The head of HMRC told MPs that it had underestimated the complexity of Making Tax Digital (MTD), which had caused eight years of delay and a failed pilot scheme
In a hearing before the Public Accounts Committee (PAC), MPs wanted to know the reasons for the continual delays to MTD for income tax, the failure of the pilot scheme and whether the digital programme would reduce the tax gap.
Jim Harra, chief executive at HMRC, said: ‘Looking back, we found that we had underestimated the overall scale and complexity of the challenge, both for us and the taxpayer and their agents, in making the transition to MTD.
‘We had announced MTD without perhaps doing all of the necessary work to identify the complexity in migrating data from our old systems and the quality of that data meant that it was not a simple matter of migrating it, which ultimately distracted us away from our next phase of MTD.’
HMRC’s vision to digitalise the tax system had the potential to reduce the number of errors in tax reporting by SMEs by making it easier for small businesses and landlords to get their taxes right by keeping records using digital software. It would also reduce pressure on the investigations team, which was not funded to target SME tax evasion.
Harra said: ‘With the resources we have we can only cover a relatively small proportion of small businesses and also there’s a churn in the small business population which limits the future revenue benefits of compliance work.
‘I would argue in terms of burdens on customers, being investigated by HMRC and getting an unexpected tax bill is more burdensome than helping everyone get it right in the first place.’
Jonathan Athow, director general of customer strategy and tax design at HMRC, said: ‘One of the challenges with the self assessment tax gap for small businesses is often down to a lot of small mistakes.
‘When we look at the tax gap for businesses, around a third of the amounts have been under £1,000. Those are areas where if we had a full investigation, we could easily spend that much on resources investigating that.’
Instead of launching in April 2024, the first phase of MTD for income tax will begin in April 2026, for sole traders and landlords with income above £50,000.
MPs probed the HMRC officials about whether taxpayers had been ‘deliberately excluded’ from the scheme’s pilot, with only 15 passing its eligibility criteria – from more than 1,105.
When asked why HMRC had deferred the pilot until 2026 rather than 2024, Harra said: ‘While HMRC had the technical capacity to take on more people into the pilot, there remained a number of functions that we had not yet developed, and as the pilot went on, there was a risk that more customers would have needed to engage with those functions.
‘That would have created a large number of clunky clerical workarounds, which would have ultimately required significant resources from HMRC and also would have impacted the quality of experience for the customer.
‘That’s why we decided not to expand the numbers into the size that we had originally envisioned because we didn’t feel we could have properly supported the customers involved.’
Jo Rowland, director general of transformation at HMRC, said: ‘It had always been the plan to begin piloting with small numbers and eventually grow out. By 2025, we intend to operate a public pilot, being as nearly unrestricted as possible.
‘The reason why we need to control the pilot very tightly is that we’re taking in very detailed evaluations of the performance of the new system and also the customer’s journey, and that automatically feeds into the new design as we progress.’
Referring to the pilot, Rowland mentioned that it offered a ‘number of ways’ to rectify any issues, including a ‘co-creation’ forum with stakeholders, alongside a number of representative bodies on HMRC’s programme board to ‘understand any technical issues’ and fix them when problems arise.
Harra said: ‘For self assessment, we have a project within the programme called HMRC Assistance, which is about us putting real time nudges and prompts in for users as they use MTD, which will also guide them if we think they’re potentially going to get something wrong.
‘That will contribute to the additional tax revenues which we believe we will get from self assessment, and as we get evidence that that works, we are looking at the case of going back to VAT and adding that into the service as well.’
MPs also touched on the MTD complications that some SMEs face when using a bookkeeper, for example from an in-house finance team, and external accountant or tax agent for their annual accounts.
Athow said: ‘One of the elements of the design we know that we need to get right is the language we use for bookkeepers and accountants. When people are using such an approach, we need to facilitate that, so people can have access to the tax returns they need.
‘But, it’s a complicated part of the build because you’re not just allowing the taxpayer access to the software, but also two other people, potentially, and deciding who gets access to what.
‘All MTD software is certified and must meet HMRC standards. But the main issue here is how we authenticate agents to allow them to make changes within our system and who can access what. It’s about deciphering the design of the authentication process.’
HMRC still expects the programme to generate a positive return, raising an additional £3.9bn in tax by 2033-34.
However, the delay to MTD will cost an estimated £1.5bn in lost tax, according to a National Audit Office (NAO) report.