Category Archives: Start Up

The VAT gap rises

By   20 June 2018
0

In the latest figures released by HMRC the amount of unpaid tax has increased by circa £1 billion.

What is the tax gap?

The VAT gap is the difference between the amount of VAT that should, in theory, be collected by HMRC, against what is actually collected. The ‘VAT total theoretical liability’ (VTTL) represents the VAT that should be paid if all businesses complied with both the letter of the law and HMRC’s interpretation of the intention of Parliament in setting law, referred to as the spirit of the law below.

Summary

Here is an overview of the figures which are for the year 2016-17:

The VAT gap is estimated to be £11.7 billion in which equates to 8.9% of net VAT total theoretical liability. HMRC report that there has been a long-term reduction between 2005-06 and 2016-17 for the VAT gap (12.5% to 8.9%). The information is provided by The Office for National Statistics, National Accounts Blue Book 2017 and Consumer Trend.

MTIC

The Missing Trader Intra-Community (MTIC) fraud estimate reduced to less than £0.5 billion in 2016-17, from between £0.5 billion and £1 billion in 2015-16.. VAT debt has been fairly stable since 2011-12. It is estimated at £1.5 billion in 2016-17. Around 70% of the VAT total theoretical liability in 2016-17 was from household consumption. The remaining gap was from consumption by businesses making exempt supplies and from the government and housing sectors. Around half of household VAT-able expenditure was from restaurants and hotels, transport and recreation and culture.

VAT debt

The contribution of debt to the VAT gap is defined as the amount of VAT declared by businesses but not paid to HMRC. The VAT gap showed a peak at 12.6% in 2008-09, which was partly because the recession caused an increase in VAT debt from £0.9 billion in 2007-08 to £2.4 billion in 2008-09. VAT debt has been fairly stable since 2011-12. It is estimated at £1.5 billion in 2016-17.

Avoidance

VAT avoidance is another component of the VAT gap. HMRC say that avoidance is artificial transactions that serve little or no purpose other than to produce a tax advantage. It involves operating within the letter, but not the spirit, of the law. VAT avoidance is estimated at £0.1 billion in 2016-17.

Other indirect taxes

The overall excise tax gap is estimated to be £4.1 billion (£3.1 billion in excise duty and £1 billion in VAT). This is analysed as:

  • £2.5 billion tobacco tax gap, with associated losses in tobacco duty (£1.9 billion) and VAT (£0.5 billion )
  • £1.3 billion alcohol tax gap, with associated losses in alcohol duty (£0.9 billion) and VAT (£0.4 billion)
  • £150 in GB diesel duty and associated VAT
  • £40 in Northern Ireland (NI) diesel duty and associated VAT
  • £170 in other excise duties

Overall tax gap

The report indicates that small businesses were most likely to be underpaying tax generally. They accounted for £13.7 billion of last the overall tax gap. Large businesses had underpaid £7 billion and medium-sized businesses £3.9 billion.

The tax gap for Income Tax, National Insurance and Capital Gains Tax was 4.2%.  Along with VAT there has been a long-term downward trend in the Corporation Tax gap. This has reduced from 12.4% in 2005/06 to 7.4% last year.

It appears that the days of large tax avoidance schemes have passed and HMRC is now concentrating on compliance mistakes and routine errors.  HMRC is also increasingly challenging legal interpretations of tax law in order to recover more tax. Please see here for further details on HMRC’s approach.

What causes the tax gap?

The behaviour giving rise to the gap are as follows:

  • £5.9 billion – failure to take reasonable care
  • £5.4 billion – criminal attacks
  • £5.3 billion – legal interpretation
  • £5.3 billion – evasion
  • £3.4 billion – non-payment
  • £3.2 billion – error
  • £3.2 billion – hidden economy
  • £1.7 billion – avoidance

VAT: Construction industry – the new Reverse Charge

By   11 June 2018
0

Builders will soon be required to charge themselves VAT.

HMRC has published an important new draft Statutory Instrument (SI) for technical consultation with a draft explanatory memorandum and draft tax information and impact note. The new rules are likely to be introduced in the autumn.

This sets out more details of the intended Reverse Charge (RC) for construction services. The draft legislation will make supplies of standard or reduced rated construction services between construction or businesses subject to the domestic RC, which means that the recipient of the supply will be liable to account for VAT due, instead of the supplier.

What supplies does the intended legislation cover?

