Category Archives: VAT Planning

VAT Inspections – How do HMRC choose which businesses to visit and what is “Connect”?

By   2 May 2023

Big Brother is watching you…

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

  • 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, as well as Airbnb can be accessed to identify regular traders who may not be VAT registered. Additionally, it can also access Land Registry records, so these can be checked not only to see what properties have been sold (and ought to have been subject to output tax) but what properties have been purchased (in order to determine whether a taxpayer is likely to be able to afford such properties).

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.

VAT: Recovering input tax on the charging of EVs

By   24 April 2023

Following my last article on charging Electric Vehicles (EVs) I have been asked about the rules on recovering VAT incurred by a business on such costs.

The current rules are:

VAT incurred by businesses when charging EVs can be recovered on the business use of those vehicles, where they are charged at work or at public charging premises.

A business can also recover the VAT for charging EVs if it is a sole proprietor or a partner in a partnership business, and it charges the EV for business purposes at home.

A business must calculate how much of the cost of charging its EV is for business use and how much is for private use by keeping mileage records. The normal input tax rules then apply.

If an employee charges an EV (whether a company vehicle or not) at a public charging point, the supply of electricity is made to the company or employer. The business can recover the VAT on the cost of charging the electric vehicle, subject to the normal rules.

Again, the employer must keep detailed mileage records to calculate how much of the charging cost is used for business and private purposes.

However, where an employee charges an EV (whether a company vehicle or not) at home, the overall supply of electricity is made to the employee and not the employer. The employer is not entitled to recover the VAT on the cost of charging the electric vehicle.

NB: We understand that HMRC’s view on this may be soon be challenged.

Current developments

  • HMRC is currently reviewing the situation where an employee is reimbursed by the employer for the actual cost of electricity used in charging an electric vehicle for business purposes.
  • The Department is considering other simplification measures that may reduce administrative burdens in terms of accounting for VAT on private use.
  • The VAT rate applicable to public charging is 20%. We are aware that there could be a legal challenge to this and that the appropriate rate should be 5% (for all forms of EV charging). The reduced rate of VAT currently only applies to supplies of electricity to a person’s property which is less than 1,000 kilowatt-hours a month.

Hybrid cars are treated as either petrol or diesel cars for VAT purposes. The rules on input tax for petrol and diesel vehicles are here.

 

VAT: Credit notes – what are they and how are they treated?

By   18 April 2023

VAT Basics

There can be confusion about credit notes and how they are used and accounted for, so I thought it worthwhile to pull together, in one place, an overview of the subject.

What are credit notes for?

A VAT credit note is a document issued by a supplier to a customer. It amends or corrects a previously issued invoice. Invoices are documents which evidence a taxable supply. The credit note is documentary evidence of a change to that supply, or of a decrease in the consideration for that supply. A reduction in consideration may be as a result of; cancellation, discount, refund, prompt payment, bulk order or other commercial reasons.

Why are VAT credit notes important?

The information given on a credit note is the basis for establishing the adjusted VAT figure on the supply of taxable goods or services. It also enables the customer to adjust the figures for the total VAT charged to them on their purchases.

If a business issues a credit note showing a lesser amount of VAT than is correct, it is liable for the deficiency.

Legislation

The UK Law that covers credit notes is found in VAT Regulations 1995, Regulations 15, 24 and 38 of. Regulation 24A defines the term “increase (or decrease) in consideration”.

Conditions of a valid credit note

Requirements for a credit note to be considered valid:

  • be issued to the customer
  • correct a genuine mistake or overcharge
  • reflect an agreed reduction in the value of a supply
  • give value to the customer
  • not be issued for a bad debt
  • be issued in good faith

HMRC also require for credit notes to:

  • be issued within 14 days of the decrease in consideration
  • contain all the details specified in Notice 700, Paragraph 18.2.2.

Accounting

HMRC has issued guidance on how to correct VAT errors and make adjustments or claims – VAT Notice 700/45.

When you issue a credit note you must adjust:

  • the records of the taxable supplies you have made
  • your output tax

The accounts or supporting documents must make clear the nature of the adjustment and the reason for it.

