Julie Park

Although the changes to penalties relating to the late filing and payment of VAT returns at the beginning of 2023 received lots of publicity, there seems to have been less attention paid to another change to VAT penalties which will lead to increased costs for fully taxable businesses. Historically, if a business underdeclared VAT but this VAT would have been fully recoverable by the recipient of the goods or services if charged, HMRC were able to inhibit the default interest charge on the basis there was no overall loss of VAT to the Revenue as a result of the error. This position has now changed and HMRC no longer have the discretion to do this. Default interest therefore applies regardless.

This is a significant change the profile of VAT errors for a business. Historically, if a business discovered an error in relation to a VAT exclusive contract with a fully taxable customer, disclosing the error simply presented the business with a potential cashflow disadvantage whilst the VAT was paid to HMRC and the payment of the VAT from the customer was awaited. The default interest that will now apply will form a cost to the business and this could be significant in value given VAT errors have to be disclosed going back 4 years.

This change re-enforces the need for businesses to have robust controls in place for VAT, with particular attention paid to the following high risk transaction types when carried out with fully taxable counterparts:

• domestic intercompany transactions;
• errors in VAT liability of revenues – treating revenue as zero rated or exempt when it should be standard rated;
• recharges of costs incurred on behalf of a 3rd party

HMRC updated their internal manuals on this in March but the public notice on default interest (VAT notice 700/43 remains unchanged on this point).

Historically HMRC had viewed the VAT treatment of leisure services provided by a Local Authority (“LA”) as standard rated. However, following the London Borough of Ealing VAT case in 2017, they accepted that LAs could benefit from VAT exemption if they wished, provided there was no distortion of competition with other providers. This historic position meant that many LAs outsourced the provision of leisure services to third party operators, typically charities who benefited from other reliefs. The VAT incurred by the LA on the outsourced services could be recovered through the LA’s Section 33 VAT refund process if the VAT was less than 5% of total VAT incurred.

Following the Chelmsford VAT case decision in June 2022, HMRC issued a business brief in March 23 Changes to VAT treatment of local authority leisure services – GOV.UK (www.gov.uk) – stating they now accept that LAs can treat the provision of leisure and cultural services as a non business activity. This means that if an LA provides these services using in-house resource, VAT on related costs is recoverable via the Section 33 VAT refund process. This beneficial position is likely to lead to many LAs considering their position and looking to potentially bring the services back in-house at the end of any current outsourced contract period. Clearly there are wider considerations than just the VAT cost.

Claims for overpaid VAT may be submitted to HMRC by any LAs that have been charging VAT on leisure services and we can assist with preparing claims and we also work closely with The Sports Leisure and Culture Consultancy Ltd who can advise on the non VAT considerations to be taken into account in relation to exploring management options (www.slc.uk.com).

If you require more information about this issue, please contact Jane Stacey or Kate Insole

jane.stacey@thevatconsultancy.com 07732 901618

kate.insole@thevatconsultancy.com 07784 042901

The VAT Consultancy acquired the business of VAT Services (Scotland) Ltd on 1 February 2023. We will retain VAT Services Scotland as a trading name and are in the process of introducing ourselves to VSS’s clients. We are excited about this addition to our business and look forward to working with VSS clients in the future, ensuring they receive the same high quality service provided by Gary Moore historically

Following a period of consultation, HMRC are introducing a new penalty system for late submission of returns and payment of VAT. This system will replace the current default surcharge regime. The new penalties will apply to VAT returns starting on or after 1 January 2023. The new system is intended to simplify the current system and to encourage compliance with deadlines. The aim is only to penalise repeat offenders. It will also apply to Income tax and Self Assessment.