The RC will apply to, inter alia:

  • construction, alteration, repair, extension, demolition or dismantling of buildings or structures
  • work on; walls, roadworks, electronic communications apparatus, docks and harbours, railways, pipe-lines, reservoirs, water-mains, wells, sewers, or industrial plant
  • installation in any building or structure of systems of heating, lighting, air-conditioning, ventilation, power supply, drainage, sanitation, water supply or fire protection
  • internal cleaning of buildings and structures, so far as carried out in the course of their construction, alteration, repair, extension or restoration
  • painting or decorating the internal or external surfaces of any building or structure
  • services which form an integral part of the services described above, including site clearance, earthmoving, excavation, tunnelling and boring, laying of foundations, erection of scaffolding, site restoration, landscaping and the provision of roadways and other access works.

What is not covered?

These are some supplies which are not covered by the draft SI

  • drilling for, or extraction of, oil or natural gas
  • extraction of minerals and tunnelling or boring, or construction of underground works, for this purpose
  • manufacture of building or engineering components or equipment, materials, plant or machinery, or delivery of any of these things to site
  • manufacture of components for systems of heating, lighting, air-conditioning, ventilation, power supply, drainage, sanitation, water supply or fire protection, or delivery of any of these things to site
  • the professional work of architects or surveyors, or of consultants in building, engineering, interior or exterior decoration or in the laying-out of landscape
  • signwriting and erecting, installing and repairing signboards and advertisements
  • the installation of seating, blinds and shutters or the installation of security.

Please note that neither of the lists above are exhaustive.

Further details

The rules do not apply to supplies to the end user (consumer) eg; retailers and landlords, but rather to other construction businesses which then use them to make a further supply. There are no de minimis limits, but the RC will not apply to associated businesses.

Deadline

Before these new rues come into effect, HMRC have asked for comments before 20 July 2018.

Why the new rules?

Briefly, the SI is intended to avoid Missing Trader Fraud (MTF). The rules avoids suppliers charging and being paid VAT, but failing to declare or pay this over to the government. HMRC has identified the building trade as an area where there has been considerable tax leakage in the past.

Technical

As a general rule, it is the supplier of goods or services who is required to account for VAT on those supplies. However, the VAT Act 1994, section 55A requires the recipient, not the supplier, to account for and pay tax on the supply of any goods and services which are of a description specified in an order made by the Treasury for that purpose.

Action

It is prudent to check whether you, or your clients’ businesses will be affected by the intended SI. If so, plans need to be put in place; whether as a supplier or recipient, to ensure that VAT is not charged incorrectly (supplier) and the RC is applied correctly (recipient). It is likely that output tax incorrectly shown on an invoice will be due to HMRC, but will not be recoverable by the recipient and the omission of levying the RC will lead to penalties.

Please contact us if you have any queries or require further information.

VAT – Bringing goods into the UK from other EU countries

By   8 June 2018
0

VAT Reverse Charge for Goods – Acquisition Tax and Intrastat

If a business registered for VAT in the UK receives goods from other Member States in the EU (technically known as acquisitions rather than imports) it will not pay overseas VAT in the Member State from which they are purchased. However, a “Reverse Charge” applies to such purchases  The rate of VAT payable is the same rate that you would have paid had the goods been supplied to the purchasing business by a UK supplier. This VAT is known as acquisition tax and a business can normally reclaim this VAT if the acquisitions relate to taxable supplies it makes. This is usually resale of the goods, but in some circumstances the goods will be “consumed” by a business. In these cases, if the business is partly exempt, there may be a restriction of the amount of acquisition tax claimable.

VAT free

In order to obtain intra-EU goods VAT free a business must give its supplier its UK VAT number. The supplier is obliged to make checks to determine whether the number is valid and if it is it allows the supplier to treat the supply as VAT free. VAT number validity may be checked here

Why?

This system ensures that tax is paid (and paid in the “correct” Member State) and also avoids “rate shopping” where a business which cannot recover input tax could, without these rules, buy goods VAT free to the detriment of suppliers in its own country. With acquisition tax, it is a level playing field for all EU businesses.

Record-keeping for acquisition tax

A business must enter the VAT details on its VAT return. The time of supply for VAT purposes is the time of acquisition – normally, the earlier of:

  • the 15th day of the month following the one in which the goods come into the UK
  • the date the supplier issued their invoice

A business must account for the acquisition tax on the return for the period in which the time of supply occurs, and may treat this as input tax on the same return. This, for most businesses is a bookkeeping exercise and is far preferable than the previous system when goods had to be physically entered at borders. This issue forms part of the problems for Brexit, especially with the UK’s only land border between Northern Ireland and the ROI.

Value of acquired goods for VAT purposes

The value for VAT of any goods brought into the UK is the same as the value for VAT of the goods had they been supplied to the purchaser by a UK supplier. A business must account for the value of the goods or services in £sterling, so it must convert their value into £sterling if the goods were priced in another currency.

