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Avoiding pitfalls
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How to avoid MTD for VAT penalties

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Now HMRC has set out the penalties it will use to encourage compliance with Making Tax Digital for VAT, here are some hints on how to avoid them.

15th Jun 2022
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Factsheet (CC/FS69) sets out for the first time the various penalties HMRC will apply to encourage compliance with Making Tax Digital (MTD) for VAT. I have some practical advice on how to avoid them.

It is notable that, while penalties have always existed historically for MTD, this is the first time HMRC has published them under the one heading of MTD compliance. While Rebecca Cave has commented on the structure of these penalties, I am looking at the practical implications for businesses.

The factsheet suggests that HMRC will look to apply these penalties in the future. Since MTD was introduced, there has been a soft landing period and taxpayers may have grown accustomed to the laissez-faire approach from HMRC.

Penalty type 1

VAT returns must be filed using “functional compatible software”. This means software or a set of software programs, products or apps that can record and store digital records (see later as to what these digital records are), that can provide HMRC with the information held digitally within those records and allows HMRC to receive that information.

As well as the raft of cloud-based software out there such as QuickBooks, it can also include desktop software such as SAP and Navision as well as any bespoke software that meets the requirements.

API-enabled spreadsheets are also “compatible functional software”, so the option to record sales and purchases in non-functional software can still be met by using an API-enabled spreadsheet that allows the data to be transmitted to HMRC. There are many types of API-enabled spreadsheets on the marketplace – some are free, others charge a modest fee with versions targeted at an individual business or at accounting practices submitting many VAT returns on behalf of clients.

HMRC states that where VAT returns are not filed using functional compatible software, there will be a penalty of £400 for each return filed. The penalty is subject to appeal and review.  

Penalty type 2

MTD requires the business to keep some records digitally. Those records are:

  • your business name, address and VAT registration number
  • any adjustments made outside the software (such as partial exemption)
  • the VAT on goods and services you supplied (all your sales) 
  • the VAT on goods and services you received (all your purchases)
  • the time of supply and value of supply (sales and purchases)
  • the rate of VAT charged.

The above must be recorded as entries within a spreadsheet or within the cloud software. You do not have to scan the documents or invoice, although some apps can scan an invoice and enter it into the accounts automatically.

Where the above records are not kept digitally, HMRC can charge a penalty of between £5 to £15 for every day the above records are not compliant.

Penalty type 3

Where a business transfers digital records between software programs or various sources, that data must be digitally linked. For example, a business uses bespoke software to record sales. That software is not MTD compliant and so the business downloads the data as a .txt or .csv file.

That .txt file is then imported into compatible software, say an API-enabled spreadsheet. Before filing the return, if an error is found in the sale data (maybe a wrong VAT rate), the business cannot amend the entry in the spreadsheet as that would break the link between the bespoke sales software (which hasn’t been amended) and the spreadsheet (which has been amended). The business would need to correct the error in the bespoke software first, then export the data again and then import it into the spreadsheet, as then the data is correct at source and in the spreadsheet.

HMRC can apply a penalty of between £5 to £15 for every day in which data does not meet the requirements of MTD.

In summary

I’m not convinced about the £5 per day penalty. It does not say it in the legislation, but HMRC clearly believes their interpretation of the law sufficiently enough to put it in their guidance.  

Whether or not HMRC has the resources or time to pursue this is questionable. It is more likely the question will get asked at a routine VAT return check, when perhaps a business has a refund claim or had made a voluntary disclosure. These are the points where a business exposes itself to a risk of further enquiry from HMRC.

If there are businesses out there still struggling with MTD or being relaxed about digital links, cutting and pasting and similar, the first shot has been fired by HMRC in this battle for digital compliance.

Replies (10)

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By Hugo Fair
15th Jun 2022 13:44

Penalty type 1: how is it possible to file using anything other than “functional compatible software”?

Penalty type 2: each individual transaction (of goods and services you supplied and those you received - including time of supply and value) ... or just daily/till/etc summaries?

Penalty type 3: understood (& agreed) but there's no way for HMRC to police/audit this?

Thanks (4)
Replying to Hugo Fair:
VAT
By Jason Croke
16th Jun 2022 11:49

Type 1. Agree.

Type 2. HMRC's guidance is a vague stab at explaining the legislation. Rebecca Cave did an article on this ambiguity last week, the law says one breach that is repeated is seen as one breach, so my only thinking was that HMRC take a view that if there were say 30 sales invoices in the Qtr and each of them was not MTD compliant, then that is 30 individual £5 penalties, still makes no sense. I mean if you are going to issue a guide on penalties and a suggestion we're coming for you, at least get it right.

