In August 2016, HM Revenue & Customs (HMRC) published six consultation documents, each focusing on specific groups of taxpayers or specific elements of the Making Tax Digital1 (MTD) and Making Tax Digital for Business (MTDfB) reforms.
On 31 January 2017, HMRC published2 a summary of feedback from the MTD consultation process, the Government’s decisions in response, and HMRC’s next steps. HMRC has also published an overview of the responses3 which draws out the key conclusions from each individual consultation.
Furthermore, HMRC has reaffirmed its commitment to keep to its timeframe for implementation with regard to the proposals relating to better use of information from third party information providers. In particular, HMRC proposes to use PAYE information during the tax year to calculate whether the right tax is being paid and to notify customers where that is not the case via the digital tax account as of April 2017 (FY17) and to start including bank and building society interest (BBSI) as part of in-year calculations with effect from April 2018 (FY18).
MTD is a key part of the Government’s plan to transform the UK tax system, with the goal of making it easier for individuals and businesses to get their tax right and to keep their tax affairs current. In time, it will mean the end of the annual tax return for many individuals, partnerships and small businesses.
The Government announced its vision for modernizing the tax system at Budget 2015, and in December 2015 the Making Tax Digital roadmap4 set out how this vision for the future of the tax system would be achieved by 2020.
An earlier EY Global Tax Alert5 provides details on the six consultations.
Key parliamentary committee voices concern around “serious shortcomings” of MTD program
In related developments, the Treasury Select Committee (the Committee) on 14 January issued its report6 on the MTD strategy, noting, among other things, that “Pursuing the mandating of the digital agenda without simplifying the tax system will and already is causing consternation across the small business community, especially among those who are not able to complete tax returns online.”
The Treasury Committee is appointed by the House of Commons to examine the expenditure, administration and policy of HM Treasury, HM Revenue & Customs, and associated public bodies, including the Bank of England and the Financial Conduct Authority. Although the Committee is advisory in nature (and the Government is not bound to act on recommendations) it has historically played an influential role.
Alongside signaling a series of concerns (which the report describes as “serious shortcomings”) around the current design and implementation of MTD, the report sets out a series of actions that they expect HMRC to consider when moving forward.
The Select Committee report sets out five key recommendations that they would like to see HMRC follow:
- “First, the Government needs to abandon its plans for an initial threshold of £10,000” states the report. “The Committee has yet to see evidence strong enough to justify a threshold below the Value Added Tax (VAT) threshold, £83,000. It may exist, but the Government needs to assemble and publish it.”
- Second, the Government’s proposed timetable for implementation in April 2018 looks unachievable, according to the report. The Government should therefore accept that there needs to be a delay of the start until at least 2019/20, possibly later.
- Third, the report says, comprehensive pilots of the proposed system are essential, with full protection from anything that may go wrong for those required to participate. Furthermore, the report notes that businesses participating do so by invitation of HMRC, and argues that those who might be worst affected by MTD are the most likely to decline the offer, greatly reducing the value of the information collected.
- Fourth, the pilots should be designed to gather information over the entire reporting cycle – four quarterly updates and an end of year reconciliation. These, the report says, need to be evaluated before full implementation and Parliament needs to see the evidence that this has been done.
- Fifth, the report concludes, a fully functioning market in appropriate software is essential. This will need to include adequate free software for smaller and less complex businesses. The Government has yet to set out how this may be accomplished, the report notes.
Consultation responses and draft legislation
HMRC received more than 3,000 responses from the consultation, in-person workshops and an online survey linked to the short guide to the six MTD consultation documents.
In setting out a summary of responses7 to the six consultations, some of the key points made by HMRC are as follows:
- The introduction of MTD for partnerships with more than £10m in income will be delayed until 2020
- Businesses will now be able to continue to use spreadsheets to record receipts and expenditures, which they can then link to software to automatically generate and send their updates to HMRC – this was requested by a wide range of stakeholders, particularly small businesses and the Treasury Select Committee
- Free software will be available to the majority of the smallest businesses
- Businesses that cannot go digital will not be required to do so
- All self-employed businesses and landlords with a turnover under £10,000 a year will not have to keep their records digitally or make quarterly updates, but may do so if they wish
- The option to account for income and expenditure on a simple ”cash in, cash out” basis will be extended, helping an extra 2.5 million self-employed businesses and unincorporated landlords
- Charities will not have to keep their records digitally or make quarterly updates
- Customers will have at least 12 months to become familiar with the changes before any late submission penalties will be applied; following feedback from respondents, HMRC will also consult again in the spring on a new penalty model
- HMRC will pilot these digital systems with hundreds of thousands of businesses before rolling them out to ensure the software is user friendly, and to give businesses and landlords time to prepare and adapt
HMRC also confirmed that the Government will need to consider further issues, such as the initial exemption threshold and deferring the changes for some small businesses alongside their cost, with final decisions to be made before legislation is introduced later this year.
