Tax Penalty & Dispute Newsletter – August 2018
August 29, 2018
By George Rowell and John Flood
George is a barrister at Exchange Chambers and John is a retired barrister who was formerly Head of Tax Litigation at HMRC. They are the joint authors of Tax Penalties: A Practitioner’s Guide (Sweet & Maxwell, 2017), which is available for purchase here.
TOPICS COVERED IN THIS EDITION
- Draft Finance Bill 2018-2019 – new points-based late filing penalties
- Draft Finance Bill 2018-2019 – concealment by failing to make return
- Reasonable excuse – objective nature of test
- Reasonable excuse for late filing – ignorance of legal obligation
- Discovery assessments – deliberate inaccuracy
- Procedural issues and penalties
1. DRAFT FINANCE BILL 2018-2019 – NEW POINTS-BASED LATE FILING PENALTIES
A draft Finance Bill 2018-2019 has just been published by HMRC, together with helpful notes. The Government intends to introduce the Bill after the Autumn Budget and when passed it will become the Finance Act 2019.
On the penalty side some important changes are in the air. The draft Schedule 11 introduces a points-based system for late filing of self-assessment returns and other periodic tax returns. A penalty, fixed, will only be charged if a specified number of points are incurred over time because of defaults. The Treasury is given the usual powers to extend the new system by way of ancillary and consequential amendments.
HMRC say that, ‘The new points-based penalty regime will only apply to returns (including Making Tax Digital regular updates) with a regular filing frequency, for example monthly, quarterly or annually. It will not apply to occasional returns (for example a return required for a one-off transaction), which will continue to be covered by current penalty regime for the relevant return.’
The draft Schedule 11 sets out the details of the returns covered by the new provisions and the different taxes and duties covered. Initially, the new regime will only apply to income tax self-assessment returns and VAT returns. It is intended to extend the provisions to the other taxes and duties over time. Corporation tax is not presently included in the new regime, but it is the Government’s intention to apply the new approach to CT in the near future.
The idea behind the new scheme is to avoid penalties for one-off bona fide errors. Points for errors accumulate over time and it is only when they reach a pre-determined limit that a penalty can be imposed if there is a subsequent default. The points limit varies according to the nature of the return being considered. They will be :-
|Submission frequency||Penalty threshold|
|Quarterly (including Making Tax Digital)||4 points|
To avoid points simply accumulating over time there will be a 2-year lifetime for points after which they will expire, and only fresh misconduct will result in points being awarded. If the taxpayer is at the penalty threshold then the points will not be automatically reset. There must be a period of good compliance before the points can be removed. Good conduct means that returns must be filed on time and all relevant returns due within in the preceding 24 months’ returns have been submitted. Provisions will also be made for a change in the number of points required before a penalty can be imposed if the frequency of a return changes, such as a move from quarterly to monthly VAT returns. The idea is that a taxpayer and HMRC will neither be advantaged nor disadvantaged by the change that has occurred.
The time limits for notifying the tax-payer of points will be:-
|Submission frequency||Time limit for notifying a point|
|Quarterly (including Making Tax Digital)||3 months|
If a penalty arises then it will be a fixed penalty. HMRC say that, ‘this measure will reduce the number of ITSA penalties issued, as a monetary penalty will not be charged from the start. The fixed penalty is likely to be set at a higher rate than current penalties to reflect this, but unlike the current penalty regime there will be no escalation to daily or tax-geared penalties.’
As with existing penalty provisions there will be a reasonable excuse provision for defaults. This will be able to be given by HMRC on their own initiative e.g. when HMRC computers collapse or third-party software causes difficulty. Additionally, the taxpayer will be able to seek a review of the decision to impose points or a penalty and, if necessary, exercise a right of appeal to the FTT. Importantly, HMRC will also be able to provide a period of transition or grace where points are not imposed on the taxpayer.
