Making Tax Digital (MTD) – VAT, TOMS and how to prepare

An insight into Provided Making Tax Digital (MTD) – VAT, TOMS and how to prepare by BETA Members Elman Wall Travel Accountants

I’m sure I won’t be the first to admit that Making Tax Digital (MTD) is not exactly a topic that “grabs” me. Many of you may not want to spent long thinking about VAT and TOMS at all so, to add in phrases like “functional compatible software”, “Application Programme Interface” and the like, means that I can’t promise the article below will be fun (other than perhaps the pictures, which are deliberately not at all relevant to Making Tax Digital). Nonetheless, as MTD for VAT comes into force on 1 April 2019, it is definitely worth educating yourself about, and ensuring that your business is prepared.

What on earth is Making Tax Digital?

In a nutshell, the idea behind MTD is that business’ VAT returns will no longer be submitted by manually entering figures into a return on your Government Gateway online account. Instead the figures will be taken to HMRC’s Application Programme Interface (API) platform by linking your general accounting software and/or other digital records to this platform. Apparently the reason behind this is because HMRC believe this will help solve the “VAT Gap” (personally I’m dubious, but I’m sure its worth a go!).

Essentially, this means that, for VAT return periods which start on or after 1 April 2019, businesses will need to ensure that the software they use can both supply and receive information digitally via HMRC’s API platform.

Obviously the degree of pain this will cause you will depend on your software supplier, general systems, and what your VAT calculation actually involves. We have felt a little bit “in the dark” about MTD for some time, and as recently as June this year, clients were still telling me that their software providers hadn’t really heard of MTD. Luckily, HMRC released some long-awaited guidance in July which also included a list of software suppliers who have confirmed they will be ready to support MTD (phew!). The full list of these providers is here, and I would expect more will start to appear as time goes on otherwise, presumably, most of their customers will leave them. The list does include popular providers such as SAGE, Xero and FreeAgent. But there are some notably absent suppliers for the travel sector. As such, I would suggest that, if your own software provider is not on the list, you query this with them or, if possible, perhaps consider changing systems.

I’ve set out below some information on how MTD may work, specifically with the travel sector in mind, but the information below will also apply more generally if your business is non-travel.

Who will MTD affect?

VAT-registered businesses with a taxable turnover above the VAT registration threshold (currently £85,000 a year).

We would assume here that taxable turnover excludes both UK exempt turnover and, more relevant for the travel sector, turnover which is outside the scope of UK VAT (often the case for many suppliers of wholesale travel packages, event organisers, and travel companies acting as agent). HMRC’s Notice also mentions that “only businesses with taxable turnover that has never exceeded the VAT registration threshold will be exempt from Making Tax Digital” – its unclear whether this should be taken literally, such that, for example, if your taxable turnover exceeding the threshold 20 years ago but now does not, this applies.

One point to note here is that, for taxable threshold purposes, the value of a TOMS supply is the margin. As such, for the purpose of determining whether your UK taxable turnover exceeds £85k, only the TOMS margin, including both EU standard rated and non EU (zero rated), is relevant. Of course, if you’re making TOMS supplies where the margin does not exceed the VAT registration threshold, you may wish to question why you are registered for VAT at all!

The rules apply equally to UK and overseas businesses.

So if I fall into MTD, what do I actually need to do?

All businesses within MTD must keep digital records and file returns using “functional compatible software” (!!). This will probably be easier for some than others, and will depend to a large extent on how you currently record and store information, and to what extent your current VAT return methodology is non-digital.

Anyway, HMRC define functional compatible software as a programme or set of programmes, products or applications which must be able to:

  • Record and preserve digital records;
  • Provide to HMRC information and VAT returns from the digital records using HMRC’s API platform; and
  • Receive information from HMRC again using the API platform.

For those who use one of the software companies listed in the link above, and whose returns rarely require any manual intervention other than downloading the information from the software system and entering it into the Government Gateway account, the changes will probably have very little impact once you have set up the new API system. (I would imagine HMRC will confirm how to do this nearer the time).

However, for most of my clients, and I expect many other businesses, there is a larger degree of manual intervention to the VAT return process, especially for those who complete a TOMS calculation. As such, a key question here will be how digital records interact with each other, especially in relation to the use of spreadsheets.

