Introduction
As 2020 limps to a close, I’ve decided to avoid the ever-present topic of Brexit – not least because, as at the time of writing, the actual working details of the exciting new VAT regime are still unclear. It is a tribute to the effortless superiority of our governing elites that the changes have been handled with such élan.
Anyway, as we await clarity (and Godot, presumably), I decided to cheer us all up by focusing on the Santa Claus aspect of VAT: getting money back from the taxman.
As Michael Caine would say, not a lot of people know that VAT was invented by the French civil servant, Maurice Lauré, in the 1950s. Monsieur Lauré seems to have realised – in a stroke of genius – that people would submit to having their money taken off them more willingly if they sometimes got a bit of it back.
And when you’re giving people something, they tend to be more willing to keep and provide lots of records to be sure of getting the money back.
When you think about it, it’s really very clever. You improve record-keeping and general compliance for a broad-based and regressive tax by ensuring that the tax-collectors (hint – that’s you and me) receive some form of cash benefit for doing so.
And the rest is history…
Anyway, back to the topic at hand: it’s Christmas every quarter with VAT. And if you want to put up a tree and eat mince pies every time you submit your VAT return, more power to you.
I’ve made this month’s post a lighter read on purpose, as we all hunker down for Lockdown IV, which seems to kick in before the turkey sandwiches have run out.
I start with the “simples”: how to make sure Father HMRC coughs up. I move on to a brief look at the VAT refund check process, and finish up with a quick overview of EU VAT refunds and then historical VAT refunds. Then I have a final wrap-up of the key points. And it’ll all be over by Christmas…
Letter To Santa: What Do I Need To Reclaim VAT?
It is not often that we can think of tax returns as letters to Santa, but sometimes (and for some businesses, all the time) VAT returns fit the bill.
As with so much in this life, the answer to “what do you need to reclaim VAT?” has two layers: the legal requirements, and what the authorities demand. Most of the time, these two layers coincide very closely. However, there is often a bit more than the proverbial cigarette paper between them… Let’s have a closer look.
The Basics
Without diving too deeply into the legislation, in essence you will need to be able to show that the VAT you are trying to reclaim is “input tax”.
That means that it must be incurred for VAT-able business purposes by a VAT-registered person, and there must be a “direct and immediate link” (to use the language of the European case law) between the expenditure incurred and the business purpose to which it’s applied.
I have previously discussed the question of partial exemption (see July’s post), and so won’t retread that ground here.
Basically, if you’re a business making taxable supplies, you will in principle be able to get the VAT back on any directly-related inputs.
You should also be able to get VAT back on overheads, where these are for the benefit of the overall taxable trade.
In order to make a claim, you will need suitable evidence.
The strict letter of the law requires that you have a valid VAT invoice to support a claim to input VAT, though HMRC have discretion to accept alternative evidence which makes it clear – to their satisfaction – that input VAT was suffered.
One further basic but important point is that you must actually have paid the bill.
As most readers will be well aware, VAT can be accounted for on the accruals basis, or on the cash basis (where your turnover is below £1.35 million per annum before you start using it, and £1.6 million once you’re already applying it).
On the cash basis, clearly, the input VAT cannot be reclaimed until the bill is paid in full. So far so sensible.However, even if you apply the accruals basis, the input tax is repayable to HMRC to the extent that the invoice has not been paid within 6 months of the payment date shown on the invoice.
So if you want to actually keep your presents from Santa, you need to make sure you’ve been a good boy or girl…
The following is a short example of how this works in practice:
- Example 1: Presents Under The Tree?
Elves Ltd is a small company based in Belfast making hand-made toys. It purchases materials from all over the world to make bespoke toys for lucky boys and girls in the UK, ROI and the EU. It applies the accruals basis when preparing its VAT returns.
In q/e November 2020, Elves Ltd incurred £10,000 of VAT on purchase invoices from Rollers Ltd, a company in England which makes wheels for toy cars. Elves Ltd reclaimed this VAT in full on its November 2020 VAT return, safe in the knowledge it had valid VAT invoices. Payment was due by the end of December 2020.
In q/e August 2021, Elves Ltd had to include a £10,000 VAT payment to HMRC, as it had still not paid Rollers Ltd’s invoice. No one was very happy about this (except possibly HMRC…)!
Lots of Presents or a Lump of Coal?
Sometimes, things go wrong.
There are three main ways this can happen.