2. FINANCE BILL 2018-2019 – CONCEALMENT BY FAILING TO MAKE A RETURN
Schedule 12 to the draft Finance Bill 2018-2019 presents changes necessary for a consistent penalty regime in cases where the tax-payer has attempted to conceal information from HMRC by failing to make a return. If the concealment was deliberate, then the penalty is the greater of £300 or the relevant percentage of the tax that would have been due (see below). If the omission was deliberate but there was no attempt at concealment, then the penalty is the greater of £300 or a percentage of the tax due, which will be less than the former situation. The provisions reflect the matters now set out in FA 2009 Schedule 55.
As now, the relevant percentages vary depending on the nature of tax obligation involved. The Schedule 55 system of Categories is used, with Category 0 being domestic UK tax obligations and the other Categories referring to different lists of overseas jurisdiction classified according to the perceived risks to revenue they involve. Category 0 situations involve a 100% penalty or 70% in cases not involving deliberate disclosure. Category 1 involves 125% and 87.5% penalties. Category 2 involves 150% and 105%. Category 3 involves 200% and 140% penalties. The different situations reflect the Schedule 55 provisions again. As with the existing Schedule 55, it is provided that disclosure and co-operation with HMRC will enable reductions in penalties to be sought. As is usual, penalties may be the subject of a review or appeal.
Note: The draft Finance Bill 2018-2019 also includes new late penalties in Schedule 13. These will be covered in the next edition of this newsletter.
3. REASONABLE EXCUSE – OBJECTIVE NATURE OF TEST
In Perrin v RCC  STC 1302,  UKUT 156 (TCC), the Upper Tribunal revisited an issue which most practitioners would have thought was settled many years ago – whether the statutory test of ‘reasonable excuse’ is objective or subjective in nature. The case concerned the familiar problem of the tax-payer believing that she had succeeded in filing her tax return online when in fact the submission had not been completed on HMRC’s system. She attempted to file her 2010-2011 return in January 2012 and received an online submission receipt. She thought that that completed the process, not realising that an on-screen confirmation was also required. HMRC issued daily late filing penalties which she appealed against on the basis that she had filed her tax return on time. On 24 May 2012 HMRC wrote to her explaining that the filing was not complete as she had failed to undertake the final stage. On 19 June 2012 she wrote to HMRC saying that she had gone online and filed her return ‘again’. In fact she had mistakenly filed her return for 2011-2012. HMRC wrote to her pointing this out on 13 July 2012. HMRC sent her several further letters, including an assessment for further penalties on 7 August 2012. On 20 September 2012 she went online and correctly filed her 2011-2012 return.
The FTT found that initially the tax-payer had a reasonable excuse for late filing, as she reasonably relied upon the submission receipt. But that excuse ceased either on 24 May 2012, when HMRC pointed out her mistake, or on 13 July 2012, when HMRC pointed out that filing the 2011-2012 return had not met the requirement to file a return for the previous year. The FTT found that she still had a genuine belief that she had filed her return correctly at the outset, but in view of HMRC’s letters that belief was no longer reasonably held. After the excuse ceased she was required to remedy the default without unreasonable delay (para. 23(2)(c) of Sch. 55 to FA 2009), but her delay of at least two months until 20 September 2012 was unreasonably long.
The tax-payer appealed to the UT on the basis that her genuine and honestly held belief that she had correctly filed her return in January 2012 afforded her a reasonable excuse, regardless of whether it was objectively reasonable for her to hold this belief. She based this contention on two decisions of Judge Geraint Jones QC, Chichester v RCC  UKFTT 397 (TC) and Gray Publishing v RCC  UKFTT 113 (TC).
