HMRC will disallow input tax on purchase invoices which are more than six months overdue for payment if the business can’t prove it has paid the suppliers.
Neil Warren looks at the case of Capital SMA Ltd (TC05991), which discussed the question of how a business can prove that it has paid its suppliers. There are some important lessons for all businesses.
Many businesses adopt the cash accounting scheme for VAT purposes, which means they only account for output tax when payment has been received from a customer, and only claim input tax when they pay their suppliers.
The cash accounting scheme can be adopted by any business that expects its taxable sales to be less than £1.35m (excluding VAT) in the next 12 months. It does not require HMRC’s permission to adopt the scheme (see VAT Notice 731, para 2.1).
If a business is not on the cash accounting scheme it can claim input tax according to invoice dates (a cash flow advantage), but must also account for output tax on the invoice date or receipt of payment (whatever is earlier). What happens in this situation if a purchase invoice remains unpaid for many months?
The VAT regulations (see VAT Notice 700/18, section 4) state that if payment to a supplier is overdue by more than six months, then any input tax claimed on an earlier VAT return must be repaid to HMRC. This clawback of VAT should be declared on the VAT return which covers the period in which the six-month payment period ends. That six-month period is deemed to commence on:
- the due date of payment for the invoice in question; or
- where an invoice does not show a due payment date, the invoice date.
John is VAT registered as a builder and doesn’t use the cash accounting scheme. He received an invoice from a subcontractor for £1,000 plus VAT on 31 March 2017, on 30-day payment terms, so the invoice is payable by 30 April. John can claim input tax on his VAT return that includes 31 March. But if the invoice is not paid by 30 October, he must include an input tax credit on the VAT return that includes this date. He can claim input tax on a future VAT return if he pays the subcontractor.
Capital SMA case
In the case of Capital SMA, HMRC disallowed some input tax claimed by the company on its April 2015 return under the six- month rule. The taxpayer’s appeal was based on the argument that it had paid for the invoices by cash, highlighting cash withdrawals in the company’s bank statements to support its argument.
However, the tribunal agreed with HMRC that payment had not been made and dismissed the appeal. The company provided no evidence from suppliers confirming payment had been made, such as a payment receipt or correspondence. The amounts for cash withdrawals did not reconcile with any particular invoices.
HMRC also issued a suspended penalty for careless behaviour and the tribunal confirmed that this was correct both as a principle and the amount charged.
The taxpayer’s appeal was always likely to fail due to lack of evidence, but there are important learning points from this case:
Nowadays most payments are made electronically, but many businesses still deal in cash (perhaps to save bank charges). The business must be able to show some evidence of the payment to the supplier for VAT purposes. This also makes sense on a commercial basis. It might be useful to retain supplier statements to prove that payment has been made.
Confirm cash payment
In some cases, it might be worth asking suppliers to stamp any invoices paid in cash. It is important that supplier invoices clearly show the full details of the business including: address, VAT registration number, goods supplied etc. If the sale is for £250 or less, a supplier is allowed to issue a less detailed tax invoice, but these invoices must still show all of the relevant detail about the transaction (see VAT Notice 700/21, paras 5.4 and 5.5).
Where an invoice is in dispute, then no input tax adjustment is needed if the supplier has agreed to extend the payment deadline while the problem is being resolved. This means that the supplier can’t claim bad debt relief on its sales invoices, so HMRC will not be out of pocket if the customer does not credit their input tax (see VAT Notice 700/18, para 4.4).