When confronted with an incomplete set of business records from a subcontractor, what is it the responsibility of the tax adviser to do? Is it to apply the accounting standards laid down by their tax institute or is it to apply investigative standards determined by HMRC?
In an extension of the work it has already undertaken with High Volume Agents (HVAs), the Tax Agent Initiative Team within HMRC has been writing to accountancy practices and tax agents who submit tax returns generating repayments of tax. The letters draw attention to HMRC’s fundamental concern that repayment claims are being made without items of expenditure being thoroughly checked and vouched to ensure compliance with statutory requirements.
The story so far
HMRC first began considering HVAs in earnest with the publication of the Working with Tax Agents consultation document back in April 2009, after becoming concerned about the number of tax agents submitting large numbers of repayment claims, usually on a commission or a percentage cut of the repayment fee basis. Typically the tax agents were not members of a professional taxation body and conducted much of their business online, without ever meeting the client face to face.
In February 2012 and again the following year, HMRC wrote to HVAs and embarked upon a policy of meeting the highest risk tax agents, in order to test the assurance work being undertaken before repayment claims were being filed.
If HMRC considered the assurance work was flawed after examining a sample of cases during the meeting, it asked the HVA to participate in an amendment programme, covering a two year period of returns, generally involving the reduction of revenue expenditure claimed.
HVAs were also asked to sign and commit to a Memorandum of Understanding (MOU) containing 8 ‘Agreements’ :
- A commitment to undertake an awareness programme, designed to remind all clients of their obligations to maintain and preserve adequate business records.
- Assurances would be sought from clients about their business records and some sample testing would take place.
- Clients would be asked to view and approve their completed returns, by signing their acceptance to the submission of their returns in the agreed figures.
- Particular attention would be given to obtaining supporting evidence for business expenses and CIS income and deductions.
- Checks would be conducted to ensure expenditure had been incurred wholly and exclusively.
- No return on behalf of a subcontractor, who has not maintained any business records to evidence levels of expenditure incurred, would be submitted with the expenses to turnover ratio exceeding 10%. (Expenses include capital allowances)
- A return on behalf of a subcontractor reflecting a turnover ratio in the range of 10%- 20% would be based on kept records, with sample assurance tests conducted.
- Any return on behalf of a subcontractor reflecting an expenses to turnover ratio over 20% would only be submitted if all the records have been seen and are available to support the figures shown on the return.
According to HMRC, compliance revenue secured from the visits and the amendment programmes implemented in the last two years stands at £64m.
What is happening now?
A small minority of the HVAs targeted during 2012 and 2013 were accountancy practices belonging to a tax institute but, inevitably as HMRC works down through the highest risk cases, small and medium sized firms are now being caught up in this latest compliance effort by HMRC.
Perhaps the first point to understand is that this type of work is not any form of ‘pilot’ or other form of temporary initiative. HMRC considers this activity to be ‘business as usual’ and work which will continue to be conducted each year, with visits made to previously unseen accountancy practices and return visits made to tax agents already contacted.
HMRC is following a similar agenda with the latest round of accountancy practices selected for visits. Sample checks of working papers are being undertaken, evidence of assurance work subjected to challenge and participation in amendment programmes invited.
If accountancy practices refuse to a meeting and an amendment programme, HMRC threatens to put a repayment stop on future tax returns submitted and to launch formal tax enquiries instead. Caught between a rock and a hard place, accountants are trying to find a way forward but are haemorrhaging clients as soon as they are party to any amendment programme.
During the visits to accountancy practices and tax agents so far, HMRC has identified four specific areas of concern, namely:
- The inconsistent application of the statutory tests.
- The use of speculative, estimated or round sum expenses, claimed routinely without any attempt having been made to test their validity.
- Little or no assurance work carried out before the submission of the return.
- Returns filed without any, or insufficient, evidence of the expenditure having been incurred.
Rather predictably, the most common expense claims adjusted have been associated with:
- Use of Home
- Wife’s, partner’s or relative’s wages
Use of home and travel expenditure claims have come under particular scrutiny by HMRC officers.
For example, if the subcontractor is a labourer who is on site all day, 5 days a week, the officers ask what business related work is actually being undertaken in the home? Is a use of home claim appropriate at all? Furthermore, if the labourer is working with a group of friends on the same site, are they not all travelling in the same vehicle, so why is there a mileage or travel claim?
HMRC officers forensically analyse mileage claims in particular, with the accountant expected to have checked MOT certificates for evidence of annual mileage and tested mileage against the sites being worked on alongside AA Route Finder or MapQuest.
If the HMRC officers are unconvinced of the quality of records maintained by the subcontractor clients and the assurance work carried out by the accountant, more often than not a two year amendment programme will be proposed usually involving the reduction or withdrawal of a particular category of expense or expenses, or even an across the board reduction of total expenditure restricted to 10% of the turnover declared.
Whilst recognising the need for HMRC to be active in this area, accountants feel they have been duped by the content of the letters they have received. The second paragraph specifically states ‘This letter does not constitute any type of formal enquiry or compliance check on you or your clients.’
In reality the whole process is a compliance based check, with HMRC officers not just considering the adequacy of the business records supplied by the subcontractor, but the depth and quality of the assurance work undertaken by the accountant.
Accountants have expressed their unhappiness at almost being turned into pseudo Tax Inspectors, testing replies and spending additional educational time with their clients; time they are unable to charge for at a competitive rate. Furthermore, accountants have also drawn attention to the disparity between what a Tax Inspector in a network office will accept as a reasonable expense to the hard line adopted by the visiting officers who insist an expense is not allowable unless fully vouched and wholly and exclusively incurred in the performance of the CIS related work.
To further darken their mood, accountants have also been less than amused to find they have been risk assessed at the same time as their subcontractor clients. Indeed, the proprietor of one firm was asked to consider making a voluntary disclosure under the Contractual Disclosure Facility during a meeting to discuss her subcontractor clients.
As much as the accountant may not want to, it is important to try and find a way forward with HMRC if one of the letters from the Tax Agent Initiative Team arrives.
It should be remembered that the 2012 Finance Act introduced a civil penalty for dishonest conduct of between £5,000 and £50,000 on tax agents, where a tax loss is brought about by illegitimate methods. The loss of tax may arise from gaining more tax relief than the law allows, or gaining a tax advantage not allowed by law.
There is no magic wand or easy solution. It really is a question of trying to negotiate the least worst outcome and undertaking an exercise in damage limitation.
Simply telling HMRC to open formal enquiries and effectively calling HMRC’s bluff from the outset does not necessarily protect the subcontractor client, as HMRC could end up incorporating six years as part of an enquiry settlement including interest and penalties, rather than two years as part of an amendment programme with interest but no penalties.
Refusing to co-operate also fails to reassure HMRC about the accountant and the quality of assurance work being conducted, potentially inviting further more aggressive intrusion at a later stage.
Communication with clients is vital. An amendment programme should not be agreed to without the subcontractor clients being aware of the background to the HMRC request. Some clients will agree to proposed amendments, rather than be subjected to a full blown enquiry. Some clients will refuse, in which case it really is down to HMRC to issue an enquiry notice and proceed on formal lines.
If you are an accountant caught up in this latest HMRC compliance activity, then please contact the author of this article for confidential and impartial advice.
Author: Guy Smith, Tax Investigations Manager on the ReSource Tax and VAT Consultancy Team
E mail: firstname.lastname@example.org