As a small business owner you probably dread the thought of HMRC opening an enquiry on your business’ VAT returns. Over the last ten years we’ve assisted our clients with numerous routine VAT enquiries, and on the whole, we’ve found HMRC’s VAT officers to be supportive and helpful throughout the process. We’ve put together this article to give small business owners an idea of what to expect from a VAT inspection, and how to deal with the process.
We heard from a VAT inspector some years ago that HMRC aims to inspect all VAT registered businesses once every four to five years. Although we are not sure if that’s still the case, particularly with the introduction of Making Tax Digital (MTD), it’s worth mentioning as it demonstrates that you should not be surprised when HMRC writes to you.
What to expect during your VAT enquiry
An inspection (formally known as an “enquiry” or “check of records”) will begin with an opening letter (often emailed now), normally asking for information relating to either one specific VAT return, or number of returns spanning a longer period. Inspections on a single return tend to be triggered by unusual repayments, or where the values for net sales and net purchases do not correlate to the VAT declared or claimed. Often there is a very simple explanation and you should offer a brief explanation to the HMRC officer at the first opportunity.
You will need to provide a detailed report of all of the transactions that comprise the return (despite the fact that this is sent to HMRC automatically via MTD, officers still seem to request a detailed listing). Often you will be asked a series of short questions to do with the business’ activities, which should be responded to with short and concise answers.
Now is the time to check for errors! Don’t send your transaction listings to HMRC until you’ve checked for errors, and if you spot anything awry, you should explain the errors to the HMRC officer when you send them the reports. The reason for this is that there are statutory penalties for errors detected in VAT inspections, but HMRC officers have discretion to suspend the penalties where a taxpayer has been helpful and compliant in dealing with the inspection. In our experience, if you are helpful and prompt in responding to HMRC officers, they will generally take a lenient approach to penalties where errors are clearly genuine mistakes.
Before sending over the documents
Once they’ve received the detailed transaction reports, HMRC will ask for a random sample of sales and purchase invoices/receipts from each return. Before you send these over, we suggest you run a few spot checks, particularly on your purchase invoices:
[ ] The date on the invoice must match the date on the VAT report you’ve sent to HMRC;
[ ] Invoices must be addressed to the business name or the trading name, not to the personal name of a director, partner or employee (but it’s OK if a person is named alongside the business name);
[ ] Check that the net total and VAT amount match your VAT report.
If you spot any errors, you can ask a supplier to correct an invoice, but you must not edit them yourself – if you can’t get an invoice corrected then again, we suggest that you explain the error to the HMRC officer.
If you are missing any invoices or receipts then the VAT that has been reclaimed will be disallowed, and this may prompt HMRC to ask for evidence for other purchases. Remember that disallowed VAT can always be reclaimed in the future once the correct documentation or evidence has been found.
Once you’ve supplied the information and the VAT officer is happy, they will close the enquiry. Often you won’t hear anything at all – unless the inspection is on a repayment return, in which case if you’ve received the repayment then you can be reasonably sure that the inspection has been closed! You can always request written confirmation that an inspection has been closed if you would like to.
If the enquiry is not closed then it is likely that you will receive a further information request, and at this stage it is sensible to take professional advice before you provide further information. You can always request a deadline extension if you need more time to obtain help or to collate information.
Keep an eye out for these common errors:
- Missing purchase invoices and receipts VAT must only be reclaimed on purchases where a VAT invoice or receipt is held–with no exceptions! In practical terms this often means that it is not worth reclaiming VAT on the smallest expenses, since the admin cost outweighs the financial benefit.
- Leased cars These vehicles should only have 50% of VAT reclaimed on them, regardless of personal use (unless you are a driving instructor or a taxi driver). The remaining 50% of the VAT should be posted as an expense.
- Business entertainment is disallowed and this includes both client entertainment and entertainment for directors and partners of a business–but not employees.
- Cash accounting can only be used when your turnover is below £1.6m. HMRC tend to be lenient on this, particularly if you can propose a plan to move to invoice accounting within a reasonable period.
If you spot any errors on returns that have already been submitted then you can simply adjust the next return to correct the error, provided that the error is less than £10,000 of VAT. If the error is greater than £10,000, then it should be reported using form VAT652. It is much better to correct errors voluntarily than to wait for a VAT inspection!