Archive for month: September, 2019

Introduction

The subject of ‘discovery assessments’ has proved to be consistently controversial over previous years, and the issue has become even more so as HMRC have sought to increase the use of penalties on the back of such assessments.  Now, a new decision of the Court of Appeal in HMRC v Tooth [2019] EWCA Civ 826 has cast some light on this difficult area –

 

The background

In 2009, the respondent, Mr Raymond Tooth, participated in a tax avoidance scheme to utilise  employment-related losses incurred in 2008/09 to relieve his liability to tax on other income (“the Romangate scheme”). He claimed to be entitled to carry back these losses and set them off against income for the 2007/08 year of assessment. The scheme as a whole was defeated by anti-avoidance legislation, but Mr Tooth maintained that his self-assessment for 2007/08, which took account of the disputed losses, should stand as it had not been validly challenged.

In 2014 HMRC raised a discovery assessment under section 29 of the Taxes Management Act 1970 (“TMA”) in respect of income tax which they contended was due for the 2007/08 year of assessment.

 

In order to succeed, HMRC had to:

• “discover that an assessment to tax was insufficient” within the meaning of section 29(1)(b) of TMA;
• Demonstrate that Mr Tooth, or a person acting on his behalf, “deliberately” brought about a situation in which “an assessment to tax is or has become insufficient” within sections 29(1)(b) and (4) of TMA.

 

Discovery

The time limits which apply in the case of a discovery assessment under section 29 TMA are:

• save where a loss of tax has been brought about carelessly or deliberately: not more than 4 years after the end of the year of assessment to which the assessment relates (section 34(1) TMA);
• where the loss of tax has been brought about carelessly by the taxpayer: not more than 6 years after the end of the year of assessment to which the assessment relates (section 36(1) TMA);
• where the loss of tax has been brought about deliberately (including a deliberate inaccuracy in a document) by the taxpayer: not more than 20 years after the end of the year of assessment to which the assessment relates (sections 36(1A) and119 TMA 1970).

The issue of whether a claim is included in a return was considered by the Supreme Court in Revenue  and Customs Commissioners v Cotter [2013] UKSC 69; [2013] 1 WLR 3514 (“Cotter”). The taxpayer, Mr Cotter, had, like Mr Tooth, made use of the Romangate scheme. The Supreme Court held that a taxpayer who had suffered an employment loss in a later year (year 2) could attribute that loss to an earlier year of assessment (year 1) and obtain relief, but that relief was applied in year 2 by obtaining a reduction in liability to, or a repayment of tax for that year, and would not result in a change in the amount of tax chargeable in year 1.

In Cotter HMRC had instigated an enquiry into the claim for losses in year 1 under Schedule 1A TMA, but the taxpayer contended that Section 9A TMA was the appropriate mechanism because the relief was claimed in the return. The Supreme Court held that, because the taxpayer had left HMRC to calculate his tax, the claim to employment loss relief for year 1 did not form part of his return, and so did not affect the computation of tax for that year. Accordingly, HMRC had correctly made use of Schedule 1A in Mr Cotter’s case.  Here, Mr Tooth had performed his own self-assessment computation, hence the position was reversed and s.9A was applicable.

 

The entry on Mr Tooth’s return

Participants in the Romangate scheme were told how to complete their self- assessment tax return in order to claim the losses accruing under the scheme. In January 2009, Mr Tooth’s accountants, Messrs Grunberg, began to prepare Mr. Tooth’s self- assessment tax return. To do this, they used HMRC-approved software provided by IRIS Software Limited.  Grunberg tried to enter the employment-related loss  into box 3 on Additional Information page 3 (“page Ai3”). It was not possible, however, to access this box so as to make this entry. Grunberg contacted IRIS about this problem and their engineer confirmed that box 3 on page Ai3 could not be accessed because of a technical issue with the IRIS software. The engineer advised that, to ensure the claim was included in the 2007/08 return the loss should be included on another part of the return and reference made in the “white space” to explain what had been done.

