How To Deal With An HMRC Tax Enquiry considers how you might best approach tax enquiries opened by HMRC and what may provoke the same so that you can be alive to the issue. This guide should be considered as a whole, particularly in the context of the disclaimer at the end.
Tax does not have to be taxing but it will be if you cause or permit your tax compliance to fall short of the requisite threshold, so as to generate added interest in your tax affairs. A failure of compliance such as not filing returns on time is likely to serve to highlight a matter for HMRC to consider. Accuracy is another key factor. If due to errors in prior returns you have to correct them, then again you may highlight a problem that HMRC may pick up on.
Neither of those matters will necessarily mean that you have pay more tax because neither are direct evidence of an additional tax liability being due. However, you may find that the stress and conceivable cost of an enquiry would be time and money better spent keeping your affairs fully in order on a timely basis, if necessary through deployment of professional advice in the administration of your tax affairs.
Another way that you may find yourself the subject of an HMRC enquiry is if you seek to deploy a Tax Avoidance Scheme.
The Taxpayer's Burden In An HMRC Tax Enquiry
The burden is on the taxpayer and this is a crucial aspect in how to deal with an HMRC Tax enquiry. HMRC is an involuntary creditor by virtue of legislation and reliant upon a regime where tax liabilities are ordinarily determined following a declaration by way of self assessment.
In the matter of Nicholson v Morris (H M Inspector of Taxes) 51 TC 95 the following notable comment was made as to the responsibility that the taxpayer has to HMRC:
“… the Taxes Management Act throws upon the taxpayer the onus of showing that the assessments are wrong. It is the taxpayer who knows and the taxpayer who is in a position (or, if not in a position, who certainly should be in a position) to provide the right answer, and chapter and verse for the right answer, and it is idle for any taxpayer to say to the Revenue, “Hidden somewhere in your vaults are the right answers: go thou and dig them out of the vaults.” That is not a duty on the Revenue. If it were, it would be a very onerous, very costly and very expensive operation, the costs of which would of course fall entirely on the taxpayers as a body. It is the duty of every individual taxpayer to make his own return and, if challenged, to support the return he has made, or, if that return cannot be supported, to come completely clean, and if he gives no evidence whatsoever he cannot be surprised if he is finally lumbered with more than he has in fact received. It is his own fault that he is so lumbered. “
Duty of Transparency In An HMRC Tax Enquiry
‘Liquidators are, of course, human, and from time to time there may be liquidators whose discoveries or suspicions in their investigation of a company’s affairs produce in them an excess of zeal; and there may be other failings, too.’
You will want to resolve the enquiry so do not argue about everything. You may therefore want to avoid a situation where your case generates disproportionate interest for the investigating officer.
Engagement With the Tax Inspector In An HMRC Tax Enquiry
Engagement is fundamental in how to deal with an HMRC Tax enquiry. Until or unless you engage you cannot dispose of the enquiry. Do not imagine it goes away because you succeed in delaying its progression. It is unlikely that you will endear yourself to the investigating officer if you persistently look to delay matters. The risk is that you may serve to highlight that you have a problem.
Think carefully how routine misfortune and mishap might be perceived. Causing or permitting your agent to put forward a position as to your unavailability because you (or family members) are for instance unwell or that a series of regular and repeat mishaps seem to sprout just as an investigating officer is due a response, causing delay after delay is unlikely to dispose of the matter. Even though you may well succeed in obtaining extensions of time to deal with the matter, remember two things: 1) you are clocking up interest on your extra tax debt if there is one and 2) the risk might be that any discretion afforded to the Inspector might be exercised differently to the person who does not seem overly reliant on deployment of what might be perceived as delaying tactics.
However, cases of misfortune do arise. When and if they do, do yourself a potentially huge favour and put the matter beyond any doubt. Consider providing notice as it arises along with prompt notice and evidence to the Inspector of the misfortune causing the delays. You are far more likely to receive sympathy if you do that, than if you put forward mere assertion, particularly if you leave it until the eleventh hour before springing notice of this upon the investigating officer.
Your Records and Record Keeping
Another crucial feature in how to deal with an HMRC Tax enquiry is records. If your record keeping is up to scratch, you will conceivably be able to address the enquiry expeditiously and dispose of it without much fuss. However, if your record keeping is in disorder and dissaray, then you will likely either find yourself having to sort it out in a hurry with could lead to error and oversight or alternatively being unable to address the enquiry, which could leave you with an unwelcome series of Assessments or Determinations raised by HMRC.
Once an enquiry is opened get your relevant records in order so that any anomalies and unreconciled balances can be investigated, bank statements obtained and records reconstructed on a timely basis.
Tax Penalties Arising From An HMRC Tax Enquiry
There is a penalty regime that is designed to address matters where the taxpayer does not appear to have been fully transparent and compliant. A lack of reaosnable care will produce the lowest level of the three classes of penalty. You could be forced to pay a penalty up to 30% of the extra tax due.
If however the error is deliberate the penalty could then spring up to 70% of the extra tax due.
