CH405185 - Charging penalties: suspending penalties: setting suspension conditions: specific conditions: SMART examples: TAPE example

Tax Avoidance/Partial Exemption (TAPE) example - description and action

1 How the inaccuracy arose

Whilst on an inspection visit to address a potential risk identified by RIS in relation to compliance with partial exemption procedures, the caseworker reviewed the quarterly and annual procedures, calculations and the allocation of expenses against activities. The caseworker found that both taxable and exempt supplies records were kept together, and the business was not implementing the partial exemption rules in the correct way.

2 Specific conditions set - SMART criteria not met

To ensure that the business claimed the correct amount of VAT, the caseworker set the following condition.

Full written details of the partial exemption annual adjustment. Tax period 05/10 - adjustment due.

This is not a SMART condition because the caseworker has not stated how the business can avoid careless inaccuracies in future returns.

Exempt supplies are not taxable for VAT. So the person should not include sales of exempt goods or services in their taxable turnover for VAT purposes. If the person buys exempt items, there is no VAT to reclaim.

Once a year - usually at the end of the VAT tax year - the person must review how much VAT they have reclaimed throughout the year and make an annual adjustment.

3 How to make the specific conditions SMART

To make the above example SMART the caseworker must ensure that the partial exemption calculations accurately reflect the person’s right to claim input tax. The caseworker must comply with the guidance set out in Notice 706

To achieve this the caseworker should ask the person to:

1. Introduce a process into the bookkeeping system that allows the attribution of input tax to the taxable supply made. Such attribution should be split between supplies made:

  • exclusively in making taxable supplies or other supplies that carry the right to deduct; or
  • exclusively in making exempt supplies: or
  • used to make both taxable and exempt supplies. This could be because they are used directly to make both taxable and exempt supplies or because the expense is an overhead of the business.

2. This process should be carried out on the basis of the use a person makes, or intends to make, of those purchases. Attribution is undertaken at the time the person receives the purchases. A record of attribution should be created and retained as part of the business records.

For the person’s quarterly VAT declarations (As they have decided to follow the ‘in-year provisional recovery rate’ (Notice 706 Para 4.5)) they must use their previous year’s recovery percentage figure on a quarterly basis to calculate the input tax claimable per quarter. This calculation should form part of their VAT account and be retained as part of their business records.

3. For your annual adjustment - (Notice 706 Section 12 refers) you must retain as part of your business records:

  • Evidence that you have reviewed and considered the attribution made during the year to show whether the purchases have been used in the same way as was anticipated when each return was made.
  • The calculation made to recalculate the amount of residual input tax you can claim using the figures for the whole of the longer period. The method of calculation should be identical to that used in the earlier tax periods.

The above conditions are Specific, Measureable, Achievable, Realistic and Time bound.

4 Methods of checking the suspended conditions to ensure they have been met

As above, if the caseworker is satisfied the person will have complied with the rulings to a satisfactory degree, a telephone call should be made to the company requesting details and evidence of the system introduced supported by a request for copies of the VAT account covering the periods involved with samples of supporting documentation.

The caseworker should issue a ruling to the person regarding retention of records and compliance with partial exemption regulations and, as part of their call, should seek an acknowledgement of the ruling from the person’s legal entity.

Depending on the scale of the original error and the caseworker’s assessment of the compliance of the person, a visit may be necessary to verify compliance with the suspension conditions.