VAT: Incurring a financial loss by forgoing input credits?

Businesses often forgo input VAT credit if the purchase/expense invoice is more than 6 months old (or, 2 months in the case of monthly tax periods). Needless to say, such a tax position results in a financial loss to the business. Alternatively, the buyers could strain the business relations with the suppliers by asking to reissue a current dated invoice.

Such a practice to forgo credit is not just incorrect but also contrary to the specific clarifications issued by the Federal Tax Authority (FTA).

Concept of two tax-periods and the error

Input VAT credit may be recovered by a recipient/buyer in the VAT return of the tax period in which both of the following conditions are satisfied:

i) the buyer receives and keeps the valid tax invoices; and

ii) the buyer pays for the supply, or intends to make the payment within 6 months from the due date of the payment.

If the buyer fails to recover the input tax credit in the first relevant tax period then the credit can be recovered in the subsequent tax period. FTA has also clarified that input tax is only recoverable during the first two periods once the aforesaid two conditions are satisfied.

However, businesses incorrectly count the two tax periods from the date of the invoice. The two tax periods start only when both the conditions are satisfied.

Date of the invoice is not relevant

The first condition refers to the tax period in which the tax invoice is received and kept by the buyer. It does not refer to the date of issue of the invoice.

To illustrate, a tax invoice dated 25/02/2022 is received by the buyer on 15/04/2022. Assuming the quarterly tax periods of Jan-Mar, Apr-Jun and onwards, the first tax period in which the invoice is received is Apr’22-Jun’22.

Condition (i) is satisfied in the tax period Apr’22-Jun’22 even though the invoice is dated 25/02/2022.

FTA has reaffirmed the aforesaid position by clarifying that if the buyer has not received the tax invoice in the tax period when the supply was made, they may deduct the input tax in the tax period in which the tax invoice is received.

As disruptive as it may sound, the date of the invoice is not relevant for recovering input VAT credit. It is the date of the receipt of a tax invoice which is relevant.

The buyers also often ignore that the tax invoice should be in correct format. In our previous Tax Conversation on 18 Dec 2021, the importance of a correct tax invoice containing the mandatory particulars was discussed.

Importance of intention to pay

The second condition requires that the customer should pay for the invoice or has the intention to pay within 6 months from the due date of the payment.

FTA understands the practicality of business processes. A company may receive a tax invoice but may not have an intention to make the payment until the internal approval process for the invoice is completed.

In the public clarification VATP017, FTA has clarified that the second conditions will only be met when the buyer completes the internal approval process and forms an intention to make the payment within the prescribed period.

In other words, the second condition gets satisfied not on the receipt of the invoice or on the date of the invoice. It is satisfied when the internal approval process is completed and the intention to pay is formed by the buyer.

Where a tax invoice is received in one tax period and the intention to make the payment is formed in a later tax period, the two tax periods to recover input tax starts from such later tax period.

Reduce your financial losses

Forgoing eligible input VAT credit is just a financial loss to a company. Business owners should ensure that the eligible input VAT credit is not let go on an incorrect understanding of the law. The correct tax position in summarised in the attached graphic timeline.

For any input VAT credit forgone in the past, the business owners could evaluate the option to submit a Voluntary Disclosure to recover such credits and financial gains.

The writer is the managing director of AskPankaj Tax Consultants. For feedback and queries, you may write to info@AskPankaj.com. Views expressed are his own and do not reflect the newspaper’s policy.