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Steve Allen, Director of VAT Solutions (UK) Ltd, outlines the forthcoming penalty regime for errors, and comments on its effect for VAT purposes.

Steve Allen

Incorrect returns

A single new penalty regime for incorrect returns for income tax, corporation tax, PAYE, NIC and VAT will take effect in 2009.

This measure is part of an initiative to standardise and simplify the existing penalty regime right across the taxes, following the 2005 amalgamation of the Inland Revenue and Customs & Excise. The new rules will be based on both the amount of tax understated and the behaviour that gives rise to the understatement, with no penalties being applied for ‘mistakes’.  However, at the other end of the scale, there will be higher penalties for ‘deliberate action with concealment,’ There is also a new concept of ‘suspended’ penalties. 

Penalty criteria

Legislation is to be introduced in the Finance Act 2007, which has not received Royal Assent at the time of writing but will do so shortly, to provide for a single new penalty regime for incorrect returns. The penalty is based on the following three criteria:

• amount of tax understated/that would have been lost
• the nature and behaviour giving rise to the understatement,
• the extent of disclosure by the taxpayer

It is expected that the effective date will be such so as to include return periods commencing after 31 March 2008, where the return is filed after 31 March 2009.

The new regime will replace current rules, and there will be:

• No penalty where the taxpayer makes a mistake;
• Moderate penalties for failures to take reasonable care;
• Higher penalties for deliberate action; and
• Still higher penalties for deliberate action with concealment

Disclosure

Each penalty can be substantially reduced where the taxpayer makes a disclosure, more so where it is unprompted, and there will be the right of appeal against penalty decisions. A new concept of suspended penalties will also be introduced.  HMRC will be able to impose a penalty which will not be enforced for a period of time, and if the taxpayer makes no further errors, the penalty will lapse.  This will, no doubt, encourage business to be compliant.

Reasonable care

It would be advisable for business to show any visiting VAT Officer that every care has been taken in getting the returns correct, so if an error is discovered, no penalty is imposed.  In many cases, a VAT Officer fails to understand the details of a business, and so assesses incorrectly or may impose a penalty because he thinks reasonable care has not been taken.  Some large businesses have decided to put together a ‘pack’ explaining what the business does and how the accounting system operates, to help VAT Officers understand the business and see that they have taken reasonable care in preparing the returns.

Hopefully, taxpayers will find it easier to understand a single penalty regime that is applicable across the different taxes.