Chris Lane, a partner at accountancy firm Kingston Smith, offers guidance on dealing with an investigation by HM Revenue & Customs
You were surprised to receive a letter from the VAT man accusing your business of under-declaring its turnover. You discover that VAT inspectors have been carrying out an undercover exercise and have even spent time sitting in your restaurant to gather evidence on the number of customers you have.
If HM Revenue & Customs (HMRC) suspects that your business is not showing the expected level of sales and profit, it has the power to mount an investigation. The concept has been proven and accepted by case law in the past. HMRC would have compared your business to others on its database that it believes are similar. It would have then drawn conclusions on whether your numbers
The first thing is not to panic and instead consider carefully any information that HMRC has given you in its letter. The best way to deal with such a letter is to understand how HMRC has made its calculations and then to undermine these calculations with clear evidence that your business is different. Clearly, HMRC will have had to make many assumptions about your business, and these assumptions can give a wildly inaccurate position of your turnover and expected output VAT. A copy of the detailed calculations and assumptions is therefore needed from HMRC before you can challenge its accusations. You should also involve your professional advisers in the process (make sure they have experience in tax investigations), especially as you may have to give a recorded formal statement.
Once you have received a copy of the calculations and assumptions from HMRC you will need to consider every aspect and understand how it has arrived at its conclusions and then compare this to the actual reality of your business. You will need to understand the period covered by its calculations. There may be seasonal fluctuations in your business that HMRC has not taken into account.
Equally, you will need to think back and remember if there were any exceptional items in the period covered. Perhaps there was a large, one-off party in the period when HMRC was watching your restaurant, which meant that the sales were higher than average, or you were closed for redecoration during the period when it thinks you have under-declared. You will also need to consider whether the period covered by the investigation process is an unrepresentative period - for example, only weekdays or weekends.
HMRC would also have probably assumed that everyone who entered the premises also ate there, whereas some visitors may have just been viewing for a potential booking or be trade people visiting - and, of course, your friends and family may visit as well. Equally, not everybody in a group has a meal each. Factors such as this have to be built in to the model. You will also need to check that HMRC has taken into account items that have been given away free, eg, drinks to regular customers.
Another point to consider is whether there has been a recent increase in your profit margin. You may have recently increased your prices to increase your margin. HMRC will have expected the historic margin to be what it has witnessed or calculated using its model.
- Ask for professional help from a competent adviser.
- Get a copy of the calculations from HMRC.
- Understand how it has made its calculations.
- Think of ways in which your business is different.
- Prepare a formal response to HMRC pointing out the reasons why its assumptions are incorrect.
- Appeal against an assessment for VAT and appeal against a penalty assessment.
If you ignore the letter, then you have less chance of defeating the claims from HMRC and you will end up with a large VAT bill to pay.