Making Tax Digital - are you ready for Digital Links from 1 April 2021?

Lisa Ferguson


Making Tax Digital - are you ready for Digital Links from 1 April 2021?

HMRC’s aim is to modernise the tax system. Their objective is to ensure all businesses and individuals get their tax right and encourage them to keep on top of record-keeping.

Since the introduction of Making Tax Digital for VAT (taxable turnover over £85k), there has been three key phases:

  1. Maintain records digitally (from 1 April 2019)
  2. Submit VAT returns using compatible software (from 1 April 2019)
  3. Adoption of digital links (from 1 April 2021)

Businesses should have been complying with the first two steps outlined above for some time now. However, there has been some confusion around what constitutes a ‘digital link’ required in the third step.

Businesses originally had a ‘soft-landing’ period until 1 April 2020 to ensure digital links were in place. However as a result of COVID-19, on 31 July 2020 HMRC announced the extension of digital link compliance to 1 April 2021.

So what is a digital link?

HMRC provide the following definition:

Data transfer or exchange within an between software programs, applications or products that make up functional compatible software must be digital where the information continues to form part of the digital records”

“Once data has been entered into the software used to keep and maintain digital records, any further transfer, recapture or modification of that data must be done doing digital links. Each piece of software must be digitally linked to other pieces of software to create the digital journey”

In essence, the manual intervention of copying over by hand or manual transposition between two or more pieces of software is no longer allowable. Once data is entered into the software, any recapture must be done via digital links. So once the digital record keeping journey begins, you will need a digital link to be able to transfer this over to other software.

Acceptable digital links

Below are some of the examples which are deemed acceptable by HMRC:

  • Emailing a spreadsheet containing digital records so it can be imported into another software product
  • Portable devices such as USB and giving this to someone else (potentially your accountant) who then imports into software
  • Downloaded files which can be exported and imported into another software without the need for manipulation – such as XML or CSV
  • API transfer between software packages. An API (Application Programme Interface) allows two applications to communicate with one another and access data. Example being HMRC system collecting data from another software.

There are situations where manual adjustments are required, for example partial exemption adjustments. You can make these manually but only if the software can’t do this itself. If you are calculating adjustments out with the system, then you still need to manually adjust the software once the overall effect is known. This is in line with HMRC traceability aim of having a digital audit trail.

Please click here to see a list of possible permitted adjustments - please note that this list is not exhaustive so please refer to VAT Notice 700/22.

What isn't acceptable?

Due to the risk involved, HMRC do not consider the use of ‘Copy and Paste’ to be a digital link. Reason being is this can result in information being incorrect by simply clicking on the wrong thing.

A common misconception is that by using a spreadsheet and then a system (such as bridging software) to submit a VAT return results in you complying, however this isn’t necessarily the case. For electronic VAT accounting to exist, functional compatible software must be used. This software program must be able to:

  • Record and preserve digital records
  • Provide to HMRC information and returns from data held in those digital records by using the API platform.
  • Receive information from HMRC using the API platform.

What is functional compatible software?

Some of the software products available on the market can perform all of the above listed functions, however others only perform some. An example here could be a spreadsheet where it is capable of recording and preserving digital records, but it doesn’t in its own right have the capacity to provide HMRC with information. You can still use a spreadsheet but as it is only a component of the functional compatible software, you need to get other software to use in conjunction be able to send this information to HMRC.

Scenario based examples

The following are digital link examples which show how digital links can be achieved in different system set-ups:

As you can see from the above examples, to meet the full requirements of MTD, you don’t necessarily have to maintain digital records in one program – they can be held in a range of compatible formats. It is the linking of these records which then form a digital link.

This does not mean the end of spreadsheets, however you really need to find software that is the best solution for you! Investing in software would not only assist with compliance but could also create efficiencies and more meaningful reporting.

What do I need to do?

Ahead of any submissions with a VAT period start date of 1 April 2021, a review should be performed to identify any potential digital gaps. Due to there already having been a soft landing period, where possible these gaps should be rectified urgently as it is expected that HMRC will be enforcing penalties for non-compliance. Please get in touch with us if you require any assistance with the above.  

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