Contentious Tax Bulletin

In our contentious tax bulletin, Andrew Park, Tax Investigations Partner at Price Bailey, provides an overview of the most recent and significant contentious tax news, legislative changes, updates, and relevant case decisions that occurred throughout the previous month.

What Happened in September 2023

HMRC Initiatives and New Legislation

• New “nudge” / “one-to-many” letters – Gift Hold-over Relief

HMRC have started issuing intervention letters to people who have made deficient claims of Gift Hold-over relief in their 2021/22 Self-Assessment tax returns. These state:

“Our records show that you (either):

• haven’t submitted the relevant claim form, which is required for any claim to GHO to be valid
• submitted the relevant claim form, but it’s not signed, which means the claim for relief isn’t valid

This means your claim is unlikely to be accepted, and you may need to pay tax on the capital gain on the disposal of that asset.”

The recipients are notified that they will either need to submit amended Self-Assessment (SA) returns, removing the claims, or submit the separate signed claim forms as required. If they do not comply, HMRC may either amend the return to remove the claim or initiate an enquiry that could result in a penalty.

Except where a gift is in a settlement, the transferor and the transferee will need to sign the form to confirm the agreement for the transferee to accept the held-over capital gain. Of course, they may not always have had that conversation.

Anyone still determining whether or not they qualify for Gift Hold-over Relief and how to make a claim should seek professional advice properly. Making weak and unsubstantiated speculative claims for tax relief can result in significant penalties even where HMRC reject the claim at the outset.

• HMRC are trialling use of “para 16” powers to reject R&D claims without enquiries or dialogue

HMRC have confirmed that they are now trialling the use of powers held under FA 1998 Sch 18 para 16 to correct “obvious errors” in a new way to reject R&D claims HMRC has reason to believe are incorrect. Previously, this power has been used little except for correcting the most obvious and basic of errors.

The use of “para 16” powers will not require HMRC to formally open an enquiry into claims or even to enter into any dialogue with the taxpayer and their advisors. The onus will then be on taxpayers to force the issue, amend their tax returns to reinstate the claims, and likely force HMRC to open enquiries. Taxpayers will need to be very confident of their position before taking such action, and there is a risk that legitimate claimants will be scared away.

Case Decisions

• Kenan Altunis v HMRC – [2023] UKFTT 00719 (TC)

It is difficult for HMRC to prove participation in aggressive tax avoidance is fraudulent. Albeit, in the Kenan Altunis v HMRC civil penalty appeal at the First-Tier Tribunal (“FTT”), maybe the Revenue might have fared better if they’d argued the taxpayer had acted fraudulently by virtue of completing “the return recklessly, not caring whether it be true or false” rather than instead arguing he had made a false representation in his 2007/08 tax return. The tax return included a claim for scheme-generated losses of £5,344,836.

The Tribunal found the taxpayer to be an intelligent, rational, a sophisticated investor – as one would expect of someone who held a senior role at a major City bank. Moreover, it found him to be an evasive and unconvincing witness who had clearly understood that he was participating in a loss creation scheme, he understood its purpose and participated on that basis. Indeed, the taxpayer obtained written assurances from Montpelier confirming it would fight HMRC were the scheme to be contested and would refund his “initial margin” (found by the Tribunal to be a fee) of 12.5% of the loss to be created – were HMRC to win. [The assurance on the fee came personally from the Chairman of Montpelier – against whom HMRC were to later unsuccessfully attempt a criminal prosecution relating to another scheme.]

HMRC argued the taxpayer had knowingly made a false representation in his SA return because he knew he wasn’t trading on a commercial basis with a view to a profit – upon which he knew the claim depended, he had obtained the fee indemnity which he had withheld from HMRC and his accountant and because the arrangements depended on a loan which was a sham. The Tribunal was not convinced that HMRC had met their burden. Where the alleged sham loan was concerned, HMRC had not run that argument during their COP 8 investigation and had not made the distinction between a loan that parties agree will not be collected and a sham agreement that does not create the legal rights and obligations it gives the appearance of creating.

The Tribunal then considered whether the taxpayer was negligent and found that he was. He knew the scheme was aggressive, and he doubted its success, but he had not sought professional advice on the scheme from anyone besides Montpelier – not even from his accountants, who he instructed to claim the loss.