In the UT Judges Poole and Herrington reviewed the authorities on the nature of the reasonable excuse test and quoted extensively from HH Judge Medd QC’s well-known dicta in Clean Car Co Ltd v CCE  VATTR 234. He had held that a genuine and honest belief on the part of the tax-payer was not enough, and instead the test was objective in this sense:
‘One must ask oneself: was what the taxpayer did a reasonable thing for a responsible trader conscious of and intending to comply with his obligations regarding tax, but having the experience and other relevant attributes of the taxpayer and placed in the situation that the taxpayer found himself in at the relevant time, a reasonable thing to do? … Parliament in passing this legislation must have intended that the question of whether a particular trader had a reasonable excuse should be judged by the standards of reasonableness which one would expect to be exhibited by a taxpayer who had a responsible attitude to his duties as a taxpayer, but who in other respects shared such attributes of the particular appellant as the tribunal considered relevant to the situation being considered. Thus though such a taxpayer would give a reasonable priority to complying with his duties in regard to tax and would conscientiously seek to ensure that his returns were accurate and made timeously, his age and experience, his health or the incidence of some particular difficulty or misfortune and, doubtless, many other facts, may all have a bearing on whether, in acting as he did, he acted reasonably and so had a reasonable excuse.’
These dicta had been cited in numerous subsequent cases including, notably, Coales v RCC  SFTD 1371, in which Judge Berner had rejected the argument accepted by Judge Jones in Chichester and Gray Publishing. The UT held that those two decisions had been based on a misunderstanding of the Court of Appeal’s decision in a criminal case, R v Unah  EWCA Crim 762, which concerned a defence of reasonable excuse to a charge of possessing a false identity document. The Court had held that the defendant’s genuine belief that the document was not false was a factor relevant to the question of whether there was a reasonable excuse for possessing the document, but that did not mean that holding such a belief, without more, could make out the defence. The UT therefore held that this case was no authority for departing from the tax tribunals’ long-standing view that reasonable excuse is an objective test. The FTT had correctly applied this test to Ms Perrin and so her appeal was dismissed.
The UT ended the judgment with a postscript which included the following guidance for the FTT when considering a reasonable excuse defence:
First, establish what facts the taxpayer asserts give rise to a reasonable excuse (this may include the belief, acts or omissions of the taxpayer or any other person, the taxpayer’s own experience or relevant attributes, the situation of the taxpayer at any relevant time and any other relevant external facts).
Second, decide which of those facts are proven.
Third, decide whether, viewed objectively, those proven facts do indeed amount to an objectively reasonable excuse for the default and the time when that objectively reasonable excuse ceased. In doing so, it should take into account the experience and other relevant attributes of the taxpayer and the situation in which the taxpayer found himself at the relevant time or times. It might assist the FTT, in this context, to ask itself the question ‘was what the taxpayer did (or omitted to do or believed) objectively reasonable for this taxpayer in those circumstances?’
Fourth, having decided when any reasonable excuse ceased, decide whether the taxpayer remedied the failure without unreasonable delay after that time (unless, exceptionally, the failure was remedied before the reasonable excuse ceased). In doing so, the FTT should again decide the matter objectively, but taking into account the experience and other relevant attributes of the taxpayer and the situation in which the taxpayer found himself at the relevant time or times.’
This guidance is, of course, equally useful for practitioners considering whether their client is in a position to run a reasonable excuse defence to any penalty threatened or imposed by HMRC.
The UT also took the opportunity to express its disapproval of HMRC’s persistent attempts to argue that the law requires any reasonable excuse to be based on some ‘unforeseeable or inescapable’ event. The concept of reasonable excuse is far wide than this formulation implies, and the addition or substitution of words to the statutory test could easily obscure rather than clarify the value judgment for the FTT as to whether the tax-payer had a reasonable excuse for his default. HMRC were warned that if they continued to base on their arguments on this unsustainable position, the FTT might well consider it approach to exercise its jurisdiction to award costs against them for unreasonable conduct of the appeal.
4. REASONABLE EXCUSE – IGNORANCE OF LEGAL OBLIGATION
The last few months have seen a spate of appeals against penalties for late filing of non-resident capital gains tax (“NRCGT”) returns. In each case an expatriate taxpayer was ignorant of the new requirement, introduced with effect from 6 April 2015, to file a special NRCGT return within 30 days of disposing of a UK property rather than declaring the gain on his next self-assessment return as previously (s. 12ZB TMA 1970). Such appeals have raised a fundamental question about the tax penalty system: can the tax-payer’s ignorance of his legal obligation ever amount to a reasonable excuse for not complying with it?
