VAT refunds – who benefits?

Posted: 10th October 2011

If you charge a customer VAT and subsequently discover that the transaction was exempt or zero-rated (so that VAT should not have been charged), can you just reclaim the output VAT paid incorrectly and keep it?

Whilst there is a right to reclaim VAT incorrectly paid, regrettably, in circumstances such as this, the answer is ‘no’. The reason for this is that the VAT overpaid has actually been paid by your customer and they should have been charged less for the goods or services concerned. If you retain the VAT, you are benefitting from ‘unjust enrichment’.
However, the position is not quite this straightforward. A refund can be claimed, if you make an agreement with HM Revenue and Customs that you will refund any VAT reclaimed to your customers. There is a fairly demanding paperwork exercise attached to this, which means, in effect, that you will have to do quite a lot of extra record-keeping but cannot derive any benefit from so doing.
Of course, the extra goodwill generated by sending your customer an unexpected refund may make it worthwhile!