Finally, if the error is not only deliberate but also concealed then your tax bill could increase by a factor of up to 100% as the penalty.
Indeed you will increase your chances of having no penalty or a reduced penalty if you learn in how to deal with an HMRC Tax enquiry effectively and afford HMRC unprompted disclosure and transparency. The quality of that disclosure can impact on your ability to reduce that penalty right down to 0% of the extra tax you have to pay. By the quality of disclosure, that refers to notification of the error, calculation of the tax applicable and affording reasonable transparency to enable HMRC to arrange for inspection of records (if they so wish) to check your calculations.
Tax Avoidance Schemes
As a general rule we would suggest that the use of notifiable avoidance Schemes is something that you carefully consider. If you do intend to use such a scheme you may find yourself introduced through an existing agent.
You are likely to be introduced to the Promoter of the scheme who may supply a presentation setting out how the scheme operates and how the tax planning works.
A key thing about tax avoidance schemes that might be worth considering is whether the scheme creates transactions purely for the purpose of avoiding tax or whether the scheme is a by-product of transactions that you are proposing to enter into in any event but which you wish to do so in the most tax efficient manner.
You are certainly not obliged to arrange your affairs to maximise the revenue of HMRC; you are entitled to arrange your affairs in a genuine manner which minimises your contribution to HMRC. In the matter of WT Ramsay Ltd v Inland Revenue Commissioners  UKHL 1 the House of Lords broadcast this notable principle:
“A subject is entitled to arrange his affairs so as to reduce his liability to tax. The fact that the motive for a transaction may be to avoid tax does not invalidate it unless a particular enactment so provides. It must be considered according to its legal effect.”
However, a diffculty may arise where you enter into transactions that have no proper purpose other than the avoidance of tax. The problem that could arise is that many taxes in question are a product of some form of trading but a trade that has nothing more than tax avoidance at its heart may have a difficult hurdle to vault to survive HMRC challenge. In the case of Barclays Mercantile Business Finance case) in Collector of Stamp Revenue v Arrowtown Assets Ltd  HKCFA 46, para 35 the following was broadcast:
“Cases such as these [IRC v Burmah Oil Co Ltd  STC 30 (HL), Furniss v Dawson  STC 153 (HL) and Carreras Group Ltd v Stamp Comr  STC 1377 (PC)] gave rise to a view that, in the application of any taxing statute, transactions or elements of transactions which had no commercial purpose were to be disregarded. But that is going too far. It elides the two steps which are necessary in the application of any statutory provision: first, to decide, on a purposive construction, exactly what transaction will answer to the statutory description and secondly, to decide whether the transaction in question does so. As Ribeiro PJ said in Collector of Stamp Revenue v Arrowtown Assets Ltd  HKCFA 46 at , (2004) 6 ITLR 454 at : ‘[T]he driving principle in the Ramsay line of cases continues to involve a general rule of statutory construction and an unblinkered approach to the analysis of the facts. The ultimate question is whether the relevant statutory provisions, construed purposively, were intended to apply to the transaction, viewed realistically.’” [emphasis added]
In more recent times these principles have now been ventilated in the Rangers decision on Employee Benefit Trusts (“EBTs”) as follows in the matter of Court of Session  CSIH 77 XA128/14
“In assessing the liability of a transaction to taxation, it is imperative in every case to determine the true nature of the transaction, viewed realistically:Barclays Mercantile Business Finance Ltd v Mawson,  UKHL 51…”
HMRC has had some success in attacking Employee Benefit Trusts (“EBT’s”). Such schemes, permissible when their purpose was employee incentivisation and reward. The problem commonly arose where owner managed businesses with few directors, set about entering into such schemes and still sought to maintain that they were entered into bona fide on the grounds of incentivisation, yet few (if any) of the ordinary employees might have been included in the EBT. Such arguments submitted about employee incentivisation could be considered threadbare given the owner managed directors would likely have a number of pre-existing incentives without the need for EBT’s. For instance it is axiomatic an owner managed Director is unlikely to need to be incentivised in the same way that an ordinary employee might need to be. Directors duties means that they have a duty to promote the success of the company in any event and to act in the company’s best interests.
The virtues of tax avoidance schemes can be troublesome where they may create transactions which if the scheme fails, may actually increase the tax burden. Tax avoidance throws up a whole different aspect in how to deal with an HMRC Tax enquiry.
A notable feature of many schemes is that the small print of the Promoters engagement letter, may afford an insight into what can go wrong. Many such engagement letters do caution the taxpayer about risks involved but this perhaps has not deterred many people from still signing up to such schemes and with the very significant fees that can be applied.
Disclaimer: How To Deal With An HMRC Tax Enquiry is not legal advice and not to be relied upon as such. If in doubt you should take independent professional advice on the facts of your case. This guide is just a guide, for information purposes only. No liability is accepted for any reliance placed upon it. Where there is reference in this guide to adoption of a certain approach it is done for your convenience but any suggestion that you should or should not do something, is put forward from the point of view of a general position and not to be treated as some inflexible proposition that necessarily will fit the facts of each and every case.