Technical Officer LITRG and Chartered Tax Adviser
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The pros and cons of loan charge spreading

If taxpayers elect to spread the loan charge over three years, they may pay less tax, particularly now, as one of those years will be 2020/21. But could such an election lead to a red flag for a tax investigation?

4th Sep 2020
Technical Officer LITRG and Chartered Tax Adviser
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In his report on the loan charge, Sir Amyas Morse recommended that: “Taxpayers should be entitled to opt to spread their outstanding loan balances over three years, to mitigate the impact of taxpayers paying tax at a higher rate than they ordinarily would. This reduces the effect of stacking their outstanding loan balances into a single year, which artificially created an increased exposure to a higher rate of income tax.”

Nightmare doesn’t end

A controversial and confusing feature of the loan charge is that it does not actually go away by paying for it. If there is an open tax enquiry or assessment, those underlying enquiries or assessments will still need to be dealt with. Basically, making a spreading election in these circumstances may not really benefit the taxpayer as much as you might think.

However, LITRG understands that from 2016/17 onwards, HMRC did not routinely challenge tax returns where loan arrangement use was suspected, in view of the loan charge coming in. This means that many of the workers LITRG is concerned with – agency workers put into loan arrangements by umbrella companies, typically in later, rather than earlier years – will not currently have any open enquiries or assessments with HMRC and so could benefit from the spreading elections.

Low year

Clearly, if the taxpayer’s income has been adversely affected by the coronavirus in 2020/21, they could now save even more tax by spreading the charge into 2020/21: for example, if their loan income, when added to any other income they have, falls within the £12,500 personal allowance.

Risk of assessments and enquiries

If taxpayers opted to spread, and thereby save tax, would HMRC follow what one might regard as the spirit of the Morse recommendations and not look to open tax enquires or assessments? On the other hand, would HMRC try and force a settlement of the underlying tax liability – thereby collecting the tax ‘saved’ by using the spreading provisions? 

In this latter scenario, although people will get a credit for any tax they have paid under the loan charge, they will end up paying the settlement amount, if this is larger.

Not only would this reverse the benefit given by spreading the loan charge, but it could actually leave people financially worse off than if they had opted to declare the whole amount in 2018/19 (because historic interest and potentially penalties will come into play). It also means that such workers, and their advisers, would face the prospect of having to deal with an enquiry or assessment.

Off-payroll comparison

There would appear to be a precedent for this type of intervention by HMRC with the introduction of the off-payroll working. In that case, HMRC gave reassurance to contractors that IR35 enquiries from previous years would not automatically be triggered when individuals start paying employment taxes under the off-payroll rules for the first time following the reform of the rules.

What will HMRC do?

LITRG has given some thought to this and based on current known practice, we think that for the foreseeable future HMRC's resources will be largely focused elsewhere – for example, taxpayers who used disguised remuneration but are no longer in the scope of the loan charge and where HMRC has protected their position.

In this regard, it is worth noting that the 'August 2020' settlement terms for users with disguised remuneration liabilities that are not subject to the loan charge, have recently been published and you can find more information on settlement terms and how to settle

We also expect HMRC to be looking closely at 2018/19 returns, to check compliance with the loan charge where it thinks there has been non-compliance or partial compliance, or for other purposes (eg an omitted capital gain). They may well also open enquiries into 2019/20 and 2020/21, where appropriate if a taxpayer elects to spread the loan charge and there are risks that suggest the returns are not correct.

Risk assessed

Whilst we could not give a blanket reassurance that HMRC would never use it’s enquiry or assessment powers for 2016/17 and 2017/18, taking all of this together, we think the risk of HMRC opening an enquiry or assessment (where possible) solely for the purpose of recovering the ‘saved’ tax where people have made a spreading election, is fairly low. However, it is something that you should be aware of when advising clients.  

Further help

For further hints and tips to help you move your clients through towards the 30 September deadline, and for more on how the coronavirus situation might impact on their position, for example, with regards to payment arrangements and forward interest, see comment by LITRG Loan charge: where are we now?

Replies (3)

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By gordo
07th Sep 2020 13:28

The spreading of the Loan Charge is not only of no value to taxpayers with open years, it could actually be a trap and end up with them paying more tax. If a taxpayer has an open year then HMRC will allow them to spread the loan charge, then be back at their door in year 4 for more tax. The additional tax over and above the loan charge could end up meaning that the taxpayer pays more than they would otherwise have been paid in settlement. HMRC have threatened to issue closure notices on Gross Invoice value and not on just the loans.

I also suspect many unrepresented taxpayers will be completely unaware and may be devastated to find HMRC back knocking at their door in year 4. I am concerned because I know that there have already been seven reported suicides.

