Detailed guide to the new VAT penalty regime from April 2009

April 2009 marks the introduction of a new VAT penalty regime. Interestingly, the legislation has been in place since the Finance Act of 2007. This has given advisors plenty of time to consider how it will work, and to raise questions with HMRC.

The new penalty covers a range of tax regimes. Currently, it applies to errors made in respect of VAT, Income Tax, PAYE, CGT, NICs, Corporation Tax, and the Construction Industry Scheme. On the one hand this provides consistency over various taxes. However, the way different taxes work mean that a range of different circumstances will trigger liability to the same penalty.

As far as VAT is concerned, two existing penalties come to a close on 31 March 2009. We say ‘goodbye’ to the Civil Evasion penalty, and the Misdeclaration Penalty. (STOP PRESS – I understand the Civil Evasion Penalty will not be repealed until a later date.)

These penalties date from the mid 1980s, and have been amended and, to some extent, relaxed since then. They have triggered substantial litigation, including, interestingly references in relation to the Human Rights Act.

The penalty applies in two situations:

  1. Failure to notify an under-assessment. This will arise where a taxpayer is required to submit a VAT Return, fails to do so, and is sent an estimated assessment. If the assessment understates his liability, and he fails to take ‘reasonable steps’ to tell Customs his correct liability within 30 days, then the penalty will be triggered.
  2. A person submits a document which contains an error. In particular, this will apply to a VAT Return, and to a Voluntary Disclosure form. However, the legislation is widely drafted, and includes ‘any document which is likely to relied upon by HMRC’ to determine a taxpayer’s liability. Thus, a D-I-Y claim, an 8th or 13th Directive claim, or even a letter of explanation, would be covered by the penalty provisions.

What penalties will apply under the new rules?

HMRC detail three categories of inaccuracy. These are significant, as each has its own range of penalty percentages. If an inaccuracy is found to fall within a lower band, then a lower penalty rate will apply. Where the taxpayer has taken ‘reasonable care,’ even though an error has been made, then no penalty will apply.

– An error, when reasonable care not taken: 30%;

– An error which is deliberate, but not concealed: 70%;

– An error, which is deliberate and concealed: 100%.

The legislation provides that if a person takes ‘reasonable care,’ then no penalty is due. There is no definition of ‘reasonable care.’ HMRC have said that they would not expect the same level of knowledge or expertise from a self-employed person, as from a large corporation.

HMRC expect that, where an issue is unclear, advice is sought, and a record maintained of that advice. They also expect that, where an error is made, it is adjusted, and HMRC notified promptly. They have specifically stated that merely to adjust a Return will not constitute a full disclosure of an error. Therefore a penalty may still be applicable.

The amount of the penalty is calculated by applying the appropriate penalty rate (above) to the ‘Potential Lost Revenue’ or PLR. This is essentially the additional amount of VAT due or payable, as a result of the inaccuracy, or the failure to notify an under-assessment. Special rules apply where there are a number of errors, and they fall into different penalty bands.

Defending a penalty

The percentage penalty may be reduced by a range of ‘defences:’

– Telling; this includes admitting the document was inaccurate, or that there was an under-assessment, disclosing the inaccuracy in full, and explaining how and why the inaccuracies arose;

– Helping; this includes giving reasonable help in quantifying the inaccuracy, giving positive assistance rather than passive acceptance, actively engaging in work required to quantify the inaccuracy, and volunteering any relevant information;

– Giving Access; this includes providing documents, granting requests for information, allowing access to records and other documents.

Further, where there is an ‘unprompted disclosure’ of the error, HMRC have power to reduce the penalty further. This measure is designed to encourage businesses to review their own VAT Returns.

A disclosure is unprompted if it is made at a time when a person had no reason to believe that HMRC have discovered or are about to discover the inaccuracy. The disclosure will be treated as unprompted even if at the time it is made, the full extent of the error is not known, as long as fuller details are provided within a reasonable time.

There is some guidance on the line between unprompted and prompted disclosures. In particular, where Customs have contacted the business to make a compliance check, or have arranged a visit, then any disclosure will be prompted, and a higher rate of penalty will apply.

In an unusual move, HMRC have included a provision whereby a penalty can be suspended for up to 2 years. This will occur for a careless inaccuracy, not a deliberate inaccuracy. HMRC will consider suspension of a penalty where, given the imposition of certain conditions, the business will improve its accuracy. The aim is to improve future compliance, and encourage businesses which genuinely seek to fulfil their obligations.

Appealing a penalty

HMRC have an internal reconsideration procedure, where a business should apply to in the first instance. If the outcome is not satisfactory, the business can pursue an appeal to the Tribunal. A business can appeal whether a penalty is applicable, the amount of the penalty, a decision not to suspend a penalty, and the conditions for suspension. A new Tribunal structure is also being put into place. Watch out for a separate article!

Where an ‘agent,’ for example, an accountant is involved in a business’ VAT Returns, and an inaccuracy occurs, slightly different provisions apply. Essentially, a business may become liable for a penalty due to the action, or inaction, or a third party. This will require that the relationship between the business and the third party be clear.

Any advisor will need to ensure that his Professional Indemnity insurance covers claims made by clients who are penalised under the new regime. The new regime applies a penalty for the careless action of another person, not the deliberate action of another person. A penalty can be appealed under one of four situations:

– The inaccurate return or document was given to us by someone acting on the person’s behalf, or

– A careless inaccuracy is due to the failure to take reasonable care of someone acting on the person’s behalf, or

– Someone acting on the person’s behalf knew or should have known about an under-assessment and failed to take reasonable steps to tell us

– Someone acting on the person’s behalf discovers an inaccuracy and does not take reasonable steps to tell us.

FA08 added a provision whereby a if a business makes an error, which is attributable to false information deliberately provided by another person, then a penalty can be made against that other person.

HMRC have amended s77 of the VAT Act 1994, to extend the normal time limit for penalties to 4 years. Additionally, where there is deliberate action to evade VAT, the 20 year limit applies. In particular, this applies to a loss of VAT which arises as a result of a deliberate inaccuracy in a document submitted by that person.

Information is available on HMRC’s website, and that includes a powerpoint presentation that advisors can use to present to clients.

Other penalties, for example, for failure to notify registration, failure to notify change in material change of supplies, failure to notify acquisition of goods, or unauthorized issue of invoices showing VAT, will come into force in April 2010. FA08, Sch 41 contains the appropriate provisions. This also provides new penalties for Insurance Premium Tax, Aggregates Levy, Climate Change Levy, Landfill Tax, Air Passenger Duty, amongst others.

This article was written for Bytestart by Les Howard, VAT Consultant at

Bytestart Limited

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