Making Tax Digital for VAT – Digital links session with HMRC (25 February 2021)

On 14 January 2021, the Charity Tax Group held a session with HMRC on Making Tax Digital for VAT, with a particular focus on the “digital links” requirements, which will become mandatory from April 2021.

The slides from the meeting are available here and a recording of the session can be viewed here (approx 1 hour). The VAT Notice (on Making Tax Digital) referred to by Verna can be accessed here and relevant extracts from the guidance are reproduced below. All charities subject to MTD reporting requirements should read this guidance.

A follow-up session on Thursday 25 February 2021 (slides available here and a recording of the session available here) provided an opportunity for charities to get their questions about digital links answered directly by HMRC. Questions were grouped into themes including:

  • the nature of a digital record,
  • what is a permitted digital link,
  • when does the digital journey start,
  • what manual adjustments are permitted
  • what steps do charities need to take to demonstrate compliance.

[Extracts from HMRC VAT Notice 700/22: Making Tax Digital for VAT]

Data transfer or exchange within and between software programs, applications or products that make up functional compatible software must be digital where the information continues to form part of the digital records. Once data has been entered into software used to keep and maintain digital records, any further transfer, recapture or modification of that data must be done using digital links. Each piece of software must be digitally linked to other pieces of software to create the digital journey.

It follows that transferring data manually within or between different parts of a set of software programs, products or applications that make up functional compatible software is not acceptable under Making Tax Digital. For example, noting down details from an invoice in one ledger and then using that handwritten information to manually update another part of the business functional compatible software system.

A ‘digital link’ is one where a transfer or exchange of data is made, or can be made, electronically between software programs, products or applications. That is 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. This could be a transfer or exchange of data within a business (for example, between 2 systems) or a transfer of data to a tax agent in order that they can prepare a VAT Return or make a calculation (for example, a Partial Exemption calculation).

A digital link includes linked cells in spreadsheets, for example, if you have a formula in one sheet that mirrors the source’s value in another cell, then the cells are linked.

HMRC also accepts that the following are digital links:

  • emailing a spreadsheet containing digital records so the information can be imported into another software product
  • transferring a set of digital records onto a portable device (for example, a pen drive, memory stick, flash drive) and physically giving this to someone else who then imports that data into their software
  • XML, CSV import and export, and download and upload of files
  • automated data transfer
  • API transfer

This list is not exhaustive.

HMRC does not consider the use of ‘cut and paste’ or ‘copy and paste’ to select and move information, either within a software program or between software programs, to be a digital link.

The following rule has the force of law:

A digital link is an electronic or digital transfer, or exchange of data, between software programs, products or applications.

The use of ‘cut and paste’ or ‘copy and paste’ does not constitute a digital link – except during the soft landing period as set out in paragraph 3 of the next ‘force of law’.

The following rule has the force of law:

  1. If a set of software programs, products or applications are used as functional compatible software there must be a digital link between these pieces of software.
  2. The rule in paragraph 1 (above) does not apply during the soft landing period in paragraph 3 (below) except where the data to be included in any of the boxes of the VAT Return has been prepared within a software program, product or application, and this data is then transferred to another program, product or application in order to submit the VAT Return data to HMRC via the API platform.
  3. The soft landing period begins for VAT periods starting on or after 1 April 2019 (or 1 October 2019 if HMRC has given a specific direction to a business to start following the Making Tax Digital rules from that point), and ends for VAT periods starting on or after 1 April 2021.

4.2.1.2 VAT calculations made outside of software

HMRC recognises that there may be points during preparation of your VAT Return when calculations will have to be made outside of any software you use to keep the digital records, or there may be a need to enter data into your software from particular sources. For example a capital goods scheme adjustment calculation done in a separate spreadsheet may need some form of input by hand into the software that will send your VAT Return information to HMRC.

For VAT periods starting on or after 1 April 2021 your systems must use digital links for any transfer or exchange of data between software programs, products or applications used as functional compatible software, as stipulated in legislation.

Businesses with complex or legacy IT systems may require a longer period to put digital links in place across their functional compatible software. These businesses can apply for additional time to put the required digital links in place (subject to qualifying criteria). If your business qualifies then the additional time will be granted as a specific direction.

If you acquire another business (for example, your business purchases another company) it may take additional time to digitally link different software applications or packages to meet MTD legal obligations. HMRC will consider specific direction applications outside of the soft landing period(s) where more time is needed to comply with digital link requirements following the purchase of another business.

