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RSM UK's Philip Munn warns that HMRC intends to prevent late adjustments to VAT by using credit notes, from 1 September 2019.

If you make a mistake when calculating the VAT you owe HMRC on a return you can only correct this if you let HMRC know within four years. However, in some cases, there is an argument that to correct an error a taxpayer should issue a credit note (to reduce the VAT accounted for by the supplier) or a debit note (to increase the VAT due on the supply) instead of applying to alter the original VAT return. 

In principle, this means that you can recover VAT on a credit note for an unlimited period of time, as credit notes are not subject to the four-year cap. Many taxpayers are now pursuing VAT claims going back decades and therefore significantly increasing the VAT they can claim. The government intends to put a stop to this from 1 September this year by changing the law. However, they’ve tried to deal with this issue before and the courts have found against them.

When a buyer and seller agree the terms of a sale a price is agreed. However, what happens if the parties agree a price change after the invoice is raised? In particular, what about the VAT on this adjustment? Buried in secondary legislation, regulation 38 sets out the approach which should be adopted. In the case of a decrease in the value of a supply the seller will reduce the VAT due to HMRC on the next VAT return and the buyer (if they’re able) will offset this VAT on their VAT return – usually the evidence will be a credit note and often a payment (from the supplier to the customer) will be made. Conversely a debit note (and additional payment from the customer) records a price increase.

If the buyer is not VAT registered, then there is no offsetting amount of VAT but the seller can still reduce the VAT it pays to HMRC. More importantly, such adjustments can apply to a supply which took place at any time – there is no need to restrict this VAT reclaim to a transaction which took place in the last four years. 

This has prompted many businesses to consider whether the errors they have made should be corrected by adjusting the original VAT return submission (capped at four years) or by issuing a credit note to alter the value of the original supply (which is not capped).

HMRC has amended regulation 38 several times over the last few years but their efforts to prevent uncapped claims have frequently been overturned by the courts. This latest announcement is designed to shut the door on any more claims.

From 1 September 2019, regulation 38 will stipulate that if you reduce the value of a supply you can only reduce the VAT due to HMRC if an obligation to pay the VAT bearing amount to the customer exists. In addition, if your customer is VAT registered, it must receive a credit note within 14 days of this adjustment and make the offsetting adjustment on its VAT return. 

The reality is that price adjustments and offsetting payments are all too common in a variety of B2B relationships and these new restrictions may lead to situations where VAT may end up being an unnecessary cost unless care is taken that the correct documentation is prepared in time.