Despite the importance of this question, the FTT’s recent decisions have given diametrically opposed answers to it. In McGreevy v HMRC  UKFTT 0690 (TC), Judge Thomas held that the old maxim ‘ignorance of the law is no excuse’ is confined to the criminal law, and statements to similar effect in earlier tribunal cases usually applied to commonplace situations such as filing of self-assessment or PAYE returns. He held that as HMRC had failed to inform affected tax-payers of the new NRGCT filing obligation and had only publicised it on an obscure corner of their website, the tax-payer’s ignorance of it had not been unreasonable. (See the December 2017 edition of this newsletter for more details.)
This decision was followed by Judge Connell in Saunders v HMRC  UKFTT 765 (TC) but was emphatically rejected by Judge Mosedale in Welland v HMRC  UKFTT 870 (TC) and Hesketh v HMRC  UKFTT 871 (TC).
In Welland Judge Mosedale mentioned dicta in half a dozen earlier FTT cases to the effect that Parliament could not have intended ignorance of the law to be a reasonable excuse. This rule was a matter of statutory construction, in that ‘reasonable excuse’ must be interpreted in accordance with Parliament’s intention that when it enacts tax legislation (however complex) it is to be obeyed. The rule was also a matter of policy, as treating ignorance of the law as a reasonable excuse would result in the legal system favouring persons who chose to remain in ignorance of the law over those who sought to know the law in order to obey it.
Judge Mosedale acknowledged, however, that treating the rule as absolute would be inconsistent with dicta in the only tax appellate case in this field, Neal  STC 131. The case concerned a nineteen year old model who had failed to register for VAT as she had been entirely ignorant of the VAT system. Simon Brown J drew a distinction between ‘on the one hand basic ignorance of the primary law governing value added tax including the liability to register and on the other hand ignorance of aspects of law which less directly impinge upon such liability’. The latter category included the distinction between whether the tax-payer was employed or self-employed, which was perhaps equally a question of fact and degree as one of law. But Miss Neal’s mistake was clearly in the former category and so could not amount to a reasonable excuse. Judge Mosedale drew from this decision that ignorance of the law may only be a reasonable excuse where complex, or at least uncertain, law is involved; and this exception was to be narrowly construed in view of the considerations of statutory construction and policy she had identified (§77, §88).
Judge Mosedale held that the obligation to file a NRCGT return did not fall into this exception, as the application of the law to Mr Welland was clear and there was no suggestion that it was legal uncertainty or complexity which had caused him to file his return late. She expressly rejected Judge Thomas’s contrary view and also disagreed that HMRC had been under an obligation to publicise the new law to identifiable taxpayers who would be affected by it. It would not be practicable for HMRC to send letters to tax-payers every time the law affecting them was due to change; instead Parliament expects tax-payers to be proactive in taking responsibility for ensuring that they obey the law (at §108). For these reasons Mr Welland did not have a reasonable excuse for missing the deadline. He did, however, have special circumstances justifying a reduction in the penalty (para. 16, Sch. 55, FA 2009). He had received three separate penalties relating to three property sales in quick succession after the NRCGT obligation came into force and thus did not have the opportunity to learn from his mistake after the first penalty was issued. These unusual circumstances justified the cancellation of the second and third penalties, which reduced the overall bill from £1,800 to £700.
More recently, in Hart v HMRC  UKFTT 207 (TC), Judge Brannan noted the conflict between the FTT’s recent decisions and largely followed the approach taken in Welland and Hesketh. He referred to dicta in several non-penalty tax cases to establish that ignorance of the law being no excuse is not confined to the criminal law (e.g. HMRC v Kearney  STC 1137). He then quoted lengthy excerpts from the Neal decision and agreed with Judge Mosedale’s summary of h there are finely balanced ‘evaluative decisions concerning mixed fact and law such as the difference between employment and self-employer or, perhaps, between trading and investment activities’. He noted that the Neal approach could give rise to intractable questions as to how difficult an area of tax law must be before a reasonable excuse based on ignorance of the law can be established, but said that it would not be desirable or sensible to try to lay down sweeping general principles in this area (§64).
