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Andrew Needham of VAT Specialists Ltd highlights some useful points for businesses with cashflow difficulties.

Introduction

In these difficult economic times many businesses are getting into financial difficulties and many are going into liquidation. The Government seems to be aware of these problems and in the 2008 pre-Budget Statement set up the Business Payment Support Service. With a single phone call businesses could defer tax payments, not just VAT but any Corporation Tax or other direct taxes that are due and agree a time to pay schedule.

The scheme seems to be working well and most businesses can reach agreement with HMRC within about 10 minutes and the payment periods average between 3 and six months although I have heard of cases as long as two years but these are out of the ordinary. HMRC are coy about admitting that there are monetary limits, but it would seem that they do have some parameters based on the size of debt and the tax throughput of the business. If a business exceeds these limits then they are referred to the local debt management units, but even in these cases agreement should be reached within 4 days.  The system has been generally welcomed by businesses and their representatives. By January 2009, £200M of VAT had already been rescheduled.

Avoiding Surcharges

One of the important aspects of the Business Payment Support Service is that, providing you contact HMRC before the due date for the return, there will be no late payment surcharge and it will not result in the issue of a new Surcharge Liability Notice or the extension Surcharge Liability Period, which can ease the pressure on a business.

On the other hand, businesses that fail are finding that getting started again can be difficult as a result of HMRC action.

With the relative ease of starting up again by using a Pre-Pack, many businesses are now finding themselves faced with a Security Demand from HMRC, but what exactly is a Security Demand?

Security Demand

Under VATA 1994 Sch 11 Para 4(2)(a), HMRC have the power to require a business to pay a security before they will allow them to trade. Failure to pay the security is a criminal offence and the business can be fined for every invoice issued while the security remains unpaid. This is most often used when a business goes into liquidation owing HMRC an amount of unpaid VAT and the people who run that business buy up the assets and start to trade again. It can also be used in other situations, for example for a poor compliance history, but their powers are rarely used in those circumstances. The sums of unpaid VAT that can generate a Security Demand can be quite low and sums of only £7,500 to £10,000 unpaid VAT can result in a demand. In these circumstances the Security Demand could be anything from £10,000 to £20,000 depending on the tax throughput of the new business.

It seems strange that HMRC should go to considerable lengths to help businesses with cashflow problems and the Government should make it easier for a business to go into liquidation and then start up again, yet at the same time potentially to ruin the cashflow of that very same new business just at the time it is most vulnerable.

Example

For example, OldCo gets into financial difficulties because one its largest customers goes into liquidation owing them £300K. After a few months trying to trade through its difficulties, OldCo also goes into liquidation owing HMRC £40k in unpaid VAT.

Two of the three directors of OldCo buy the assets and take on a few of the staff of their old company and start trading as NewCo. Within a couple of months of starting to trade they get a letter from HMRC demanding a security of £35,000 for between one and two years or they will not let them trade. This is the last thing a new business needs and in some cases they simply close down, but what can they do about it?

In these days of financial pressure on small business the Government has said it will do all it can to help them, but this has not got through to HM Revenue &  Customs as they are now imposing more security demands than ever.

Defending Against a Security Demand

There have been a number of Tribunal cases over the years which have shown that HMRC must make certain checks on the new business before imposing a security, however, these are rarely done. In most cases if a business can show that HMRC has been negligent in making these checks they will back down and withdraw the security.

So What are the Sort of Things You Should Look For? 

Below, I take a look at the circumstance in which the taxpayer has successfully challenged HMRC, and have grouped them under similar circumstances so that you can assess whether the Security Demand has been issued incorrectly.

Where a Director has been involved in a business that has gone into liquidation with debts outstanding to HMRC, but has not been directly responsible for the financial mismanagement of the previous company the Tribunal has ruled that it is unreasonable of HMRC to require security from a new company that he becomes involved with.

For example, the old company was financially mismanaged by the Finance Director and the new company is run by the old Sales Director and Personnel Manager. They did not have direct responsibility for the finances of the old company so HMRC would be wrong to ask for a security. 

The leading cases in this field are:

• Greyhound Transport (UK) Ltd, LON/94/1365A (13216);
• Soundmethods Ltd, MAN/96/353 (14523); and
• Central Catering Equipment Ltd, MAN/96/536 (14605).

Tribunals have also ruled that where the liquidation of a company has occurred for reasons outside the control of those running a business, it is unreasonable for HMRC to require a security, as in the example of OldCo above where their main customer failed.

This is a common circumstance at this time and if a business can show that some of its customers have gone into liquidation forcing it out of business as part of the recession it could probably successfully challenge the imposition of a Security Demand.

The leading cases in this field are:

• Deltaview Ltd, LON/84/540 (1832, 1876);
• Firepower Builders Ltd LON/88/301Y (3358); and
• Extrastable Services Ltd MAN/95/2059 (13911).

HMRC is also supposed to make detailed enquiries into the financial position of the new company.  The failure to do this would indicate that HMRC is not in a position to accurately assess any potential risk to the Revenue posed by the new company. If HMRC had taken this action, they would not, inevitably, have reached the same conclusion and so the imposition of a security would be unreasonable.

The leading case in this field is:

• C&E Commrs v John Dee Ltd, CA [1995] STC 941

Tribunals have also indicated that where a new business is financially sound, and has rendered its VAT returns on time and with full payment of the tax due, it is not reasonable for HMRC to request security from the new company. If HMRC have not made these enquiries the business should challenge any security that is imposed.

The leading cases in this field are:

• Exact Electronics Ltd, LON/92/2754A (11391);
• Deltaview Ltd, LON/84/540 (1832, 1876); and
• C Hickson & Others (t/a Flury’s), LON/93/1723A (11455)

In many cases HMRC will have made no enquiries into the new business at all and simply imposed a security requirement as a matter of routine. Any business that receives a security demand should take account of the above and if they feel that they come under one these examples they should obtain professional advice and challenge HMRC.

Conclusion

Even if HMRC have good reason to impose a Security Demand on a business there is still a good chance that the size of the original demand can be substantially reduced. One area where the size of the demand can be reduced is if the actual turnover of the new business is lower than that shown on the original VAT 1 so that the size of the demand can be reduced proportionally. Negotiating with the officer dealing with the Demand can also be beneficial.  In one case I negotiated the original Demand for £96,000 down to £7,000, although typically the client wanted to know if there was any chance of getting it lower!