Where the adjustment is not in respect of an error in the amount of VAT declared on a VAT return, you should make any VAT adjustment arising from the issue or receipt of a credit or debit note in the VAT account in the accounting period in which the decrease in price occurs.

This will be the accounting period where the refunded amount is paid to the customer.

If you have charged an incorrect amount of VAT and have already declared it on a VAT return you can only correct an error in your declaration by adopting the appropriate method of error correction procedures.

Specific cases

Credits and contingent discounts

When a business allows a credit or contingent discount to a customer who can reclaim all the tax on the relevant supply, it does not have to adjust the original VAT charge – provided both it and its customer agree not to do so. Otherwise, both parties should both adjust the original VAT charge. A business should issue a credit note to its customer and keep a copy.

Prompt payment discounts

If the discount is taken up within the specified time you may adjust the consideration and amount of VAT accounted for by issuing a credit note. If you choose not to use a credit note, the original invoice must have the following information:

  • the discount terms (which must include, but need not be limited to, the time by which the discounted price must be paid)
  • a statement that the customer can only recover as input tax the VAT paid to the supplier

VAT rate change

Where a VAT invoice showed VAT at the old higher rate, then a credit note should be issued for the element of overcharged VAT. However, there is no way to charge VAT at the lower rate if:

  • VAT invoices for supplies were issued before the lower rate took effect, and
  • the supplies were actually made (delivered or performed) before then.

In such circumstances, VAT cannot be saved by issuing a credit note for the old VAT invoice and then issuing a new invoice charging VAT at the lower rate.

The deadline for issuing a credit note following a rate change is 45 days. Any credit notes issued after this 45-day deadline are invalid, so the old higher rate would apply to the affected supplies.

Case law – further reading

There is a significant amount of case law on credit notes as this is an area that often creates disputes. Some of the most salient cases are:

  • British United Shoe Machinery Company Ltd (1977 VATTR p187)
  • Silvermere Golf and Equestrian Centre Ltd (1981 VATTR p 106)
  • Robin Seamon Brindley Macro (MAN/83/100)
  • Highsize Ltd (LON 90/945)
  • Kwik Fit (GB) Ltd (1992 VATTR p427)
  • British Telecommunications plc (LON/95/3145)
  • The Robinson Group of Companies Ltd (MAN/97/348)
  • General Motors Acceptance Corporation UK Ltd (GMAC)(LON/01/242)

NB: A business can only reduce the output VAT on its return if it has made an actual refund. This could be by making a payment to the customer or offsetting the credit against other invoices.

Finally

Failing to issue a credit note is a mistake that needs to be corrected under the error correction procedures.

VAT: Evidence for retrospective claims – new guidance

By   14 March 2023
HMRC has updated its Manual VRM9300 on historic VAT claims.
These types of claims are often called “Fleming” claims and refer to those made before the introduction of the four (once three) year time cap. Such claims extend beyond the period that businesses were required to keep business records and so these were less likely to have remained available.

Standard of Proof where records are unavailable

Where detailed records are unavailable it does not mean there is a lower standard of proof for a claim. The civil standard of proof (on a balance of probabilities) remains.

However, taxpayers’ estimates, assumptions and extrapolations must be sufficiently robust to support a claim. HMRC and the Tribunals must have regard to the evidence that is available, and each claim must be considered on its individual merits.
HMRC state that it “…is not obliged to accept a figure simply because some input tax is due or because it is the claimant’s ‘best guess’ based on the material available”. The claimant must first establish that its method of valuing the claim is reasonable and provide an identifiable repayable amount.
The guidance considers the judgement in the NHS Lothian [2022] UKSC 28 case and its impact on claims where full evidence is unavailable.
Alternative evidence
It is also worth noting that HMRC have the discretion to accept alternative evidence.

VAT: Apportionment of output tax – updated guidance

By   6 March 2023

HMRC has published new guidance (para 31) on apportioning output tax. More on apportionment here.

Summary

The guidance gives examples of how to apportion output tax in certain situations.

There are two basic methods of apportioning output tax:

  • one based on selling prices
  • the other based on cost values

HMRC provide worked examples of both of these methods, including an example of apportionment where a business can only determine the cost of one of the supplies.

Both methods can be adapted to apply to either tax-inclusive or tax-exclusive amounts.

