The UK Government's initiative, Making Tax Digital (MTD), represents the most fundamental change to the UK tax system for decades. The aim of MTD is to make it easier for jurisdictions to work together to exchange information whilst making it difficult for individuals and businesses to evade tax.
What are the key drivers for MTD?
Here in the UK, the two key drivers are addressing the tax loss to the Treasury as a result of errors (an estimated £9m was lost in £2014-15) and cost reduction (dealing with tax queries digitally rather than via phone, email/correspondence or meetings). MTD will reduce errors by ensuring that source data flows automatically through to the VAT return with minimal scope for adjustments to be made and recent studies have confirmed that a digital solution to deal with tax queries will generate significant savings.
How will MTD be introduced?
MTD will cover all mainstream taxes in due course, with VAT being the first tax to be digitalised. All businesses mandatorily required to be registered for VAT (turning over in excess of £85,000) will be impacted, including charities, public bodies, partnerships and sole traders.
What changes will businesses need to make?
For all VAT returns beginning on or after 1 April 2019, businesses will need to implement changes to the way they record and submit VAT accounting information to HMRC. MTD compatible software will be required, needing an application programme interface (API) in place to create a digital link between the business’s and HMRC’s accounting systems. This API will enable the business to submit the mandatory VAT return information and HMRC to raise queries on it.
Where a business prepares its VAT return using a number of different accounting systems, eg where a VAT group is in place or an acquisition has been made, those accounting systems must be digitally linked via an API link in order to be MTD compliant.
Will the information required be the same as before?
Under MTD, businesses will also need to record certain supplementary data, including a record of outputs split between supplies at different VAT rates. It will also be necessary to identify and record VAT that is not recoverable at the point that purchase invoices are input onto the system, representing a significant change for organisations that are VAT adverse and who would ordinarily expense irrecoverable VAT without recording it separately. This will prove particularly difficult in identifying the VAT restriction on residual expenditure where this is not typically known until the end of the VAT accounting period. HMRC is aware of this issue and as the business will not know the recovery rate on residual costs until the period end, it is expected that concessions will be made on this point, details of which are yet to be announced.
Whilst this supplementary data must be recorded digitally it does not have to be submitted to HMRC. Ultimately if all HMRC receives is the mandatory VAT return information, it is no better off than under the existing system and the ambitious objectives for MTD are unlikely to be achieved. It is recognised that many businesses will be reluctant to submit more data than is required. However, those businesses who chose to voluntarily submit the supplementary data will be less likely to receive a VAT inspection if no issues are identified from a review of the supplementary data. Whether a business chooses to submit the supplementary data will be determined by their confidence in the quality and robustness of their data.
It is thought, however, that at some point HMRC will make this supplementary data mandatory.
How will adjustments be dealt with under MTD?
The intention of MTD is to reduce errors being made and to facilitate the flow of source data through to the VAT return with minimum opportunity for figures to be adjusted or amended. However, it is practically impossible for many businesses and organisations to prepare their VAT return without carrying out adjustments of some sort, many of which are dealt with on spreadsheets. HMRC has recognised this and agreed that where adjustments are made on spreadsheets it is only this adjustment that needs to be digitally linked to the accounting records. It remains to be seen whether HMRC will allow VAT returns to be completed using spreadsheets only.
When does MTD come into force?
Whilst the MTD changes will be effective for the first return falling on or after 1 April 2019 HMRC has announced that there will be a soft landing’ up until 1 April 2020. Businesses will have to have the API link between their accounting records and HMRC’s accounting records in place from 1 April 2019 but they will not be penalised for failing to record information on MTD compatible software until 1 April 2020. However, businesses will still need to ensure that their systems and processes are fully MTD compliant ahead of this deadline, with adaptation of existing systems or investment in new IT requiring testing. The 1 April 2020 deadline may still prove challenging for those organisations who delay in addressing the changes they will need to make.
Many software providers have developed or are in the process of developing API links which are being made available to their clients who are using supported software. Where businesses are using older legacy systems that are not supported, it should be possible to source API’s from third party software providers. If not, the only option will be to invest in new MTD compatible software, which for some smaller businesses, may be their first experience of using accounting software. As a result the additional cost burden of MTD will be felt most by smaller businesses as in proportionate terms they will have to invest more in order to become MTD compliant.
The MTD pilot programme
With effect from 1 April 2018, for those businesses having access to an API, it has been possible to volunteer to be part of a HMRC’s MTD pilot programme. This has however been limited to relatively small numbers and only available initially to straightforward businesses who were fully taxable and not involved in any international trade. This pilot will be extended in due course and larger more complex international businesses will be able to apply to become part of the pilot enabling them to test their MTD software prior to the go live date of 1 April 2019.
For further information on how to plan for the introduction of MTD, please contact John Forth, VAT partner at firstname.lastname@example.org or your usual RSM contact or visit www.rsmuk.com/ideas-and-insights/making-tax-digital.http://www.rsmuk.com/ideas-and-insights/making-tax-digital