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Cite as: [2011] UKFTT 399 (TC)

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Neshama Music Ltd v Revenue & Customs [2011] UKFTT 399 (TC) (21 June 2011)
VAT - PENALTIES
Default surcharge

[2011] UKFTT 399 (TC)

TC01254

Appeal number: TC/2010/05998

VAT- default surcharge – reasonable excuse- held no; proportionality issue: adjourned.

FIRST-TIER TRIBUNAL

TAX

NESHAMA MUSIC LTD Appellant

- and -

THE COMMISSIONERS FOR HER MAJESTY’S

REVENUE AND CUSTOMS Respondents

TRIBUNAL: CHARLES HELLIER (TRIBUNAL JUDGE) HARVEY ADAMS

Sitting in public at Holborn Bars , London on 20 October 2010 and 31 march 2011

Danny Shine, company secretary of the Appellant, for the Appellant

Jonathan Holl at the intial hearing and Steve Brager at the resumed hearing for the Respondents

DECISION

Introduction

1. The Appellant appeals against a default surcharge of £1,147.84 imposed by the Respondents in respect of the period 1 September 2008 to 31 November 2008 ( the “11/08”period), being 10% of the VAT due for that period.

2. This is the final and full decision of the tribunal in this appeal. At the intieial hearing of the appeal the Appellant raised the question of whether the surcharge was proportionate, At that time the tribunal had released a decision in the case of Enersys Holding UK Limited in which it had held that the surcharge in that case should be set aside because it was disproportionate. HNRC had sought permission to appeal the dicision which had been granted and the hearing of the appeal by the Upper Tribunal was awaited. Having heard the parties on the other issues we adjourned the appeal and prodiced a Direction in which we recorded the facts as we had found them and our conclusions on the other issues and directed that the Appellant had leave to argue the Proportionality issue after the Upper Tribunal had released its decision in the Enersys appeal,.

3. But HMRC later abandoned the Enersys appeal. The tribunal admisistration therefore relisted the adjourned appeal so that we could hear the parties’ arguments on the proportionality issue. This decision is a full decision in the appeal and replicates the passages in our earlier direction dealing with the facts and the issues argued at the earlier appeal.

4. The resumed hearing of the appeal was listed by the tribunal admisnistration for hearing after 2pm on 31 March 2011. Another appeal was also listed for the same time. We heard the other appeal first. Mr Braeger, who appeared fro HMRC at the adjourned appeal told us that Mr Shine had turned up for the hearing but after waiting a some time had left at about 3.15pm. We are sorry that Mr Shine had to wait and was unable to stay until we had finished the first appeal, but in the circumstances it seemed just to continue the resumed appeal.

The Provisions of VATA

5. Section 59 VATA provides for the imposition of a “default surcharge”. Mr Shine found this terminology legalistic and confusing. We can quite see his point. The surcharge is in layman’s terms a penalty or a fine. It is not called such for rather arcane reasons. In this decision, so that our meaning may be clear to Mr Shine and those who assist him, we call it a penalty. The relevant part of section 59 provides:

“(1) Subject [to a provision irrelevant to this case] if, by the last day on which a taxable person is required in accordance with regulations under this Act to furnish a return for a prescribed accounting period-

(a) The Commissioners have not received that return, or

(b) The Commissioners have received that return but have not received the amount of VAT shown on the return as payable by him in respect of that period,

then that person shall be regarded for the purposes of this section as being in default in respect of that period…

(2) Subject to [irrelevant provisions], subsection (4) below applies in any case where-

(a) a taxable person is in default in respect of a prescribed accounting period, and

(b) the Commissioners serve notice on the taxable person (a “surcharge liability notice”) specifying as a surcharge period from the purposes of this section as period ending ion the first anniversary of the last day of the period referred to in paragraph (a) above and beginning, subject to subsection (3) below, on the date of the notice…

(3) If a surcharge liability notice is served by reason of a default in respect of a prescribed accounting period and that period ends before the expiry of an existing surcharge period already notified to the taxable person concerned, the surcharge period specified in that notice shall be expressed as a continuation of the existing surcharge period and, accordingly, for the purposes of this section, that existing period and its extension shall be regarded as a single surcharge period.