Using more than one system for your VAT return – digital links

HMRC accept that digital records can be kept in a number of formats. Where two or more programmes are used, there will need to be a “digital link” between each item of software. A digital link involves a transfer or exchange of data electronically between software programmes without any need for manual intervention. Importantly, this digital link requirement only applies in full for VAT periods starting on or after 1 April 2020. As such, for the first year of this palaver, the manual transfer of the data will be acceptable.

The main purpose of this seems to be that there is a full digital trail, and that nothing is, for example, written down by hand from one system and then entered into another. Copying and pasting a set of figures between spreadsheets, or via an email to someone, would also be unacceptable too in most circumstances (although HMRC will accept some forms of copy and paste for the “soft landing” period 1 April 2019 to 31 March 2020). HMRC will however accept that emailing a spreadsheet to someone else for them to upload to their system is okay (which seems a bit contradictory). As much of this appears quite “grey”, my advice here, therefore, is to ensure you check each stage of your proposed procedure to ensure it meets the requirements of “digital linking”.

Using spreadsheets as part of the return process

Spreadsheets can form part of a business’ “functional compatible software” for MTD purposes, many will be relieved to hear! We see spreadsheets used in the return process very commonly in the travel industry, particularly for those using TOMS. This will continue to be acceptable, albeit subject to the existence of a digital link between the spreadsheet and the other software used (once the soft landing period is over).

For “digital linking” purposes, the requirement is satisfied where cells in the two spreadsheets are linked (for example, data is downloaded into a spreadsheet from another system, and then transferred onto a second spreadsheet by a formula from the first). Hard coding cells in the second spreadsheet or “copying and pasting” cells from the first spreadsheet to the second will not work here.

Any spreadsheets used must be compatible with HMRC’s API platform, either by the spreadsheets themselves being “API-enabled” or by employing the use of “bridging products”. From a Google search, there seems to be many articles written in the context of MTD which mention these terms without actually explaining what they mean. I am not going to pretend that I do either, but there seem to be various companies promising to “turn your spreadsheets into APIs” so it is probably best to discuss the ins-and-outs of this with your software providers

What about variances to normal VAT rules

Based on the profile of all clients I have worked with over my 12 years in VAT, it is unusual for businesses to treat every single sale the same for VAT purposes, and there will normally be a few complications or one-off transactions which will not fit the mould, including partial exemption and Capital Goods Scheme adjustments, errors, and single sales with more than one VAT liability (for example for events companies where part of a sale falls within TOMS and part follows the normal rules).

HMRC set out a few examples of how this may work within the MTD regulations. The key really seems to be the workings of the business’ software system. For example if your software allows you to manually enter input VAT amounts (rather than calculate them automatically via coding) this seems to be acceptable, and splitting different elements of supplies into two separate items within the system also appears acceptable.

Interestingly(!), for “adjustments” (which include partial exemption adjustments and accruals and, presumably TOMS – see below), HMRC say: “If the adjustment requires a calculation, this calculation does not have to be made in functional compatible software. If the calculation is completed outside of functional compatible software then digital links are not required for any information used in the calculation.” It is not clear how exactly these adjustments will be transferred to the system outside of the normal digital process.

As such, although these variances appear to have been considered, it will very much depend on the individual workings of your system as to how these work alongside the MTD rules. As such, this should be considered for your own unique circumstances.

What about TOMS?

Key to the workings on TOMS and MTD will be how your calculation is normally performed, and how much of the data and calculation HMRC will ultimately accept as falling outside of the digital requirements. This is not altogether clear at the moment, and I suspect this may change and progress as MTD is rolled out. From reading the guidance however, there seems to be a number of ways this could work and, as it appears that the use of spreadsheets (so long as they fulfill the MTD requirements) is fine, it may be that there are several options for businesses to choose from.

HMRC’s specific comment on margin schemes is that “You are not required to keep the additional records required for these schemes in digital form, nor are you required to keep the calculation of the marginal VAT charged in digital form. These records must still be maintained in some format. If you do keep a digital record and your software does not allow you to record the VAT on the margin, then you will need to record the supply as either one standard rated supply and one zero rated supply. Alternatively, you can record the sale at one rate and correct the VAT through an adjustment at the end of the period.”