Following this advice, Grunberg entered the employment-related loss on the partnership pages of the return (in box 7).  However, because there was no partnership, there was no ten-digit partnership unique taxpayer reference (“UTR”) number which was necessary for the electronic submission of the return. Having encountered similar problems previously, where clients had not been allocated a UTR in advance of the self-assessment filing date, Grunberg had used a UTR of “99999-99999” and was able to file the return electronically before the deadline, thus preventing the imposition of a late-filing penalty. This was the course followed – albeit for a different reason – in the case of Mr. Tooth’s return, and a UTR of “99999-99999” was entered in the partnership pages of Mr. Tooth’s return.

Box 19 on page TR6 of Mr. Tooth’s return was filled in as follows:

“…During the year ending 5 April 2009, I  sustained an employment related loss for which relief is being claimed now in accordance with the provisions of s 128 ITA 2007 (via section 11 ITEPA 2003). I have reported the details of the loss claimed against my other income using box 3 above, which relates to a claim for a partnership Loss from this tax year set-off against other income for 2007–8. However, there is no equivalent box to claim relief now for employment related losses despite the provisions of s 128 ITA 2007. Full details of this loss will be reported on my 2008–09 tax return in due course.  The loss arose pursuant   to arrangements for which a scheme reference number is required under DOTAS (from AAG at HMRC) – at this time the scheme has not been granted a reference number. When such number is obtained I will report it on my 2008– 09 tax return, as that is the year in which the loss arose. I acknowledge that  my  interpretation of the tax law applicable to the above transactions and the loss (and the manner in which I have reported them) may be at variance with that of HM Revenue & Customs. Further please note that although I have reported (and hereby claim the loss pursuant to section 128 ITA 2007) in box 3 above I wish to make it clear that the deduction I am claiming on my return is not what you would regard as a loss for this tax year set-off against other income from 2007–08 – for all these reasons I assume you will open an enquiry.

 

The Court of Appeal’s  decision – the ‘discovery’ issue

In the Court of Appeal, Floyd LJ, with whom the other Judges agreed said:

‘71.         If one uses the documents which were before the tribunals and which are before us to trace HMRC’s thinking concerning the sufficiency of Mr Tooth’s assessment, the following chronological picture emerges:

 (i)           on receipt of Mr Tooth’s 2007/08 tax return, HMRC saw that Mr Tooth was claiming immediate relief for employment- related losses incurred in 2008/09. This is clear from HMRC’s letter of 14 August 2009 (see [26] above).

(ii)           In April 2010 HMRC stated that it purported to have amended Mr Tooth’s self-assessment tax return so as to withdraw the claim for these losses. It is this purported amendment which HMRC subsequently referred to internally  as “the Schedule 1A amendments” (see [29] and [40-41] above). It is at least a possible view of this letter that HMRC were fully aware of an insufficiency in the assessment, and were purporting to use the powers under Schedule 1A to tackle this insufficiency. HMRC’s ability to use Schedule 1A in this way was, however, promptly challenged on behalf of the taxpayer.

(iii)          The debate as to what was the correct mechanism for enquiring into Mr Tooth’s claim/return ensued, with both parties awaiting the outcome of the litigation which resulted in the decision of the Supreme Court in Cotter. HMRC must have clearly understood that the question of whether they had successfully challenged Mr Tooth’s self-assessment was in dispute.

(iv)         On 4 March 2014, following the result of Cotter, Mr Webster, on behalf of HMRC, wrote claiming the overdue tax, and saying that the sums due were “based on” Mr Tooth’s self- assessments (see [33] above). This might be seen as a contention that the insufficiency in the return had been successfully addressed by the Schedule 1A amendments, but it was plainly wrong. There was no evidence from Mr Webster as to why he thought that Cotter had this effect when Mr Tooth had made the claim in his return.

(v)          On 11 March 2014, the Grunberg letter pointed out Mr Webster’s error, and that the sums being claimed as outstanding tax by HMRC were incorrect.

(vi)         On 19 May 2014, Grunberg wrote again, chasing a response from HMRC. Amongst other things, the letter asserted that HMRC had not amended the return under section 9ZB, and that therefore the original self-assessment must stand.

