive information from HMRC.

Our recommendation is to consider one of the top accounting software options that is geared towards small business owners, such as:

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

Once you’ve selected the appropriate software, you need to start keeping all your VAT records digitally within the software, and then submit your returns to HMRC from the platform.

Your software will ask you for permission to grant access to the data from HMRC. This will grant authority for a period of 18 months.

You should also consider how many users you will need for the software, as most will have specific limits depending on plans. The right accounting software won’t just help you with MTD-compliance – it will also help manage other tasks like tracking cash flow, revenue and expenses.

There are some free accounting software plans, that are MTD-compatible, but just keep in mind that these may be restrictive, with limitations in place.

If you’re a sole-trader or landlord who’s preparing for MTD for Income Tax, we would recommend looking at our recommendations for the best accounting software for the self-employed.

HMRC also provides its own tool for helping you find the right MTD software for Income Tax.

Can I use bridging software?

This is defined as any software that is able to connect to your records, such as a spreadsheet, and then send this information as quarterly updates to HMRC. It’s suitable for businesses that haven’t yet set up an MTD-compliant software platform. This should mostly be used as a temporary solution though, before you get software that is MTD-compliant on its own.

Can I be exempt from Making Tax Digital?

Those who are ‘digitally excluded’ may be able to continue to file traditional self-assessments, according to HMRC, which just recently announced that it is introducing new legislation for digital-exclusion exemption for MTD.

This applies to taxpayers who are legitimately unable to use online tools to submit their income. If you’re using a third-party agent for help with MTD, the exemption is still based on your circumstances as the taxpayer.

Exemptions can be withdrawn or reviewed though, if circumstances change.

You may be eligible for exemption if:

• You are a practicing member of a religious society whose beliefs prevent you from using electronic equipment.
• It’s not practical for you to keep electronic records, or use electronic communications, due to age, disability or location.

HMRC has explicitly stated though that you will not be granted exemption on the grounds that:

• You have previously submitted paper tax returns.
• You are inexperienced with accounting software.
• You only have a small amount of records to create each year.
• You have concerns around the cost and time pressures of using MTD for Income Tax.

If you believe that you qualify for MTD exemption, you need to apply directly to HMRC in writing or on the phone, or via an authorised agent if you’re unable to do this yourself.

Make sure to begin your application in advance of your MTD for Income Tax start date. HMRC states that they aim to process your application within 28 days of receiving it.

HMRC can challenge applications, but you do have 30 days from the date of the letter to appeal the decision. However HMRC recommends that you prepare for MTD for Income Tax while you wait to hear the results of your application.

There are some specific circumstances where a person might be automatically exempt from MTD for Income Tax for a certain tax year, such as:

• You are completing a tax return for that tax year as a personal representative for a deceased party, or as a trustee.
• You don’t have a national insurance number on the 31st January prior to the start of that tax year.
• You are a Lloyd’s member specifically in relation to their underwriting business.

In summary

MTD might feel like a chore, but it can help your business simplify and streamline its financial tasks, as well giving you a better understanding of your cash flow, and ensure greater bookkeeping accuracy.

Just remember, that critical first-step for Making Tax Digital is to find MTD-compliant accounting software. We understand that it can be a lot for business owners to get their heads around, which is why we have a complete guide to how you can manage small business accounts.