- Problems with Paperwork
The first is that you don’t have a VAT invoice and can’t get one, even though you’ve paid for the supplies in question and used them in your business. Generally speaking, if you can point to the supplies in question and tie them in to other evidence – bank payments, contracts, emails, etc – then you will be reasonably confident making a claim.
However, should HMRC pay a visit, they will ask to see the VAT invoices. If you don’t have one for a particular supply, their first line of attack will be to ask you to obtain one from the supplier.
This is where things can fall over.
If the supplier refuses point-blank to supply you with a VAT invoice, or they no longer exist (e.g.: because they have been wound up, etc), then you are essentially at the mercy of HMRC. Most of the time, it is important to note, they will agree to refund the VAT where it is impossible to obtain an invoice for whatever reason and it is very clear – from alternative evidence – that the expenditure took place.
However, should there be any doubt as to whether the supply did take place, HMRC are completely within their rights to say “no refund for you”. A nasty lump of coal, then…
- HMRC Can’t See the Direct and Immediate Link
This is rarely an issue in practice, but when it comes up, it can be an absolute nightmare to resolve.
Typically this problem arises where the input tax is “overhead” tax, not directly attributable to a particular onward supply.
To make it really easy to understand: HMRC will never have a problem accepting there is a direct and immediate link where you purchase widgets on Monday and resell them on Tuesday having stuck them in a different box.
However, they can be significantly more jumpy where the link is not so obviously direct – for example, a holding company incurring professional fees in handling the affairs of a corporate group.
There tends to be a decent lump of money at stake (and with property cases it’s often huge sums of money), and an appreciable gap between what the money is spent on and what the business does as a whole, whether in nature or time (or both).
Unless you can persuade HMRC of the direct and immediate link, you risk entering a world of mists and shadows, far from the comforting twinkle of Christmas tree lights. The case law in this area is horrible and very commonly contradictory. Watch out. Lumps of coal galore here…
- HMRC Can’t See an Intention to Make Taxable Supplies
This is a real treat.
The legislation and the case law both make it very clear that where VAT is incurred for the purposes of a business and is applied or is “to be” applied for taxable purposes, then it should be recoverable.
The difficulty here is that HMRC prefer to hand out presents only when the intention is fulfilled, not merely intended.
For this reason, it is possible to get into a real bun-fight on this issue.
Unsurprisingly, it most commonly arises in the property arena. Building projects commonly take a long time to complete and typically cost a lot of money. For that reason, HMRC’s antennae start twitching, and you can end up with more coals than Newcastle…
The example below gives a (modified) version of a real-life case which we won by the skin of our teeth. My view remains that it should not have been anywhere near as hard as it was to win…
- Example 2: To Pay Or Not To Pay, That Is The Question…
Renting Ltd built a large commercial property for £4 million plus VAT on behalf of its parent company, Leasing Ltd. There was no formal written agreement in place, but the land was owned by Leasing Ltd, and all of the works in question amounted to a series of new buildings on Leasing Ltd’s property.
After the works had been completed, Renting Ltd raised an invoice for the works to Leasing Ltd, and charged VAT on the sale. It accounted for the VAT on its VAT return and paid it over to HMRC in full.
Leasing Ltd made a reclaim for the VAT on its VAT return. It had registered a couple of years earlier but hadn’t made any supplies to date. Its directors, the documentation showed, had made an option to tax, but hadn’t notified it to HMRC.
HMRC opened up a refund check. However, even after Leasing Ltd provided an option to tax form and clarified its intention to make taxable supplies of the commercial building, HMRC weren’t impressed. They demanded evidence that the company had had an intention to make taxable supplies at the time the building work began.
This brought up a number of really awful issues. First of all, if the VAT refund was not allowed and the case was kicked into the Capital Goods Scheme (“CGS”), then VAT would only be repayable over time. To make things worse, the first 20-30% of the CGS repayments would not be recoverable at all, because “first use” (depending on how you defined that) didn’t start until 2 or 3 years after the building work began Given the figures involved, this was a real problem.
Moreover, even though the legislation specifically states that input tax incurred with a view to making taxable supplies is recoverable, HMRC were essentially refusing to accept the evidence of the option to tax, etc, that the inputs were for intended future taxable supplies.
How did it end up? First of all, a formal lease was drawn up between the two companies making official what was already happening. Secondly, a very thorough investigation of board minutes and auditors’ notes was carried out from the time the building work was first conceived of, which confirmed that the plan had always been for Leasing Ltd to rent the property, subject to an option to tax, to Renting Ltd.
