Penalties for inaccurate returns and failing to notify taxable activity and VAT and Excise wrongdoing

Background

  • Schedule 24 Finance Act 2007 deals with penalties for errors.
  • Schedule 41 Finance Act 2008 deals with penalties for failure to notify a taxable activity and VAT and Excise wrong doing.
  • The provisions are similar. Penalties are levied depending on "culpability". 
  • The new penalty regime applies to returns for income tax, (including PAYE , NIC's and the CIS), capital gains tax, corporation tax and VAT which are submitted after 1 April 2009.  For other taxes and for failure to notify, the new regime will apply to returns submitted (or which should have been submitted) after 1 April 2010.

Penalties for errors

Old regime – tax related penalties could be mitigated by; disclosure (up to 30%); co-operation (up to 40%); and seriousness (up to 40%).  The extent of autonomy given to HMRC officers meant that this regime was operated idiosyncratically, and one of the purposes of the new statutory regime is to generate greater consistency.

New regime – applies in two circumstances. Firstly, it applies to specific documents given to HMRC in which in where tax is understated as a result of a careless or deliberate inaccuracy:

Inaccuracy despite taking reasonable care (ie. not careless) - penalty of zero.

  • Inaccuracy arising because of a failure to take reasonable care (ie. careless) - maximum penalty of 30%.
  • Deliberate inaccuracy without concealment – maximum penalty of 70%.
  • Deliberate inaccuracy with concealment – maximum penalty of 100%.
  • All of the above are subject to reductions if disclosure is made (see below).

Note that "giving a document" is broadly defined and includes information given by telephone!  Documents include most tax forms.

Of what?

The percentage applies to the "potential lost revenue". Note:

  • This is calculated before the application of group relief.
  • Errors made by HMRC in a taxpayer's favour can be netted against errors made by a taxpayer in HMRC's favour, but only in the order least favourable to the taxpayer.
  • Penalties can be charged on adjustments to losses, even if not used.

Careless? 

The test of taking reasonable care, or of being careless, is similar to test for negligence.   Ask "has the person done or failed to do something which a prudent and reasonable person would have done or failed to do in those circumstances".  If a prudent and reasonable person would have acted  in the same way as the taxpayer, then not careless.  Further guidance is  set out below.  Carelessness includes a failure to promptly disclose an error which a taxpayer  discovers, and to correct an "under" assessment within 30 days. Please click here for further details of what constitutes carelessness.

Deliberate?

Deliberate is not defined in statute but HMRC interpret it as "a deliberate inaccuracy occurs when a person knowingly and intentionally gives HMRC an inaccurate document" (CH81150).

Underassessment

The second circumstance where a tax geared penalty can be levied is where HMRC issue an estimated assessment of a person's liability, which understates that person's liability to tax, and the person fails to take reasonable steps to notify HMRC, within 30 days of the date of the assessment, that it is an under assessment.

There are statutory provisions which HMRC must consider before deciding what steps were reasonable (namely; whether the person knew or should have know about the under assessment and what steps would have been reasonable to take to notify HMRC).

HMRC suggest that they will only issue estimated assessments where a return issued to a taxpayer has not been returned, or a person is required to deliver a return, but has not so delivered it.

The penalty is paid at a flat rate of 30% of the potential lost revenue. 

Provisions like this are not new.  For example, Section 63(1) VAT Act 1994 (now repealed) dealing with the misdeclaration penalty contained something very similar.

CH81130 - Types of inaccuracy: Inaccuracy despite taking reasonable care

Where an inaccuracy in a document has been made despite the person having taken reasonable care to get things right, no penalty will be due. Examples of when a penalty would not be due include

  • a reasonably arguable view of situations that is subsequently not upheld
  • an arithmetical or transposition inaccuracy that is not so large either in absolute terms or relative to overall liability, as to produce an obviously odd result or be picked up by a quality check
  • following advice from HMRC that later proves to be wrong provided that all the details and circumstances were given when the advice was sought
  • acting on advice from a competent adviser which proves to be wrong despite the fact that the adviser was given a full set of accurate facts, see CH84530
  • accepting and using information from another person where it is not possible to check that the information is accurate and complete. However, see CH81125.

You should treat a person as taking reasonable care if

  • arrangements or systems (such as comprehensive internal accounting systems and controls with specific reference to tax sensitive areas) exist that, if followed, could reasonably be expected to produce an accurate basis for the calculation of tax due by the internal tax department, or external agent, and
  • despite the above, inaccuracies arise in processing or coding items through the person’s accounting system which result in a mis-statement of tax liability, and
  • the effect of the inaccuracies is not significant in relation to the person’s overall tax liability for the relevant tax period.