In light of the negligence finding, the Tribunal reviewed and reduced the quantum of the penalties – starting with a maximum of 45% (there being a Category 2 multiplier for Bermuda) and allowing 30% mitigation – all for “co-operation”. That resulted in a revised penalty of £652,549 versus the £1,657,268 under appeal and versus a reduced penalty of £1,139,271 that HMRC were arguing for.

Why this matters

The case demonstrates that on similar facts, sophisticated taxpayers can enter into aggressive tax avoidance arrangements without the tax courts finding them to be fraudulent by making false representations on their tax returns.

However, a note of caution – the Tribunal painted an alternative argument that appeared to hint that HMRC should have run instead that in such circumstances, the actions might be fraudulent by recklessness. We can now expect HMRC to push that line of argument in the future.

• Delphi Derivatives Ltd v HMRC – [2023] UKFTT 00722 (TC)

The FTT upheld deliberate and careless penalties for operating a Clavis Employee Benefit Trust (“EBT”) scheme in Delphi Derivatives Ltd v HMRC. The scheme – which ultimately failed further to the principles established in the Glasgow Rangers case decision – had sought to claim immediate Corporation Tax deductions for the company while avoiding PAYE and NIC upon payments into the offshore EBT. It relied upon the services of a Jersey human resources company to recommend the level of rewards to key employees – including the company directors.

The deliberate penalty related to a final fourth tranche paid into the scheme after it was already under review by HMRC Specialist Investigations in 2009. Not only was it under active HMRC review, but for the scheme to succeed on its terms, it required a new independent remuneration review to be carried out before the award of each tranche payment to the EBT for the benefit of the directors. The tribunal found that the Delphi directors knew this. Still, they decided the level of their remuneration at least a week before a remuneration evaluation meeting was held to give the veneer of an independent review. That made the inaccuracy deliberate – unlike previous tranches – where the independent reviews were performed following the scheme’s operating instructions.

The Tribunal upheld HMRC’s conclusion that careless penalties applied for the earlier tranches since it found the company had fallen short of the standard of being a prudent and reasonable taxpayer in taking no action to address possible areas of risk identified by its accountant – including his suggestion of seeking advice from independent Tax Counsel. The taxpayer had sought to argue that the accountant’s letter should be interpreted merely as a professional disclaimer.

Why this matters

• The case demonstrates that:
  scheme participants who knowingly do not follow operational advice for the scheme to succeed on its own terms risk not only the failure of the scheme if it otherwise proved sound but also risk facing deliberate penalties if the scheme is found to fail on other grounds;
• not following up on professional advice highlighting tax risks puts the taxpayer in a fragile position to argue against carelessness

• P Gopaul v HMRC – [2023] UKFTT 728 (TC)

The appellant was the sole owner and director of a company trading as a take-away pizza business, which HMRC concluded had systematically suppressed its turnover and taxable profits. HMRC, therefore, raised assessments for additional VAT on the turnover and for additional Corporation Tax on the further profits and under the S455 loans to participators provisions. A tax charge arose under the S455 provisions because the appellant’s takings wrongfully extracted from the company had to be repaid to the company and were, therefore, a loan until repaid.

The appellant was pursued for the company’s related penalties – all treated as deliberate wrongdoing – under a personal liability notice (“PLN”) on the basis that all the inaccuracies were attributable to him. The company, meanwhile, had gone into liquidation and been struck off.

The FTT fully upheld the VAT element and the profit adjustment element regarding the Corporation Tax. However, the FTT found that HMRC had failed to discharge its burden to prove that the company had deliberately omitted the S455 liability from its Corporation Tax return – “there is no evidence that Mr Gopaul even knew at the time the returns were made, that the extraction of money from his own company would trigger a [S455] corporation tax charge: nothing in the correspondence discusses his knowledge or understanding, and he was not cross-examined on this point”. The Tribunal reduced the level of the Corporation Tax penalty accordingly.

Why this matters

It is already well understood that all underpayments of tax must be considered on their own facts and relevant behaviours – one act of deliberate wrongdoing does not render fraudulent every other underpayment of tax by a taxpayer merely by association. However, this decision perhaps takes that principle a step further.

The appellant was found to have deliberately understated his company’s takings with the intention of underpaying tax. However, since the S455 understatement arising as a consequence of his actions was not demonstrated to be within his understanding, that element was not found to be deliberate. A direct adverse consequence of deliberate wrongdoing was not found to be deliberate and could not be punished.