Type 3. No realistic way other than if during a desk VAT inspection they ask for a copy of your VAT detailed report or worse, ask for guest access to your Xero/Quickbooks. Empty threats perhaps, but as long as we pass on the news to the client, we've done our job of informing our clients.

Thanks (2)
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By Paul Crowley
15th Jun 2022 15:08

The whole problem with this is that submitting the correct figures is just not good enough, despite the many schemes and variations, cash basis, partial exemption and flat rate that means journal entries or extra calculations.
HMRC are trying the one size fits all approach.
Surely they would be better off looking for willfull failure to register, errors and omissions rather than getting excited about the taxpayer that got it right BUT THE WRONG WAY

Purchase of mixed supply? Easy to enter the VAT correctly, but how to record the rate?

Thanks (3)
Replying to Paul Crowley:
VAT
By Jason Croke
16th Jun 2022 11:54

The original (way way back) concept of MTD was to transmit all the data, not just the sum values of boxes 1-9.

In other Countries where digitisation has been taken further, that is exactly what happens. In Italy, invoices are sent digitally to the tax office as they are raised, sort of like payroll and RTI.
https://www.avalara.com/vatlive/en/country-guides/europe/italy/italy-sdi...

HMRC bottled full implementation, so we have the box 1-9 data as the only data sent to HMRC, but then taxpayers expected to maintain records as if we were real-time reporting. HMRC can still interrogate that data during an inspection, whether they will is a different argument.

Thanks (0)
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By paulwakefield1
16th Jun 2022 08:41

Penalty type 3: Worrying. I have a client where the data from their tills is downloaded to a csv file and uploaded into the accounting sofware. Inevitably the odd error creeps through which is picked up on review.

There is no realistic way to amend the data apart from within the accounting system -usually via a manually entered journal, ocassionally it can be changed via a global amendment on import. To amend the tills data (even if possible retrospectively) and reimport would lead to an accounting catastrophe.

Thanks (2)
Replying to paulwakefield1:
By ireallyshouldknowthisbut
16th Jun 2022 10:27

Short of HMRC coming and sitting behind you whilst you do it, they are never going to what you do unless you actively tell them. And then what? They give you 60 days to fix the issue or fine you £5/day. At which point what? They come and sit behind you? Or you just tell them its fixed?

Its huge over-reach of HMRC to try and police bookkeeping methods rather than results. They don't have the skills, time or inclination to check.

Its quite frankly none of their business how we do it, so long as the right tax is paid. This point is at the nub of MTD. Imposing "one size fixes all" bookkeeping solutions is beyond their remit as tax collectors, and the point at which the project will collapse when the slow realisation creeps in they simple cant monitor what happens on the ground.

Thanks (9)
Replying to ireallyshouldknowthisbut:
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By paulwakefield1
16th Jun 2022 12:01

ireallyshouldknowthisbut wrote:

Short of HMRC coming and sitting behind you whilst you do it, they are never going to what you do unless you actively tell them. And then what? They give you 60 days to fix the issue or fine you £5/day. At which point what? They come and sit behind you? Or you just tell them its fixed?

True enough but clients shouldn't be put in a position where they have to rely on HMRC not picking something up even though it would make no difference to the tax liability.

And, whilst I am responding, I must apologise for the proliferation of typos and punctuation errors in my previous post.

Thanks (1)
Replying to paulwakefield1:
VAT
By Jason Croke
16th Jun 2022 11:57

I could sit here and say why is the till creating errors, fix the till. I could say why is exporting the data creating errors, fix the tables and columns, etc.

But in the real world, stuff happens and as long as it is recorded, adjusted or noted somewhere then we have transparency and one would hope HMRC would use their common sense to differentiate between an odd error in a corner shop from a dodgy takeaway supressing almost all their sales.

Thanks (1)
Replying to Jason Croke:
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By paulwakefield1
16th Jun 2022 12:07

Jason Croke wrote:

I could sit here and say why is the till creating errors, fix the till. I could say why is exporting the data creating errors, fix the tables and columns, etc.

Finger trouble! Very busy and comples environment. Sometimes they press the wrong button. Tax codes set up incorrectly - easy to correct for the future, harder in the past. Till software inflexibility is another issue.

Jason Croke wrote:

But in the real world, stuff happens and as long as it is recorded, adjusted or noted somewhere then we have transparency and one would hope HMRC would use their common sense to differentiate between an odd error in a corner shop from a dodgy takeaway supressing almost all their sales.

Indeed.

Thanks (1)
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By a_q
16th Jun 2022 12:49

MTD for VAT is one thing, but wait for when it gets rolled out to Personal taxation.
This is coming, maybe a few years down the line.

Thanks (1)