Introduction
Making Tax Digital (MTD) is HMRC’s long-term plan to modernise the UK tax system by moving more people and businesses onto digital record keeping and software-led submissions. It already applies to all VAT-registered businesses, and over the next few years, it will begin to cover many self-employed earners who report their income through Self Assessment.
At a practical level, MTD aims to reduce avoidable mistakes, ease the pressure of year-end filing, and give business owners a clearer, more up-to-date picture of their tax position. Read on to discover how the system works, who it applies to, and what you need to do to stay compliant.
Key Takeaways
- VAT-registered businesses must already keep digital records and file VAT returns under Making Tax Digital using approved software.
- From 2026, Making Tax Digital will apply to individuals earning over £50,000 from self-employment and property income, with a wider rollout expected.
- Making Tax Digital replaces annual returns with digital record keeping and quarterly updates to reduce errors and improve visibility.
What’s the purpose of Making Tax Digital?
MTD is essentially a move away from paper files, isolated spreadsheets, and once-a-year tax returns. Instead, HMRC wants people to keep their records digitally and send updates through recognised software at regular points during the year.
This shift mirrors the way many businesses already operate – using online banking, invoicing apps, and cloud accounting systems – and brings the tax process into the same rhythm.
The policy was introduced because annual reporting leaves a lot of room for error. Records often become outdated, paperwork gets misplaced, and estimates are frequently rushed. By encouraging people to record information digitally as they go, and by removing the need to retype figures into HMRC forms, the system should reduce these errors and help make tax administration more predictable.
Who does Making Tax Digital apply to?
VAT-registered businesses
If your business is registered for VAT, you’re already part of MTD. This applies to every VAT-registered entity, including sole traders, limited companies, partnerships, charities, and not-for-profits. You must keep VAT records digitally and file your VAT returns using compatible software.
Sole traders, freelancers, and landlords
MTD for Income Tax (often referred to as MTD ITSA) applies to individuals in Self Assessment who earn money from self-employment or property. Whether you fall into the scheme depends on your qualifying income: your gross self-employment income plus any gross property income.
Lower income brackets, partnerships, and limited companies
The initial phases of MTD ITSA cover people with higher qualifying income, but the reach won’t stop there. HMRC has announced plans to extend the rules to those with lower incomes in future years – and partnerships are expected to be included, too, although no start date has been set.
Limited companies aren’t part of MTD for Corporation Tax anymore (that phase has been dropped), but Corporation Tax filing itself is still moving towards a more digital format through separate HMRC changes.
What records must be kept under MTD?
MTD doesn’t change the underlying tax rules. Instead, it changes the way you capture and handle your records. You’ll need to maintain your key tax information digitally in compatible software (or in spreadsheets that link to software via a bridging tool), even if you still keep physical receipts or invoices as supporting documents.
If you use multiple systems, they must be able to connect digitally. This requirement (known as a ‘digital link’) means the data should flow through your bookkeeping tools automatically, from the point you record a transaction right through to your VAT return or quarterly update.
Once you’re within MTD, figures already recorded digitally must be transferred between systems automatically, not by retyping or copying and pasting. You can still enter data from paper invoices, but your main records need to be digital. Any spreadsheets or tools you use must be linked electronically.
What is Making Tax Digital for income tax?
MTD for Income Tax changes how certain individuals report their business and property income. Rather than submitting one annual Self Assessment return, you’ll keep digital records throughout the year, send quarterly updates through your software, and then complete two final submissions at year end. These submissions consist of an End of Period Statement for each business or property source, and a Final Declaration confirming your total tax position.
You only need to join if your qualifying income exceeds the thresholds set for your start year:
- From April 2026 – mandatory for individuals with a qualifying income of £50,000 or more (based on 2024/25)
- From April 2027 – mandatory for individuals with a qualifying income between £30,000 and £50,000 (based on 2025/26)
HMRC has also indicated that those earning above £20,000 will join from 2028, although this hasn’t yet been legislated.
Do I need special software for MTD?
Yes. Once the rules apply to you, you’ll need to use HMRC-compatible software to stay compliant. This might be a complete accounting package or a spreadsheet connected to HMRC through an approved bridging tool.
Well-known options for small businesses include Xero, QuickBooks, FreeAgent, Sage, Zoho Books, and KashFlow. These platforms typically handle digital record-keeping, VAT returns, quarterly income-tax updates, and real-time tax estimates, making it much easier to stay on top of your tax obligations.
What happens if I don’t comply?
Once you’re inside MTD, HMRC expects you to follow the rules consistently. If you try to submit returns outside recognised software, they may be rejected, and you may face penalties for failing to keep digital records or maintain digital links. These obligations sit alongside HMRC’s newer points-based penalty system for late filing and late payment, which means missed deadlines build up points that can eventually result in financial penalties.
If non-compliance continues over time, HMRC may also look more closely at your submissions or carry out formal checks, so it’s worth getting the right processes in place before the rules apply to you.
How to prepare for Making Tax Digital
It’s much easier to adjust to MTD gradually than to do it all at once. The checklist below covers the main steps:
MTD preparation checklist
- Confirm when MTD applies to you.
- Choose compatible software. Pick an HMRC-recognised accounting package or a spreadsheet with bridging.
- Start keeping digital records early. Building the habit now means quarterly updates will feel like a natural extension rather than a sudden change.
- Review your bookkeeping routine. Consider capturing receipts digitally, keeping business and personal spending separate, and reviewing your accounts regularly.
- Speak to an accountant. This is especially important if you manage multiple properties or trades, or if your income sits close to the thresholds.
Getting your business ready for the next step
MTD is a significant shift in how businesses report tax, but it’s far easier to manage when you prepare in advance. Once you know your start date, choose suitable software and start building digital record-keeping into your routine – after this, the transition is usually straightforward.
And if you’re forming a new limited company or reviewing how your existing business handles compliance, 1st Formations can help you set things up correctly from the outset. Our company formation packages and ongoing services are designed to keep your business organised, compliant, and ready for whatever comes next.
Nicholas Campion
Nicholas is Director, Company Secretarial at 1st Formations, responsible for completing the company’s statutory filings and ensuring all the company secretarial department is fully trained on company law and company secretarial procedures. Nick is also Company Secretary for the BSQ Group and all subsidiary brands, an accredited industry leader and a Companies Act 2006 specialist.