A business does not have to use any of the methods set out in the guidance but, if a different method is used it must still give a fair result.

Apportionment is only necessary if the price charged is the only consideration for the supplies. If the consideration is not wholly in money VAT must be accounted for on the open market value* of the supplies.

* Open Market Value

The VAT Act 1994, section 19 (5) states that “…the open market value of a supply of goods or services shall be taken to be the amount that would fall to be taken as its value …if the supply were for such consideration in money as would be payable by a person standing in no such relationship with any person as would affect that consideration”.

VAT: Alternative Dispute Resolution (ADR) new guidance

By   14 February 2023

HMRC has published an updated Internal Manual which provides guidance on the ADR mechanism. I have written about this in detail here.

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 facilitator is impartial and independent and aims to assist both parties in resolving the tax dispute.

Changes

The changes are mainly in connection with disagreements about whether a case is suitable for ADR. These include cases where requests have been made for ADR, for example:

  • requests from taxpayers for ADR where the HMRC decision is that the case is not suitable for ADR
  • requests from taxpayers for ADR where some of the HMRC case team believe the case is unsuitable, but other members of the team believe the case may be suitable
  • referrals from HMRC for complex or sensitive cases where they would like to offer ADR to the taxpayer

An ADR Panel, which consists of senior personnel from HMRC, will consider requests for ADR in circumstances where there is uncertainty about the suitability of a case for ADR. The ADR Panel will aim to provide assurance that applications by taxpayers in the most complex or potentially contentious cases for ADR are properly assessed and that decisions are consistent and principled.

VAT: Exemption of fund management services

By   8 February 2023

HM Treasury has published a consultation paper on the treatment of the service of management of special investment funds (SIFs).

SIF meaning in VAT terms

There is no definition of a SIF in existing legislation.

Morgan Fleming Claverhouse Trust plc (case C-363/05) ruled on the interpretation of the term ‘Special Investment Funds as defined by Member States’.

The key points in this judgment are:

  1. the term ‘special investment funds’ is capable of including closed-ended investment funds, such as investment trust companies (ITCs)
  2. Member States have a discretion to define ‘special investment funds’ for the VAT exemption but, in doing so, must pay due regard to:
  3. the purpose of the exemption
  4. the principle of fiscal neutrality.

According to the Court, the purpose of the exemption is to facilitate investment in securities for investors through investment undertakings. This requires there to be VAT neutrality between the direct investment in securities and investment through collective investment undertakings, as the latter incurs a management charge. Furthermore, there must be equality of VAT treatment for funds which are similar to, and in competition with, funds falling within the scope of the exemption.

As a result of the case, the exemption was extended so that there was a level VAT playing field for all similar collective investment undertakings which compete in the UK retail market. This includes closed and open-ended collective investment undertakings, umbrellas and sub-funds, as well as some pension schemes.

The fund management exemption is limited to the management of SIFs. Consequently, the management of other investment funds will generally be standard-rated.

Legislation

The current VAT fund management regime is provided for by UK legislation, retained EU law and case law. The VAT Act 1994 implemented the Directive. Schedule 9, Group 5, Items 9 and 10 of the Act lists specific types of funds, the management of which is exempted from VAT.

Place of supply

This is important for SIFs management as if the supply is in respect of overseas funds the services are excluded from the exemption (they are outside the scope of UK VAT) when received overseas. This means that there is no output tax on the supply, but unlike exemption, it affords full recovery on input tax incurred in the UK. The perfect VAT outcome.

HMRC Consultation

The technical consultation sets out proposed reform of the legislation that provides for the VAT treatment of fund management. This is required because the fund management industry continues to innovate and introduced new types of funds to the marketplace, and the existing approach has struggled to keep pace with the evolution of the industry and proliferation of fund types.

The purpose of the exercise is to improve the legislative basis of the current VAT treatment of fund management.

Danger?

It is proposed that the following criteria for a fund to be considered a SIF would be legislated for:

a) the fund must be a collective investment

b) the fund must operate on the principle of risk-spreading

c) the return on the investment must depend on the performance of the investments, and the holders must bear the risk connected with the fund; and

d) the fund must be subject to the same conditions of competition and appeal to the same circle of investors as a UCITS (Undertakings for Collective Investment in Transferable Securities), that is funds intended for retail investors

There is a danger that if the exemption is broadened, fund managers which can now recover input tax may be denied so in the future.

