Making Tax Digital: How the New HMRC Penalty System Will Work

Alongside these reporting changes, HMRC is introducing a new penalty system for late submissions and new rules for late payments. The aim is to create a fairer system that focuses on persistent non-compliance rather than penalising occasional mistakes.

Below is a simple guide to how the new penalty system will work and what taxpayers need to know.

Who Will Be Affected by Making Tax Digital?

Making Tax Digital will apply to many individuals who currently submit Self Assessment tax returns.

From April 2026, MTD for Income Tax will apply to:

• Self-employed individuals with income over £50,000
• Landlords with rental income over £50,000

From April 2027, it will extend to those with income over £30,000.

Affected taxpayers will be required to:

• Keep digital records of income and expenses
• Submit quarterly updates to HMRC
• Submit a final declaration at the end of the tax year

If you fall within these thresholds, you will need to ensure your records are kept digitally and your reporting is completed using MTD-compatible software.

Current Self Assessment Penalties

At present, if a Self Assessment tax return is submitted after the deadline of 31 January, an automatic late filing penalty of £100 is issued.

If the return continues to remain outstanding, additional penalties can follow.

From April 2027, this system will change and the automatic £100 penalty will be replaced with a penalty points system.

The New Penalty Points System

Under the new system, taxpayers will receive a penalty point for each missed filing deadline instead of an immediate financial penalty.

Key points of the new system

• Each missed deadline results in one penalty point
• For annual Self Assessment returns, a £200 penalty is issued once two points are reached
• For Making Tax Digital taxpayers, the threshold increases to four points
• Once the threshold is reached, a £200 penalty will be charged for each additional missed deadline

If a taxpayer qualifies for MTD as both a sole trader and a landlord, two submissions may be required each quarter. However, if both submissions are missed for the same quarter, HMRC will issue only one penalty point rather than two.

How Penalty Points Are Removed

Penalty points do not stay on your record permanently.

Points will reset to zero if compliance improves:

• Self Assessment taxpayers must submit the next two annual returns on time
• MTD taxpayers must submit all quarterly updates on time for 12 months
• All outstanding submissions from the previous 24 months must be filed

No penalty points will be issued during the first year of MTD implementation or during the testing period for taxpayers who voluntarily join early.

Changes to Late Payment Penalties

HMRC is also changing how late payment penalties are applied.

Current system

• 5% penalty if tax remains unpaid 30 days after the deadline
• Further 5% penalty after six months
• Another 5% penalty after twelve months
• Interest is also charged on unpaid tax

New system under Making Tax Digital

• Penalty applies if tax remains unpaid 15 days after the due date
• Initial penalty will be 3% of the outstanding tax
• Additional 3% penalty after 30 days
• Penalties increase to 4% from April 2027
• Daily penalties accrue at an annualised rate of 10%

In the first year, the 15-day penalty will not apply, giving taxpayers 30 days to pay before penalties begin.

Digital Record-Keeping Requirements

Under Making Tax Digital, taxpayers must keep digital records of income and expenses.

If digital records are not maintained, HMRC may issue a penalty of up to £3,000. This penalty is not automatic and could apply to each tax year.

If you disagree with a penalty or penalty point issued by HMRC, you can appeal on the grounds of a reasonable excuse.

Quarterly Reporting

Taxpayers within the MTD system will normally submit quarterly updates to HMRC.

• Quarterly updates should be as accurate as possible
• HMRC will not apply penalties for inaccuracies in these reports
• The final annual declaration must be accurate, as penalties may apply to errors

Time to Pay Arrangements

If you are unable to pay your tax in full, you may be able to arrange a Time to Pay agreement with HMRC.

• This can prevent additional late payment penalties
• Interest will still be charged on outstanding tax
• If the agreement is broken, HMRC may treat it as though it never existed

How to Avoid Penalties

You can reduce the risk of penalties by:

• Keeping digital records of all income and expenses
• Submitting quarterly updates and tax returns on time
• Paying any tax owed by the deadline
• Speaking to your accountant early if you may miss a deadline

Conclusion

Making Tax Digital will significantly change how taxpayers report income and how HMRC applies penalties.

Although the new points-based system is designed to be fairer, repeated missed deadlines can still lead to financial penalties. Staying organised, maintaining digital records and submitting updates on time will be essential.

If you are unsure how Making Tax Digital will affect you, speaking with an accountant can help ensure you remain compliant and avoid unnecessary penalties.

Frequently Asked Questions

What is the penalty for missing an MTD submission?

Under the new system, a penalty point will be issued for each missed deadline. Once the threshold is reached (two points for annual returns or four points for MTD submissions), a £200 penalty will be charged.

Can penalty points expire?

Yes. Penalty points will reset to zero if taxpayers meet their filing deadlines for a set period and ensure all outstanding submissions from the previous 24 months have been filed.

Will quarterly updates be checked for accuracy?

Quarterly updates should be as accurate as possible, but HMRC will not apply penalties for inaccuracies in these reports. The final declaration at the end of the tax year must be accurate.

Can I appeal a penalty?

Yes. Taxpayers can appeal penalties issued by HMRC if they have a reasonable excuse.

Need Help Preparing for Making Tax Digital?

Making Tax Digital will introduce significant changes to how income is reported and how penalties are applied.

If you are unsure how the new rules will affect you, we can help you:

• Prepare for Making Tax Digital compliance
• Set up MTD-compatible accounting software
• Ensure you avoid unnecessary penalties

Contact Stratos today to discuss how we can help you prepare for the upcoming changes.