Although some of the penalties for VAT infringements have been less severe in recent years, there is still an alarming array of enforcement powers to trap the unwary. By being aware of the problem areas and planning carefully, it should be possible to avoid becoming an unwitting victim of the system.
You must notify HMRC of your liability to register for VAT if your taxable turnover has exceeded £81,000 in the last twelve months, or if you believe it will exceed £81,000 in the next thirty days.
Where notification is late a failure to notify penalty will be charged unless there is a reasonable excuse for the delay. The penalty is a percentage of the tax unpaid (the 'potential lost revenue' or 'PLR') due to failure to register at the correct time. It will be:
- 30% of PLR for failure to notify, which was not deliberate
- 70% of PLR for deliberate, but not concealed delays; and
- 100% of PLR for deliberate and concealed delays.
Each of the above penalties can be mitigated at HMRC's discretion, the levels of mitigation depending on whether the disclosure was prompted or unprompted, as follows:
- 30 penalty: unprompted to zero; prompted to not less than 10%
- 70% penalty: unprompted to not less than 20%; prompted not less than 35%
- 100% penalty: unprompted not less than 30%; prompted not less than 50%
Every VAT registered business needs to ensure that it is organised to deal with VAT correctly and on time:
- Is there someone in your business who controls VAT accounting and ensures that new products, services etc. are properly dealt with for VAT purposes?
- Do your business systems ensure that all output tax and input tax are properly recorded?
- Are systems in force to ensure that proper evidence is obtained to support VAT input tax claims?
- Where VAT is not charged on supplies made, is this correct in law and is proper evidence retained?
- Are there systems in force to ensure that non-deductible input tax is not reclaimed, e.g. most VAT on motor cars, business entertaining, or attributable to exempt supplies?
- Is VAT always considered before contracts are made?
A default occurs if HMRC has not received all the VAT due on a return by the due date. Now that all VAT-registered business must file returns and pay any VAT due online, the due date is 7 days after the end of the month following the VAT period end. For example, if the VAT return covered the quarter to 31 March, the due date would be 7 May.
Consequence of default
You receive a warning after the first default - the Surcharge Liability Notice (SLN). Do not ignore this notice. If you fail to pay the VAT due by the due date for any returns due within the next year, the surcharge will be 2% of the outstanding tax. The surcharge increases to 5% for the next default, and then by 5% increments to a maximum of 15%. Lower rate (2% and 5%) surcharge assessments will not be issued for less than £400. At rates of 10% and 15% the surcharge liability becomes subject to a minimum charge of £30.
Each default, whether it is late submission of the return or late payment, extends the surcharge liability period, but only late payment incurs a surcharge. You only return to the beginning of the surcharge cycle when you have submitted and paid a whole year's worth of VAT returns on time since the previous default.
Special arrangements for small businesses
Businesses with qualifying turnover up to £150,000 will be sent a letter offering help and support following the first default rather than a SLN. This arrangement is intended to allow extra time to sort out any short-term difficulties before formally entering the default surcharge system. Any further default within twelve months will result in the issue of a SLN.
Proposed repeal of the default surcharge system
It is understood that from a date yet to be decided the default surcharge is due to be replaced by a new system, which will penalise late payment of VAT and late-filing of returns separately. Late payment penalties might be avoided if the taxpayer has agreed a time to pay arrangement with HMRC.
Assuming plans for the new system go ahead, the new penalties for failure to file on time would be:
- A fixed £100 penalty that escalates by £100 for each subsequent failure up to a maximum of £400 per failure
- A penalty of 5% of tax at 6 and 12 months from the date of the failure; and
- A penalty of up to 100% of tax if, by failing to make the return, the taxpayer is deliberately withholding information to stop HMRC correctly assessing; and:
- For failure to pay tax due on time:
- A penalty of 2% of the unpaid tax for a second failure during a penalty period
- A penalty of 3% of the unpaid tax for a third failure during a penalty period with additional, subsequent failures penalised at 4%; and
- If any of the failures are prolonged, additional penalties of 5% of the unpaid tax are charged at 6 and 12 months from the date of the failure.
Disclosures of errors in previous returns
The manner of notification to the VAT office depends on the quantum of the error.
Net VAT errors of £10,000 or less discovered during a VAT period may be included in the VAT return for that period, as may net errors between £10,000 and £50,000, which do not exceed 1% of the Box 6 figure for the same VAT period. Net errors exceeding those limits must be notified separately by completing form VAT 652 or by writing to HMRC.
- The inaccuracy penalty, applies where:there must be an understatement of a VAT liablity (or a false or inflated repayment claim), and
- The inaccuracy must be careless, deliberate or deliberate and concealed.
