What Businesses Must Know About The Updated VAT Penalties

HMRC has introduced important updates to its VAT penalty and interest system that came into effect in April 2025. These changes build on the penalty regime first introduced in January 2023 and are designed to tighten compliance by raising both the late payment penalty rates and daily interest charges.

For businesses, this means that keeping on top of VAT obligations has become more critical than ever. Even small delays in filing or paying can now result in higher costs, making it essential to understand how the rules work and how to avoid unnecessary fines.

The VAT Penalty Points System

One of the most significant changes is the penalty points system for late VAT return submissions. Each late submission now adds points to a business’s record. Once the points reach a set threshold, a penalty is applied.

The thresholds depend on the frequency of VAT returns:

Annual VAT Returns – Two points before a penalty is triggered. To reset the points, two consecutive annual returns must be filed on time.
Quarterly VAT Returns – Four points are allowed. Businesses must file four consecutive quarterly returns on time to reset.
Monthly VAT Returns – Five points is the threshold. Resetting requires six consecutive monthly submissions on time.

Reaching the threshold results in a £200 fine. After that, every late VAT return will automatically generate another £200 penalty until both the reset conditions are met and all VAT returns from the previous 24 months have been submitted.

There are a few exemptions where points are not issued, such as the first VAT return for newly registered businesses, a final return when cancelling VAT registration, or one-off irregular returns.

Late Payment Penalties

HMRC has also increased penalties for late VAT payments. Businesses now face:

No penalty if paid within 15 days, although daily interest is still charged.
From day 15 to day 30, a penalty of 3% of the outstanding VAT due (previously 2%)
After day 30, another 3% charge on the remaining VAT

Beyond 30 days, a second penalty applies. This is now calculated at a daily rate of 10% per annum on the unpaid balance until the debt is cleared. The combination of fixed penalties and daily charges means delays can quickly become expensive.

Higher Daily Interest

In addition to penalties, late payment interest has increased. HMRC now applies interest at 4% above the Bank of England base rate, up from 2.5% previously. This interest accrues from the very first day VAT is overdue and continues until the payment is made in full.

This higher rate is designed to encourage prompt settlement and discourage businesses from delaying payment in favour of using cash elsewhere.

How to Avoid VAT Penalties

Avoiding VAT penalties largely comes down to timely submissions and payments. Even if a business cannot afford to pay the full VAT liability, filing the return on time will prevent penalty points from being issued.

If paying in full is not possible, HMRC encourages businesses to pay as much as they can as soon as they can. In many cases, a Time to Pay arrangement can be negotiated. Provided the business sticks to the agreed plan, no late payment penalties will be charged, although interest will continue to accrue.

For VAT bills of less than £100,000, and where no other HMRC debts or outstanding returns exist, businesses can even apply online for a payment plan.

Why Professional Guidance Matters

The tightening of VAT penalties makes it more important than ever for businesses to stay compliant. However, navigating the rules and managing cash flow pressures can be challenging. Professional accountants can help ensure VAT returns are submitted correctly and on time, as well as negotiate Time to Pay arrangements with HMRC if required.

At Sterling & Wells, we regularly assist businesses in managing VAT compliance and planning ahead to avoid unnecessary costs. By staying proactive and seeking expert guidance, businesses can avoid the stress of unexpected penalties while focusing on growth.

Conclusion

The changes to HMRC’s VAT penalty and interest system send a clear message: late submissions and payments will be costlier going forward. With higher penalty rates and increased daily interest, businesses that miss deadlines risk seeing their liabilities grow rapidly.

By maintaining good record-keeping, filing VAT returns promptly, and addressing cash flow issues early, businesses can minimise the risk of falling foul of the rules. And with professional support, staying compliant can be far simpler and less stressful.