TAXguide 03/22: changes to VAT penalties and interest charges

When?

The new rules will affect VAT-registered businesses submitting VAT returns for periods starting on or after 1 January 2023.

What is changing?

The VAT default surcharge regime, which punished late submission and late payment, is being replaced by three separate charges:

1. Late submission penalties
2. Late payment penalties
3. Late payment interest

Late payment interest is something that has not previously applied to late payment of VAT returns.

Businesses will receive one late submission penalty point for each late submission.

Once the relevant penalty threshold is reached for that business, the business will receive a fixed £200 penalty.

While at the penalty threshold, subsequent late submissions will incur a further £200 penalty, rather than additional penalty points.

The penalty points threshold will vary according to the VAT return submission frequency of the business:

Individual penalty points will also expire after 24 months if the taxpayer does not reach the relevant penalty point threshold.

Example 1:

A Limited files its VAT returns on a quarterly basis. Its penalty points threshold is four and its period of compliance is 12 months.

A Limited will receive a late submission penalty whenever its point total equals its points threshold and it files late. Its points total is reset to zero once it files on time for 12 months (four quarters ended 30 June 2025  ) – assuming it has filed all returns for the last 24 months. 

When it files late for the return ending 30 September 2025, it receives a penalty point rather than a late submission penalty.

Changing VAT return frequency

When a business changes its VAT return frequency, its points total will be adjusted in the following way:

This adjustment will only take place if the business already has penalty points. The adjustment cannot take the points total below zero.

Example 2:

B Limited initially files its VAT returns on a quarterly basis but changes to monthly from 1 July 2023 (period ending 31 July 2023). Its period of compliance once on monthly returns is six months.

B Limited can receive a late submission penalty on monthly returns having only filed four late returns as it is given a penalty point adjustment of +1 point when it switches to monthly returns.

As it has filed on time for its period of compliance (six months) and filed all returns due in the last 24 months, B Limited’s point total resets to 0 after submission of its VAT return for the period ending 31 March 2024.

Whereas the default surcharge applied uniformly regardless of how late the business paid, the new late payment penalties will be higher the later the payment is made.

You will not be charged a penalty if you pay the VAT you owe in full, or agree a payment plan, on or between days 1 and 15. Day 1 is the day after the due date for payment. Please note that you will be charged late payment interest, which is covered separately below.

The late payment penalty is itself split into two penalties: the first penalty and the second penalty. The size of these penalties will depend on how overdue the payment is.

Up to 15 days overdue

You will not be charged a penalty if you pay the VAT you owe in full or agree a payment plan on or between days 1 and 15.

You will receive a first penalty calculated at 2% on the VAT you owe at day 15 if you pay in full or agree a payment plan on or between days 16 and 30.

Please note that HMRC has announced that, during 2023, it will not charge the first penalty where payment is made in full within 30 days of the payment due date.   HMRC refers to this as the ‘period of familiarisation’.

31 days or more overdue

You will receive a first penalty calculated at 2% on the VAT you owe at day 15 plus 2% on the VAT you owe at day 30.

You will receive a second penalty calculated at a daily rate of 4% per year for the duration of the outstanding balance. This is calculated when the outstanding balance is paid in full.

Example 3:

C Limited files its VAT returns quarterly. Its VAT return for the period ending 31 March 2023 is due by 7 May 2023. Its VAT liability is £100,000. 

1.  C Limited pays its liability in full on 17 May 2023. The payment is 10 days overdue. Therefore, C would not pay a late payment penalty. Note: C would be charged late payment interest.
2. C Limited pays its liability in full on 29 May 2023. The payment is 22 days overdue. C would therefore, normally, pay a first penalty of £2,000 (£100,000 x 2%). However, during the period of familiarisation, this penalty would be waived.
3. C Limited pays its liability in full on 16 June 2023. The payment is 40 days overdue. C would therefore pay a first penalty of £4,000 (£100,000 outstanding on day 15 x 2% PLUS £100,000 outstanding on day 30 x 2%). 

C would also be charged a second penalty, which would accrue at a daily rate of 4% per annum from day 31 to the date of payment (inclusive). As C pays on day 40, it would be charged a penalty calculated for a period of 10 days. 4% x (10/365) x £100,000 = £109.59. Its total penalty for paying 40 days late would therefore be £4,109.59.

