Latest HMRC figures suggest the ‘tax gap’ - the difference between the amount of tax that should, in theory, be collected by HMRC, and what is actually collected – has remained largely unchanged and is estimated at £34bn in 2015-16, or 6% of total theoretical tax liabilities
In 2014-15, the previous year’s statistics, HMRC put the tax gap at £33bn or 6.1%.
The VAT gap in 2015-6 is 9.8%, which HMRC says is its lowest level since 2010-11, while the corporation tax percentage tax gap (6.4%) is at its lowest level in 2015-16.
The largest component of the gap covers income tax, National Insurance Contributions (NICs) and capital gains tax (CGT), which make up 40% of the total, while VAT accounts for 37%. Ten per cent of the gap is down to corporation tax losses of £3.3bn.
The tax gap for income tax, NICs and CGT of £13.7bn equates to just 4.5% of the total theoretical liabilities compared to the VAT gap of £12.6bn which equates to 9.8% of VAT theoretical tax liabilities.
In both 2014-15 and 2015-16 almost half of the tax gap (46%) can be attributed to SMEs, and more than a quarter to large businesses (29%). The remainder is split between criminal activity (15%) and individuals (11%).
The estimated avoidance tax gap was £1.7bn for 2015-16, the bulk of which was related to income tax, NICs and CGT avoidance. The estimate for 2014-15 published last year was £2.2bn, but has been revised down to £1.8bn as data sources have improved and more recent data is used.
Self assessment audits
According to HMRC’s statistics 20% of the tax gap is related to self assessment. The Institute for Fiscal Studies (IFS) has published additional analysis around this issue, using data from HMRC’s random audit programme to show which types of people are more likely to be under-reporting taxes and how their behaviour changes after a tax audit.
IFS’s survey shows that 36% of self-assessment taxpayers have some under-reporting on their taxes, rising to almost 60% among the self-employed.
Most under-payments are less than £1,000. Bu, a small minority of taxpayers (less than 4%) owe more than £10,000 and account for nearly half of the missing tax revenue from self-assessment.
IFS says the research indicates audits can recover significant revenue but the self-employed tend to return to under-reporting within a few years. Audits have bigger long-run effects if they uncover errors on income sources that are more stable over time, such as pensions or income from letting property.
The IFS also found the likelihood of under-reporting does not vary much with income, but the cash amount of tax not reported is highest for those with the highest incomes. Men are more likely to under-report than women (40% vs 27%).
More than half of taxpayers in the construction, hospitality, and transport industries were found to be under-reporting. In hospitality and transport more than half of total tax owed was not reported. These are typically bed and breakfast owners and taxi drivers.
Each random self-assessment audit recovers for HMRC an initial £830 on average. An additional £1,230 is raised in the following five years because taxpayers’ change their reporting behaviour. The amounts recovered are higher for certain groups.
The IFS argues that if HMRC were to target those with the top 20% of reported incomes, for example, they could expect a total yield of £10,260 per audit after five years.
Arun Advani, assistant professor at the University of Warwick, IFS research fellow and author of the study said: ‘Between errors and deliberate under-reporting, a significant share of self-assessment tax goes unpaid. Audits bring in tax directly, but also change taxpayers’ behaviour. Audits work not because they scare people into complying in future years, but because they give HMRC more information about people’s incomes. The change in behaviour actually brings in more than the original audit.
‘HMRC have got better at targeting their audits and spotting under-reporting. But, this didn’t translate into more revenue from audits because they did fewer of them.’
Measuring tax gaps 2017 edition Tax gap estimates for 2015-16 is here.
IFS briefing note, Who does and doesn’t pay taxes?, is here.
Report by Pat Sweet