If your agency has some income streams that are VAT registered and others that aren't, you're in a minority that HMRC's MTD rules don't handle elegantly. The system was designed for straightforward cases: you're either VAT registered or you aren't. But many agency founders operate with a mix.

A common scenario: you run a digital agency through a limited company (VAT registered) but also take on freelance consulting work as a sole trader (below the £90,000 VAT threshold). Or you have a partnership that handles non-VATable income alongside your main agency. In these cases, MTD for mixed VAT and non-VAT agencies creates a genuine compliance puzzle.

This article explains exactly what you need to do, what software you need, and where the traps are. We are ICAEW qualified accountants, and we see this issue more often than most people realise.

What MTD Actually Means for Your Agency

Making Tax Digital (MTD) is HMRC's programme to move tax reporting onto digital systems. It started with VAT in 2019 and is now rolling out for Income Tax Self Assessment (ITSA) from April 2026.

For MTD mixed VAT and non-VAT agencies, the complication is simple: MTD for VAT requires digital records and digital submission for your VAT-registered entity. MTD for ITSA will require the same for your self-assessment income. If those are different legal entities (a limited company and a sole trade, for example), you need separate MTD-compliant records for each.

Let's be specific about the timelines:

  • MTD for VAT: Already mandatory if your VAT taxable turnover exceeds £90,000. You must use MTD-compatible software (Xero, QuickBooks, FreeAgent, Sage) to keep digital records and submit VAT returns digitally.
  • MTD for ITSA: Mandatory from April 2026 for sole traders and partnerships with qualifying income over £50,000. From April 2027, it drops to over £30,000.

If your agency is a limited company, MTD for ITSA does not apply to the company itself. But it does apply to you personally if you have self-assessment income outside the company.

The Two Common Mixed Structures

Limited Company (VAT Registered) + Sole Trade (Non-VAT)

This is the most common mixed structure we see. You run your main agency through a limited company. It turns over £200,000, so it's VAT registered. But you also do some independent consulting or speaking work as a sole trader, earning £25,000 a year. That sole trade income is below the VAT threshold, so you're not VAT registered on it.

Under MTD for ITSA, from April 2026, your sole trade income will need to be reported digitally. Your limited company's VAT is already digital. But these are two separate MTD obligations, handled in different ways.

The limited company files its VAT returns through MTD-compatible software. The sole trade will need to file its self-assessment through MTD-compatible software too. You cannot combine them into one return because they are separate legal entities.

Partnership (Non-VAT) + Personal Self-Employment (VAT)

Less common but it happens. A partnership that provides services below the VAT threshold, while one partner also runs a separate VAT-registered agency. Same split problem: the partnership's MTD for ITSA obligations are separate from the individual's VAT obligations.

Software Requirements for Mixed Agencies

Here is where it gets practical. You need software that can handle both MTD for VAT and MTD for ITSA, potentially for different entities. Not all software does both well.

Xero: Handles MTD for VAT natively. For MTD for ITSA, Xero has a partnership with third-party bridging software. You can export your digital records and submit through a compatible tool. Xero works well if your limited company and sole trade are both on the same subscription (you can have multiple organisations under one login).

QuickBooks: Similar to Xero. MTD for VAT is built in. MTD for ITSA requires a bridging app or QuickBooks' own submission tool. QuickBooks handles multiple business types under one account.

FreeAgent: Built specifically for freelancers and small businesses. It handles MTD for VAT and MTD for ITSA. If your sole trade is straightforward, FreeAgent is often the simplest option. But it is less suited to larger agencies with complex payroll or multi-entity structures.

Sage: More strong for larger agencies. MTD for VAT is included. MTD for ITSA requires Sage's add-on or a third-party bridging tool. Sage is overkill for a small sole trade but works if your main agency already uses it.

The key point: do not assume one software subscription covers both entities. You may need separate subscriptions for your limited company and your sole trade, or a single subscription that allows multiple organisations. Check before you commit.

Record-Keeping: The Practical Reality

Under MTD for ITSA, you must keep digital records of all income and expenses for your sole trade. That means no more Excel spreadsheets unless they feed into MTD-compatible software. No more shoeboxes of receipts. Every transaction must be recorded digitally.

For your limited company, you already need digital records for VAT. But the company's MTD obligation stops at VAT. Its corporation tax return (CT600) is not yet under MTD. That will come later, likely from 2027 or 2028.