Since this is an FTT decision, its reasoning will not bind any other court, but it could prove influential. It will be interesting to see whether HMRC will try to appeal this to the Upper Tribunal.

Other News and Announcements

• Two separate Price Bailey freedom of information requests show that HMRC employ growing numbers of compliance staff and that HMRC offshore compliance activity is increasing, too

Numbers of HMRC compliance staff surge

HMRC has added over 3,000 compliance enforcement staff since the 2021/22 reporting year – a 12% increase yearly. That includes over 500 more staff added to HMRC’s Fraud Investigation Service to conduct major investigations into tax evasion and severe tax avoidance. The UK Parliament’s Public Accounts Committee has criticised HMRC heavily for its reduced compliance performance in recent years, and this major investment appears to be part of an effort to put that right.

In practice, more compliance staff will result in more targeted larger investigations where HMRC has reason to suspect wrongdoing and more routine random enquiries into taxpayers who are often fully compliant.

Further commentary on this can be found in the Daily Mail / This is Money here.

Increased HMRC offshore investigation activity

HMRC is making the highest number of information requests to foreign tax authorities in five years – up from a low of 322 in 2021 to 620 in 2022. Offshore-related HMRC “nudge” letters to UK taxpayers are increasing by nearly a third on their Covid lows to almost 24,000 in the last full reporting year.

Thanks to global financial transparency measures like the Common Reporting Standard, the easy “low-hanging fruit” of UK residents with hidden offshore bank accounts is already largely a thing of the past. HMRC now seem to be adopting a more focused approach and concentrating on particular sorts of taxpayers – such as people claiming to be non-UK domiciled or overseas companies known to hold UK commercial property but not declaring the rental income.

Further commentary on this can be found in the FT here.

What happened in July 2023

HMRC Initiatives and New Legislation

Reboot of HMRC Code of Practice 9 (“COP 9”) / the Contractual Disclosure Facility (“CDF”)

HMRC’s Contractual Disclosure Facility (CDF) provides individuals suspected of tax fraud with the opportunity to avoid possible criminal prosecution by making a full disclosure of tax fraud. Taxpayers can request the CDF proactively for voluntary disclosures, benefiting from lower penalties or, alternatively, HMRC may offer the CDF to individuals who it suspects committed tax fraud. COP9 represents an extensive and thorough tax investigation, it is not a routine enquiry.

However, HMRC are concerned that some taxpayers and advisors haven’t taken the requirements for HMRC’s flagship COP 9 / CDF civil investigation of fraud process seriously enough.

Reworded guidance spells out more strongly what is expected in return for the process’s guarantee of non-prosecution.  Greater emphasis is placed on the expectation that taxpayer’s should pay admitted liabilities early in the process and admit all non-deliberate as well as deliberate errors at the outset.

HMRC are understood to be particularly frustrated with how many improperly advised taxpayers have made initial formal admissions of deliberately underpaying tax in order to get the protection of COP 9 / CDF only to seek to attempt to later withdraw the admissions later in the process once they are no longer quite so worried about possible prosecution.

More so now than ever, nobody should enter into the COP 9 / CDF process without instructing investigation specialists.

New Draft Legislation to Increase Maximum Sentences for Tax Fraud from 7 to 14 Years

This was expected and comes as HMRC seeks to maximise the fear and deterrence value of what it calls the “criminal underpin”.

It remains to be seen if HMRC criminal investigations and prosecutions will increase significantly from their current level of c. 400 per year or how many convicted taxpayers will in future face the new longer sentences.  Indeed, the main purpose appears to be as a deterrent to increase compliance or else to ensure full co-operation with HMRC’s normally preferred civil COP 9 process.

Case Decisions

Class 1 National Insurance (NI) paid on company car allowances :
Laing O’Rourke Services Ltd / Willmott Dixon Holdings Ltd v HMRC – [2023] UKUT 00155 (TCC)

In a landmark decision, the Upper Tribunal has ruled that company car allowances are “relevant motoring expenditure” / “RME” and should be disregarded for Class 1 National Insurance purposes up to the relevant “qualifying amount” (i.e. 45p per mile applied to the number of business miles actually driven).  In these cases, which were heard together, neither company scheme had a minimum amount of business mileage nor did either scheme contractually require a car to even be purchased with the allowance – although that was the expected and anticipated use.  The Upper Tribunal found that expected or anticipated use by employees in general was sufficient for RME purposes, where claims were made in respect of employees who had done business miles.

