Hindsight is 20/20!
Indirect Tax Matters March 2020 Edition
We have previously noted that the entitlement to input VAT deduction is the one fundamental right that VAT law confers on VAT registered persons. As VAT is a self-assessment transactional tax, it is the taxpayer’s responsibility to ensure that the extensive obligations imposed by legislation, regulations and case-law are appropriately applied and that VAT is correctly accounted for, collected and paid over to the relevant tax authorities. Out of a total tax yield of more than €55.5 billion in Ireland in 2018, Revenue reported that €14.23 billion, representing just over 25%, related to VAT, thus highlighting the importance of VAT receipts to the Irish Exchequer.
The onerous obligations placed on taxpayers in operating this high risk transaction based tax are made all the more difficult to navigate given that we are operating in a constantly evolving tax, operational and technologically driven landscape which brings with it both risks and opportunities. As a lot of businesses are now taking stock on the 2019 calendar year and preparing financial statements in conjunction with their external auditors it is timely to consider what taxpayers can do now, with the benefit of hindsight, to ensure that they are operating a fit for purpose VAT compliance process. This article provides a brief overview of some common VAT pitfalls as well as highlighting useful tips and recommended best practice approaches to assist taxpayers with the operational realities of managing their VAT compliance cycle.
1. VAT compliance procedures and process manual
While it is great to have a reliable person within your in-house finance/tax team who knows your VAT compliance process like the back of their hand, that person may be out of the office due to unforeseen circumstances or perhaps they may leave the business altogether often leaving a considerable knowledge gap. From a practical, risk mitigation and good governance standpoint it is therefore recommended that all businesses have a VAT compliance procedures and process manual. At a minimum, this document should set out the VAT return process in detail, together with including a VAT compliance calendar, details of who is responsible for preparing, reviewing, sign out, filing and payment as well as the tax authority online portal access codes. In addition, the agreed procedures to be followed when dealing with communications from the tax authority together with how to deal with unusual/once off/high value transactions and the escalation process should also be clearly documented.
2. Invest in training and accounting software
With all the changes in legislation, and bearing in mind natural staff turnover, together with advancements and enhancements in technology, it is beneficial to invest appropriately in both training and suitable accounting software bearing in mind the nature of your business. Given that Revenue are placing increased reliance on eAudits, thereby interrogating businesses’ underlying records by electronic means, it is essential that businesses have robust enterprise resource planning (ERP) that is tailored to meet the needs of their business, accurately capture all activity to be reported and is kept up to date.
Tax codes, VAT rates and master data are just a few of the key areas that should be regularly reviewed to ensure the accuracy of reporting. However, if the employees charged with operating the ERP (and in particular the VAT compliance process) are not adequately trained in VAT (in addition to the software they are using) then even if the latest version of accounting software has been rolled out you may still not be at the races in terms of the accuracy and completeness of your source information as more often than not rubbish in equates to rubbish out!
3. Non-deductible VAT
VAT legislation specifically blocks input VAT recovery on certain expenditure, notwithstanding the fact that these costs were incurred for business purposes. Apart from some exceptions, VAT is generally not recovered where it is incurred on food / drink, cars, petrol, accommodation, entertainment, and personal services for directors/employees.
It is therefore important that such non-deductible items are not processed through the VAT returns. Most ERPs have functionality to code certain costs as specifically non-deductible but if VAT returns are being prepared manually, knowledge of the specific non-deductibles for VAT purposes will be required by the person preparing the return to enable accurate blockage to be implemented.
4. Failure to account for VAT on the reverse charge basis
Taxpayers acquiring taxable goods or services in Ireland from overseas within the EU generally must ensure that VAT is being accounted for on the reverse charge basis (this is where a business ‘self-accounts’ for the VAT due on the supply). This requires an entry in both Box T1 (VAT on Sales) and Box T2 (VAT on Purchases) on the VAT return. Reverse charge provisions must generally also be operated when VAT registered businesses import services from outside the EU. In addition, some domestic Irish supplies require the business recipient to reverse charge account for the Irish VAT.
Where a business has full input VAT recovery operating the reverse charge mechanism represents a cash flow neutral obligation as the Box T1 and Box T2 entries cancel each other out. However, where the business receiving the supply has restricted or no input VAT recovery entitlement, an absolute VAT cost arises. It is therefore very important that this mechanism is accurately applied, in particular where there is a VAT recovery restriction as failure to operate would result in a loss of revenue to the Exchequer. With this in mind, it is not surprising that this is a key area of focus for Revenue, in particular when considering businesses in the VAT exempt/restricted VAT recovery space.
ERP solutions should have functionality to ensure that these obligations are accurately managed and reported. However, where the VAT return process is manually driven the listing of foreign suppliers should be reviewed to identify the supplies upon which the business is obliged to self-account for VAT.
In addition, it is also necessary to complete the European movement/flow reporting boxes on the VAT return. The net euro values of goods and services supplied to, or received from, businesses in other EU Member States must be declared in the statistical boxes (Boxes E1, E2, ES1 and ES2). A failure to complete these boxes can lead to queries from Revenue, albeit there is no attached VAT liability. Consideration should also be given to potential requirements to file VIES (no threshold – any value of zero-rated supplies to the EU) and detailed Intrastat returns (Arrivals: €500,000 per annum, Departures: €635,000 per annum).
5. Failure to make an adjustment for unpaid purchases (six month+ supplier rule)
Where a taxpayer deducts VAT in a return but has not, within six months of the end of that VAT accounting period, paid the supplier for the goods or services, then the amount of VAT originally claimed as a deduction should be adjusted. The adjustment equals the proportion of VAT which relates to any unpaid supplier invoices, or part thereof. Once the invoice has been settled a re-adjustment can be made to reclaim the VAT incurred. This area must therefore be closely monitored on an ongoing basis where reclaiming VAT on an invoice basis (as opposed to a paid basis). It is also important to bear in mind that Revenue are entitled to impose interest on over claimed VAT refunds.
6. Invoicing and maintenance of adequate supporting documentation
Businesses should always ensure that the invoices that they are issuing meet all the legislative requirements to be considered a valid VAT invoice and that the VAT rate attaching to the supply is correct and can be substantiated. For example, a copy of a customer’s valid VAT56B authorisation must be retained on file, and quoted on the face of the sales invoice, to support the zero-rating of qualifying supplies to authorised persons. Evidence that goods supplied have actually left Ireland must be retained for all zero-rated intra-Community supplies and exports. This latter requirement has become all the more relevant with the introduction of the EU Quick Fixes since 1 January 2020, which among other things requires suppliers to be able to produce two items of non-contradictory evidence, prepared by two different independent parties, to prove that a supply is destined for another EU Member Sate. See our article on these new changes for further information.
7. Annual return of trading details (RTDs)
Failure to file the statistical return referred to as the Annual Return of Trading Details (RTD) can lead to delays in VAT (or any other taxhead) refunds issuing, tax clearance certificates being revoked/denied and amendments to the withholding tax rates for businesses registered for Relevant Contracts Tax (RCT). In addition, similar to the non/late/incorrect filing of VAT returns, failure to submit the RTD may trigger Revenue investigations and ultimately lead to a Revenue audit.
8. Revenue verification checks
Revenue regularly issue standard VAT verification checks where taxpayers are in a VAT refundable position in their first VAT return, are in a regular repayment position or where the repayment is relatively significant or unusual expenditure has been flagged when filing the VAT return. Failure to address these standard queries in a timely manner can result in unnecessary delays in receiving VAT repayments and ultimately may go against a taxpayer’s compliance history in raising their risk profile.
Make 2020 the year of reducing VAT risk
Awareness of common pitfalls, operating VAT in a tightly controlled environment and ensuring employees are appropriately trained as well as being kept up to speed with changes in practice and legislation cannot be underestimated and should assist with significantly reducing the risk of errors in the VAT compliance process.
Given the complexities involved with the accurate operation of VAT it is no surprise that taxpayers will however discover VAT errors at some point. The most minor of errors can lead to significant consequences with the key being taking timely action and engaging with Revenue to ensure full disclosure and co-operation when regularising matters with a view to mitigating sanctions (which depending on the circumstances may include interest, penalties and/or publication). See further our recent article on Revenue audits, disclosure and the penalty regime.
With all of the above in mind, it is therefore highly recommended that businesses conduct regular VAT reviews to ensure compliance with all obligations and correct operation of VAT. The VAT team at Deloitte has extensive experience in VAT Compliance health checks, VAT Smart Review where we help to identify any potential risks, provide assistance to mitigate these risks whilst also identifying any opportunities to improve processes or recover additional VAT.
Should you have any queries on the contents of this article, which is but a snapshot of some of the common pitfalls and key recommendations, or find yourself contemplating what a 2020 VAT vision should look like please contact Ciara McMullin, Alan Kilmartin or any of our Deloitte VAT specialists to discuss further. Rather than be reactive be proactive!