In addition to the detailed consultation responses, HMRC has also published draft legislation on several aspects of MTD which will be included in Finance Bill 2017. The legislation is open for consultation until 28 February 2017. Analysis below sets out where secondary legislation is required and where further clauses may be introduced.
Detailed summary of consultation responses
1. Bringing business tax into the digital age
According to the consultation responses, respondents overwhelmingly support the move to a digital tax system. The main concerns raised focused on:
- Pace of change
- Capability of the smallest businesses and those who struggle with digital technology to adapt
- Burdens on businesses
- Agents’ ability to access digital services to support their clients
- Data security when using third party software
As a result, the consultation response states that:
- Businesses will now be able to continue to use spreadsheets for record keeping, but they must ensure that their spreadsheet meets the necessary requirements of MTDfB – this is likely to involve combining the spreadsheet with software (The importance of retaining the ability to keep records in this way was requested by a wide range of stakeholders, particularly small businesses)
- Businesses eligible for three line accounts will now be able to submit a quarterly update with only three lines of data (income, expenses and profit)
- Free software will be available to businesses with the most straightforward affairs
- The requirement to keep digital records does not mean that businesses have to make and store invoices and receipts digitally, something they were particularly concerned about
- Activity at the end of the year must now be concluded and sent either by ten months after the last day of the period of account or 31 January, whichever is sooner
- Charities (but not their trading subsidiaries) will not need to keep digital records
- For partnerships with a turnover above £10 million, MTDfB is deferred until 2020
The Government will need to consider further issues such as the initial exemption threshold and deferring the changes for some small businesses. Given the range of views expressed on this matter from respondents to the consultation, the Government will take more time to consider these issues alongside the fiscal impacts. Final decisions will be made before legislation is laid later this year.
HMRC will begin piloting digital record keeping and quarterly updates for a full year from April 2017, building up to working with hundreds of thousands of businesses and landlords before rolling the services out more widely. This will ensure the software is user-friendly and gives individuals and businesses time to prepare and adapt.
The full consultation response document is available8 on the HMRC website, as is an updated impact assessment document,9 within which HMRC states that MTD will attract a one-off transitional cost of around £280 per business, while HMRC now expects MTDfB to bring in around £2 billion to the Exchequer by 2021 to 2022.
2. Tax administration (including penalties)
Respondents were supportive of proposals to replicate HMRC’s existing compliance powers under MTDfB. Legislation on this will be included in Finance Bill 2017.10
Having considered the responses to the proposals for late submission penalties, HMRC says that it recognizes that more work needs to be done and will look again at this. HMRC confirms that in order to support customers during the transition to MTDfB, customers will be given a period of at least 12 months before they are charged any late submission penalties.
Most respondents considered penalty interest to be the most attractive proposal for a late payment sanction. Current interest rules for Income Tax and Class 4 National Insurance Contributions will continue to apply. HMRC will now consult further on specific proposals for late payment penalty interest and the alignment of interest rules in 2017.
The full consultation response document is available on the HMRC website.11
3. Simplifying tax for unincorporated businesses
According to HMRC, the vast majority of respondents supported the objective of simplifying the tax system. Some were concerned about the timing of the reform in this consultation and whether businesses have the capacity to understand multiple changes at once. The Government has chosen to proceed with two of the measures published in the consultation – increasing the entry threshold for the cash basis to £150,000 and simplifying the rules on capital and revenue expenditure within the cash basis to make it easier for businesses to work out whether their expenditure is deductible for tax.
As a result of stakeholder comments, further consideration is being given to the reform to the basis period rules and measures to simplify period end reporting requirements.
The full consultation response document is available on the HMRC website.12
4. Simplified cash basis for unincorporated property businesses
According to HMRC, almost all respondents supported landlords being allowed to use the cash basis of accounting, so they only have to declare income if they have actually received it, with many supporting cash basis as the default option for landlords. The Government has taken on this approach and will extend cash basis accounting so that thousands more will be able to pay tax based simply on the difference between money they have taken in and what they have paid out. For small landlords this will mean paying tax on rent received, rather than rent due.
Although a majority of respondents supported having no entry threshold for using cash basis, others felt that the cash basis is not suitable for the largest unincorporated property businesses and that a threshold was required. The Government has therefore decided to include a maximum rental income threshold of £150,000 per property business.