Example 4:

D Limited’s VAT liability for its VAT return for the period ending 30 June 2024 is £100,000. The due date for payment is 7 August 2024. D Limited is suffering cash flow problems.

D Limited pays £20,000 on 7 August 2024. Its remaining liability is £80,000.

1. D Limited pays the remainder on 17 August 2024. The payment is 10 days overdue so D would pay no late payment penalty. Note: D would be charged late payment interest.
2. D Limited pays the remainder on 27 August 2024. The payment is 20 days overdue. D would therefore be charged a first penalty of £1,600 (£80,000 x 2%). Note that the period of familiarisation has expired.
3. D Limited pays a £40,000 of its remaining liability on day 30 (6 September 2024) and a further £40,000 on day 40 (16 September 2024), it would pay a first penalty and a second penalty. The first penalty would be calculated at 2% of the VAT owed on day 15 (£80,000 x 2% = £1,600) plus 2% of the VAT owed on day 30 (£40,000 x 2% = £800).
   
   The second penalty would be calculated for a period of 10 days. £40,000 x (10/365) x 4% = £43.83.
   
   D would be charged a total penalty of £2,443.83.

Time to pay

For late payment penalty purposes, a VAT amount will be deemed to have been paid in full from the date a successful (ie, agreed by HMRC) time to pay agreement was first proposed to HMRC.  For example, if a business proposes a time to pay agreement to HMRC on the due date of payment, there will be no late payment penalty if HMRC agrees that proposal, regardless of how long it takes HMRC to agree this.

Late payment interest would still be payable on the outstanding balance where ‘time to pay’ has been agreed.

If the agreement proposed by the taxpayer is not agreed by HMRC, late payment penalties will still apply. It is recommended that taxpayers approach HMRC as early as possible if they think they may not be able to pay their VAT return liability.

For amounts due in relation to periods beginning on or after 1 January 2023, HMRC will charge late payment interest from the date the amount is payable to the date the amount is paid.

Late payment interest is calculated at the Bank of England base rate plus 2.5%. 

Example 5:

E Limited’s VAT return is due on 7 May 2023. Its VAT return liability is £100,000.

It pays the return on 17 May 2023, so the payment is 10 days overdue.

E will be charged 10 days of late payment interest. Assuming a Bank of England base rate of 3%, it will be charged interest at a rate of 5.5%.

(10/365) x 5.5% x £100,000 = £150.68.

Note: no late payment penalty would be due in this example as the return is paid in full within 15 days of the due date. However, it is possible to be charged a late submission penalty, late payment penalty and late payment interest simultaneously for the same VAT return.

Example 6:

F Limited’s VAT return is due on 7 May 2023. Its VAT return liability is £100,000. It pays its liability in five instalments of £20,000. The first instalment is made on time, with the subsequent instalments made every 10 days.

Please note this example assumes a constant Bank of England base rate of 3%.

In this example, late payment penalties would also be charged, unless the instalments have been agreed with HMRC through an agreed time to pay arrangement. 

Assuming no time to pay has been agreed, the late payment penalty would be £1,621.92 (calculated as follows):

First penalty: 2% of amount outstanding at day 15 (£60,000) = £1,200
            PLUS 2% of amount outstanding at day 30 (£20,000) = £400.

Second penalty: 4% x (10/365) x £20,000 = £21.92

As previously mentioned, the second penalty is separate to late payment interest.

For amounts due in relation to periods beginning on or after 1 January 2023, the repayment supplement for VAT will be withdrawn and replaced by repayment interest.

Where the repayment interest is in respect of an amount claimed from HMRC, repayment interest will be calculated from the later of the following dates:
       - VAT return due date; or
       - VAT return submission date.

Where HMRC repays an amount that a person has paid to HMRC, including an overpayment, repayment interest will be calculated from the later of the following dates:
       - the date the amount was paid to HMRC; or
       - the date when the amount became payable to HMRC.

Repayment interest will be calculated at the Bank of England base rate MINUS 1%. There will be a minimum rate of repayment interest of 0.5%.

Example 7:

On 3 May 2023, G Limited submits its repayment return for the period ending 31 March 2023. As this is before the due date, repayment interest will be calculated from the VAT return due date of 7 May 2023.

HMRC makes the repayment on 12 May 2023. Assuming a Bank of England base rate of 3%, repayment interest will be paid at a rate of 2% for a period of five days.

Assuming a repayment amount of £100,000, repayment interest would equal £27.40.

Example 8:

On 12 April 2023, H Limited submits its repayment return for the period ending 31 March 2023.

HMRC makes the repayment on 7 May 2023.

As HMRC made the repayment on the VAT return due date, there would be no repayment interest.

Q1. Will agents be able to see their clients’ points totals?

A1. It is expected that agents will be able to see in their agent services account the penalty points totals of authorised clients.  It is not currently clear from when this will be available. HMRC also hopes that this will be displayed within MTD VAT software but that may take longer and will depend on the software provider. 

Q2. Will there be a transition from default surcharge to the new penalty regime?

A2. Any business currently in the default surcharge regime will start on zero points for the purposes of the new late submission penalties. Late payment penalties are not dependent on previous taxpayer behaviour and thus default surcharges will also be ignored. Any default surcharge incurred before 1 January 2023 will still need to be paid. 

Q3. Will late payment interest be due on payments by direct debit, which are generally not received by HMRC until after the payment due date?

A3. No, if the direct debit has been set up at least two working days before the payment due date, payment will be deemed to have been received by HMRC on the payment due date. A business with a direct debit set up that submits its VAT return on time should not be charged late payment penalties or interest (assuming the direct debit doesn’t fail, for example, due to insufficient funds).

It is possible that late payment interest will accrue and be shown in the taxpayer’s account from the payment due date until the direct debit has been collected. Once collected, the interest charge will be cancelled. This is the case with PAYE paid by direct debit.

Q4. Is late payment interest due from day 1 or day 31?

A4. Late payment interest is calculated from the payment due date to the date of payment. For example, if the payment due date is 7 November and the date of payment is 10 November, that is three days.

This should not be confused with the second late payment penalty, which is calculated at an annualised rate of 4% from Day 31.

Q5. Can you earn a late submission penalty if you only have 2 penalty points?

A5. Only if you file annual returns. A business with 2 penalty points filing monthly or quarterly would not receive a late submission penalty for late submission until it reached its respective penalty points threshold.

Q6. Is there a cap on the penalties that HMRC can charge?

A6. For late submission, the penalty is fixed at £200 for every late submission once the points threshold has been reached (and until the points total is reset to zero).

For late payment, there is no monetary limit on the penalties HMRC can charge. However, the penalties are capped at, for the first penalty, 2% of the amount outstanding at day 15 plus 2% of the amount outstanding at day 30 and, for the second penalty, an annualised rate of 4% of the amount outstanding. Late payment interest is effectively capped by the Bank of England base rate.

Q7. Will small amounts of penalties or interest be written off by HMRC?

A7. HMRC has not yet announced whether there will be ‘de minimis’ thresholds for late payment penalties or interest, but it is understood to be under consideration.

Q8. What will be the impact for error corrections that lead to an additional VAT amount falling due?

A8. For returns starting on or after 1 January 2023, late payment interest will be due from the date that the VAT return payment was due (if the original VAT return had been complete and accurate) to the date that the additional VAT is paid to HMRC. Currently, we understand that late payment penalties will not be due based on when the liability should have been paid but may become due if the assessment is paid late.   

Q9. How will HMRC be communicating late submission penalties and late payment penalties to customers?

A9. Currently, we understand that all traders will be notified by post of points and penalties; for MTD-exempt or digitally excluded customers, this would be the sole method of communication.   Where applicable, the taxpayer’s late submission points total and threshold, and details of penalties and interest, w ill also be available in their online account.

Q10. Will HMRC be providing more guidance on the new rules?

A10. Yes, the ‘customer guidance’ is due to be published in December 2022. Until it is published, you can refer to the section regarding the upcoming changes to penalties on gov.uk. HMRC will also be running two webinars – one for agents and one for businesses.