      For practical examples of an inaccuracy despite taking reasonable care, see CH81131.

Disclosure

Penalties can be reduced by disclosure to HMRC. This disclosure can be prompted or unprompted. Unprompted disclosure reduces the penalties by more than prompted disclosure.

  • The penalty for carelessness (maximum 30%) can be reduced to zero by unprompted disclosure or 15% by prompted disclosure.
  • The penalty for deliberate understatement (maximum 70%) can be reduced to 20% by unprompted disclosure and 35% by prompted disclosure.
  • The penalty for deliberate and concealed understatement (maximum 100%) can be reduced to 30% by unprompted disclosure and 50% by prompted disclosure.
  • HMRC have a discretion, subject to the foregoing minima, to reduce the penalty, and this discretion will depend on the "quality" of the disclosure (which includes timing, nature and extent).

Note that whilst for VAT and other indirect tax (eg IPT, landfill tax) purposes, the voluntary disclosure regime has changed and voluntary disclosure can be made by correcting an error on the next VAT return, such a correction will not comprise disclosure for the purpose of these penalties.  Separate and specific disclosure must be made.

  • A disclosure will be unprompted if made at a time when the taxpayer has no reason to believe that HMRC have discovered, or are about to discover the inaccuracy. 

Special reduction

HMRC may reduce a penalty if they think it is right because of special circumstances.  These do not include ability to pay, and are likely to be "extremely rare".

Assessment

  • If HMRC consider that a penalty is due, then they must now assess it and serve the assessment on the taxpayer.  The taxpayer can appeal against such assessment.
  • Before raising an assessment, HMRC should have gathered evidence to show that the document contains a careless or deliberate inaccuracy – see CH81180.
  • HMRC may suspend all or part of a penalty, but only if the inaccuracy is careless (not if it is deliberate).  This suspension can be in whole or in part, may be subject to conditions, and cannot be for more than two years.
  • If a taxpayer becomes liable to another penalty during the period of suspension, the suspended penalty becomes immediately payable.
  • A taxpayer may appeal against an assessed penalty, or a failure by HMRC to suspend.  The First Tier Tribunal has a wide discretion to suspend penalties, but a fettered discretion to reduce them.

Secondary Liability

Where a company or partnership is liable to a penalty for deliberate inaccuracy, and that inaccuracy is attributable to an officer of the company or to a partner, then the officer or the partner becomes jointly and severally liable to pay the penalty.  It seems that the officer or partner must be assessed, and has a right of appeal. 

Agents

Specific provisions (para 18 of Schedule 24 FA2003) deal with the role of agents.

Broadly speaking, the taxpayer can still be impugned for a tax related penalty for a careless inaccuracy if that careless inaccuracy is contained in a document given by an agent.  The 30% penalty for failing to notify an under assessment can also be visited on a taxpayer if the agent fails to take reasonable steps to notify.

However, and most importantly, a taxpayer cannot be liable to a penalty under the general provisions or for failure to notify an underassessment, arising because of something done by an agent if the taxpayer can satisfy HMRC that the taxpayer took reasonable care to avoid the inaccuracy or unreasonable failure to notify.

This principle is enshrined in the HMRC compliance handbook (see paras CH81130, 84530 and 84540).  Clearly the agent appointed, and who gives the advice must be appropriate to the matter in respect of which advice is sought, and an organisation which has the capacity to check the agent's advice must do so.

It is likely that this will come into sharper focus given the possibility of visiting penalties on senior accounting officers of large companies. Please click here for further details.

See also the recent decision in Mercury Tax Group Ltd SPC 737 2009 relating to DOTAS, and the Special Commissioners view that counsel's opinion declaring the scheme was not discloseable was something on which the taxpayers could rely if a penalty had been raised, and which would have reduced any penalty to zero (the Special Commissioner had however previously decided that the scheme was not discloseable in any event)

Penalties for failure to notify a taxable activity and VAT and Excise wrongdoing

A similar regime applies to failures to notify taxability on VAT and Excise wrong doing

  • Any failure (even if non-careless) – maximum penalty of 30% (maximum mitigation to zero).
  • Deliberate failure – maximum penalty of 70% (maximum mitigation to 20%).
  • Deliberate failure and concealment – maximum penalty of 100% (maximum mitigation to 30%).
  • These are percentages of the potential lost revenue, and can be mitigated down by quality prompted and unprompted disclosure.  The special circumstances regime also applies.
  • HMRC or the First Tier Tribunal can excuse liability if taxpayer can establish a reasonable excuse.