It is not exactly in the spirit of the Morse Review that the three year spreading is only open to some. You said: “Taxpayers should be entitled to opt to spread their outstanding loan balances over three years, to mitigate the impact of taxpayers paying tax at a higher rate than they ordinarily would. This reduces the effect of stacking their outstanding loan balances into a single year, which artificially created an increased exposure to a higher rate of income tax.”. It is staggering that HMRC are not bringing this to the attention of the taxpayers (or MPs) and I am very disappointed than none of the Professional Institutes have spoken out about this.

Now, in light of your article, I am equally disappointed to note that LITGR seems to have just brushed this off as only happening to those you don't really have any compassion for : " "This means that many of the workers LITRG is concerned with – agency workers put into loan arrangements by umbrella companies, typically in later, rather than earlier years – will not currently have any open enquiries or assessments with HMRC and so could benefit from the spreading elections."

Should the Institutes not be pointing out that this appears to punish compliance and hardly seems to be "fair" or in the spirit of the Morse review? Those who most likely have open enquiries will be those who made full disclosure to HMRC. Those who will be able to benefit from the 3 year spreading will be those who have no open enquiry, most likely because nothing was disclosed or simply luck of the draw due to HMRC failures.

Only HMRC could create settlement terms that mostly punish compliance. It would have been nice to see the Professional Institutes lend some help to make sure settlement was on an equal footing for all taxpayers.

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Replying to gordo:
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By gordo
08th Sep 2020 14:19

Those who have no open (unprotected) enquiries , either because nothing was disclosed to HMRC or because of HMRC incompetence, will pay income tax plus will also pay IHT on the same value on which HMRC have argued for income tax.

Those who have open (protected) enquiries, most likely due to full disclosure to HMRC throughout, will not only pay income tax plus pay IHT on the same value on which HMRC have argued for income tax, but HMRC will also seek back-interest (up to 20 years), plus forward interest if the taxpayer needs time to pay (so those struggling the most are further punished- HMRC adds an extra 1% to the statutory rate to cover "their risk"!), plus APN penalties (if they were unable to pay the earlier APN due to hardship HMRC still issued up to 15% in penalties despite a Court stay that prevented HMRC pursuing collection of the APN due to that hardship).

The Institutes have said nothing. Now LITRG seems to have said....not our problem.

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By Magog
08th Sep 2020 10:06

Interesting - 2 excellent replies to the views expressed by the writer.

The lack of further comments highlights the widespread lack of understanding regarding this issue.

“Gordo” clearly knows what he’s talking about.

On the other hand, it is apparent that Sir Amyas Morse (and the tax advisers giving him support regarding the report) did not understand what they were writing about in relation to the three-year spreading.

The writer of the above article refers to “the spirit of Morse”.

This is something to which senior HMRC officers refer in discussions with practitioners. They talk about “the spirit” because they know, like us, that the spreading provisions do not deliver any practical benefits to taxpayers with open enquiries. The Morse report completely misses the point in relation to the law. Rather an important omission I would suggest.

If the intention (let’s call it the spirit) of the Morse report was to soften the loan charge blow by spreading the loans over three years, the only way that could be achieved for ALL taxpayers would be to make the loan charge full and final settlement.

In truth, that, or a variation thereof should have been the conclusion of the Morse report. It would have brought the matter to an end for taxpayers and HMRC.

HMRC’s resources could then be devoted two other important tasks including but not restricted to helping taxpayers manage reasonable payment plans over a maximum of three years, to meet the full and final liability. Instead, there’s a Band-Aid solution which means that HMRC will be duty-bound to close the enquiries at a later date, and surprise surprise, assess a further liability.

As a result, the spreading provisions as enacted in the legislation, are nothing more than glorified APNs dressed up as an apparent accommodation to taxpayers (and MPs) where none exists.

Uninformed taxpayers with open enquiries will almost certainly fall into the trap of going through process of “taking advantage” of the spreading provisions and even potentially enter time to pay arrangements. Yet remarkably, the existence of the open enquiry enables HMRC to come back later, perhaps at a politically acceptable time when all coordinated opposition to the loan charge has gone and get a very large second bite at the cherry.

It is no coincidence that HMRC refuses to confirm that where an open enquiry exists, declaring the loans and electing to spread these over three years, is not full and final settlement. They can’t confirm this because the law prevents them from doing so. The law is on their side because they have an open enquiry and this makes the spreading provisions fatally flawed from the outset.

This was all preventable.

Informed tax input would have prevented this from occurring. Ironically, on this occasion, HMRC is not to blame. They need informed tax input from taxpayer advisers who are prepared tell the truth in order to keep them right - or more to the point, ensure that Parliament asks the right questions at the right time.

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