(vii)        On 23 May 2014, HMRC confirmed their agreement that Mr Tooth’s circumstances were “similar” to those set out by Lord Hodge in paragraph 27 of Cotter (see [35] above). This must mean that HMRC accepted that Mr Tooth had made the claim in his return and that his return had not been amended. It therefore remained insufficient.

(viii)       On 28 July 2014, HMRC, through Mrs Smith, announced their intention to raise a discovery assessment (see [36] above). The letter refers to the Schedule 1A amendments and asserts that the Supreme Court in Cotter had made clear that “Schedule 1a did not give HMRC the power to remove this claim”. This was a recognition that the attempt to use Schedule 1A to address the insufficiency had proved unsuccessful. There was no evidence from Mrs Smith that the conclusion that there was an insufficiency was new.

(x)          On 23 October 2014, the email exchange between Mr Anders and Mr Williams took place. The email exchange shows that HMRC had decided to abandon their attempt to address the insufficiency using Schedule 1A and to issue a discovery assessment instead.

(xi)         On 24 October 2014 the discovery assessment was issued. The assessment said “we have found that there is additional tax due that was not previously shown on your tax return. It is now too late for us to amend your tax assessment so this assessment allows us to collect additional tax.” Of course, HMRC had contended from the outset that there was additional tax due which was not shown on Mr Tooth’s tax return. This conclusion was not new.

72. The history shows that HMRC first thought they had powers under Schedule 1A to address the insufficiency. Those powers were the subject of immediate challenge. When the decision in Cotter was handed down HMRC appear to have considered, albeit briefly, that they had successfully tackled the insufficiency using Schedule 1A, but there is no evidence or finding to elucidate why that erroneous conclusion was reached. They rapidly accepted that this was not correct, and then sought to address the very same insufficiency through the use of a discovery assessment. The documents do not support the assertion that HMRC believed Mr Tooth’s self- assessment to be correct until receipt of the Grunberg letter. There was no discovery of an insufficiency either on receipt of the Grunberg letter in March, or on the review of the file in October 2014 (underlined passages are the authors’ throught). Accordingly the review of the documents set out above does not assist HMRC. But in any event, it is not an appropriate exercise to be undertaken in this court. When a question arises whether a discovery has been made, it is incumbent on HMRC to make out its case and obtain appropriate findings of fact from the FTT.
73. In my judgment, HMRC did not establish, on the basis of the documents or otherwise, that they had made a valid discovery assessment. I would dismiss HMRC’s appeal on this issue and decline to remit the matter to the FTT.

 

The Court of Appeal’s decision – ‘deliberateness’

As stated by Males LJ, there were three sub issues which the Court had to decide on this point namely, (1) was there an inaccuracy in the return? (2) was the inaccuracy deliberate? and (3) did the inaccuracy bring about (i.e. cause) the assessment to be insufficient?

In terms of ‘inaccuracy’, Males LJ, with whom Patten LJ agreed, stated:

106. The main provision dealing with deliberateness is TMA section 29(4). This refers to the position when an insufficiency of assessment “was brought about … deliberately by the taxpayer or a person acting on his behalf”. That was not the case here (the Court accepted that there had been no dishonesty on behalf of Mr. Tooth or his advisers). However, the meaning of “deliberately” in this context is extended by what is in effect a deeming provision contained in section 118(7):

“In this Act references to a loss of tax or a situation brought about deliberately by a person include a loss of tax or a situation that arises as a result of a deliberate inaccuracy in a document given to Her Majesty’s Revenue and Customs by or on behalf of that person…..              

110. The statutory question is whether there is an inaccuracy “in” a document given to HMRC. It is a perfectly standard use of language to say that there is an inaccuracy in one part of a document which is corrected in another part; or that despite an inaccuracy in one part of a document, the document as a whole is not misleading. In my judgment that is the position here. As the UT found, the entry of figures into the partnership pages of the return meant that these pages were inaccurate, even if the true position was apparent on a fair reading of the document as a whole…..
111. I would hold, therefore, that there was an inaccuracy in the return.’

