What Is Making Tax Digital and How Should Small Businesses Prepare?

Making Tax Digital, commonly known as MTD, is the UK government's initiative to modernise the tax system. Rather than relying on manual record-keeping and annual paper returns, HMRC wants businesses to maintain digital records and submit tax information using compatible software.

If you run a small business in the UK, MTD is not optional. It is a legal requirement that is being rolled out in phases, and understanding where you fit in that timeline is essential to staying compliant.

What Making Tax Digital actually requires

At its core, MTD requires two things from businesses:

Digital record-keeping — You must keep your business records in a digital format. Spreadsheets can qualify, but only if they are linked to compatible software through what HMRC calls "digital links."
Software-based submissions — You must use MTD-compatible software to submit your tax returns directly to HMRC. You cannot simply log into the HMRC website and type in your figures manually.

The goal is to reduce errors, close the tax gap, and make it easier for businesses to stay on top of their obligations throughout the year rather than scrambling at year end.

The MTD timeline: where are we now?

MTD has been rolling out in stages since 2019. Here is the current state of play:

MTD for VAT (already live)

All VAT-registered businesses, regardless of turnover, must already be filing their VAT returns through MTD-compatible software. This has been mandatory since April 2022 for businesses below the VAT threshold who are voluntarily registered, and since April 2019 for those above the £85,000 threshold.

If you are VAT-registered and still filing manually through the HMRC portal, you are already non-compliant.

MTD for Income Tax Self Assessment (ITSA)

This is the next major phase. MTD for ITSA will require sole traders and landlords to:

Keep digital records of income and expenses
Submit quarterly updates to HMRC (not just an annual return)
Provide an end-of-period statement and final declaration

The current rollout timeline targets sole traders and landlords with income above £50,000 first, with lower thresholds following in subsequent years. Check the latest HMRC guidance for confirmed dates, as these have shifted several times.

MTD for Corporation Tax

MTD for Corporation Tax is still in the consultation phase. Limited companies do not yet need to comply, but it is widely expected to follow a similar pattern to MTD for ITSA once the self-assessment rollout is complete.

Who does MTD affect?

If you fall into any of these categories, MTD is relevant to you:

VAT-registered businesses — Already required to comply
Sole traders earning above the threshold — Coming soon under MTD for ITSA
Landlords with property income above the threshold — Same timeline as sole traders
Partnerships — Expected to follow after sole traders
Limited companies — Future phase, not yet confirmed

Even if you are currently below the threshold, it is worth preparing now. The thresholds are expected to decrease over time, bringing more businesses into scope.

How to prepare for Making Tax Digital

1. Get MTD-compatible software

This is the single most important step. You need accounting software that can:

Store your records digitally
Generate and submit VAT returns directly to HMRC (if VAT-registered)
Submit quarterly updates and final declarations (when MTD for ITSA goes live)
Maintain digital links between your records and submissions

Not all accounting software is MTD-compatible. Check HMRC's list of recognised software, or look for providers that explicitly state MTD compatibility.

Modern platforms like Relentify are built with MTD compliance as a core feature, not an afterthought bolted onto legacy systems. When evaluating software, look for direct HMRC integration, automated VAT calculations, and the ability to generate the nine-box VAT return without manual data entry.

2. Digitise your existing records

If you are still keeping records on paper, in unlinked spreadsheets, or in a shoebox of receipts, now is the time to change. Start by:

Setting up a digital chart of accounts
Entering your opening balances
Recording all income and expenses digitally going forward
Scanning and attaching receipts to transactions where possible

You do not necessarily need to backdate your entire history, but you do need a clean starting point from which all future records are digital.

3. Understand the quarterly reporting cycle

Under MTD for ITSA, you will need to submit updates to HMRC every quarter. This is a significant change from the current annual self-assessment return.

Each quarterly update will summarise your income and expenses for that period. At the end of the year, you will submit a final declaration confirming your total figures.

This means you need to be keeping your books up to date throughout the year, not just at year end. If you currently do all your bookkeeping in January, you will need to change your habits.

4. Set up bank feeds

One of the easiest ways to stay on top of your records is to connect your bank account to your accounting software. Bank feeds automatically import your transactions, which you can then categorise and reconcile.

This dramatically reduces the manual effort of data entry and makes quarterly reporting much less painful.

5. Talk to your accountant

If you use an accountant, make sure they are ready for MTD too. Many accountants are already set up with MTD-compatible software and can handle submissions on your behalf. But communication is key — discuss:

Who will be responsible for quarterly submissions
What software you will both use (and whether it integrates)
How you will share records throughout the year
What the fee implications are for more frequent reporting

Common MTD mistakes to avoid

Relying on spreadsheets alone

While HMRC does allow spreadsheets as part of your digital records, they must be connected to your submission software via digital links. Copy-pasting figures from a spreadsheet into a filing tool does not meet the requirements. If you are using spreadsheets, make sure you understand what constitutes a valid digital link.

Assuming your current software is compliant

Not all accounting software supports MTD. Some older or free tools may let you keep records digitally but cannot submit to HMRC. Check your software's MTD status before assuming you are covered.

Waiting until the deadline

Every MTD phase has seen a rush of businesses scrambling to comply at the last minute. Software migrations take time, data needs to be cleaned up, and there is a learning curve. Start preparing at least six months before any deadline that applies to you.

Ignoring the penalty regime

HMRC has introduced a points-based penalty system for late submissions under MTD. Each late submission earns a point, and once you hit the threshold, you receive a financial penalty. This replaces the old system of fixed penalties and is designed to be more proportionate but also more consistent.

The bigger picture: why MTD matters

MTD is not just a compliance exercise. When implemented well, it can genuinely improve how you manage your business finances.

Keeping digital records and reviewing them quarterly means you have a much clearer picture of your financial position throughout the year. You can spot problems earlier, make better decisions, and avoid the year-end surprise of an unexpectedly large tax bill.

It also reduces errors. Manual data entry and paper records are prone to mistakes. Digital records with bank feeds and automated categorisation are far more accurate.

What to look for in MTD software

When choosing software for MTD compliance, consider:

HMRC recognition — Is it on the official list of MTD-compatible software?
VAT filing — Can it generate and submit the nine-box VAT return?
Quarterly updates — Is it ready for MTD for ITSA when it launches?
Bank feeds — Does it support automatic bank transaction imports?
Ease of use — Can you actually use it without an accounting degree?
Accountant access — Can your accountant log in and review your records?
Pricing — Does the pricing scale fairly as your business grows?

The best MTD software is the kind you will actually use consistently. A powerful tool that sits unused because it is too complicated defeats the purpose entirely.

Moving forward

Making Tax Digital is here to stay, and its scope will only expand. Whether you are already compliant for VAT or preparing for the next phase, the key is to start now, choose the right tools, and build good habits around regular digital record-keeping.

The businesses that treat MTD as an opportunity to improve their processes — rather than just another compliance burden — will be the ones that benefit most in the long run.