Intrastat

Intrastat is the name given to the system for collecting statistics on the trade in goods between EU Member States. The requirements of Intrastat are similar in all EU Member States.

It is worth noting that:

  • the supply of services is excluded from Intrastat
  • only movements which represent physical trade in goods are covered by Intrastat, although there are some movements that are excluded

Intrastat – use of information

The information collected by the Intrastat system is a key component for Balance of Payments (BOP) and National Accounts (NA) data, which is regarded as an important economic indicator of the UK’s performance.

The Office for National Statistics uses the monthly trade in goods figures collected by HMRC together with the trade in services survey to produce the BOP and NA figures.

The Bank of England uses monthly trade data as part of its key indicators for gauging the state of the UK and world economic environment to set interest rates each month.

Government departments use the statistics to help set overall trade policy and generate initiatives on new trade areas.

Beyond the UK, trade statistics data are used by the EU to set trade policy and inform decisions made by such institutions as the European Central Bank, the United Nations and the International Monetary Fund.

The commercial world uses statistics to assess markets both within the UK (for example, to assess import opportunities) and externally (for example, to establish new markets for its goods).

Intrastat – the practicalities

All VAT registered businesses acquiring goods must complete two boxes (8 and 9) on its VAT return showing the total value of any goods acquired from VAT registered suppliers in other EU Member States (known as arrivals). In addition, larger VAT registered businesses must supply further information each month on their trade in goods with other EU Member States. This is known as an Intranet Supplementary Declaration (SD) …which is a subject for another day. For arrivals, the current threshold is £1.5 million and this limit is reviewed annually.

How this system will work (if at all) after Brexit remains to be seen, but given past experiences I am not optimistic.

VAT: How long do I have to keep records?

By   24 May 2018
0

Time limits for keeping records

Record keeping is a rather dry subject, but it is important not to destroy records which HMRC may later insist on seeing!

I have looked at what VAT records a business is required to keep here, but how long must they be kept for?

This is seemingly a straightforward question, but as is usual with VAT there are some ifs and buts.

The basic starting point

The usual answer is that VAT records must be kept for six years. However, there are circumstances where that limit is extended and also times when it may be reduced. Although the basic limit is six years, unless fraud is suspected, HMRC can only go back four years to issue assessments, penalties and interest.

Variations to the six year rule

Mini One Stop Shop (MOSS)

If a business is required to use the MOSS then its records must be retained for ten years (and they should be able to be sent to HMRC electronically if asked).

Capital Goods Scheme (CGS)

If a business has assets covered by the CGS, eg; certain property, computers, aircraft and ships then adjustments will be required up to a ten year period. Consequently, records will have to be retained for at least ten years in order to demonstrate that the scheme has been applied correctly.

Land and buildings 

In the case of land and buildings you might need to keep documents for 20 years. We advise that records are kept this long in any event as land and buildings tend to be high value and complex from a VAT perspective, However, it is necessary in connection with the option to tax as it is possible to revoke an option after 20 years.

Transfer Of a Going Concern (TOGC)

This is more of a ‘who” rather than a what or a how long. When a business is sold as a going concern, in most circumstances the seller of the business will retain the business records. When this happens, the seller must make available to the buyer any information the buyer needs to comply with his VAT obligations. However, in cases where the buyer takes on the seller’s VAT registration number, the seller must transfer all of the VAT the records to the buyer unless there is an agreement with HMRC for the seller to retain the records. If necessary, HMRC may disclose to the buyer information it holds on the transferred business. HMRC do this to allow the buyer to meet his legal obligations. But HMRC will always consult the seller first, to ensure that it does not disclose confidential information.

How can a business cut the time limits for record keeping?

It is possible to write to HMRC and request a concession to the usual time limits. HMRC generally treat such a request sympathetically, but will not grant a concession automatically. If a concession is granted there is still a minimum allowance period of preservation which is in line with a business’ commercial practice. Examples of the recommended minimum periods of preservation for certain types of manual records are:

Type of record Minimum period of preservation
Sales or service dockets (mainly used by large organisations especially those involved mainly in retail trading e.g. mail order houses). No restriction
Copies of orders, delivery notes, dispatch notes, goods returned notes, invoices for expenses incurred by employees. 1 year
Production records, stock records (except those for second hand schemes), job cards, appointment books, diaries, business letters.  1 year
Import, export and delivery from warehouse documents. 3 years
Daybooks, ledgers, cashbooks, second hand scheme stock books.  3 years
Purchase invoices, copy sales invoices, credit notes, debit notes, authenticated receipts. 4 years
Daily gross takings records, records related to retail scheme calculations, catering estimates.  4 years
Bank statements and paying in books, management accounts, annual accounts. 5 years
Electronic Cash Registers (ECR) and Electronic Point of Sale (EPOS) equipment 4 years
Any record containing the VAT account No concession 