Result? £800,000 refund secured for the client. A good month’s work!
If you have any questions about VAT refunds, please don’t hesitate to get in touch on 02871 876 220, or at ciaranmcgee@cjmtax.co.uk.
How Do I Handle A VAT Refund Check?
I won’t linger on this too long, as each check will have to be assessed on its merits.
The vast majority sail through once HMRC have been provided with copies of invoices, etc. Moreover, the HMRC staff who handle them are usually polite and pleasant to deal with. These are not normally the equivalent of visiting your dentist about your root canal on Christmas Eve.
However, sometimes (as the case in Example 2 demonstrates) things are much more complicated, and can be extremely stressful to resolve…
That said, the following general tips are always worth bearing in mind:
- Make sure your paperwork is in good shape
- Make sure you understand what is happening with the underlying supply – especially where the amounts are big, timescales are long, or the supplies are unusual. If you’re in doubt, seek advice EARLY
- Be careful what you say to HMRC, especially early on. Casual remarks in emails can lead to needless misunderstandings and drag things out for weeks or even months
- Don’t be afraid to challenge HMRC decisions where they seem unfair or insufficiently considered. HMRC officers are people too, and can miss things or change their minds when presented with convincing evidence or arguments
I would always advise anyone submitting a large refund claim which has any unusual features at all to get advice at the very earliest stage. It can save an awful lot of trouble and can easily mean the difference between a big turkey dinner and tears before bedtime…
If you have a VAT refund check you’re handling and would like some advice or help, please don’t hesitate to get in touch on 02871 876 220, or at ciaranmcgee@cjmtax.co.uk.
EU VAT Refunds: How Do They Work?
I am going to just touch on this one.
For NI businesses, the EU VAT refund scheme will remain available for supplies of goods involved in the NI Protocol.
The exact mechanism of how this will work after 1 January 2021 is not clear (still! Plenty of time, of course…) but it seems likely to be based on the existing HMRC framework on the online VAT account. Essentially, the claim is submitted via HMRC and forwarded to the tax authorities in the country in question.
There are a few things to be aware of when making a claim for EU VAT.
First, you mustn’t be registered in the EU member state in question already. If you are, your correct course of action is to make a reclaim via your local VAT return.
Secondly, there are strict limits (which I won’t revisit here) about how much you can claim and how often you can claim. I’ve included a link to HMRC’s VAT Notice on the subject at the end, but bear in mind it is subject to change. Possibly quite a lot of change!
Thirdly, each EU member state has its own rules about which VAT may be reclaimed, and sometimes how much of this VAT may be reclaimed. There are particularly divergent attitudes to things like hotel accommodation, road fuel and restaurant meals. Some states apply a percentage cap on certain items. Best to check this out before you make the claim!
Finally, some EU states can and do make enquiries about certain reclaim amounts, even where the VAT is not strictly claimable under their rules, with a view to something of a fishing expedition.
For instance, if you supply training courses in, say, France, the French tax authorities might be very interested in finding out whether you’re liable to register there as a B2B supplier of “events”. “Events” have a different place of supply than supplies of professional training and education. How exactly you define an “event” is like asking how many angels you can fit on a pin-head… not a very joyeux Noël if this crops up!
If you have any questions about EU VAT refunds, please don’t hesitate to get in touch on 02871 876 220, or at ciaranmcgee@cjmtax.co.uk.
Historical VAT Refund Claims: What Should I Look Out For?
Strictly speaking, any business which has overpaid its VAT can make a claim of this kind under the error correction rules.
The normal four-year rule applies: if you have overpaid VAT within that window, HMRC are legally obliged to make good the difference.
There are a few important points to remember when dealing with these error corrections.
First, it is important to get your facts and numbers straight before getting in touch with HMRC. This can obviously take time to do, but given that the mills of HMRC grind slow but exceeding small, it is well worth the effort of working out exactly what has happened and why before you send in your refund claim. Delays are a given; best not to make them any worse by creating multiple queries. A clear covering letter with even clearer supporting workings is the best way to grease the wheels of your claim and get it through the bureaucratic machine…
Secondly, it is worth knowing that the cash bonanza can often be a bit of a damp squib. In situations where both the claimant and the customer who suffered the VAT charge are VAT-registered, HMRC will generally require the claimant to give a written undertaking that the tax refunded will be paid over to the customer.