If you have any queries, please contact us.

VAT: New guidance on repayment interest

By   2 February 2023

HMRC has published new guidance on repayment interest – in cases where HMRC is late in settling a repayment claim for overpaid VAT.

If HMRC is late in paying an amount representing a repayment, ie; when a return shows more input tax than output tax, or a claim is made for VAT previously overpaid, a business may be entitled to repayment interest on the VAT that it is owed. From 1 January 2023 repayment interest replaced the repayment supplement.

Amount of interest

Repayment interest is paid at the Bank of England base rate minus 1%, with a minimum rate of 0.5%.

Start date

VAT already paid to HMRC

The day after the later of these two dates:

  • when the VAT was paid to HMRC
  • the payment deadline for your accounting period

VAT not paid to HMRC

The day after the later of these two dates:

  • the payment deadline for the accounting period
  • when the VAT return or claim was submitted

End date

Repayment interest ends when HMRC either repays the VAT or sets it off against a different VAT or tax amount that is deemed to be owed.

Notes

  • any retrospective claims are subject to the unjust enrichment rules
  • repayment interest is not due if there are any outstanding VAT returns
  • HMRC will not pay interest on early payments of VAT
  • if payment on account businesses pay instalments that exceed VAT owed, repayment interest begins on the date the return was due
  • in cases where HMRC demand a VAT security, and it is not paid, no repayment interest will be due

VAT: Insurance partial exemption

By   24 January 2023

HMRC has issued new guidance for the insurance sector. It will be relevant to those dealing with partial exemption for insurers, including business and HMRC when discussing how partial exemption applies in practice for an insurer.

The guidance is intended to help insurers agree a fair and reasonable partial exemption special method (PESM) with the minimum of cost and delay. It also helpfully sets out definitions of various insurance/reinsurance transactions and business structures.

Background

Insurance businesses usually make a mixture of exempt and taxable supplies and may also provide specified services to customers located outside of the UK which incur a right to recover input tax.

When determining how to calculate the recoverable elements of input tax, the starting point is with the standard partial exemption method, as defined within The VAT Regulations 1995, regulation 101, but this will rarely be suitable for the insurance sector.

Many insurance businesses are complex organisations that provide many different services of differing liabilities to customers, often in different countries, using costs form suppliers around the world in different proportions. In addition, certain costs may have little relation to the value of the supplies for which they are incurred.

Therefore, most insurance businesses will need to apply to HMRC for approval to use a PESM.

Fair and reasonable

Partial exemption is the set of rules for determining recoverable input tax on costs which are used, or intended to be used, in making taxable supplies which carry a right of deduction. The first step is usually allocating costs which are directly attributable to taxable or exempt supplies. The balance (overhead input tax, or “the pot”) is required to be apportioned by either a standard method (The “standard method” requires a comparison between the value of taxable and exempt supplies made by the business) or a PESM.

A PESM needs be fair and reasonable, namely:

  • robust, in that it can cope with reasonably foreseeable changes in business
  • unambiguous, in that it can deal, definitively with all input tax likely to be incurred
  • operable, in that the business can apply it without undue difficulty
  • auditable, in that HMRC can check it without undue difficulty
  • fair, in that it reflects the economic use of costs in making taxable and exempt supplies

HMRC will only agree the use of a PESM if a business declares that it has taken reasonable steps to ensure the method is fair and reasonable. HMRC cannot confirm that a special method is fair and reasonable but will make enquiries based on an assessment of risk and will never knowingly approve an unfair or unreasonable special method.

Attribution of input tax

In the insurance sector, relatively few costs are either used wholly to make taxable or exempt supplies.

The VAT regulations (see above) require direct attribution to be carried out before cost allocation to sectors. However, direct attribution at this stage can cause difficulties where tax departments are unaware of how particular costs are used and have a large number of such costs to review.

It has therefore been agreed between HMRC and the Association of British Insurers that, whilst direct attribution must still take place, it need not always be the first step, and could, for some costs, follow the allocation stage. Methods could refer to direct attribution both pre- and post-allocation, so that costs are dealt with in the most appropriate way. The underlying principle is that the method must be both fair and reasonable.