HMRC will almost certainly seek permission to go to the Court of Appeal.  However, if this stands, employers will be in a position to reclaim tax both for themselves and their employees.  At the very least, employers should consider making protective claims pending the outcome of any HMRC appeal.  The issue also arises over how employers should calculate employee NI deductions going forward, again, likely subject to the outcome of any appeal.

For further commentary see our article covering the case decision.

Tax position on Employee Benefit Trust (EBT) loans : M R Currell Ltd v HMRC – [2023] UKFTT 613 (TC)

In this case the First-Tier Tribunal (“FTT”) concluded that a loan from an employee benefit trust (“EBT”) was taxable in full as disguised remuneration on the company director who received it.  This was notwithstanding that the loan was repayable.

Some of the loan had actually been repaid before the Hearing and used to fund taxed bonuses from the EBT to employees. The Judge was not persuaded by the argument that this scenario resulted in double-taxation and demonstrated why repayable loans should not be taxable.  He found instead that the additional tax was simply a consequence of the arrangements the parties had chosen to enter into.

Employment related tax reliefs : Jayanth Kunjur v HMRC – [2023] UKUT 00154 (TCC)

In this case, which HMRC appealed to Upper Tribunal after the taxpayer won at the First-Tier Tribunal (FTT), a dental surgeon sought tax relief for the costs of renting a second home close to his place of work.  The Upper Tribunal found that the previous FTT decision erred in law on several counts:

• the FTT had failed to make the distinction between a personal choice to incur costs and an obligation;
• the FTT was wrong to find that the costs were incurred wholly and exclusively for the purposes of the employment, since a dual purpose existed which could not be apportioned out;

the FTT had failed to understand the fundamental difference between expenditure incurred to put oneself in a position to do ones work and expenditure incurred wholly and exclusively in the performance of it.

• A useful reminder of some of the fundamental principles involved for employees seeking employment related tax relief.

Other News and Announcements

HMRC published its annual accounts for 2022/23

These make interesting reading – not least, because they are qualified for the 17^th year in a row by the National Audit Office – this time, in large part due to HMRC’s ongoing difficulty in identifying, measuring and recovering billions of pounds lost in fraudulent claims for R&D relief and for personal tax credits.

R&D relief losses – Latterly, HMRC has tripled its estimate of the annual R&D loss to c. £1billion – which relates almost in its entirety to the scheme for SMEs – generally owner managed – rather than the one for large corporates.

COVID-19 support scheme fraud – HMRC continued its work to recover monies lost to COVID-19 support scheme fraud and error during the year and raised its estimate of the total losses upwards by £0.5 billion to £5 billion.  HMRC expects to recover a total of £625 million before its special taskforce is returned to normal activities in September 2023.  After that point, fraudulent losses will still be recoverable for up to 20 years after the end of the period concerned and for up to 6 years where due to carelessness. Further recovery will become increasingly sporadic and will increasingly become part of broader HMRC investigations into wider suspected non-compliance by the business concerned.

Offshore related non-compliance – After so much focus in previous years, HMRC was silent on its work to address offshore related non-compliance.  It seems this has been deprioritised as a risk further to all the information HMRC now gets automatically from overseas tax authorities and further to all HMRC’s undoubted success in eliminating most of the “low hanging fruit” of undisclosed offshore investment accounts and aggressive tax avoidance schemes using offshore trusts and entities.  HM Treasury pledged last August that HMRC would release an estimate of the remaining offshore “tax gap” this year – that estimate is still awaited.

HMRC published data on Corporate Criminal Offences (CCO) investigations

These came into law in the Criminal Finances Act 2017 – since then there has been little visible activity.

The new release – which will now be updated biannually – shows that:

As at 30 June 2023:

HMRC currently has 9 live CCO investigations – no charging decisions have yet been made.

A further 25 live opportunities are currently under review – to date we have reviewed and rejected an additional 83 opportunities.

These investigations and opportunities span 10 different business sectors and sit across all HMRC customer groups – sectors include software providers, labour provision, accountancy and legal services and transport.