As an expert accountant working for a prominent accounting firm in the UAE, we were approached by Company Y with significant exposure to VAT penalties due to errors made by their previous accountant. When reviewing their VAT filings and financial records, we discovered multiple violations that could potentially lead to heavy penalties, jeopardizing the company’s financial stability.
Key VAT Errors
- Input VAT on Non-Deductible Expenses: The previous accountant had claimed input VAT on various expenses that are not allowed under the UAE VAT Executive Regulations, such as employee meals and gifts, leading to inflated VAT refunds.
- Failure to Apply Reverse Charge Mechanism (RCM): The company imported services from non-GCC suppliers but did not apply the Reverse Charge Mechanism (RCM) as required under the UAE VAT Law.
- Incorrect VAT on Exported Goods: VAT at 5% had been applied to exports to countries outside the GCC, which should have been zero-rated under Article 45.
- Missing Bad Debt Relief: VAT relief on bad debts was not claimed, despite having unpaid invoices for over 12 months. As per Article 64, VAT can be recovered on bad debts if they remain unpaid for more than six months.
- Late VAT Filing and Payments: The company consistently filed late returns, and VAT payments were often delayed, attracting significant administrative penalties.
Heavy VAT Penalty Consequences
Due to these issues, the company faced exposure to severe administrative penalties. Cabinet Decision No. 49 of 2021, which amended the penalties regime under Cabinet Decision No. 40 of 2017, introduced mechanisms to reduce some penalties for voluntary disclosures, but penalties could still reach up to 300% of the unpaid tax.
Solutions – Mitigating VAT Penalties
Step 1: Submit Voluntary Disclosures
The first step I took was advising the company to submit Voluntary Disclosures for all periods with errors. This allows for correction before an audit by the Federal Tax Authority (FTA). Timely voluntary disclosure can significantly reduce penalties.
- Penalties for Incorrect VAT Returns: I amended the VAT returns for all periods where incorrect VAT was applied on exports, services, and input claims. Instead of facing a fixed penalty of AED 1,000 for the first occurrence and AED 2,000 for subsequent errors, as per Cabinet Decision No. 49 of 2021, the company faced only a percentage-based penalty on the VAT difference.
- Reverse Charge Mechanism: I applied the Reverse Charge Mechanism (RCM) on all imported services and voluntarily disclosed the previous errors. This resulted in a much lower fine, reducing the company’s exposure from 300% to 2-4% of the VAT amount, as Article 10 of Cabinet Decision No. 49 of 2021 allows penalties to increase based on the period of non-compliance.
Step 2: Negotiate Penalty Redetermination
I applied for redetermination of penalties. I prepared a detailed report to the FTA, showing the company’s commitment to compliance and improvement in its VAT processes.
For late VAT payments, the penalties previously calculated at 2% of the unpaid tax on the first day after the payment was due, followed by 4% per month thereafter, were capped to prevent them from exceeding 300% of the tax due.
Step 3: Implement VAT Compliance Processes
To ensure future compliance, I implemented an internal VAT compliance framework with strict timelines and checks:
- Monthly Reconciliation: We conducted monthly VAT reconciliations between the accounting system and VAT returns to ensure all sales, purchases, and exports were correctly reported.
- Automated Alerts for VAT Filing: Automated reminders were set up to ensure that VAT returns were filed on time, avoiding late submission penalties, where each late filing could attract a minimum fine of AED 1,000.
- Training for Finance Staff: I conducted training on VAT treatment of exports, the Reverse Charge Mechanism, and bad debt relief to ensure ongoing compliance with the latest FTA guidelines.
I was able to significantly reduce the company’s penalty exposure. The company’s penalties dropped from over AED 1.5 million to less than AED 300,000. Additionally, by proactively engaging with the FTA and demonstrating a commitment to compliance, we avoided any negative impact on the company’s reputation.
This case demonstrates the importance of proper VAT compliance in the UAE. Cabinet Decision No. 49 of 2021 provides valuable relief mechanisms for businesses facing administrative penalties, but only if they act proactively. Accountants must remain vigilant in understanding VAT regulations, especially in areas like input VAT claims, reverse charge, and export treatment, to avoid severe financial repercussions.