A further exception to the general principle occurred when the correct law could not be easily discovered through sources in the public domain. This problem was vividly illustrated by R v Chambers  EWCA Crim 2467, where the Court of Appeal allowed a criminal defendant’s appeal when HMRC’s Prosecutions Office had relied on an out-of-date version of the relevant excise regulation.
Judge Brannan found that Mr Hart’s case did not fall into either of these exceptional categories. The obligation to file a NRCGT return was not particularly complex and did not require a balanced evaluative decision. The text of the law was publicly announced and available online, and it would have been impractical for HMRC to communicate with all affected tax-payer individually. Mr Hart’s ignorance of the obligation did not constitute a reasonable excuse. The judge then considered his secondary reasonable excuse argument: that he had informed his long-standing UK tax adviser of the impending sale of his UK property and the adviser had failed to inform him of the filing obligation. The judge accepted this argument on the facts and quashed the penalty.
It might be thought that these more recent decisions marked a decisive trend away from entertaining ignorance of the law as a reasonable excuse, but in Perrin (facts above), released on 14 May 2018, the UT ended its judgment by expressing the contrary view:
‘It is a much-cited aphorism that “ignorance of the law is no excuse”, and on occasion this has been given as a reason why the defence of reasonable excuse cannot be available in such circumstances. We see no basis for this argument. Some requirements of the law are well-known, simple and straightforward but others are much less so. It will be a matter of judgment for the FTT in each case whether it was objectively reasonable for the particular taxpayer, in the circumstances of the case, to have been ignorant of the requirement in question, and for how long.’
These remarks were entirely obiter as Ms Perrin had never asserted ignorance of her filing obligations, and they were made without reference to any of the recent cases mentioned above. So they will merely be of persuasive authority in future cases and FTT panels who prefer the approach of Judges Mosedale and Brannan are for the time being free to follow it.
What conclusions can be drawn from these cases?
First, the case law at first instance is in a regrettable state of confusion. In Welland Judge Mosedale noted that it would be advantageous for the Upper Tribunal to make a binding ruling on when ignorance of the law can be a reasonable excuse. It is much to be hoped that a litigant will take up this invitation in the near future.
Second, although the new NRCGT obligations have given rise to particular problems, the case law on ignorance of legal obligations and reasonable excuse is of much wider significance. Even if the approach in Welland, Hesketh and Hart eventually prevails in NRCGT cases, that should not deter tax-payers from running reasonable excuse arguments where the legal obligation was not clear-cut at the time of the default.
Third, whatever the outcome of the debate on ignorance of the law, tax-payers should always considering running alternative grounds for reasonable excuse or special reduction where possible. Such arguments succeeded in Welland and Hart despite the judges’ strict approach on the main issue.
5. DISCOVERY ASSESSMENTS – DELIBERATE INACCURACY
In Tooth v RCC  STC 824,  UKUT 38 (TCC), the Upper Tribunal considered two questions of considerable importance in the operation of the discovery regime (ss. 29 and 34-36 TMA1970): Can the (in)accuracy of a document be judged with the benefit of hindsight? And when is the inaccuracy deliberate?
The case concerned an avoidance scheme which generated employment losses for 2008-2009 which the tax-payer intended to set against his income for 2007-2008. His agent claimed the loss relief through the return for 2007-2008 using software approved by HMRC. As the software did not have a specific space for employment-related losses, the agent inserted them in the partnership pages and explained what he had done in the ‘any other information’ space on the form. The return also disclosed the mechanics of the scheme and said that HMRC might disagree with the interpretation of the statutory provisions on which it was based. In August 2009 HMRC purported to open an enquiry into the return under Sch. 1A to TMA 1970, but in the light of RCC v Cotter  STC 2480 they had to accept that the enquiry was invalid as it ought to have been opened under s. 9A. Instead, in October 2014, they purported to raise a discovery assessment on the basis that the insufficiency of tax in the tax-payer’s self-assessment had been brought about deliberately (s. 29(4)) and consequently the 20-year time limit for raising an assessment applied (s. 36(1A)).
