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Making tax digital – Is your business ready?

Guest blog by Terri Bruce | 5 March 2019

HM Revenue and Custom’s ambition is to become one of the most digitally advanced tax administrations in the world and it is starting this process with Making Tax Digital (‘MTD’) for VAT this year.

From 1 April 2019, many VAT registered businesses will be required to start submitting their VAT returns digitally. It is anticipated that this will be the first step in a long-term goal of requiring ‘real time filing’ of individual transactions with HMRC for all taxes.

HMRC is seeking to transform tax administration so that it is:

more effective
more efficient and
easier for taxpayers to get their tax right.

Digitalisation should also make it easier for HMRC to identify when taxpayers are making errors in their VAT returns.

What is MTD and why should internal auditors be interested?

Businesses which are VAT registered in the UK and whose taxable turnover exceeds the VAT registration threshold, will be required to use ’functional compatible software’ to submit their VAT returns to HMRC after 1 April 2019.

Functional compatible software means a software program or set of compatible software programs which can connect to HMRC systems via an Application Programming Interface (API) – often referred to as bridging software.

Businesses with more complex VAT affairs will not be required to submit VAT returns through digitally enabled software until 1 October 2019. These include:

trusts and unincorporated charities
local authorities and some public sector entities, including Government departments and NHS Trusts
public corporations
overseas businesses which are UK VAT registered but do not have an establishment in the UK; and
businesses with one or more of the following VAT profiles: VAT group registration; divisional VAT registration; those required to make payments on account; those who use the annual accounting scheme.

Digital links

From 1 April 2020, VAT registered businesses will be required to create digital links in all underlying VAT records, such as purchase and sales ledgers.

A ‘digital link’ is one where a transfer or exchange of data is made electronically between software programs, products or applications without the involvement or need for manual intervention such as the copying over of information by hand or the manual transposition of data between 2 or more pieces of software. A digital link includes linked cells in spreadsheets, or XML, CSV import and export, and download and upload of files.

In very simple terms, any numbers which make up the VAT return information must be able to be traced back to the original data by way of digital links; no human intervention is allowed in the audit trail or, as HMRC term it, the ’digital journey’.

Risks

Clearly there are a number of risks associated with this change:

Does the organisation have the ability to submit its VAT returns digitally to HMRC by the required date (April or October 2019)?
Is it able to create digital links necessary to be able to prepare VAT returns without manual intervention?

From discussions with businesses in a wide range of sectors, a number of scenarios were identified where a change to the VAT return process is likely. These include:

where the accounting software is unable to produce VAT return reports
VAT return reports produced by the accounting software are not complete or accurate
VAT records held in the accounting software require manual adjustment
accounting software will not be upgraded to be compatible with the new HMRC API platform.

The starting point for all businesses is to map the VAT return process to identify where there is currently need for manual intervention in processes. Then solutions can be explored. This may involve updating existing software or creating bespoke solutions.

Is the organisation comfortable that it is applying the correct VAT treatment to income and expenditure and that its historical VAT returns are complete and accurate? If not, there is an opportunity to identify and correct any potential issues before MTD goes live and avoid HMRC intervention and penalties.

As outlined above, MTD will enable HMRC to review VAT return information much more easily and to identify potential anomalies remotely in advance of any VAT inspection.

Therefore, in addition to ensuring a business is MTD enabled, it is strongly recommended that all businesses review their VAT return process to ensure that they are complete and accurate and to make any necessary corrections as soon as they can to mitigate any penalties which may arise.

Internal audit’s role

Making sure the business has developed the correct systems and procedures to cope with MTD and has established appropriate controls in respect of VAT calculations for online submission is vital.

Independent validation of the approach and validity of the data is essential to facilitate the right outcomes for the business and avoid unnecessary or unwanted scrutiny from HMRC.

Those businesses that are ill prepared or that have not developed an effective change programmed may face greater challenge from HMRC which could prove disruptive and expensive.

Supporting management in getting MTD transformation right from day one adds value and raises the profile of internal audit. Therefore, making sure you have the skills and capabilities to assess VAT risks and the wider threats arising from MTD is essential.

A critical question for internal auditors should be:

Are we, as an assurance function, ready?