The new system is in three parts – (1) late submission, (2) late payment of VAT and late payment interest (“LPI”) :

Late submission of return

• There will be a points system for late submission of returns. Each late return will incur points and when the points threshold is breached, a fixed penalty of £200 will be charged. The points threshold depends on the return periods i.e. monthly (5 points), quarterly (4 points) and annually (2 points)
• Points will be reset to zero after certain conditions are met
• Further fixed penalties will apply to each late submission where a business continues to miss deadlines after the first penalty is issued. This will be the case even where the first penalty has been paid

Late payment of VAT

• Payments made within 0-15 days of the return due date will not incur a penalty
• Payments made after 15 days will incur a first penalty of 2% of the outstanding VAT
• If the VAT remains unpaid after 30 days, a further penalty will be incurred. This will be 2% of the outstanding VAT at day 15 plus 2% of the outstanding VAT at day 30 (so 4% in most cases)
• If the tax remains outstanding at day 31, a second or additional penalty will apply. This accrues at a daily rate of 4% until the outstanding VAT is paid in full.
• A time to pay arrangement agreed with HMRC can stop the penalties accruing further.

It has been announced that HMRC will apply a “light touch” approach to the first penalty in the first year where businesses are seen to be trying to comply. During the first year, they will allow businesses 30 days to pay before applying the first penalty. If there has been no contact after 30 days, a penalty will be charged. Penalties will not be charged or may be reduced where a business has a reasonable excuse for non payment or where special circumstances apply.

Late payment interest

LPI will apply to outstanding VAT (including payments on account, assessments) regardless of whether a penalty is charged. LPI will apply from the date the VAT was due until the date it is paid to HMRC. The rate of interest will be 2.5% above the Bank of England base rate. LPI will continue to apply even where a time to pay arrangement has been agreed for the outstanding VAT.

Julie has recently had an article published in relation to AEO and Brexit. To read the article published in The Tax Journal click here.

We have seen a marked increase recently in the number of businesses seriously considering applying to become AEOs – Authorised Economic Operators. The impetus for this arises from Brexit and the need to manage supply chain risk by planning for a potential ‘hard Brexit’. In the early days following the referendum there was a focus on trying to establish what the increased cost of customs duty might be within the supply chain, both as a result of current preferential tariff rates potentially falling away, and an increase in the incidence of customs duties applying as a result of all UK/overseas transactions becoming imports or exports.

More recently however, focus has shifted to concerns about delays to supply chain deliveries as a result of border queues, caused by increased volume and also teething issues and potential systems issues in the UK and overseas. Businesses are therefore looking for ways in which they can ensure they are not at the back of the queue at the border. When AEO was first introduced back in 2008, speed of clearance and being in the ‘green lane’ was hailed as a major benefit. The reality was somewhat different however, with so few businesses applying for AEO that there was no queue. For the first time however Brexit brings this benefit to life.

Many businesses are grappling with the question of whether they should apply for the full authorisation which includes ‘Safety and Security’, or the more straightforward ‘customs’ AEO which is focused only on blue chip customs and systems processes. As there are 2 tiers to AEO authorisation, the question arises as to whether, in the event of a long queue of AEOs at the border post Brexit, which move to the front. The answer is surely those with full AEO, but for some businesses this could delay the process of getting ready to make an AEO application as it often presents the greatest degree of complexity and generates the most remediation work prior to an application being filed (although this might not be the case for all industries depending on how key security and other regulations are for their industry).

In theory HMRC require 120 days to audit an AEO application but in our experience many businesses see this clock stopping once an application has been made so that further detail can be provided and remediation work can be carried out. In addition HMRC’s workload in this area will ramp up, leading to further delays.

We would recommend that any business relying on just in time deliveries gives serious consideration to applying for AEO to ensure there is no impact of not benefitting from an accreditation that is currently widely recognised globally under various suppy chain security Mutual Recognition treaties. Our approach to helping businesses determine how ready they are to make an AEO application involves spending 2 days on site with you working through key areas to capture the profile of the business and apply traffic light coding, showing areas requiring most work in red. Please contact Julie Park on 0781 400 4236 or julie.park@thevatconsultancy.com if you’d like more detail

The case of U-Drive (UDL) v HM Revenue & Customs was recently heard at the Upper Tier Tax Tribunal. The case was an appeal by UDL against a decision of the First Tier Tax Tribunal in relation to the recovery of VAT on costs incurred in tripartite arrangements.

UDL is a car and van self-drive hire business.