Computer produced records

Records produced by a computer system do not necessarily conform to the patterns of manual systems. However, HMRC usually applies the time periods in the table above. This is as long as an inspector is able to determine the documentation necessary to provide a satisfactory audit trail. Where records are stored in an electronic form, a business must be able to ensure the records’ integrity, eg; that the data has not changed, and the legibility throughout the required storage period. If the integrity and legibility of the stored electronic records depends on a specific technology, then the original technology or an equivalent that provides backwards compatibility for the whole of the required storage period must also be retained. 

How to keep records

HMRC state that  VAT records may be kept on paper, electronically or as part of a software program (eg; bookkeeping software). All records must be accurate, complete and readable.

Other taxes

This article considers the record keeping deadline rules for VAT. Many records kept for VAT purposes will overlap with records for other taxes, and the detailed rules as well as the retention periods may differ.

Information on the record keeping requirements for other taxes is available in the following publications:

  • a Guide to Corporation Tax Self Assessment for Tax Practitioners and Inland Revenue staff
  • a general guide to Corporation Tax Self Assessment CTSA/BK4
  • a general guide to keeping records for your tax return

These are available on the HMRC website

Penalties

If a business’ records are inadequate it may have to pay a record-keeping penalty. If at an inspection HMRC find that records have deliberately been destroyed your they will apply a penalty of £3,000 (this may be reduced to £1,500 if only some of your records are destroyed). In addition, there will be questions about why they have been destroyed.

Finally, it should be remembered for wrongdoing, there is no limitation period on debts to the Crown. You can always be pursued for tax and VAT with no time limit.

Please contact us if you have any queries, or if retaining aged records creates a problem.

VAT: No such thing as a free meal (or drink) – The M&S case

By   14 May 2018
0

Latest from the courts – Marks & Spencer First Tier Tribunal (FTT) case; what is the value of a “free” bottle of wine?

Background

I shall do this without the seductive TV ad voiceover… Like many retailers M&S has and does run various promotions designed to improve its financial performance. A number of those promotions are based on the proposition that a customer who buys certain products from M&S will receive something “free”. In this instant case, M&S sells a combination meal known as a “Dine In”. This comprises; a main course, a side dish and a pudding, along with a bottle of wine which is advertised as free: “Dine In for £10 with Free Wine”. I’m sure many have sampled these offers. The commercial rationale for the promotion involved M&S taking a calculated risk. It reached a decision to lower its aggregate profit margin on the separate items in the offer compared to their retail sales price in the expectation that this will be more than compensated for by changes in customer behaviour as a result of the promotion.

It is interesting to note that  M&S anticipated the benefits could arise in a number of ways. Sales of the items included in the promotion might increase, which would improve turnover and put the retailer in a stronger negotiating position with its suppliers of those items. More casual customers might take up the promotion, increasing footfall. In doing so, they and other customers might take the opportunity to add other items to their shopping basket, the so-called “halo effect”. In a less tangible sense, the M&S’s brand might be generally enhanced.

In M&S’s online T&Cs the following narrative appears “For the avoidance of doubt, as the value attributed to the free wine in this deal is £0.00, if returned, no refund will be due…”

The aggregate shelf price of the three food items in the Dine In promotion, if bought separately, varied considerably but would always have been at least £10, and in most cases more.

The VAT issue

Should output tax be accounted for on the whole supply? Or, assuming that the food was zero rated, what, if any, output tax should be declared on the wine? Or should the entire supply be VAT free?

The contentions

M&S’s first contention was that the wine was free so no output tax was due. The reason why the wine was provided free was for M&S to receive certain benefits (set out above).  Secondly, the Dine In Promotion is in fact two promotions. The first is an offer of three food items for £10. The second promotion, conditional on the first, is an offer of free wine. The former offer makes commercial sense both for M&S and the customer on its own terms. The food offer is complete in its own right, and the supply of wine for no consideration is a separate transaction. Thirdly, this is a multiple supply. The Dine In Promotion results in three or four separate supplies for VAT purposes, namely the three food items and the wine. This is not a case of what would otherwise be a single supply being artificially broken down. There are separate transactions, entitled to be valued separately for VAT. A further argument was that there is no separate or allocable consideration for the wine element of the Dine In Promotion. The free wine is an inducement, and is conditional on the food offer, but does not generate any separate identifiable consideration for VAT purposes.