(4) Subject to subsections (7) to (10) below, if a taxable person on whom a surcharge liability notice has been served-

(a) is in default in respect of a prescribed accounting period ending within the surcharge period specified in (or extended by) that notice, and

(b) has outstanding VAT for that prescribed accounting period,

he shall be liable to a surcharge equal to whichever is the greater of the following, namely, the specified percentage of his outstanding VAT fro that period and £30.

[(5) sets the “specified percentage at 2%,5%,10%, or 15% according as the relevant default is the first, second, or third , or fourth or subsequent default in the surcharge period in relation to which VAT was paid late.]

[(6) defines the “outstanding VAT – on which the penalty is calculated by the application of the relevant percentage – ass the VAT due for the period which has not been paid on time.]

(7) If a person who, apart form this subsection, would be liable to a surcharge under subsection (4) above satisfies the Commissioners, or on appeal , a tribunal, that in the case of a default which is material to a surcharge-

(a) the return or as the case may be the VAT shown on the return was despatched at such a time and in such a manner that it was reasonable to expect that it would be received by the Commissioners within the appropriate time limit, or

(b) there is a reasonable excuse for the return or the VAT not having been so despatched,

he shall not be liable to the surcharge…”

6. Section 71 VATA restricts the scope of the phrase “reasonable excuse” by providing that for the purposes of section 59 ( and other sections irrelevant to this appeal):

“(a) an insufficiency of funds to pay any VAT is not a reasonable excuse, and

(b) where reliance is placed on any other person to perform any task, neither the fact of that reliance nor any dilatoriness or inaccuracy on the part of the person relied upon is a reasonable excuse.

7. The Court of Appeal made clear in the Steptoe case that the effect of section 71 is not to prevent the reason for an insufficiency of funds or the failure of a person relied upon constituting a reasonable excuse, although whether it does will always depend upon the circumstances.

Our Findings of Fact

8. We had before us a bundle prepared by HMRC which contained copies of correspondence between the parties. We heard the evidence of Mr Shine. From that evidence we find as follows.

9. The Appellant was late in paying the VAT shown as due on its VAT returns for the quarters 05/07, 11/07, 08/08, and 11/08. It was late in delivering its VAT return for 08/07. The delay in its payment for the 11/08 quarter was five days: the payment was made on 12 January 2009 by electronic means and was due on 7 January 2009.

10. On 13 July 2007 HMRC despatched a surcharge liability notice (see section59(2) VATA quoted above; henceforth we abbreviate this to “SLN”) to the Appellant specifying a surcharge period ending on 31 May 2007. HMRC despatched notices extending the surcharge period (see section 59(3) VATA quoted above; we call these “SLEN”s) following the late payments for 08/07, 11/07, and 08/08, which extended the surcharge liability period so that it lasted until 31 August 2009.

11. We find that it is likely that these documents were received by the Appellant. Mr Shine recalled the receipt of at least one of them. In relation to the earlier part of the period concerned Mr Shine told us that an accountant was engaged to deal with VAT, and in the later part an employee had that task. We find it likely that these notices were received by or entrusted to the accountant or the employee.

12. Although the service of the relevant SLN and SLENs created a surcharge period which entitled HMRC to assess a penalty for each of the periods 08/07, 11/07, and 08/08, no such penalty was assessed. HMRC have a policy of not assessing this penalty when the amount of it would be less than £400 except where the 10% penalty rate applies.

13. On 3 November 2008, 17 days before the end of the 11/08 period in relation to which the penalty is under appeal, Mr Shine or someone on behalf of the Appellant, telephoned HMRC’s National Advice Service. He said that he had received a “surcharge liability notice extension for VAT for 08/08 and didn’t really understand it. He was told that it meant that he “needed to be on time with your returns and payments for the next four periods in order to avoid the financial penalty.”. We conclude that Mr Shine or someone on behalf of the Appellant made the call: HMRC’s summary of the call records “Daniel Shine (Comp Sec)” as making the call on that day; in the transcript of the recorded conversation the caller identifies him or herself as Sam, and says that he or she holds the position of Company Secretary. Mr Shine explained to us that he was the company Secretary of the Appellant. We find that the call was made by Mr Shine or someone on behalf of the Appellant.