The cost alone is not sufficient reason to issue a specific direction. Business are expected to make every effort to comply with the digital links requirements by the end of the soft landing period.

Further details regarding digital links can be found at section 4.2.1.

Criteria

To be considered for a specific direction, you will need to:

  • make a formal application to HMRC as soon as possible for an extension and by no later than the end of your soft landing period
  • explain why it is unachievable and not reasonable for you to have digital links in place by the end of the soft landing period, for example, why does commercially available software not meet the digital link requirement for your business?
  • submit details of the systems that are unable to be digitally linked (provide a current map of your existing VAT systems, highlighting the exact areas that cannot be digitally linked)
  • provide a clear explanation and timetable for when and how you will become fully MTD compliant (ordinarily no later than one year from the end of their soft landing period)
  • state the controls you will put in place to ensure any manually transferred data is moved accurately and without error

What is unachievable and not reasonable

What is unachievable and not reasonable will depend on the individual circumstances for example where a:

  • component part of the businesses IT system is not capable of importing and exporting data from another part of the IT system and it is not possible to update or replace that non-compliant component (or supersede that part of the system) by the end of the soft landing period
  • business is in the process of updating or replacing its IT system and the planned implementation date for the new IT system is not before the end of the soft landing period

This is not an exhaustive list.

Cost alone is not sufficient reason to issue a specific direction. You are expected to make every effort to comply with the MTD requirements by the end of the soft landing period. A specific direction in relation to digital links is only intended to be issued in exceptional circumstances.

How to apply

You will need to:

  • understand what the obligations are for Making Tax Digital; this may mean consulting HMRC guidance (VAT Notice 700/22) or your Agent (if you have one)
  • email [email protected] to request an application form,with your business name and VAT Registration number – businesses with an allocated Customer Compliance Manager (CCM) should request a form directly from their CCM
  • work with your CCM if you have one (for Large Business customers and relevant Mid-Size, Public Bodies customers) to submit all the required information with your application.
  • be aware of any issues that could delay an application ,such as, internal sign-off, delays in obtaining system process maps – see examples of system process maps

A specific officer will be allocated to review the application provided that it has been completed in full.

Once the above information has been submitted HMRC will:

  • formally review the information provided
  • discuss the information with respective Customer Compliance Managers, where relevant
  • ask for further information or evidence if necessary
  • issue the direction as appropriate

Where it is not considered appropriate to issue the specific direction, HMRC will let you know the reasons for their decision.

All applications will be considered on a case-by-case basis.

Businesses should ensure they progress their plans to become digitally linked while waiting for a formal response from HMRC.

4.4 Adjustments

Where you are allowed or required to adjust the input tax claimed or output tax you owe according to the VAT rules you must record this adjustment in functional compatible software. Only the total for each type of adjustment will be required to be kept in functional compatible software, not details of the calculations underlying them.

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. However using software for all your calculations will reduce the risk of errors in your returns.

The following rule has the force of law:

Where the input tax claimed or output tax due on a supply has been changed as the result of an adjustment you do not need to amend the digital record of the supply.

Example 1

A partly exempt business software allows it to record amounts of VAT relating to both exempt and taxable supplies. At the end of the period they complete a partial exemption calculation and put the adjustment into their return. The calculation is not completed in the software. The business does not have to go back and change each line in the software to reflect the amount of recovery on each invoice.

Example 2

A business has a software package that requires a period to be closed before the return can be completed. After the period has been closed the business is calculating adjustments before submitting the return. Invoices are found that should be included on the return. The business can enter the figures as an adjustment to ensure the return is correct, but they must record the invoices in their functional compatible software to complete their digital records.

This relaxation only varies the requirements on maintaining records using functional compatible software. It does not change any other record keeping requirements set out in VAT legislation.

4.4.1 Correcting errors

Error corrections are made by one of 2 methods.

For more information on correcting errors, refer to VAT Notice 700/45: how to correct VAT errors and make adjustments or claims.

The following rule has the force of law:

Where a business makes an error correction using method 2, they are not required to amend the input tax claimed or output tax charged recorded in the digital record of the supply.

Example 3

A business notices an error in its records. The total value of the error is £65,000 so the business must correct the error using error correction method 2. The business does not have to make any changes in its functional compatible software, but must keep all records as normal.

This relaxation only varies the requirements on maintaining records using functional compatible software. It does not change any other record keeping requirements set out in VAT legislation.