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If a business does not pay its supplier, it must repay HMRC the input tax claimed

A business can only keep the input tax it has recovered on a supplier’s invoice if it pays the bill within six months of the date of the invoice, or if later the date on which payment became due. If you do not pay your supplier within that time limit, you must refund the input tax on the outstanding invoice to HMRC (s 26A and regs 172F–J).

The business makes the refund to HMRC by adding an appropriate negative amount of input tax to box 4 of the VAT return for the period in which the repayment came due. If the business has made a part payment, the refund required is based on the outstanding proportion of the invoice.

If and when the business does pay in whole or in part, it can then reclaim the input tax, or such proportion of it as relates to the part payment. In practice, this of course means that a business has a period of grace between the date on which the time limit runs out, and the end of the VAT period in which it happens, during which, it can pay the supplier and thereby avoid having to make the refund and subsequent reclaim.

Although this rule is designed to prevent the recovery of input tax on invoices which were never intended to be paid, it will also catch those cases where, for genuine business reasons, invoices remain outstanding for long periods. A basic planning point is, therefore, for the accounting system of a business to include a monthly review of all invoices still unpaid after six months.

Extract from Bloomsbury Professional VAT Tax Handbook Provided FREE to all ICPA Members.

By Andrew Needham