A new penalty and interest system will be introduced on 1 January 2023. It will apply for VAT returns filed late or VAT return liabilities paid late.
The current system
Currently, a business will not receive an instant penalty if it misses a single payment due date. However, HMRC will record a default against the business. This starts a 12-month surcharge period.
If there is a subsequent default in the following 12-month period, a surcharge penalty of 2%, 5%, 10% and 15% will arise for the second, third, fourth and fifth occasion respectively that a business is late in paying its VAT. The surcharge penalty percentage is applied to the VAT due in the VAT quarter that the specific penalty is charged.
If a business has five defaults or more in paying its VAT late, within a period of 12 months, the final 15% penalty could be based on a very small VAT liability, and of course nothing would be payable if the final quarter was a repayment position.
The default surcharge penalty is only reset to zero, once a full year of paying VAT and filing VAT returns on time is achieved. This means that if a business files their fourth quarter VAT return late each year, or pays the VAT due late, they would be subject to an increasing penalty surcharge applied to their fourth quarter VAT return liability.
I am sure that many small business readers of this article may not have experienced a VAT penalty surcharge in practice. This is because if its business turnover is less than £150,000 pa, no surcharge is applied to their second default within a 12-month period. It would have to default a third time for the 2% VAT penalty to be due. Even then, if the 2% charged on the VAT liability is less than £400, no surcharge penalty would arise. If the VAT due in the surcharge quarter, on box 5 of the VAT return, is less than £20,000 then the chances are that no penalty would arise i.e. £20,000 x 2 = £200.
Under the new system, there is a greater chance of small businesses receiving a penalty, but mainly if they pay their VAT liability more than 15 days late.
A new penalty and interest system will be introduced from 1 January 2023 for late filed VAT returns and late payments of VAT.
There will be two separate systems, one for late filed VAT returns and one for late paid VAT. A business could therefore be subject to either or both penalty systems, if they both file their VAT return late and also pay their VAT liability late.
This will be a major change, compared to the current points -based default surcharge system. The new rules will apply to VAT return periods starting on or after 1 January 2023.
New late filing penalty system
Under the new system, a penalty point will arise each time a VAT return is submitted late. Once the total number of penalty points reaches a certain level, a fixed penalty of £200 will be arise and a further £200 for each and every late submitted VAT return after that.
The penalty points depend on how many VAT returns are filed late:
Annual submitted VAT returns 2 points over 24 months
Quarterly submitted VAT returns 4 points over 12 months
Monthly submitted VAT returns 5 points over 6 months
A business filing quarterly VAT returns would have to file four VAT Returns late before it incurred a penalty.
Penalty points will automatically expire after 24 months, so long as the business has not exceeded the penalty threshold above.
Once a business has exceeded the penalty point threshold, individual points will not automatically expire. Instead, each and every subsequent late filing will trigger a further £200 penalty. In this phase, points can only be removed, and further penalties avoided, if it complies with its filing obligation for a specific period. To reset the VAT penalty points to zero, the business must meet two conditions:
Submit all subsequent VAT return on time within a period of compliance (of 24 months for annual VAT returns, 12 months for quarterly VAT returns and six months for monthly filed VAT returns), and
Ensure all outstanding VAT returns due for the previous 24 months are submitted.
For the first time, late filing penalties will arise on VAT returns where no VAT is due e.g. nil returns or VAT repayment businesses.
Unlike the new late VAT payment penalty system, below, there is no soft landing for late filed VAT returns.
New late payment penalty system
Under the new system, there will be two separate late-payment penalties. These are referred to as the ‘first penalty’ and ‘second penalty’.
The first penalty will be made up of two parts:
A 2% charge on any VAT unpaid 15 days after the due date
A further 2% of the VAT unpaid 30 days after the due date.
The biggest change under the new system is that there will be no late payment penalty if the VAT return liability is paid in full within 15 days of the VAT payment due date.
To be clear, if the VAT liability is not paid within 30 days of the due date, the first penalty will be 4% of the VAT liability still outstanding at day 30. Of course, if the VAT liability is fully paid between 15 days and 30 days of the due date, the first VAT penalty will only be 2%.
The second penalty only comes into effect from 31 days after the VAT payment due date. It is paid in addition to the first penalty. It is charged on a daily basis using a rate of 4% pa and applies for the duration of the outstanding balance until it is paid in full. Whilst the second penalty is charged like interest, on a daily basis, it is not interest. A separate amount of interest will run on any outstanding VAT liability.
Time to Pay arrangements
One good feature of the new late-payment penalty system will be the consequence of entering into as formal Time to Pay (TTP) arrangement with HMRC. No late payment penalties will arise if a TTP application has been agreed with HMRC, and the business follows the agreed payment plan. However, should a business default on the TTP arrangement, even by paying one VAT instalment late, the first and second late-payment penalties will be charged as if no TTP arrangement had been agreed.
To allow businesses to adopt to the new VAT late-payment system, HMRC will introduce a ‘soft-landing’ concession for the period from 1 January 2023 until 31 December 2023.
During the soft-landing year, no charge will arise under the first part of the first penalty i.e. no 2% penalty will arise if the VAT liability is fully paid within 30 days of the VAT due date.
Therefore, up to 31 December 2023, provided the VAT liability is paid within 30 days of the due date, no late-payment penalty will arise in the first year of the new rules. Interest will still be paid on late paid VAT as usual.
Interest payable and receivable
The way that interest is applied to late VAT payments and refunds of VAT is also to change from 1 January 2023. This will bring the interest on VAT amount into line with other taxes.
From 1 January 2023, late-payment interest will be charged on VAT liabilities from the VAT payment due date until the date that the VAT liability is fully paid. The interest rate payable will be the Bank of England base rate plus 2.5%.
Similarly, from 1 January 2023 HMRC will pay repayment interest on a VAT refund due from the due date until the date of the VAT refund. The interest rate received will be the Bank of England base rate minus 1% (subject to a minimum rate of 0.5%).
The new VAT penalty system will avoid businesses receiving penalties just because they miss the payment deadline by a single day.
The deadline for submitting a VAT Return online is usually one calendar month and 7 days after the end of the VAT quarter. It is also the same deadline for paying HMRC the VAT due. You need to allow time for the payment to reach HMRC’s bank account.
The new VAT penalties system will also be extended to the Making Tax Digital for Income Tax Self-Assessment system from 2024-25.