The full consultation response document is available on the HMRC website.13
5. Voluntary pay as you go
In its consultation response document, HMRC states that respondents were generally supportive of the opportunity to make voluntary payments throughout the year. The majority wanted voluntary payments to be easily and speedily repayable. HMRC agreed, and has decided that a repayment will not be repayable shortly before a liability becomes due, only if the customer failed to pay on time in the previous 12 months. HMRC agrees that early repayments are better left until MTDfB is fully embedded.
There were some concerns over the proposal that HMRC would allocate voluntary payments against tax liabilities as they arose, instead of the customer, and over whether HMRC systems would ensure this was carried out in the customer’s interest. HMRC has decided to proceed with its proposal on payment allocation, believing this will reduce the need for customers to have to access their digital tax account to tell HMRC where payments should go. HMRC further states that it will ensure that robust allocation rules are in place and publicly available.
The full consultation response document is available on the HMRC website.14
6. Transforming the tax system through the better use of information
HMRC’s overarching aim is to use information already provided to them by third parties to pre-populate an individual’s digital tax account. For these purposes, third parties includes banks, building societies, pension providers, employers and, at a later stage, may also include information held by asset managers, providers of other insurance products and share registrars.
As well as using PAYE information during the tax year to calculate whether the right tax is being paid and to notify customers where that is not the case via the digital tax account as of April 2017 (FY17), HMRC plans to start including bank and building society interest (BBSI) in the in-year calculations with effect from April 2018 (FY18).
HMRC notes that there were a broad range of respondents, including agents, representative bodies, individual customers and software developers; this is evident from the consultation response itself which shows a diverse range of views from the different parties.
The consultation response does not provide significant further detail on the original proposals, in particular in relation to the key areas of concern raised by third parties such as: the frequency and format in which information is to be provided to HMRC; the ability to ‘match’ data provided; the process for error correction and the security of the transmission mechanism between third party information providers and HMRC.
The response does note that HMRC will continue to collaborate with third party information providers to ensure the effective implementation of the proposals and that HMRC will adopt a gradual phased approach to using new sources of third party information and will seek to make better use of information already held. However, in the absence of the detailed technical information eagerly anticipated by third party information providers, implementation by April 2018 is still likely to be considered a significant challenge for many businesses.
The full consultation response document is available on the HMRC website.15
Bringing business tax into the digital age: legislation overview
A further summary16 from HMRC sets out what legislative measures Finance Bill 2017 will include. In addition to the measures below where primary legislation has now been released, there will be a low income exemption from digital record keeping, as well as an exemption for businesses in liquidation. In addition, for the largest partnerships (those with turnover greater than £10m), there will be a deferral of the digital requirements until 2020.
This measure17 includes allowing the use of the cash basis to calculate the profits of a property business (up to a maximum income level of £150,000), and supporting provisions to outline what is to be recognized as income and what deductions are allowed under the cash basis.
This measure18 replaces the general disallowance of capital expenditure with a more limited disallowance of capital expenditure incurred in relation to assets which are not used up in the business over a limited period. This will apply from April 2017.
These provisions19 require businesses, the self-employed, landlords, and partnerships that have partners who pay income tax on their share of the profits to use digital record keeping tools. They also require regular updates of business profits, every three months (or more frequently if the business so chooses), to be sent electronically. There will be an exemption for those unable to comply. These measures will apply from April 2018.
A statutory instrument has also been issued, increasing cash basis thresholds for unincorporated businesses.20 This measure makes amendments to ITTOIA 2005 to set the relevant maximum threshold at which an individual can elect to calculate trade profits using cash basis accounting. The change is to increase the cash basis threshold to a fixed amount of £150,000 and the exit threshold to twice the entry threshold.
While improving taxpayer service is a clear intention of the MTD program, the mandatory nature of the changes and the move to gathering exhaustive data is clearly aligned with the Government’s aim to address the tax gap.
Overall, it seems that HMRC has listened to the responses to its consultation papers and has made positive amendments to its original proposals. However, the timeline for implementation in April 2018 is challenging, notwithstanding continuing day-to-day administration of the tax regime as well as additional uncertainty in relation to the continuing Brexit negotiations.
While it is also welcome that taxpayers will have at least 12 months to become familiar with the changes before any late submission penalties will be applied, it is clear that MTD will continue to be implemented at a high pace. Taxpayers should therefore study the consultation outcomes closely, assess their own readiness work plans and provide swift feedback to HMRC as and when any issues arise.
5. See EY Global Tax Alert, UK Government opens consultations on Making Tax Digital, dated 16 August 2016.
EYG no. 00506-171Gbl