This week I have been taking a look at the penalty reduction rules which replace the old concept of mitigation.
The old penalty system in relation to direct tax generally prescribes a penalty of up to 100% of the tax lost, which is then mitigated for size, gravity, disclosure and co-operation. This process ends when the new regime commences (although note that the commencement is return driven, so there will still be penalties around under the old rules for some time to come yet). The new regime provides for a strict penalty tariff based on the behaviour which led to the inaccuracy.
However, the amount of the penalty can be significantly reduced when the inaccuracy is disclosed. There is a substantial discount for unprompted disclosure, bringing the minimum penalties down to :
Where a disclosure is prompted rather than unprompted, the discount is not as generous, with the minimum penalty being half of the full tariff.
The law defines an unprompted disclosure as one “made at a time when the person making it has no reason to believe that HMRC have discovered or are about to discover the inaccuracy or under-assessment”. A disclosure which is not unprompted is prompted. (Finance Act 2007, Sch 24 para 9(2)).
When can we depend on a disclosure being unprompted when explaining to a client the penalty outcome in relation to an inaccuracy? Can the old system of making your disclosures at the commencement of a VAT visit still work?
HMRC’s Compliance Handbook Manual has some help for us on the subject at CH 82420. The general comments indicate that HMRC want to encourage unprompted disclosures (hence the substantial discount prescribed by the system). The guidance goes on to indicate that a disclosure will be treated as unprompted even if at the time it is made the full extent of the disclosure is not known, as long as the full details are provided within a reasonable time. However, officers are warned that all of the facts need to be considered before deciding if a disclosure is prompted or unprompted. "Compliance officers should apply a common sense approach in deciding whether or not a disclosure is unprompted and avoid making hasty judgements." This is good to hear, but what else has the guidance got to help us (and indeed the officer called upon to make the judgement)?
The more detailed guidance indicates that the objective test is not what the person believed but what the facts and circumstances gave him reason to believe. For example, a national campaign highlighting an area of the trading community on which HMRC will be concentrating would not stop a disclosure from being unprompted. “However a disclosure would be prompted if a person made the disclosure after
It will be exceptional for a disclosure to be unprompted if a compliance check is in progress. It will be unprompted only if the disclosure is about something the compliance officer has not discovered or is not about to discover.”
Three examples at CH82422 are quite illuminating :
Example 1
Jemima returned a capital gain which is the subject of a compliance check. There is no intention to expand the scope of the compliance check during the review. She discloses that she has not declared her car benefit. This is an unprompted disclosure.
Example 2
During a VAT assurance visit considering the credibility of Alphonse’s sales records, he discloses that his sales have also been understated for income tax. This would be related to the subject under review and so is a prompted disclosure.
Example 3
During an Employer Compliance review the employer makes a disclosure that the basis of the transfer pricing calculation for Corporation Tax is wrong. This is unrelated to the subject under review and so there is an unprompted disclosure.
So it is clear, that the process adopted by some advisers, particularly with regard to VAT visits, of screening the records pre-visit and making voluntary disclosures at the start of the visit to eliminate any risk of penalty, while effective under the current regime, will only count as prompted disclosure in future, and will therefore attract a more modest discount.
We as advisers would do well to remember that if we discover an inaccuracy, the quicker the client makes a disclosure the more likely he is to benefit from the substantial discounts for unprompted disclosure.