Practice management: HMRC penalties

Understanding the scale of a potential taxpayer mistake is fraught with difficulties as HMRC takes a tough line, says Karen Eckstein

Practitioners will be aware that the regime for the imposition of penalties for tax omissions changed with effect from 2009. Now, when HMRC considers the level of a penalty to apply to a particular omission, not only is the quantum of the tax omitted taken into account, but the taxpayer’s behaviour determines the category into which it falls. The category of behaviour determines the level of penalty to be imposed.

Understanding the scale of a potential taxpayer mistake is fraught with difficulties as HMRC takes a tough line, says Karen Eckstein

Practitioners will be aware that the regime for the imposition of penalties for tax omissions changed with effect from 2009. Now, when HMRC considers the level of a penalty to apply to a particular omission, not only is the quantum of the tax omitted taken into account, but the taxpayer's behaviour determines the category into which it falls. The category of behaviour determines the level of penalty to be imposed.

Depending on whether or not the taxpayer discloses the omission to HMRC before the tax office prompts him to do so, the level of penalties that are applicable to the various behaviour categories are as follows:

  • if the behaviour is 'careless', then the penalty can be between 0-30% (15–30% if prompted);

  • if the behaviour is 'deliberate', then the penalty is 20–70% (35–70% if prompted); and

  • if the behaviour is 'deliberate and concealed' then the penalty is between 30–100% (50–100% if prompted).

The first point to take into account, therefore, is that the level of penalties that are imposed under the new regime are likely to be substantially higher than those under the previous system. Where a taxpayer finds himself liable to pay penalties he may well look to his adviser for recompense. Such claims are likely to increase given the increase in value of penalties being imposed.

Is a penalty appropriate?

However, it should not be forgotten that a penalty cannot always be imposed when a tax omission arises. If a taxpayer took proper advice from a professional, and that professional gave incorrect advice, then the taxpayer may not have been 'careless' in submitting an incorrect return. For example, if the point upon which advice was taken was a technical one, and the taxpayer could not have reasonably known that his return was incorrect, the taxpayer can be said to have taken reasonable care by seeking a professional's advice, and on that basis should be safe from penalty.

Those advising taxpayers in relation to disclosure should therefore take great care to consider whether or not the taxpayer has been 'careless' or whether in fact the fault lies with the adviser. If the latter, then the adviser may be negligent in failing to argue a 'nil' penalty. However, if the adviser runs the argument that the taxpayer was not careless and it was the adviser that let him down, he should make sure that his professional indemnity insurers agree to that approach before he does so, given that, in effect, the adviser is making an admission of fault on his own behalf when negotiating for his client.

What if the adviser is not at fault?

The next risk area for those advising clients on penalties is to ensure that, not only do they consider the total penalty being levied as a matter of financial cost to their client, but that they also take care to ensure that their client's behaviour falls into the correct category. There are significant consequences for a taxpayer who concedes a penalty being levied against him for behaviour that is more than 'careless'.

Practitioners advising clients in relation to penalties should be very careful to fully establish the behavioural conduct of the taxpayer giving rise to the admission to:

  • ensure that, so far as possible, that conduct

  • is treated as 'careless', rather than deliberate

  • or deliberate and concealed.

If a client is going to be asked to concede to a penalty involving behaviour that is more than 'careless', the implications of 'deliberate' behaviour should be advised, as well as the other implications which will arise as a result.

Clients should be made aware that HMRC has the right to publish the details of taxpayers who incur a penalty due to 'deliberate' conduct in certain circumstances (primarily where the tax omitted is more than £25,000 and where the taxpayer has not made a full and prompt disclosure to HMRC).

Advisers representing clients who are negotiating penalties with HMRC should therefore consider whether their clients fall within the PDDD (Publishing Details of Deliberate Tax Defaulters) criteria and advise their clients accordingly before their clients agree to their conduct being described as 'deliberate'.

A second factor which needs to be taken into account and upon which clients need to be advised is that the client, if agreeing to or being found by the tribunal to be liable to, a penalty based on 'deliberate' or 'deliberate and concealed' conduct may well fall into the Managing Serious Defaulters Programme (MSDP).

Individuals who fall into the MSDP are required, not only to pay any tax, interest and penalties that are due, but may also be asked to provide financial security if HMRC believes there is a risk that they will not pay HMRC what is due when it is due, and also will be required to provide further information and comply with further duties for a period of, normally, two to five years. Those taxpayers will have to ensure that they provide complete and accurate tax returns to HMRC timeously in the period of monitoring, and make all payments and registrations on schedule during that period. HMRC may also write to the taxpayer asking for further disclosure on an ongoing basis during that period. It may be that the accounts giving rise to the figures in the returns will need to be provided, in addition to a full return.

Any taxpayer who fails to comply with the obligations placed upon him while they are in the MSDP, will be subject to further penalties and potentially criminal sanctions.

There will clearly be an additional cost arising to those clients in complying with the increased obligations in that period and any client who submits an inaccurate return during the period may find the consequences more serious than would otherwise have been the case.

When agreeing fees for acting for clients in the MSDP, it is important to agree a fee for dealing with the client's affairs accordingly, and practitioners will need to be alive to the potential risk to the client of failing to comply with any of the ongoing obligations.

Conclusion

Therefore, when acting for a client in negotiating penalties, great care must be taken in considering and agreeing the category of behaviour applicable. Substantial claims may follow if a client is able to show that his behaviour has been incorrectly deferred. That claim may be for far more than the additional penalty and especially when the client faces reputational issues as a result of the publication of his defaults, or criminal sanctions, as a result of a later failure to comply with the MSDP.

Karen Eckstein, Partner, Lake Legal LLP and member of ATT council

Karen Eckstein |Partner, Lake Legal LLP

Karen Eckstein is a partner at Lake Legal LLP and specialises in contentious tax, trust and probate cases as well as tax related pro...

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