In the FTT both sides accepted that the avoidance scheme failed as a matter of substantive law. HMRC allowed the tax-payer’s appeal, however, on the basis that the insufficiency of tax declared in his return had not been brought about deliberately. HMRC appealed to the UT.
The UT (Marcus Smith J and Judge Helier) noted that s. 29(4) TMA, read with s. 118(7), required there to have been a deliberate inaccuracy in the tax-payer’s return. Neither half of this definition was satisfied on the facts found by the FTT.
(1) No inaccuracy: HMRC had two grounds for contending that the return was inaccurate. The first was that the tax-payer had inserted employment losses in the partnership pages when the losses clearly had nothing to do with any partnership. The UT swiftly rejected this argument because the return, and annexed computation, had to be read as a whole, and the tax-payer’s agent had made perfectly clear why the claimed losses had been inserted in the ‘wrong’ place. HMRC’s second ground was that accuracy should be judged as at the date of the tribunal hearing, by which time the tax-payer conceded that he was not entitled to the claimed losses. The UT rejected this attempt to apply the s. 29(4) test with the benefit of hindsight:
 …In our judgment, where a taxpayer adopts a position in his return which, albeit controversial cannot (at the time of the return) be said to be wrong and takes the trouble to identify the position he has taken (and the fact that it is controversial) in that return cannot be guilty of an inaccuracy when, subsequently, it is established that the position taken by the taxpayer is wrong.
 In such a case, it can be said that the Return becomes inaccurate. But it cannot, in our judgment, be said that the Return was, at the time of its making, inaccurate. (Original underlining preserved.)
(2) Not deliberate (§63-67): The UT held in the alternative that any inaccuracy in the tax-payer’s return was not deliberate. The judges noted that an allegation of deliberately bringing about a tax loss is a serious one, tantamount to an allegation of fraud. Self-evidently, the deliberateness must relate to the inaccuracy of the return, not merely the completion and submission of the document. The inaccuracies alleged by HMRC could not be said to be deliberate because the tax-payer took steps to draw them the attention of HMRC. Moreover, there was no evidence of any intent on his part to bring about an insufficient assessment of tax or give HMRC a deliberately inaccurate document. He wished to pay as little tax was legally permissible, but that was not the same as paying an insufficient amount of tax (at §67).
This decision illustrates an important safeguard for the tax-payer in the discovery regime: inaccuracy of a return, still less deliberate inaccuracy, cannot be proven with the benefit of hindsight when the basis of the return was reasonably arguable (albeit controversial) at the time of filing and was fully disclosed to HMRC. In such circumstances HMRC would be well advised to open a valid enquiry rather than attempt to rely on the discovery provisions.
The UT’s approach to inaccuracy and deliberateness is highly relevant to penalties for inaccuracy in a document under Sch. 24 FA 2007. Practitioners should always be alert to any attempt by HMRC to impose such a penalty with the benefit of hindsight.
6. PROCEDURAL ISSUES AND PENALTIES
Once again, rulings have been made which highlight the importance of checking that HMRC took all necessary steps to issue a penalty. The steps will vary according to context and should be checked in each case where advice is being given (see the previous newsletter for earlier cases).
Peter Groves v HMRC  UKFTT 311 (TC) involved an appeal against penalties for late filing of returns. Judge Popplewell ruled that the penalties imposed required a valid notice to make a return to have been given by an “officer of the Board”. (S8(1) Taxes Management Act 1980) The wording meant that HMRC had to show more than a standard form or a computer-generated form had been sent to the taxpayer. The material adduced by HMRC showed insufficient evidence of actions by an officer, and accordingly the penalty could not be upheld. A similar decision was reached in Rogers v HMRC  UKFTT 312.