14. Mr Shine told us, and we accept, that he found the language of the SLN and SLEN difficult to understand. We accept that it does not have the immediate appeal of an advertising billboard and requires careful reading.

15. The VAT returns sent to the Appellant had on them an emboldened statement that the taxpayer could be liable for a financial penalty if the return or the VAT payable was late.

16. On the reverse of each SLN and SLEN are notes which explain the penalty regime under headings: “What is a default,…What will happen if I default…How is the surcharge calculated [explaining the increase from 2% to 15%] …Is there a minimum amount [explaining that assessments will not be issued for less than £400 except for the 10% penalty]”.

17. The Appellant’s employee who prepared the VAT return for 11/08 was on vacation during the Christmas period during which the VAT return and payment would normally have been finalised.

18. In late December 2008 Mr Shine’s eldest daughter was ill in hospital.

The Appellant’s submissions

19. Mr Shine’s principle argument was that the imposition of the penalty was, in the circumstances, unjust. The Appellant had been only a few days late in paying its VAT for the 11/08 period. A penalty of 10% of the VAT for a few days delay was unfair, uncommercial and disproportionate. Further the imposition of a penalty required fair warning: the notices from HMRC were written in legal goobledegook, not in language an ordinary person would understand: even the word “default” was confusing – most people these days would understand “default” to mean a position to which one returned if no change was made, as in a default setting on a computer. Had he known that he would suffer a 10% penalty for late payment he would have ensured (as he has since) that payment was made on time.

20. In correspondence with HMRC Mr Shine also relied upon the absence of the employee who completed the VAT return and the illness of his daughter.

Discussion

21. We start by considering the words of section 59. We will turn to Mr Shine’s submission that it operates unjustly later.

22. It is clear to us that the section imposes a 10% penalty if a taxpayer has been served with an SLN and SLENs which create a surcharge period in which he is late in paying VAT on three occasions, and that an SLN or SLEN may only be served if the taxpayer has been late in paying VAT or in delivering his return.

23. We have found that the Appellant was late in paying VAT or in delivering its return on a number of occasions and that SLN and SLEN were served on him relating to those events. A surcharge period was created and the late payment for 11/08 was the third late payment in the period. As a result a penalty under section 59(4) is assessable. There were three occasions on which VAT was paid late, so the rate of penalty is 10%. The VAT due was £11,478.44, so the penalty is correctly determined at £1,147.84.

24. As a result of section 59(7) the penalty will not be assessable, and the default ignored if the Appellant has a reasonable excuse for its failure.

25. We note that the section speaks of a reasonable excuse for the VAT not having been despatched, not a reasonable excuse for the taxpayer not having known about the penalty. Thus whether or not the Appellant knew of or understood the penalty provisions is irrelevant to determining whether or not it has a reasonable excuse. Therefore the failure or otherwise of the notices to explain the penalty provisions clearly is irrelevant to whether or not the Appellant had a reasonable excuse for its failure to pay on time. Even if it were relevant, in our view it would be reasonable for a taxpayer to consider those notices slowly and carefully; on such careful consideration it would be reasonable for a taxpayer to realise that penalties could accrue for future late payment. Further, in our view, the notice on the VAT return itself gives a clear warning of a possible penalty. Even if the taxpayer did not understand the SLN or SLEN form, the conversation with HMRC’s National Advice Service contained a clear warning that a penalty would be assessable if the next payment of VAT was late. We do not therefore consider that the Appellant has a reasonable excuse on the grounds that the forms were not well understood by the Appellant.

26. We do not consider that the absence on vacation over the Christmas period of the employee dealing with the VAT returns provides a reasonable excuse. It would have been reasonable for a taxpayer to take steps to ensure that its VAT administration was completed before the employee went on holiday or that someone else took over the role during the period of the holiday.