 

Was the inaccuracy deliberate?

On this issue, Floyd LJ had the agreement of the other Judges. He said:

‘85.         The deliberateness requirements of section 29(4) and 36(1A)(a) require HMRC to prove that the taxpayer intended to bring about a particular fiscal result. In the case of section 29(4) it is an intention to bring about a situation in which an assessment to tax is insufficient, and in the case of section 36(1A)(a) it is an intention to bring about a loss of tax…..

88. The requirement for deliberateness occurs in the different contexts of section 29 and section 36. In section 29(4) it operates as a pre-condition (along with carelessness) for HMRC to be able to raise a discovery assessment. Its obvious purpose is to restrict the availability of a discovery assessment (as opposed to the other mechanisms for enquiring into a taxpayer’s return) to cases where there is some blameworthy conduct on the part of the taxpayer. Section 29(5) extends the availability of a discovery assessment to certain cases where HMRC could not be expected to be aware of the situation (e.g. the insufficiency of tax) on the basis of the information available to them within the time period for launching an enquiry. These are cases, therefore, where HMRC is blameless in not raising the assessment earlier, but do not depend on proving any blameworthy conduct by the taxpayer.
89. The triggers for the 20 year time limit identified in section 36(1A)(a) to (d) also do not include a consistent requirement of blameworthy conduct by the taxpayer. Sub- paragraph (b) includes a failure by a person who is chargeable to income tax for any year of assessment and who has not delivered a return of his profits, gains or income for that year to give notice that he is so chargeable. The failure is not required to be negligent or deliberate. Such a failure could occur, for example, as a result of incorrect advice.
90. In the light of these considerations, I do not regard it as surprising that, as a result of the expanded meaning given to the sub-sections by section 118(7), conduct which is overall not blameworthy is brought within the definition….
91. At [67] the UT explained why it upheld the decision of the FTT. They said:

“We consider that the FTT did not err in finding that Mr Tooth had not acted deliberately. There is no evidence of any intent on the part of Mr Tooth to bring about an insufficient assessment of tax or give HMRC a deliberately inaccurate document.”

96. The first part of this passage relies on the absence of any evidence of an intent to bring about an insufficient assessment of tax, a point no longer pursued by HMRC. The second part of the passage suggests that there is no deliberately inaccurate document. On the assumptions I am making, I am forced to disagree. If (contrary to my view) there was an inaccuracy in the document, it was the inclusion of the loss in the wrong box, and that was deliberate.

 

 Did the inaccuracy cause the assessment to be insufficient?

Males LJ was clear that the inaccuracy did indeed cause the assessment to be insufficient.  He said:

114. …. So far as human readers of Mr Tooth’s tax return were concerned, it appears that nobody was misled. Although there was some confusion on the part of HMRC as to the correct method for challenging what Mr Tooth was claiming, it appears that nobody actually thought (for example) that he was claiming a partnership loss, or that he was claiming to be a partner in a firm which had been allocated a UTR of 99999-99999.
115. However, the return (using that term in the narrow sense explained by Lord Hodge in Cotter at [25] quoted at [11] above) was not addressed solely to human readers. Because the entry of a figure for a partnership loss in the relevant box fed automatically into the computation of Mr Tooth’s tax liability for the relevant year, this entry did as a matter of fact cause his self-assessment to be insufficient. That is all that is required for the purpose of section 118(7).

 

Conclusion

‘Tooth’ was obviously a welcome win for the taxpayer, succeeding as he did on the ‘discovery issue.’ It may, however, disappoint many taxpayers and their advisers on the issue of ‘deliberateness.’ The effect of the judgement appears to be that the subjective element, i.e. the taxpayer’s intentions, is entirely removed from the issue of whether he/she was blameworthy or not.  Given HMRC’s increased use of penalties, which may give rise to significant penalties and raise human rights issues, the decision in Tooth may well generate further litigation.

 

Levy and Levy – the tax resolution specialists