Changes to VAT on Refunds – What you need to know

On 1st September 2019, the rules for VAT on refunds were amended. As an e-commerce business owner, you need to be aware of how this affects your business and your VAT returns.

It’s been a transitional few year for VAT. In April 2019, the Making Tax Digital initiative (MTD) came into play and now there have been amendments made to VAT on refunds. Hopefully, you’ve read our article on VAT on samples and gifts, but refunds are another story.

Additionally in January 2023, a new penalty-based points system was introduced for all VAT returns that are submitted late.

What is VAT?

Value added tax, otherwise known as VAT, is a goods and services tax imposed on most goods and services in the UK. The standard VAT rate in the UK is 20%.

However, some goods and services, such as children’s car seats and home energy, are charged at the reduced rate of 5%.

Food products and children’s clothes are among the items charged at a 0% VAT rate.

Why amend VAT on refunds?

VAT guidance is always being amended to ensure it is as straightforward as possible while closing loopholes and discouraging fraud. The new VAT on refunds amendments is to prevent incorrect VAT reporting if the sales price was reduced to below that of initial sale before the refund was given. Technically, a price increase would also lead to an incorrect VAT return, but only a drop in sales price would be beneficial to a business owner and therefore an incentive for fraud.

How has VAT on refunds changed?

In the event of a customer requesting a refund when the sales price has increased, a debit note must be issued “no later than 14 days after the price increase”. You must account for the VAT on the increase in the VAT period in which it occurs.

If a decrease in price occurs between the sale and the refund taking place, a credit note must be supplied, again within 14 days from the price decrease taking place. You must again account for the VAT in the correct period.

If your e-commerce business fails to issue a debit or credit note within the 14-day limit or fails to post the appropriate entries to its accounts, then the error must be dealt with per the guidance on VAT return errors.

The full HMRC brief can be found here.

How does this affect e-commerce business owners?

In e-commerce, prices tend to fluctuate within a comfortable range continuously in order to match competitors’ pricing (such as on eBay or Amazon FBA) or to accommodate price fluctuations in the product itself due to exchange rate issues or Brexit uncertainty. Seasonal sales are also a familiar sight. E-commerce also has a high turnover of refunds compared to brick-and-mortar stores. The combination of the two means it has historically been very hard for e-commerce business owners to enter accurate VAT returns. However, the new guidance is a stern reminder to you and all e-commerce business owners to stay on top of their accounting transactions.

E-commerce VAT returns

VAT for e-commerce businesses is an intricate process with many rules to follow. You may be trading internationally, sending free samples, using multiple selling platforms and receiving goods from outside of the UK. All VAT registered businesses must be submitting accurate VAT returns electronically via an MTD-approved app, such as Xero. If you are unsure of the guidance for any of these issues, we recommend having an e-commerce specialist accountant submitting returns for you.

Next steps

If you’re struggling with VAT returns for your e-commerce business or would like help porting your accounts over to Xero, please get in touch. We can also provide guidance on upcoming legislation and help you plan for Brexit.