Where this happens, it is unlikely anyone at the claimant’s offices is going to be throwing a party to celebrate…
The example below covers this scenario.
Windfall Tax? Or Tax Windfall?
There is, of course, the “lottery winning” aspect of life. Sometimes you strike it rich and it’s extra brandy butter all round…
Very large amounts of refundable VAT will generally only arise when there has been a change in the legal treatment of a particular supply. A well-known recent example was the extension of the VAT exemption for sport being applied to green fees charged by non-profit-making golf clubs.
However, “recent” is a relative term. The first claims were made in large numbers around 2008-09, as the Fleming claim window closed. (The Fleming ruling allowed historical VAT reclaims going back to the 1970s, in some cases; HMRC responded to the avalanche of claims by capping all such refund claims to four years).
This is an important indicator of the difficulties with claims of this kind. They can take literally years to resolve, as HMRC fight tooth and nail in the courts to limit their exposure. In other words, what will usually happen is a court decision will pop up which challenges the previous understanding of the VAT position. Affected taxpayers will put in their claims, and HMRC will challenge them, for example, because the underlying case is still being litigated.
This has two important effects. First, VAT will continue to arise and have to be paid over under the “wrong” legal treatment; and secondly, because of the four-year cap, “protective” claims will need to be submitted regularly to ensure that the refunds are protected while the case works its way through the courts.
The four-year cap means that it is technically possible to make a reclaim at the beginning of litigation and then, after (say) ten years of court cases, return to the issue and make a new claim, but miss a period in between. Even though you were right all along!
There is quite complex case law on this point, but the safest course is definitely to make regular new claims within the four-year capping period.
One final point to be aware of is “unjust enrichment”. This is a defence open to HMRC to prevent taxpayers getting a VAT “windfall” which didn’t really cost them in the first place. The law is complex here too, but the following example sets out how it can work in practice:
- Example 4: A Tale Of Two Refunds…
Dafarge Ltd makes supplies of knitted clothing both wholesale to other businesses, and retail in its small number of high-end outlets and online. For many years, it had charged VAT at the standard-rate, even though some of its supplies are suitable for children.
However, after organising a VAT review, it discovered that it had a strong argument for charging VAT at the zero-rate on the children’s clothing items. The total VAT overcharged came to £500,000 over four years, split equally between wholesale and retail sales.
Dafarge Ltd arranged to make a VAT refund claim and on the sage advice of its accountants split the amounts in the workings clearly between retail and wholesale sales. They also included evidence that Dafarge Ltd’s retail pricing for the affected items demonstrated that the company had borne the cost of the VAT, rather than passing it on to the consumer.
The result was that, even though only a single claim had been submitted, each period’s refund would effectively be split in two.
HMRC agreed the figures. However, for the £250,000 of VAT on the wholesale side, they required an undertaking to be signed and returned to HMRC. The undertaking stated that the refund paid out by HMRC would be paid over directly to the end customer. Dafarge Ltd wasn’t exactly overjoyed by this news…
However, happily, HMRC did agree that there was no sign of unjust enrichment and paid out the remaining £250,000 surprisingly quickly. Time to pull the crackers…
If you think you might have an historical VAT refund claim, or you’re handling one already and want some help, please don’t hesitate to get in touch on 02871 876 220, or at ciaranmcgee@cjmtax.co.uk.
Summary: What Are The Key Points I Need to Remember?
Everyone loves presents, and the VAT system allows HMRC to play Santa sometimes. However, just like Santa, HMRC have certain expectations of the boys and girls receiving the presents. Make sure you have a valid VAT invoice and can explain what the supplies relate to. Make sure you have paid your bills within 6 months if you reclaim VAT on the accruals basis.
If you have complex VAT affairs or there are large sums involved, make sure you get advice early on, as it can make a huge difference to the outcome of a refund claim.
Take care with HMRC VAT refund checks, which are generally fine, until they aren’t…!
And don’t forget about the oddballs: EU VAT refunds and historical VAT refund bonanzas…
HMRC’s guidance in this area can be found in the relevant VAT Notice as follows:
- VAT Notice 700/45: Error Correction: Click HERE
The following links might also be useful:
HMRC VAT Notice on EU Refunds: Click HERE
EU Commission Guidance on EU VAT Refund Scheme: Click HERE
Hopefully this post has been helpful, and should you wish to discuss any of the issues arising – or indeed anything else VAT-related – please don’t hesitate to contact me for a free, no obligation initial enquiry.