27. The illness of a relation could in our view, in appropriate circumstances give rise to a reasonable excuse for a failure. In this case however, we did not find that the illness of Mr Shine’s daughter in late December constituted such an excuse. The evidence before us did not indicate that her illness had prevented the return being completed either by Mr Shine or by an employee or an external accountant.

28. We are somewhat perturbed by HMRC’s policy of not assessing small penalties. The legislation provides initially for small penalties which later escalate for a good reason. That is that the smaller penalties serve to make the taxpayer aware that delay will cost him something – to provide a small shock so that a later large blow may be avoided. We considered whether the failure to assess the 2% and 5% penalties could constitute a reasonable excuse on the basis that it would lull the taxpayer into a false sense of security, a feeling that despite his delays no penalty would arise, that HMRC had acquiesced to his failures. However, whilst it seems to us possible that, in appropriate circumstances, this might be the case, Mr Shine’s evidence was, not that he construed the SLENs and the notes on the back in this way, but that he did not understand them. He cannot therefore have been led into a false sense of security. No reasonable excuse therefore arises on this ground in this case.

29. We therefore conclude that section 59(7) affords no escape for the Appellant and on the words of section 59 the assessed penalty is payable.

Proportionality

30. We now address the argument that the provisions of section 59 provide for a disproportionate penalty in this case.

31. The relevant principle is broadly this: provision in relation to VAT made by a member state which deprives a citizen of his property may be struck down where it goes further than is necessary in order to achieve its objective, but in considering this question it must be recognised that member states have the widest possible margin of appreciation for determining what penalties are appropriate to underpin the functioning of the VAT system operating in their own country. The test is expressed slightly differently in the various judgements: is the penalty devoid of reasonable foundation? or is it not merely harsh but plainly unfair?

32. In Enersys Holdings UK Ltd TC00385, the tribunal held that a penalty was disproportionate could and should be set aside, without concluding that the surcharge system as a whole was defective. In that case it struck down a default surcharge on the grounds that it was wholly disproportionate to the gravity of the offence, not merely harsh but plainly unfair. Its imposition went further than was necessary, even allowing a wide margin of appreciation to achieve the objectives of the state. In that case the taxpayer made a mistake and paid one day late and, as a result incurred a penalty of some £130,000.

33. In Kaisen Search Limited TC/2010/09331 the tribunal said at [29]:

“We note that in Enersys the conclusion that the default surcharge in that case was “wholly disproportionate to the gravity of the offence” (paragraph 69) shows that the Tribunal considered, as we do, that in deciding whether a penalty is disproportionate it is necessary to do what the default surcharge regime does not, which is to consider:

The “gravity of the default: in particular to what extent the taxpayer was at fault;

How long the VAT was outstanding;

The amount of the surcharge relative to the wealth of the defaulter”

34. We find this list helpful. Whilst the issues to be considered on any occasion may not be limited to those listed, the list is a good starting point

35. How grave was the Appellant’s default? It had been late in paying VAT on three previous occasions and had been notified that if it defaulted again it could be liable to a penalty. It found the notices difficult to understand, but did not attempt to remedy that by careful study. There had been confirmation of the possibility of a penalty in a telephone conversation with HMRC. The Appellant must have known that it was important to pay its VAT on time. But there was no suggestion that it took any extra care to make sure its VAT was paid on time in the relevant quarter. The employee who prepared the VAT return was on holiday in the relevant period. The delay was not caused by a simple mistake but was attributable to the failure of the Appellant to take reasonable steps to ensure that previous defaults were not repeated. The failure was not deliberate, and Mr Shine may have been somewhat preoccupied by his daughter’s illness: it was not a very serious failure but there was a degree of culpable negligence in the Appellant’s lack of action.

36. How long was the VAT outstanding? In this case it was paid five days late. This was not a deliberate delay but it was not the case of a slip which was rectified the next day, or of a failure to push the right key on the computer to transmit the funds until one minute past midnight. The delay was not neglible.

37. How harshly does the penalty bear upon the Appellant? Its VAT returns disclose the following turnover and net liabilities: