A consultation by HMRC on proposals that could require most businesses to pay VAT and PAYE return liabilities by Direct Debit in future has now closed. No resulting changes have yet been confirmed but what was it about, and what might arise? Let’s take a look.

HMRC says their aim is to reduce late payment, prevent tax debts from arising and make the payment process more automated. If the consultation is taken forward, it could affect a large number of VAT-registered businesses and employers that currently pay by bank transfer, debit card, corporate credit card or other methods.

What’s being proposed?

HMRC’s consultation considers whether Direct Debit should become the standard required method for paying VAT and PAYE return liabilities.

The government’s view is that, once a Direct Debit mandate has been set up, payment can be collected automatically after the relevant VAT return or PAYE submission has been made. It believes this could reduce late payments caused by missed deadlines, manual errors or incorrect payment references.

HMRC says that most businesses pay on time, but some submit their returns by the deadline and make the payment late. The consultation suggests that Direct Debit could reduce the administrative work involved in making individual payments and help prevent avoidable interest, penalties and follow-up contact.

However, this remains a proposal. The consultation was conducted at the policy-design stage, before draft legislation or a confirmed start date.

How could this affect VAT payments?

At the moment, businesses can pay VAT using several methods, including bank transfer, debit or corporate credit card and, in certain cases, standing order, cheque or cash. For businesses that file online and use Direct Debit, HMRC normally collects the payment three days after the usual VAT payment deadline and confirms the collection date and amount at least three working days beforehand.

The consultation asked about the effect of making Direct Debit mandatory for VAT payments and why businesses that could use it may choose another payment method.

For many businesses, the main practical issue is likely to be cash-flow management. A Direct Debit offers convenience and can reduce the risk of forgetting to make a payment, but it also requires the business to ensure sufficient funds are available on the collection date.

What about PAYE?

The consultation similarly considers requiring employers to pay PAYE by Direct Debit.

Currently, employers can use Direct Debit, bank transfer, debit or corporate credit card, cheque and, in some circumstances, payment at a bank or building society. Larger employers are already required to pay electronically, although not necessarily by Direct Debit.

Where a Direct Debit has been set up, HMRC would normally collect monthly PAYE shortly after the 22nd of the month. If an employer files its PAYE return after the 19th, collection would generally be four working days after the return is filed. HMRC says that it would notify the employer of the amount and collection date no later than three working days beforehand.

For employers operating payroll, the potential benefit is greater automation. The potential drawback, again, is that payroll liabilities can vary significantly from month to month, so businesses would need clear cash-flow controls and confidence that their RTI submissions are accurate before collection takes place.

Possible exceptions

The consultation recognises that Direct Debit will not be suitable in every case.

The UK Direct Debit scheme can only be used with UK bank accounts. Businesses without a UK bank account, including some overseas businesses, cannot use it. The consultation also seeks views on exceptions for people who are digitally excluded, including because of disability, age, remote location or religious beliefs.

There is also a £20 million limit on individual Direct Debit payments under the BACS scheme. If mandatory Direct Debit were introduced, liabilities above that amount would be excepted and other electronic payment methods would remain available.

VAT businesses using the Payments on Account scheme are specifically included in the consultation. These rules generally apply where annual VAT liability exceeds £2.3 million. However, there is currently no Direct Debit facility for their Payments on Account or balancing payments, so further work would be needed before a change could be introduced.

Penalties and payment dates

The consultation also asks whether there should be incentives or sanctions to support a mandatory Direct Debit system.

One option would be a penalty where a business that is not exempt pays by another method, even if the tax is paid in full and on time. Another option would be to restrict existing extended payment deadlines to Direct Debit users only.

For example, VAT payments made electronically usually benefit from an additional seven days to pay where the VAT return is also filed electronically. The consultation asks whether this extension could be limited to Direct Debit payments. It also considers whether the PAYE electronic-payment deadline of the 22nd of the month should be restricted in a similar way.

NB: Please do note that these are currently consultation questions, rather than agreed policy. There is no confirmation at this stage that penalties will be introduced or that payment deadlines will change.

What should businesses do now?

No immediate action is required. Existing VAT and PAYE payment methods remain available while HMRC considers the responses it has received. Nevertheless, it would be sensible for affected businesses to:

• Review how they currently pay VAT and PAYE.
• Consider whether Direct Debit would fit with their normal cash-flow processes.
• Ensure the business bank account and online HMRC access arrangements are up to date.
• Check that VAT returns, payroll records and RTI submissions are accurate and submitted on time.
• Maintain sufficient visibility over upcoming VAT and PAYE liabilities, particularly where payments vary from month to month.

We’ll continue to monitor HMRC’s response to the consultation and any subsequent announcements. If the proposals progress, there will be further information on the final scope, exceptions, implementation timetable and any changes to payment deadlines before any implementation date.