In one way, this is promising in that there is a degree of flexibility here for TOMS traders. As above, I would expect that the way each business approaches the recording of its TOMS VAT will be determined by their individual circumstances (i.e. what type of systems are held, and how the TOMS calculation is carried out – this varies widely between businesses) so it is important to ensure that you have considered this for your individual profile.

A few possibilities based on the current reading of the guidance could include (but please note that these have not specifically been confirmed by HMRC):

  • For businesses using the provisional rate per quarter (most common) – to the extent that your systems allow it, make up a code for the provisional % (so for e.g. if this year your TOMS quarterly calculation is TOMS turnover x 3%, you would make up a code for 3% and code all TOMS turnover to this code rather than one of the recognised rates of 0%, 5% or 20%. For the annual adjustment, then follow an option below.
  • For businesses which calculate TOMS separately for each supply or each quarter (i.e. “actuals” basis) – calculate the EU margin and non EU margin for each quarter. Manually enter into the system a sales entry for the EU net margin (i.e. EU margin x 5/6 based on the current rate of 20%) coded to the 20% rate such that the standard rate VAT is automatically calculated by the accounting system on the margin. Then manually enter into the system the non EU margin coded to zero rated.
  • Alternatively, import sales and purchase information into a spreadsheet which would calculate the margin and VAT due for each supply. The total output tax could then be transferred to a separate spreadsheet which prepares the VAT return (digitally post April 2020).
  • Or, for either type of calculation, use one of the recognised rates (e.g. 0%) and code all sales to this code. Then work out the actual amount of VAT due and make an “adjustment” (again, we’re not sure what format such an adjustment will take, but HMRC’s guidance makes it clear that “adjustments” will be a possibility.)
  • Alternatively, for either type of calculation, calculate TOMS separately and transfer the relevant data to a spreadsheet where the VAT return is calculated (similar to what many businesses do at present). Post April 2020, this would need to be submitted digitally either by ensuring that the spreadsheet used has API functionality, or by “bridging software”.

How will the return be submitted?

The return will be submitted via the HMRC API. There are a number of ways in which in this can be done:

  1. Via a commercial software package which will keep the required digital records and file the return detail;
  2. Using a bridging product which will connect digitally to the accounting software including spreadsheets) and to HMRC via the API; or
  3. Using API-enabled spreadsheets in which digital records are kept and which submit the required data direct to HMRC.

Record keeping

The MTD regulations will also require certain records and information to be kept digitally – the “electronic account”, including:

  • “Designatory information” – basic account information like business details, VAT number etc.
  • Sales information – usual ledger account information including date and VAT information.
  • Purchase information – usual ledger account information plus input VAT recovery position for each purchase.
  • Reverse charge transactions.
  • Summary data – sum totals relevant for the VAT return

Preparing for MTD

I hope your brain is now not as completely fried as mine is from researching and writing this article! Essentially, the effect and complexity of MTD will vary widely between businesses, depending on your current systems, the VAT treatment of your sales and purchases and, for TOMS traders, the complexity of your calculation.

At present, there are still many questions which are yet to be answered as to how MTD will work, particularly post April 2020 after the “soft landing” period. As such, my advice at present is:

  1. Check whether or not your software provider are on the list of MTD-ready providers. If not, make enquiries to your provide and/or consider switching systems.
  2. Ensure that you have reviewed how your software provider’s take on MTD will work (if your provider is on the HMRC list in the link above, click through to their link which takes you to their own information on MTD).
  3. Review your current return process and how this may need to change following MTD – how much of your return is done systematically? What manual involvement is there?
  4. Walk through how your return may wok digitally and check that your software and, where applicable, spreadsheets, meet the digital requirements (e.g. API-enabled spreadsheets, no hard-coding of spreadsheet cells)
  5. If there are any complexities – TOMS, partial exemption, etc., point 3 above is particularly important and you may wish to take further advice to ensure that your process is fully MTD-ready.
  6. Stay informed as HMRC release new information and, presumably, instructions in due course.
  7. Ensure you are MTD-ready by 1 April 2019!!!

If you have any questions or would like some advice on how to ensure that your business is MTD-ready, please contact me or 07415 777348.

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