A new penalty and interest regime will be brought in from 1 January for late filing and late payment of VAT. Emma Rawson takes a look at the changes to late-payment penalties and interest.

From 1 January 2023, a brand-new penalty and interest regime will be rolled out for late filing and late payment of VAT. This will represent a real shake-up of the rules, especially compared to the existing default surcharge regime.

While my previous article looked at the rules that will apply for late submission of VAT Returns Services, here we will look at the changes to late-payment penalties and interest.

How Will The New Late-Payment Penalties Work?

The new penalties will replace the default surcharge rules for VAT periods starting on or after 1 January 2023, with the first taxpayers to enter the new regime those in stagger group 1 and monthly filers. Any VAT due in respect of periods starting before 1 January 2023 will continue to fall within the default surcharge regime, regardless of when it is paid.

Under the new regime, there are two separate late-payment penalties – referred to as the first penalty and second penalty.

The First Penalty Has Two Separate Legs:

• 2% of the VAT unpaid at day 15
• A further 2% of the VAT unpaid at day 30.

This means that, if no payment is made until after day 30, the first penalty will be 4% of the amount due. However, if full payment is made between days 15 and 30, the first penalty will be set at 2%.

The second penalty only comes into effect from day 31. This operates rather differently and is charged daily, based on an annual rate of 4% of any outstanding amount.

The biggest change under the new regime is that, provided all outstanding VAT is paid within 15 days of the due date (or a Time to Pay arrangement is requested within that same period), no late-payment penalty will arise. There will however still be late-payment interest (see below).

Importance Of Time To Pay Arrangements

One welcome feature of the new late-payment penalty is the acknowledgement of Time to Pay (TTP) arrangements. These are effectively treated in the same way as payment when it comes to stopping the penalty clock. Provided the TTP application is ultimately successful, the date on which it is first requested is treated as the date of payment. For example, if TTP is requested from HMRC on day 14, no penalty will arise regardless of how long it takes for HMRC to approve the TTP arrangement.

However, if the terms of that TTP agreement are subsequently broken by the taxpayer, the first and second late-payment penalties will be charged as if the TTP had never had effect. This means that missing a single scheduled payment under the TTP could cause full penalties to be charged, even if all previous instalment payments under the agreement have been made on time.

Outside of TTP, if a taxpayer has a genuine reason for not paying on time, the usual provisions around reasonable excuse will apply. Taxpayers and their agents will be able to request a review by HMRC, or submit an appeal to the tribunal in respect of any late-payment penalty charged.

Period Of Familiarization

In the first year of the new late-payment penalties there will be a “period of familiarisation”. Under this, HMRC will not charge the first leg of the first penalty (the 2% at day 15) from 1 January 2023 until 31 December 2023. This means that, provided payment is made within 30 days of the due date, no late-payment penalty will arise in the first year the rules are in effect. Ordinary late-payment interest will however be charged as usual.

This soft landing may be welcome by some, especially if they are having cashflow difficulties. However, it’s unlikely to be a good idea to let clients get into the habit of paying late, not least because they might slip up when the period of familiarisation ends. Rising interest rates may also make delaying payment less attractive than it first appears.

Interest Changes

The way interest is applied to late payments and repayments of VAT is also changing from 1 January 2023, bringing it more in line with other taxes.

From that date, late-payment interest will be charged from the day a VAT payment becomes overdue until the date it is paid in full. The rate applied will be the Bank of England base rate plus 2.5%.

Alongside this, the repayment supplement will be withdrawn for accounting periods beginning on or after 1 January 2023. This will be replaced by repayment interest, which will accrue from the day after the due date or submission date (whichever is later) until HMRC makes the full repayment. This rate for repayment interest will be much lower than that for late-payment interest, being set at the Bank of England base rate minus 1% (subject to a minimum rate of 0.5%).

The much less generous nature of repayment interest (especially compared with the current repayment supplement) may come as a surprise to those used to receiving VAT back from HMRC. It also raises concerns as to whether, given HMRC’s current service levels, the reduced incentive to make timely repayments will result in taxpayers waiting even longer to receive the amounts they are due.

Next Steps

It’s a good idea to speak to VAT-registered clients now about the new penalty and interest regime. While the new late-payment penalties have some attractive features – in particular the fact that missing a payment by a few days will no longer result in a penalty – there are other aspects that could catch people out, such as the loss of repayment supplement and the harsh consequences of breaching a TTP.

We are expecting detailed HMRC manual guidance to be published on the new penalties and interest regime in December. In the meantime, a high-level prepare page has been published on gov.uk.