Clearly HMRC disagreed and argued that the Dine In deal represented the sale of four items for £10. There was no free gift of the wine and consequently, an element of the £10 should be allocated to the value of the wine.   Or put another way, it was a single promotional deal and is not a sale of food items for £10 plus a supply of wine for nil consideration. HMRC further contended that the duty to account for output tax and the right to deduct input tax form an “inseparable whole”. M&S’s position, if correct, would result in a failure to impose a charge to tax on the ultimate consumer, and untaxed (or, in effect, zero rated) consumption of standard rated goods and that militates very strongly against M&S’s position.

It was agreed that, by purchase value, the wine represented the most expensive part of the meal deal. HMRC proposed a value of output tax of 70 pence per meal deal was appropriate.

Decision

The judge agreed with HMRC and that output tax was due on the element of the £10 price attributable to the wine. Contractually, the meal deal was a single offer with a conditional element, ie; the provision of the wine was conditional on the customer paying £10 for the purchase of the food items. Although the customer may perceive the wine to be free (presumably as a result of the way in which the meal deal was held out and advertised) however, for VAT purposes, the customer paid £10 for all four elements of the deal. The Dine In promotion was a single offer, with all four items supplied simultaneously and in the same till transaction for consumption on the payment of £10. Receipt of the wine was conditional on payment of the £10 and the purchase of the food items. The wine was not provided unconditionally and with no strings attached.

Commentary

This was hardly a surprising decision. Similar retail offers have been considered in the past and the outcomes were broadly similar to this decision.  The FTT distinguished Hartwell, Lex, Kuwait Petroleum, and Tesco plc cases in this respect which the appellants put forward to support their arguments. As always with VAT, promotions and offers can create valuation issues. It is important to consider VAT when marketing offers are provided.

UPDATE

July 2019

Via the Upper Tribunal (UT) case Marks and Spencer plc v Revenue and Customs Commissioners [2019] BVC 514 the UT upheld the FTT decision and dismissed M&S’s appeal.

VAT – Alternative Dispute Resolution (ADR) What is it? How does it work?

By   14 May 2018
0

ADR and VAT

What is ADR?

ADR is the involvement of a third party (a facilitator) to help resolve disputes between HMRC and taxpayers.  It is mainly used by SMEs and individuals for VAT purposes, although it is not limited to these entities.  Its aim is to reduce costs for both parties (the taxpayer and HMRC) when disputes occur and to reduce the number of cases that reach statutory review and/or Tribunal.

The process

Practically, a typical process is; HMRC officials and the facilitator meet with the taxpayer and adviser in a room, and agree on what the disputes are.  They then retire to two separate, private rooms, and the facilitator goes between the two parties and mediates on a resolution.

ADR is a free service and the only costs the taxpayer will incur are fees from their advisers on preparation and any representation they require on the day.

Features of ADR

  • Without prejudice discussions – Anything said or documents produced during the ADR process cannot be used in future proceedings without the express consent of both parties subject to the obligations placed on the parties by the operation of English law
  • Evidence is that ADR can work for both VAT and Direct Taxes disputes both before and after an appealable decision or assessment has been made. However, ADR for VAT disputes is more suited to post appealable decision and assessments
  • Memorandum of Understanding (MOU) and a Code of Conduct – a MOU is created to commit taxpayers/agents to the requirements of the ADR process
  • The average time for all completed ADR cases is 61 days. This figure is from application to resolution.  The average elapsed time for VAT it is 53 days
  • The average age of VAT disputes is eight months
  • An ADR Panel has been created to accept or reject applications for ADR. It screens all applications and not just those where ADR was thought to be inappropriate.
  • Customer / Agent Questionnaire Summary – Findings from customers and agents included:
    • An appreciation of the personal interaction that the ADR process allowed
    • Facilitators were even handed and impartial in all cases and kept the taxpayer well informed
    • ADR was particularly well suited to resolution of long standing disputes.

Is Tribunal preferable?

Taking a case to Tribunal is often an expensive, complicated and time consuming option, but used to be the only option open to a taxpayer to challenge a decision made to HMRC.  From personal experience, the number of cases from which HMRC withdraw “on the steps of the court” illustrate a weakness in their legal procedures and possibly a lack of confidence in presenting their cases. This is very frustrating for our clients as they have already incurred costs and invested time when HMRC could have pulled out a lot earlier.  Of course, our clients cannot apply for costs.  The sheer number of cases going through the Tribunal process means that there are often very long and frustrating delays getting an appeal heard.

 A true alternative?

Therefore, should we welcome ADR as a watered down version of a Tribunal hearing?  Or is it actually something else entirely?

HMRC say that “ADR provides an excellent opportunity for Local Compliance to handle disputes in a modern and collaborative way.  It is not intended to replace statutory internal review which is an already established process aimed at resolving disputes without a tribunal hearing. Review looks at legal challenges to decisions whereas ADR is more suitable for disputes where there might be more than one tenable legal outcome”.

Results so far

After an initial two-year pilot which shaped the final programme, and was guided by a Working Together group that included CIOT, AAT, ICAEW and legal representatives HMRC concluded that “ADR has shown that many disputes, where an impasse has been reached, can be resolved quickly without having to go to tribunal.” And “ADR is a fair and even-handed way of resolving tax disputes between HMRC and its customers and helps save time and costs for everyone.”  Ignoring the dreadful use of the word “customers”… what has the profession made of the scheme?

Hui Ling McCarthy – Barrister has reported “HMRC’s ADR studies have produced extremely encouraging and positive results – owing in large part to HMRC’s willingness to engage with taxpayers, advisers and the professional bodies and vice versa. Taxpayers involved in a dispute with HMRC would be well-advised to take advantage of ADR wherever appropriate”.

Outcome

So what was the outcome of the two year scheme?  The headline is that 58% of cases were successfully resolved, 8% were partially resolved and 34% were unresolved.

Of the fully resolved facilitations

  • 33% were resolved by educating the taxpayer/agent about the correct tax position.
  • 24% were resolved due to the facilitator obtaining further evidence.
  • 23% were resolved by educating the HMRC decision maker about the correct tax position.
  • 20% were resolved through facilitators restoring communication between both parties.

Conclusion

These figures are encouraging and the conclusion that; well planned, constructive meetings, with the intervention of an HMRC facilitator, do increase the chances of dispute resolution, appear to be well founded.

Further, the fact that the project team saw no evidence of any demand from HMRC, taxpayers or their agents for access to external mediators and that there is also conclusive evidence from taxpayers that HMRC facilitators have acted in a fair and even-handed manner add to the feeling that ADR is a useful new tool.

Commentary

The comments from HMRC on ADR is (probably understandable) positive.  However, reactions from the profession and taxpayers who have gone through the process are equally generous on ADR as a mechanism for settling disputes.

My view is that any alternative to a Tribunal hearing is welcome and even if ADR works half as well as reports conclude then it should certainly be explored.  It should definitely be considered as an alternative to simply accepting a decision from HMRC with which a taxpayer disagrees.

VAT – The Partial Exemption Annual Adjustment

By   8 May 2018
0

What is the annual adjustment? Why is it required?

An annual adjustment is a method used by a business to determine how much input tax it may reclaim.

Even though a partly exempt business must undertake a partial exemption calculation each quarter or month, once a year it will have to make an annual adjustment as well.

An annual adjustment is needed because each tax period can be affected by factors such as seasonal variations either in the value supplies made or in the amount of input tax incurred.

The adjustment has two purposes:

  • to reconsider the use of goods and services over the longer period; and
  • to re-evaluate exempt input tax under the de minimis rules.

A MWCL explanation of the Value Added Tax Partial Exemption rules is available here

Throughout the year

When a business makes exempt supplies it will be carrying out a partial exemption calculation at the end of each VAT period. Some periods it may be within the de minimis limits and, therefore, able to claim back all of its VAT and in others there may be some restriction in the amount of VAT that can be reclaimed. Once a year the business will also have to recalculate the figures to see if it has claimed back too much or too little VAT overall. This is known as the partial exemption annual adjustment. Legally, the quarterly/monthly partial exemption calculations are only provisional, and do not crystallise the final VAT liability. That is done via the annual adjustment.

The first stage in the process of recovering input tax is to directly attribute the costs associated with making taxable and exempt supplies as far as possible. The VAT associated with making taxable supplies can be recovered in the normal way while there is no automatic right of deduction for any VAT attributable to making exempt supplies.

The balance of the input tax cannot normally be directly attributed, and so will be the subject of the partial exemption calculation. This will include general overheads such as heating, lighting and telephone and also items such as building maintenance and refurbishments.

The calculation

Using the partial exemption standard method the calculation is based on the formula:

Total taxable supplies (excluding VAT) / Total taxable (excluding VAT) and exempt supplies x 100 = %

This gives the percentage of non-attributable input VAT that can be recovered. The figure calculated is always rounded up to the nearest whole percentage, so, for example, 49.1 becomes 50%. This percentage is then applied to the non-attributable input VAT to give the actual amount that can be recovered.

Once a year

Depending on a businesses’ VAT return quarters, its partial exemption year ends in either March, April, or May. The business has to recalculate the figures during the VAT period following the end of its partial exemption year and any adjustment goes on the return for that period. So, the adjustment will appear on the returns ending in either June, July, or August. If a business is newly registered for VAT its partial exemption “year” runs from when it is first registered to either March, April or May depending on its quarter ends.

Special methods

The majority of businesses use what is known as “the standard method”. However, use of the standard method is not mandatory and a business can use a “special method” that suits a business’ activities better. Any special method has to be “fair and reasonable” and it has to be agreed with HMRC in advance. When using a special method no rounding of the percentage is permitted and it has to be applied to two decimal places.

Commonly used special methods include those based on staff numbers, floor space, purchases or transaction counts, or a combination of these or other methods.

However, even if a business uses a special method it will still have to undertake an annual adjustment calculation once a year using its agreed special method.

De minimis limits

If a business incurs exempt input tax within certain limits it can be treated as fully taxable and all of its VAT can be recovered. If it exceeds these limits none of its exempt input tax can be recovered. The limits are:

  • £625 per month on average (£1,875 per quarter or £7,500 per annum) and;
  • 50% of the total input VAT (the VAT on purchases relating to taxable supplies should always be  greater than the VAT on exempt supplies to pass this test)

The partial exemption annual adjustments are not errors and so do not have to be disclosed under the voluntary disclosure procedure. They are just another entry for the VAT return to be made in the appropriate VAT period.

Conclusion

If a business fails to carry out its partial exemption annual adjustment it may be losing out on some input VAT that it could have claimed. Conversely, it may also show that it has over-claimed input tax. When an HMRC inspector comes to visit he will check that a business has completed the annual adjustment. If it hasn’t, and this has resulted in an over-claim of input VAT, (s)he will assess for the error, charge interest, and if appropriate, raise a penalty. It is fair to say that partly exempt businesses tend to receive more inspections than fully taxable businesses.

Tax Tribunal backlog continues to increase

By   26 April 2018
0

Both the First Tier Tribunal (FTT) and the Upper Tribunal (UT) which both hear VAT cases, report an increase in the number of cases waiting to be heard.  In the case of the FTT the increase is 507 last year which means 28,521 cases are outstanding. The increase of UT cases outstanding is around 40%.

These are not all VAT cases and it is likely that the backlog is predominantly caused by

  • HMRC’s increased willingness to attack what they see as tax avoidance and evasion (see here)
  • More businesses being prepared to go to court
  • HMRC’s determination to “win on every point” rather than, perhaps, seeking a negotiated settlement, and
  • The increasing complexity of cases heard.

This backlog works in HMRCs favour as in the majority of cases the disputed tax must be paid before a hearing can take place. Delays may also cause anxiety and the burden of devoting resources to appeals which may cause the applicant to withdraw.  It is not usually an inexpensive process to go to court and some cases can take a number of years to resolve.

In the current climate, it is more important than ever to challenge HMRC’s decisions. We have found that in the majority of cases we have been able to reduce HMRC assessments, in many cases, to zero. We always work on the basis that it is very important to try to resolve matters with HMRC before going to Tribunal. This is an increasingly difficult task given the political pressure on HMRC to reduce the tax gap (the difference between the amount of tax that should, in theory, be collected by HMRC, against what is actually collected) and the seemingly common tactic of HMRC becoming “entrenched” and being unprepared to shift their position.

Please contact us if you have a dispute with HMRC or are being challenged on any technical points. It is better to deal with these as soon as possible to avoid going to court.

VAT: Longer prison sentences for tax fraud

By   16 April 2018
0

The latest figures from the Ministry of Justice show that for fraud offences including; VAT, Excise Duty, and Custom Duty the average length of custodial sentences has increased by around 25%. The average sentence is now four years one month, up from three years three months as the government clamps down on tax evasion.

Why longer in jail?

It is thought that the reasons for this are that:

  • HMRC is demanding longer sentences
  • HMRC is pursuing an increasing number of suspected fraudsters
  • HMRC is devoting more resources to carrying out investigations
  • CPS has been pushing for tax frauds to be considered as a more serious offence (which, obviously, carry longer sentences).

Criminal prosecution has also increased enormously as a result of the Revenue and Customs Prosecutions Office being incorporated with the CPS. HMRC is no longer just interested in getting the VAT, it wants prosecutions, the convictions….and the tax. A person criminally prosecuted for evasion does not escape paying the tax and they will be chased for it. A fraudster may be prosecuted under the Proceeds of Crime Act 2002 and the Money Laundering Act 2007.

