VAT penalty regime

HMRC has the power to issue a VAT penalty to a taxpayer who fails to comply with reporting requirements as set out in the UK VAT legislation. A penalty can be issued by HMRC in a number of situations such as:

• Not registering or deregistering at the correct date.
• Not keeping VAT receipts or reclaiming input VAT without the appropriate VAT documentation.
• Reclaiming input VAT incorrectly e.g., VAT on business entertainment or motor cars available for private travel.
• Reclaiming input VAT on non-business expenditure.
• Failing to apply a partial exemption restriction on “exempt” input VAT recovery correctly.
• Failing to retain sufficient export evidence to justify zero rating of export sales.
• Accounting for the wrong rate of VAT on sales.
• Reclaiming import VAT in the absence of a C79 certificate.
• Failing to confirm if a property sale should be concluded as a transfer of a business as a going concern.

Can I correct a VAT error?

HMRC allows for some small VAT errors to be corrected on a VAT return in the VAT accounting period in which they are found. However, VAT errors above a certain threshold must be separately disclosed. A mandatory VAT volutary disclosure is required:
• When the net value of total errors found on previous returns is between £10,000 and £50,000 and exceeds 1% of the box 6 (net outputs) VAT Return declaration due for the current return period (during which the error was discovered);
• When the net value of errors found on previous returns is greater than £50,000; or
• When errors on previous returns were made deliberately.

HMRC guidance on how to correct VAT errors

How is a VAT penalty calculated?

A VAT penalty will be considered when a VAT error has resulted in a financial loss, or potential loss, to HMRC.

Where HMRC has suffered a financial loss or potential loss, the penalty value will be based on the value of the error and their assessment of the taxpayer’s actions in the creation and disclosure of the error. The VAT penalty will be confirmed as a percentage of the value of the VAT at issue.

Careless errors 0 – 30%

HMRC appreciate that errors can still be made despite the best efforts of the taxpayer. If HMRC identifies the error rather than a taxpayer, the penalty range is likely to be assessed as 15-30% of the value of the VAT error.

If a taxpayer discloses a careless error to HMRC, and provides full information to HMRC, the penalty is likely to be assessed at a lower percentage. Early notification and cooperation with HMRC could result in the penalty being cancelled or suspended.

Deliberate errors 30% – 100%

The burden of proof to demonstrate that a taxpayer’s behaviour has been deliberate rests with HMRC, and such behaviour will be penalised more severely than a careless error.
In the absence of any mitigating behaviour, should HMRC be able to prove that a VAT error is both deliberate and intentionally concealed, a maximum penalty of 100% of the value of the VAT error is possible.

A VAT penalty can be appealed

If a taxpayer disagrees with the imposition of a penalty, they have the right to:
1. Request a statutory review of the decision by someone at HMRC who was not involved in the original decision.
2. Appeal to the Tax Tribunal. The Tax Tribunal will decide for itself if a VAT penalty is due and has power to cancel or reduce a VAT penalty.

A taxpayer can appeal directly to the tax tribunal or do so following a statutory review. It is important to act within the time limits advised by HMRC on their penalty notification letter (or review conclusion letter, if a review was requested).

A taxpayer can also apply for the Alternative Dispute Resolution (ADR) procedure either instead of an appeal or once an appeal to the tax tribunal has been lodged. This involves an HMRC mediator working with both parties to seek resolution of the dispute in a more informal setting and therefore, potentially avoid the costs of a Tribunal hearing.

If a “reasonable excuse” is accepted by HMRC (or on appeal, by the Tribunal) as the reason for a VAT error being made, the VAT penalty must be cancelled. HMRC should be informed if a VAT error may have been due to:
• Personal bereavement or illness.
• Accounting software failure.
• Serious business disruption (e.g. fire or flood).

In the absence of a “reasonable excuse”, providing more information to HMRC may still enable them to re-assess an error from being “deliberate” to “careless” and/or reduce the value of the resulting penalty.
HMRC also has the power to reduce a penalty if they determine that there are “special circumstances” that warrant such a decision. They can also suspend a penalty. Such actions will be prompted by their review of the circumstances involved in individual cases.

Avoid a penalty

1. Ensure that VAT transactions are reviewed by a competent member of staff before returns are submitted.
2. Seek professional advice if unsure how VAT on transactions should be reported.
3. Consider a periodic VAT “health check” from your professional advisors.
4. If VAT errors have been made on previously filed returns, identify if these can be corrected on a future return or require to be disclosed separately to HMRC.
5. If a VAT voluntary disclosure is required, do this as soon as possible and work openly with HMRC to reduce the potential VAT penalty assessment.
6. Consider appealing any VAT penalty applied by HMRC.

For our VAT Accountants specialist advice at Solve VAT call 0161 883 2120.