Tax practitioners will be aware that a new penalty regime was introduced in Finance Act 2007 (FA 2007, s 97 and Sch 24), which is being extended in Finance Act 2008 (FA 2008 is awaiting Royal Assent at the time of writing). It is broadly expected to apply to inaccuracies in returns (or other documents) due to be filed from 1 April 2009, where the return relates to a tax period beginning on or after 1 April 2008 (e.g. self-assessment returns for individuals in respect of 2008/09 and later years). Practitioners should therefore familiarise themselves with the basis on which penalties will be calculated, and how they can be reduced, under the new regime.
Penalties for negligently (or fraudulently) incorrect tax returns under current legislation are tax-geared based on potential lost revenue, and expressed as a percentage of the additional tax due, the maximum penalty being 100% of the culpable tax lost. This maximum percentage is subject to reductions, based on the following abatement factors as described in HMRC Leaflet IR160 (‘Enquiries Under Self-Assessment’):
- Disclosure – up to 20% (or 30% if “there is spontaneous and complete disclosure, and the taxpayer has no reason to fear early discovery” (see the Enquiry Manual at paragraph 6071));
- Co-operation – up to 40%; and
- Seriousness – up to 40%.
When negotiating the level of penalties at the conclusion of an HMRC enquiry, it helps to know those factors that could result in penalty reductions. In my practical experience of enquiries into tax returns at local area level, the level of penalty initially suggested by HMRC officers can often be negotiated down to a worthwhile extent by reference to the guidance in HMRC’s Enquiry Manual. This outlines various circumstances to be taken into account in determining the level of abatement for disclosure (EM6070), co-operation (EM6075) and seriousness (EM6080).
For example, in the case of a “full disclosure on challenge” HMRC officers are instructed that “…it may be appropriate to allow 20 percent…” in addition, factors affecting the reduction for co-operation include willingness to attend meetings, the number of occasions formal information powers have been used, and whether payments on account have been made. ‘Seriousness’ is divided into two sub-headings (i.e. size and gravity), and the guidance indicates that “…an offence which involves only a minor degree of negligence associated with muddle or confusion might, subject to size and circumstances, rate as much as 35 percent”. Of course, the Enquiry Manual does not carry the force of law. However, in some cases it may actually suit the client’s cause by seeking to treat the guidance as if it did.
There are fixed maximum and minimum penalties under the new regime (FA 2007, Sch 24 para 10), which depend on the following factors:
- Behaviour, i.e. whether ‘reasonable care’ was taken (in which case no penalty is chargeable), or whether it was careless, deliberate or deliberate and concealed;
- Disclosure category, i.e. whether it was prompted or unprompted; and
- Disclosure quality, i.e. ‘telling’, ‘helping’ and ‘giving access’
For example, the level of penalty for a prompted careless error is between 15 and 30 per cent, whereas a penalty for an unprompted careless error can be reduced from 30 to 0 per cent. When the maximum level of penalties is established under the first two bullet points, the reduction will depend on the quality of disclosure. HMRC’s guidance on penalty reductions for disclosure under the new regime is contained in the Compliance Handbook, which suggests (at paragraph 82430) that the above three elements of disclosure may be weighted as follows:
- Telling HMRC about the error (or failure to disclose) – 30 per cent;
- Helping (i.e. giving HMRC reasonable help) – 40 per cent; and
- Giving access to records – 30%
As indicated, the above are only guidelines. However, they may actually work to the client’s advantage in some cases. For example, HMRC officers are informed (at CH82431):
“There will be cases where the circumstances are such that little in the way of telling, helping and access is needed to establish the reasons for the person giving an inaccurate document and the amount of any additional tax due. You should allow the full reduction for those elements of disclosure that are not required.”�
There are similarities between ‘disclosure’ under the old regime and ‘telling’ under the new one, and also between ‘co-operation’ and ‘helping’ and ‘giving access’ respectively. The current abatement factor of ‘seriousness’ does not feature in the new regime, which is unfortunate in some cases, e.g. those involving one-off, relatively small errors. The emphasis under the new regime seems to be on encouraging a proactive approach by clients (and agents) in resolving enquiries as quickly and efficiently as possible. For example:
- HMRC state that, in the context of ‘telling’: “The person needs to show a positive approach to telling what has happened, not just reacting to questions” (CH82440);
- ‘Helping’ includes “positive assistance as opposed to passive acceptance or obstruction” and “actively engaging in the work to accurately quantify the inaccuracies” (CH82450);
- in HMRC’s view ‘giving access’ includes allowing access to “their business and other records” and their officers are advised that “…you should only seek access to records that are reasonably required for the purpose of ensuring that the document is corrected.” (emphasis added). Whether HMRC consider that access should be provided to private account statements to secure the full disclosure reduction for this category remains to be seen.
Whilst the scope for negotiating penalties is generally restricted by maximum and minimum levels, it seems likely that the level of penalty within those ranges will be difficult to predict, particularly in the early stages of the new regime. This is due to the numerous reduction factors involved, and also because those factors are relatively subjective in nature. Even though there is less scope and discretion to negotiate penalties, the scope that does exist is subject to opinion and judgement to a significant degree. Overall, I suspect that many practitioners will notice an upward trend in penalties for clients affected by HMRC enquiries.
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