SME Enquiries: Avoiding disputes and agreeing a settlement. By Nichola Ross Martinby
HMRC has just set out its strategy on tax litigation and settlement. The article looks at what this means for SMEs and their advisors.
The merger of H M Revenue and Customs has been described by several onlookers as more like a reverse take over by the smaller of the two departments, and the old Revenue side is certainly keen to get its hands on those extra powers too. Radical staffing cuts are underway to cut costs, but the “leaner machine” is also appearing as a “more inflexible machine” and nowhere is this more apparent than in HMRC’s latest guidance on its “Settlements and Litigation Strategy”.
The Litigation and Settlement Strategy sets out the principles HMRC is aiming to follow for both avoiding a tax dispute where practical and also bringing a tax dispute to a conclusion. “Tax dispute” is defined in the guidance as any situation in which the taxpayer (note that we have lost the description “customer”) and HMRC do not agree. The new approach is to be more cost efficient and seek technical appraisal as early as possible.
HMRC is now going to be more picky about the cases which it selects for litigation than it has in the past, it seems. Cases will be carefully selected on their merits (risk) and:
- can close any perceived “tax gap”,
- serve a policing or deterrent role
- challenge behaviours
- establish legal principles, and
- in doing this it will also weigh up cases in terms of cost and materiality,
- will avoid weak arguments and
- try and find non-confrontational solutions.
In agreeing a settlement though, HMRC are going to take a firmer approach, the quantum of any tax at stake will not be subject to negotiation and there will be no discounts for settling quickly. The same is not true to penalties, these under the new penalty regime will be applied according to taxpayer “behaviour” and so there remains scope for mitigation of tax penalties but no compromise on your tax bill.
The litigation selection is more relevant to Large Business than small, purely because most SMEs generally are not conducting business that are complex in any way for tax purposes. This does not mean that an unsuspecting SME will not be targeted as a test case at some time in the future should it be so “lucky”. Happily, the “Jones v Garnett” type case is pretty rare, but we still have not fully explored the true extent of literally pages and pages of other tax legislation, some which might “bite” SMEs and some which may not, depending on who is demanding what at the Treasury in future years.
The good news is the fact that cases will be weighted up on a cost v benefits basis, but I predict that SME advisors will still be arguing over the £20s in small cases for years to come. You cannot avoid the problem that a full fact find will always be needed to get to the stage where a case can be subject to a full evaluation, and this will continue to be the most time intensive and costly part for the majority listed for enquiry.
Aside from costs, in SME cases the fact find is often the part where the whole case can get highly confrontational and out of hand, and if you are unlucky you can easily create a dispute prematurely. The new guidance will also not prevent inspectors threatening to litigate if agreement is not reached to their satisfaction; there is often a fine line between non-confrontation and confrontation.
In terms of "settlement", the new inflexible approach may well mean more revenue for the coffers, but at the expense that the parties will have to fight on and on. No more “deal or no deal”, and this lack of compromise will, I predict, cost more in the long run, and do little to sanitise agent/HMRC relations. The whole point of compromise is to facilitate speedy resolution, remove the compromise and you have a situation of “pay up or I’ll see you in court.”
SMEs and litigation
A quick review of what has hit the tribunals in the past year for SMEs shows that VAT cases outweigh all the others. There is no way of avoiding VAT disputes without a major re-write of the unintelligible rules, and so litigation will continue in VAT and there is little SME owner or advisor can do on this front (other than keeping studying the legislation). HMRC’s new guidance will not have any bearing on these cases which generally appeal VAT decisions or penalties.
Direct tax cases are dominated by taxpayers appealing penalties, so the new guidance is not going to affect these either, but what of other cases that pass through the court or tribunal system? Most SMEs hit the courts to appeal pretty dull things (dull in terms of legal principle) such as enquiry notices, on some technicality or another, or they try and apply for things such as applications to close enquires when the whole thing has escalated into a vicious dispute between the parties (each accusing the other of unreasonably behaviour).
One type of case that may be affected by HMRC’s new strategy are the steady stream of employment status cases that already pass through the system and there are set to be many more IR35 cases following the clamp down on managed service companies. The new CIS scheme may also throw up a rash of sub-contractor/employment status cases. HMRC has not done well fighting IR35 in the past, and the courts are now taking a fresh approach to employment status which means that it will certainly have to review its strategy. On costs v benefits basis these cases tend not to be so good for HMRC.
There will always be cases in which unrepresented employees attempt (and fail) to claim expenses wholly necessary and exclusively for the purposes of their employment. There are too the odd capital IHT and CGT cases (generally involving homes and gardens) which mainly seem doomed to failure too, again as generally the taxpayers represent themselves. It is clear though is that you generally do better if you are properly represented, but what really matters is by who.
How to lose at the Commissioners
Acountingweb member Jane Shillaker took an interest in what cases were being won and by whom when she looked at Lord Leggatt’s findings of his review into the tribunals system for her law degree, in her snappily titled "An assessment of the tribunal system in the light of the Leggatt review, with particular reference to the direct tax tribunals", her unpublished LLM dissertation. She looked at a small sample of cases and concluded that that most accountants should not try and represent their clients at the Special Commissioners. Statistically you will fail, and the reason for this, with the exception of some accountants who are specialists in their respective fields, is that accountants do not have the necessary legal experience to make and argue a legal case.
Jane says that her findings were not done on a statistical basis, and so should be taken in context, but a review of recent direct tax cases bears them out, most accountants lack legal competence.
For SME owners and advisors then, it really is time to shape up:
- Evaluate every case on its facts, and keep re-evaluating as you go
- Seek a second opinion where possible
- Think twice about representing a client yourself
- Weigh up each case on a costs v benefits approach
As tax will not be negotiable, taxpayers and their advisors will have be very careful not to give anything away, as well as paying heed to materiality and costs. Whether these will equate to HMRCs ideas of the same and quite how this will all work in practice remains to be seen.