Neil Warren investigates the curious case of Total Catering Equipment, where the company claimed bad debt relief on payments made to a fraudulent employee’s personal bank account.
The cashless society is becoming more prominent by the day, with more debit card transactions and fewer cash payments taking place. The implications of this trend are enormous but I never thought that VAT could be affected until I read the startling case of Total Catering Equipment Ltd (TC7184).
The case concerned bad debt relief on goods for which the company never received payment because a dishonest employee gave customers his personal bank account details rather than those of his employer.
The dishonest employee took orders for goods over the telephone from customers but arranged for debit card payments to be paid into his personal bank account, rather than the business account.
The company originally accounted for output tax because sales had been made, but when the directors learned of the employee’s dishonesty they claimed bad debt relief on a subsequent VAT return. It seems that the employee never repaid the money and although there was police involvement, no prosecution was made.
HMRC’s view was that the dishonesty was the same as if the employee had stolen cash from the till – that is, output tax was still due because a supply had taken place (as per HMRC Notice 727/3, para 5.2).
However, the judge said this was a different situation because the cash scenario meant the company was a “victim of theft by one of its employees.”
Instead, the employee had made a “dishonest frolic on his own” (an old legal expression that you might want to Google for interest) and had not acted “within the scope of his employment”. The company was entitled to claim bad debt relief and the appeal was allowed.
Bad debt relief claim
My personal view is that because customers have made payment for the goods in question and have been charged VAT on the sales by a VAT-registered business, then output tax must be declared by the seller. End of story.
The taxpayer claimed bad debt relief on the basis that the company had never received payment and the tribunal agreed. But how can you have a bad debt when the customer has fully paid his dues?
Daily gross takings
I discussed this case over a number of emails with a VAT friend and he felt there might be an argument within EU law for the output tax to be reduced as an adjustment to daily gross takings, rather than a claim for bad debt relief.
This seems reasonable because Art 90 of the VAT Directive 2006/112/EC says: “where the price is reduced after the supply takes place, the taxable amount shall be reduced accordingly under conditions which shall be determined by the Member State.”
A bizarre argument put forward by HMRC and also rejected by the court was that the employee had acted as an agent when he banked the money into his own account. However, this approach is flawed if the employee had no intention of parting with the cash.
As well as winning the award for most surprising VAT tribunal decision of 2019 so far, the case also wins a prize for producing the shortest report I have read – just four pages!
Hopefully, instances of dishonest employees pinching money from their employers are few and far between. It will be interesting to see if HMRC appeals the decision.
The case is a good reminder that a business can legitimately reduce its daily gross takings figure for output tax purposes in many situations: for example, if refunds are given to customers or voluntary tips are received.
Tips are outside the scope of VAT as long as the customer is not obliged to make the payment.
About Neil Warren
Neil Warren is an independent VAT consultant and author who worked for Customs and Excise for 14 years until 1997.