Types of PESMs

The guidance gives the following examples of special methods:

  • sectors and sub-sectors
  • multi pot
  • time spent
  • headcount
  • values
  • number of transactions
  • floor space
  • cost accounting system
  • pro-rata
  • combinations of the above methods

with descriptions of each method.

VAT: Doctors and healthcare professionals

By   16 January 2023

Healthcare services – an overview

I have noticed that I am receiving more and more queries in this area and HMRC does appear to be taking an increased interest in healthcare entities. This is hardly surprising as it can be complex and there are some big numbers involved.

(This article refers to doctors, but applies equally to most healthcare professional entities including; opticians, nurses, osteopaths, chiropractors, midwives, dentists etc.)

The majority of the services provided by doctors’ practices are VAT free. Good news one would think; no need to charge VAT and no need to deal with VAT records, returns and inspections.

However, there is one often repeated question from practices; “How can we reclaim the VAT we are charged?” This is particularly relevant if a practice intends to spend significant amounts on projects such as property construction or purchase.

The first point to make is that if a practice only makes exempt supplies (of medical services) it is not permitted to register for VAT and consequently cannot recover any input tax. Therefore we must look at the types of supplies that a practice may make that are taxable (at the standard or zero rate). If any of these supplies are made it is possible to VAT register regardless of their value. Of course, if taxable supplies are made, the value of which exceeds the current turnover limit of £85,000 in a rolling 12-month period, registration is mandatory.

Examples of supplies of services and goods which may be taxable are:

  • drugs, medicines or appliances that are dispensed by doctors to patients for self-administration
  • dispensing drugs against an NHS prescription (zero-rated)
  • drugs dispensed against private prescriptions (standard-rated)
  • medico legal services that are predominantly legal rather than medical – for example negotiating on behalf of a client or appearing in court in the capacity of an advocate
  • clinical trials or market research services for drug companies that do not involve the care or assessment of a patient
  • paternity testing
  • certain rental of rooms/spaces
  • car parking
  • signing passport applications
  • providing professional witness evidence
  • any services which are not in respect of; the protection, maintenance or restoration of health of a patient.

So what does VAT registration mean?

Once you join the “VAT Club” you will be required to file a VAT return on a monthly of quarterly basis. You may have to issue certain documentation to patients/organisations to whom you make VATable supplies. You may need to charge VAT at 20% on some services. You will be able to reclaim VAT charged to you on purchases and other expenditure subject to the partial exemption rules – see below. You will have to keep records in a certain way (see MTD) and your accounting system needs to be able to process specific information.

Because doctors usually provide services which attract varying VAT treatment, a practice will be required to attribute VAT incurred on expenditure (input tax) to each of these categories. Generally speaking, only VAT incurred in respect of zero-rated and standard-rated services may be recovered. In addition, there will always be input tax which is not attributable to any specific service and is “overhead” eg; property costs, professional fees, telephones etc. VAT registered entities which make both taxable and exempt supplies are deemed “partly exempt” and must carry out calculations on every VAT return.

Partial Exemption

Once the calculations described above have been carried out, the resultant amount of input tax which relates to exempt supplies is compared to the de-minimis limits (broadly; £625 per month VAT and not more than 50% of all input tax). If the figure is below these limits, all VAT incurred is recoverable regardless of what activities the practice is involved in. More details here.

VAT registration in summary

Benefits

  • recovery of input tax; the cost of which is not claimable in any other way
  • potentially, recovery of VAT on items such as property, refurbishment and other expenditure that would have been unavailable prior to VAT registration
  • only a small amount of VAT is likely to be chargeable by a practice
  • may provide opportunities for pre-registration VAT claims

Drawbacks

  • increased administration, documentation and staff time
  • exposure to penalties and interest
  • may require VAT to be added to some services provided which were hitherto VAT free
  • likely that only an element of input tax is recoverable as a result of partial exemption
  • uncertainty on the VAT position of certain services due to current tax cases
  • potentially dealing with the Capital Goods Scheme (CGS)
  • possible increased costs to the practice in respect of professional fees.

Please contact us if any of the above affects you or your clients.