More resources

The news comes as companies including Amazon and eBay have agreed to give their data to HMRC in an effort to crack down on VAT evasion by overseas retailers. The deal will mean the companies will provide merchant’s data to tax officials so that fraudulent trends can be spotted.

HMRC have also been using increasingly technical procedures on data which was previously unavailable to them – details here

Naming and shaming

In addition, HMRC also publish details of people who deliberately “get their tax affairs wrong”. The current list is here 

What is evasion, and what is the difference between that and avoidance?

I am often asked about the distinction between avoidance and evasion. Broadly, the difference between avoidance and evasion is legality. Tax avoidance is legally exploiting the tax system to reduce current or future tax liabilities by means not intended by Parliament. It often involves artificial transactions that are contrived to produce a tax advantage.  Tax avoidance is not the same as tax planning or mitigation.

Tax evasion is to escape paying taxes illegally. This is usually when a person misrepresents or conceals the true state of their affairs to tax authorities, for example dishonest tax reporting.

Technical

The relevant legislation covering the offences of fraudulent evasion of VAT is under section 72(1) of the Value Added Tax Act 1994, furnishing false information under section 72(3) and committing evasion over a period under section 72(8). Section 72(8)(b) sets out that the offence is subject to”…imprisonment for a term not exceeding seven years…”.

Summary

The message is clear; after being criticised by the Public Accounts Committee for not have a clear strategy for dealing with tax fraud and not pursuing criminal prosecution in enough cases HMRC has demonstrated that it is prepared to go after more businesses and individuals and put more resources into detecting and prosecuting fraudulent activities.

Sleep tight

We always recommend full disclosure to HMRC, it is preferable to sleep at night (rather than trying to sleep in a prison cell).  Of course, the very best course of action is not to commit tax fraud…

VAT Inspections – How do HMRC choose who to visit?

By   13 April 2018
0

Big Brother is watching you…

It always used to be the case that “Control Visits” aka VAT inspections were decided by a business’s

  • turnover
  • VAT complexity
  • business complexity
  • structure
  • compliance history
  • previous errors

The more ticks a business gets the more inspections it will receive. Consequently, a business with a high turnover (a “Large Trader”) with many international branches providing complicated financial services worldwide which has failed to file returns by the due date and has received assessments in the past will be inspected almost constantly. Tick only a few of the boxes and a sole trader with a low turnover building business will still generate HMRC interest if it has received assessments in the past or is constantly late with its returns.

These visits are in addition to what is known as “pre-credibility” inspections (pre-creds). Pre-creds take place in cases where a business has submitted a repayment claim.  HMRC will check whether the claim is valid before they release the repayment.  These may be done via telephone, email, or in person, and may lead to a full blown inspection.

In addition, there was always a random element with inspections generated arbitrarily. The usual cycles were: six monthly, annually, three yearly, five yearly, or less frequently. On occasions, the next inspection would depend on the previous inspector’s report (they may, for instance, have recommended another inspection after a future event has occurred).

The Connect System

Although elements of the above “tests” may still apply, many inspections now are based on intelligence obtained from many sources. The main resource is a data system which HMRC call “Connect”. This system feeds from many bases and forms the basis of many decisions made by HMRC.  Instead of HMRC relying on information provided by businesses on VAT returns, Connect draws on statistics from myriad government and corporate sources to create a profile of each VAT registered business. If this data varies from that submitted on returns it is more likely that that business will be inspected. As an example: HMRC obtains anonymised information on all Visa and MasterCard transactions, enabling it to identify areas of likely VAT underpayments which it can then target further.  Other sources of information are: Online marketplaces – websites such as eBay and Gumtree can be accessed to identify regular traders who may not be VAT registered.

The Connect system can also examine public social media account information, such as; Twitter, Facebook and Instagram using sophisticated mechanisms along with being able to access individual’s digital information such as web browsing and emails.

It is understood that less than 10% of all inspections are now random.

The £100 million plus Connect project is, and will be, increasingly important as HMRC is losing significant resources; particularly well trained and experienced inspectors.  With many local VAT offices closing there is also a concern on the ground that a lot of “local knowledge” of businesses has been lost.

Big Brother really is watching you…. And if you are on the receiving end of an inspection, there is a circa 90% chance that there is a reason for it!

For information on how to survive a VAT inspection, please see here

I always suggest that if notification of an impending inspection is received a pre-visit review is undertaken to identify and deal with any issues before HMRC arrive and levy penalties and interest.