The penalty does not apply where the taxpayer has, in the view of HMRC, taken reasonable care in filing returns but makes an innocent mistake. Where it does apply, it is calculated as a percentage of 'potential lost revenue' ('PLR') as follows:
- Careless errors - 30% of PLR
- Deliberate errors - 70% of PLR
- Deliberate and concealed errors - 100% of PLR
Where a penalty is due because of an under-assessment in the absence of a return, it is at 30% of PLR.
Reductions are available for unprompted disclosures, assistance give to HMRC and allowing full access to records, and some penalties for careless errors could be suspended on the condition that certain improvements are made, such as to record-keeping. The amount of the reduction is at the discretion of HMRC, but maximum reductions are as follows:
For unprompted disclosures:
- Careless errors - can be reduced from 30% to a minimum of 0%
- Deliberate errors - from 70% to 20%
- Deliberate and concealed errors - from 100% to 30%
For prompted disclosures:
- Careless errors - can be reduced from 30% to a minimum of 15%
- Deliberate errors - from 70% to 35%
- Deliberate and concealed errors - from 100% to 50%
An additional penalty is also applicable to the unauthorised issue of VAT invoices, e.g. where a person not registered for VAT issues an invoice showing an amount purporting to be VAT. HMRC will be able to recover the amount shown as if it were VAT, and apply a penalty as follows:
- Not deliberate - maximum penalty 30%, minimum 10%
- Deliberate - maximum penalty 70%, minimum 20%
- Deliberate and concealed - maximum penalty 100%, minimum penalty 30%
Retention of records
The period for retaining records is six years. There is a fixed penalty of £500 for breaching this requirement.
Breaches of regulations
The amount of the penalty varies with the type and frequency of the breach involved. The basic penalty is £5 per day while the breach continues. This is increased to £10 per day if there has been an earlier breach of the same regulation within the previous two years, and £15 per day if there has been more than one earlier breach.
In some cases, this basic daily penalty is increased to a daily percentage of the tax involved, if this is greater. The percentage rises in line with the number of previous breaches, in exactly the same way as the basic daily penalty. The possible percentages are 1/6%, 1/3% and 1/2%.
Daily penalties are subject to a maximum of 100 times the daily amount.
Interest on tax will arise in certain circumstances, including cases where:
- An assessment is made to recover extra tax for a period for which a return has already been made (this includes errors voluntarily disclosed)
- An invoice purporting to include VAT has been issued by a person not authorised to issue tax invoices
- A person has failed to render a VAT return for any period, and instead accepted a central assessment which is later found to be too low; or
- A voluntarily disclose is submitted where the net error underdeclaration exceeds £10,000 and 1% of the Box 6 figure for the relevant return.
Where an assessment covers a period exceeding three months, HMRC is required to break it down into return periods. This is necessary to establish the period for which interest is to be charged. Normally, interest accrues from the due date for submission of the return for the period concerned. However, the maximum period is three years, although interest will continue to run on assessments remaining unpaid after thirty days from the date of issue.
The rate of interest is set by the Treasury and is broadly in line with commercial rates of interest.
Appeals against assessments, penalties and the amount of interest charged may be made. The first appeal is for a local, independent review by HMRC, then if needs be, to the First-tier Tribunal. HMRC offices and the tribunal have powers of mitigation in appropriate circumstances. Where the appeal is against the imposition of interest, penalties, or surcharge, the tax (but not the penalty, interest or surcharge) must usually be paid before an appeal can be heard, unless the appellant can demonstrate that paying it would cause financial hardship.
The tribunal is given the authority to increase assessments that are established as being for amounts less than they should have been.
A formal procedure is now established for appeals to be settled by agreement. This agreement must be in writing, and there is a thirty-day cooling off period during which the taxpayer may cancel the agreement.
Access to information
HMRC has extensive powers to obtain information. It can enter premises and gain access to computerised systems and remove documents.
A walking possession agreement can arise where distress is levied against a person's goods.
The sting in the tail
None of the above penalties or interest is allowable as a deduction when computing income for corporation or income tax purposes.
- Remember that net errors discovered between £10,000 and £50,000, which are also more than 1% of the Box 6 figure for the relevant return; and all net errors exceeding £50,000 must be separately disclosed by letter or on form VAT 652, and not incorporated in the VAT return
- Default interest applies to such errors and the Misdeclaration Penalty may apply if you do not declare errors voluntarily before you have reason to believe that HMRC is making enquiries into your affairs
- If you receive a VAT assessment (because you have not submitted a return), you must check it and notify HMRC within thirty days if it understates your liability
- Make sure your systems and records are adequate to enable you to establish the correct amount of tax relating to a VAT period. The preparation of annual accounts cannot be regarded as a safeguard against penalties
- Make sure you get your VAT return and payment in on time. A certificate of posting could be useful evidence
- Some of these penalties may not apply if there is a reasonable excuse, but the scope is limited and should not be relied upon
If in doubt, contact us. It is important that you seek professional advice as early as possible. We can help you!
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