So your record-keeping looks like this:

  • Limited company: Digital records for VAT. Paper or digital for corporation tax (for now).
  • Sole trade: Digital records for MTD for ITSA from April 2026 (if income over £50k) or April 2027 (if over £30k).

If your sole trade income is below £30,000, MTD for ITSA does not apply to you yet. But HMRC has indicated it will eventually apply to all self-employed individuals. If you are below the threshold now, you have time, but do not assume it will never affect you.

VAT Flat Rate Scheme and Mixed Income

If your limited company uses the VAT Flat Rate Scheme, there is a specific trap for mixed income. The flat rate percentage you use depends on your trade sector. If your sole trade is in a different sector (consulting vs agency services, for example), you cannot simply apply the same logic.

More importantly, the Flat Rate Scheme requires you to account for VAT on all your VATable income. If your sole trade income is not VAT registered, it does not go through the Flat Rate Scheme at all. But if your limited company has some income that falls outside the agency's normal trade (rental income, for example), that can complicate the flat rate calculation.

Speak to your accountant before mixing flat rate VAT with non-VAT income streams. It is easy to get wrong.

Director's Loan Account and Mixed Structures

One issue that catches agency founders off guard: if you take money from your limited company as a director's loan and then use it for your sole trade expenses, HMRC will want to see clear separation. The loan is between you and the company. The sole trade expenses are between you and HMRC. Mixing them up creates confusion in both MTD records.

Keep separate bank accounts. This is non-negotiable. Your limited company should have its own business account. Your sole trade should have its own account (or at least a clearly designated personal account used only for that trade). HMRC can and will ask to see bank statements during an MTD compliance check.

What Happens If You Get It Wrong

HMRC is taking a soft-touch approach to MTD penalties initially. But that will not last forever. From April 2026, penalties for late submission or late payment under MTD for ITSA will follow a points-based system. Each late submission earns a point. Reach the threshold (4 points for annual submission, 2 for quarterly) and you get a £200 penalty. Further late submissions add more penalties.

For VAT, the penalty system is already in place. Late submissions cost you. Late payments cost you interest.

The real risk for MTD mixed VAT and non-VAT agencies is not the penalty itself. It is the administrative burden of managing two separate MTD obligations without proper systems. If your records are a mess, you will spend hours each quarter trying to unpick what belongs where. That is time you should be spending on your agency.

Practical Steps for Agency Founders

Step 1: Audit Your Current Structure

Write down every income stream you have. Which ones go through your limited company? Which are sole trade? Which are VAT registered? Which are not? You need a clear picture before you can set up MTD correctly.

Step 2: Choose the Right Software

If your sole trade is simple (few transactions, low volume), FreeAgent is often the cheapest and easiest option. If your agency is more complex, Xero or QuickBooks with multiple organisations will work better. Do not try to use one set of records for both entities. It will fail.

Step 3: Separate Your Banking

If you do not already have separate bank accounts for your limited company and your sole trade, open them now. Use a business bank account for the company. Use a separate personal account (or a second business account) for the sole trade. This makes MTD record-keeping straightforward.

Step 4: Set Up Digital Record-Keeping Now

Even if your sole trade is below the MTD threshold, start keeping digital records now. Use Dext or Hubdoc to capture receipts. Use your accounting software to categorise transactions. The habit will save you time when MTD becomes mandatory.

Step 5: Review Your VAT Position Annually

If your sole trade income approaches £90,000, you will need to register for VAT. That changes everything. Your sole trade then becomes a VAT-registered entity with its own MTD for VAT obligations. Plan for that before it happens.

When to Speak to an Accountant

If your mixed structure involves more than two entities, or if your sole trade income is close to the VAT threshold, or if you are considering changing your structure (incorporating the sole trade, for example), speak to an accountant before April 2026. The transition to MTD for ITSA is not something to leave until the last minute.

Our team at Agency Founder Finance works with agency founders in exactly these situations. We are ICAEW qualified accountants who understand both the tax rules and the practical realities of running an agency. If your MTD for mixed VAT and non-VAT agencies setup is causing you headaches, get in touch.

We can review your current structure, recommend the right software setup, and make sure you are compliant before the April 2026 deadline. Do not wait until HMRC sends you a penalty notice.