The FTT had decided, in agreement with HMRC, that where UDL incurred VAT on the cost of repairing damage caused by its vehicles to third party property this VAT was not recoverable. This decision was made notwithstanding the point that UDL had a contract with the repairer and incurred the costs in the course of its business of operating its van and car hire fleet.

The UTT carefully examined the case and the principles involved including Redrow and Airtours. The UTT was also interested in understanding what the case law means by the term “economic reality” when considering whether substance over contractual form should apply.

This is an interesting case in terms of the ongoing jurisprudence where there are 3 or more parties involved in commercial scenarios and to what extent the benefit of the arrangements can confer a right to VAT recovery as a result of one or more of the recipients being the party(ies) receiving the supply.

In terms of direct industry application, the decision which we expect early next year will be of interest to all businesses who have a large fleet of vehicles who manage costs of the damage caused directly rather than relying on the insurance process.

We have been directly involved with this case since the initial dispute with HMRC and instructed Counsel at both the FTT and UTT. If you would like to discuss the application of the case in more detail, please contact Sean McGinness on 01962735350 or sean.mcginness@thevatconsultancy.com

The Supreme Court handed down its judgement in the Airtours case last week. This case is the latest in an ever increasing line of case law relating to tripartite VAT recovery.

HMRC were successful in denying Airtours recovery of VAT on the costs incurred on the basis that Airtours was not receiving services under the contract, nor did it contract with PwC to have services provided to a third party. Further, the Court held that the economic reality was reflected in the contract and therefore Airtours could not be seen as receiving a supply on those grounds.

What’s the case about?

Airtours was in financial difficulty and in 2002 it decided to appoint PwC to produce a report for various lending institutions. This report was to be used by the lending institutions to assist with their decision making on whether to extend Airtours’ credit facilities. Airtours was party to the agreement and a beneficiary of the outcome as it would benefit by being able to continue to trade if the lending institutions agreed to support the business. Airtours contracted to pay PwC the costs of producing the report, but it was only entitled to a copy of the report in redacted form. The engagement contemplated that the report was being prepared for the lending institutions.

Airtours recovered the VAT on the invoices it received from PwC. HMRC disagreed with this VAT recovery as its opinion was that Airtours had not received a supply of services from PwC. Only the lending institutions had received a supply.

Following defeat in the Court of Appeal which found for HMRC (2 judges to 1) Airtours appealed to the Supreme Court. The Supreme Court was equally split on the outcome with three judges finding for HMRC and two against.

So does this apply in all tripartite scenarios?

Whilst this means that HMRC were successful in this case and that Airtours will not receive the VAT paid as input tax, the situation where three parties are involved in a supply remains unclear. The Supreme Court has followed the line of thought from various cases that a small difference in fact can alter the outcome of a case. Whilst there is a lack of certainty from this decision it does still give businesses that have assessments from HMRC, or ongoing disputes with HMRC, an opportunity to consider whether, following the Supreme Court’s decision, their fact pattern is distinguishable from Airtours.

We would recommend the following points are considered:

1. In addition to paying for the services (assuming the paying party is trying to recover the VAT), is the contractual position clear that the supplier is under a contractual obligation to the business reclaiming the VAT to provide services to that party? The decision in Airtours indicates that the services do not need to be provided directly to the business recovering the VAT – no doubt this point needs to be carefully considered and hopefully HMRC will express a view on what they think this part of the decision means; and
2. Does the contract reflect the economic reality of what is happening? If not, then the wider economic and commercial reality should be considered to identify whether services have been received.

Is this just relevant to professional costs?

Clearly, the area of legal and other professional costs remains the highest profile tripartite scenario. However, this remains a complex area of VAT law and the ongoing appeals, due to be heard by the Upper Tier Tax Tribunal later this year, in the cases of Associated Newspapers (input tax on vouchers purchased for a business promotion scheme), and U-Drive (input tax on costs of repairing 3rd party vehicles and property damaged by a van and car hire business) indicate that tripartite scenarios can arise in a range of businesses.

Please contact Sean McGinness on 01962 735 350 should you wish to discuss the above in more detail.