This article first appeared in Accountancy Age.
In the past if the honest tax payer made an error in excess of £1m VAT, or an amount which represented 30% or more of the correct tax for the return period, they were liable to a misdeclaration penalty. The tax payer was automatically exculpated in full for liability if they voluntarily disclosed the error to HMRC or if they had a "reasonable excuse" for the error. Since the revenue and VAT arms of HMRC have joined together, there has been the introduction of a single set of penalties to cover income tax, PAYE, corporation tax, VAT and National Insurance Contributions, which is included in the Finance Bill 2007, which will shortly become law. It comes into operation for return periods commencing after 31 March 2008 and with it we will see the introduction of the ‘compliance spectrum’. This grades error according to the behaviour of the taxpayer and in respect of VAT, the taxpayer is potentially significantly worse off.
Taxpayers will have to convince an HMRC officer that their error is innocent to which no penalty should be charged. This puts a lot of power in the hands of the officer responsible for supervising the taxpayer’s affairs; I will leave you to decide whether this is a good thing? If this fails, taxpayers can no longer achieve automatic exculpation in full for the liability by having made a voluntary disclosure. Also the "reasonable excuse" statutory defence disappears altogether. For professional advisors this means the end of settled case law.
It is expected that not many officers will accept mistakes as innocent errors. Additionally under the new starting point for negligent penalties is 30% of the amount of tax due (an increase from the old misdeclaration penalty of 15%), following which the taxpayer can plead that the penalty should be mitigated down - again not great news for taxpayers.
These changes mean that the taxpayer who makes a full unprompted disclosure of an error no longer has the quid pro quo of an automatic nil liability to a misdeclaration penalty. Inevitably there will be litigation on issues such as an officer's decision on where the taxpayer's conduct falls under the 'compliance spectrum' or the level of mitigation to be allowed following a disclosure in order to re-establish the scope of what is reasonable under the new system.
The new regime captures all VAT registered businesses regardless of the size of the business or the error. Whilst there will be rights of appeal against penalties, many VAT payers will lament the loss of a system where honest errors were only ever penalised if significant and where full disclosure or reasonable excuse defences meant even those penalties could be readily avoided.
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