Are enquiries leading to a fraud investigation?

HMRC will generally make enquiries into your tax affairs or those of an associated entity before offering to make a disclosure under the contractual disclosure facility. There is a sneaky reason why.

If HMRC make enquiries, you have the choice of seeing if they ‘discover’ something or confess some or all possible irregularities at the outset. Any commercially minded person may think of accepting the risk of seeing whether HMRC identify something. The questions always being: What do they know and what can they find out? You may even have a heart felt mind that whatever has been done is completely above board. There are a few signs that HMRC’s enquiries indicate the potential they are going to escalate. The first few relate to how HMRC approach enquiries:

1. There has been a ‘routine’ PAYE and/or VAT audit on an associated company or business.
2. Enquiries are also opened into a shareholder/director’s personal self-assessments.
3. Enquiries are made by Fraud and Investigation Service (‘FIS’) – normally a given that something needs to be taken seriously.
4. Enquiries have been ongoing for sometime and there appears to be difficulty bringing them to a closure.
5. HMRC demonstrate a keenness to issue information requests or information notices for considerable amounts of information and tight timescales to respond.

A few signs available in the public domain that would also indicate to a tax investigation specialist the potential for escalation. For example: Companies House filings may indicate ‘tax structuring’ or the potential for incorrect declaration of profits etc. Signs may include share allotments, share ownership, considerable changes of officers, related part transactions, unusual and/or subtle disclosure in the accounts, charges etc. Information may also be available on the Land Registry, Social Media, the Web and for those with offshore structures, the ICIJ ‘The Offshore Leaks Database’.

Normally a taxpayer will know why they are being enquired into although some will choose to keep quiet for a while. If they do keep quiet and HMRC do identify the irregularity, the person being enquired into risks higher penalties for not making an upfront disclosure. The sneaky reason why HMRC make enquiries is not only to gather evidence but also to see how long it takes for someone to hold their hands up. It all seems a little unfair although tests the honesty, integrity and cooperation of the taxpayer facing the enquiry therefore setting the benchmark for penalties.

HMRC may not offer the contractual disclosure facility (‘CDF’) at the outset. CDF or Code of Practice 9 is issued where HMRC suspect serious fraud. If HMRC’s Fraud and Investigation Service is making enquiries, the likelihood is they suspect fraud – given away by the label! Fraud is the deliberate misrepresentation of income / expenses with the intention to underpay tax.

HMRC takes a commercial approach to investigating taxpayers and will only issue CDF/COP9 where they have a reasonable amount of evidence in their possession to suspect that there are significant tax irregularities.

Where HMRC issue COP9 they will offer the taxpayer a contract whereby they agree to make a full and complete disclosure of all tax irregularities. In return for making a full disclosure, the taxpayer is protected from prosecution. The CDF is only suitable for people who want to admit to a deliberate act that has given rise to a tax irregularity. It is not for people who want to tell HMRC about errors, mistakes or avoidance schemes where there isn’t a deliberate act. The CDF is for individuals only, this disclosure facility is not suitable for companies.

A ‘deliberate act’ is one done consciously with the intention or purpose of submitting an incorrect document. A deliberate act would include false accounting, false invoicing, deliberate understatements of income or overstatement of expenses/allowances, or to back dating legal documents to deliberately create an alternative outcome than was the case. Where avoidance schemes are used, they will not generally fall within the CDF unless there is an incorrect document. The area becomes exceptionally complicated with avoidance schemes and will depend on the ‘elaborateness’ a scheme goes to, to ‘create’ the purported tax position.

The test for deliberate behaviour is subjective. If the person took reasonable care, they cannot have acted with deliberate intent.

“In your letter, the following is stated:

‘It is reasonable to expect a person who encounters a transaction or other event with which they are not familiar to take care to find out about the correct treatment or seek appropriate advice from either HMRC or a suitably qualified tax professional. This is how a reasonable business person exercising due diligence and with a proper regard for their tax obligations would have behaved.’

There is no reflection upon the consideration of the particular person’s abilities and circumstances. In our letter dated [] 2020 we set out:

‘Mr [] is currently eighty years old and Mr [] is seventy years old.’

‘During the period of the development and the subsequent HMRC audits, we note our clients informed HMRC of their personal circumstances. Mr []’s wife was considerably unwell and her health has continued to deteriorate. Furthermore, Mr [] has personally suffered poor health. During the period, the directors also suffered the loss of close relatives.’

……..The reasonable care test considers the ability and circumstances of the person who on this occasion were two elderly gentleman who embarked on a venture under the belief that [Company A] were responsible for CIS and almost immediately on commencement of the project faced commercial problems as well as a VAT check. In Nasir (2020) TC07930 the appellant was a young man with no relevant experience and in Kirsopp & Anor (2019) TC07064 it was rejected that the taxpayer had an obligation to keep up with the law – there was a reasonable excuse.”

Where there is deliberate intent resulting in tax irregularities, it amounts to fraud and can result in prosecution. Under the CDF the taxpayer is given the opportunity to make a complete and accurate disclosure of all their behaviour that has led to irregularities in their tax affairs. Where HMRC suspects that the taxpayer has failed to make a full disclosure, the taxpayer provides materially false statements or information, or the behaviour continues throughout the disclosure process HMRC reserve the right to start a criminal investigation with a view to prosecution.

In any case where there has been an underpayment of tax HMRC can look back over the past four years. Where the behaviour which lead to the underpayment is deliberate they can extend this period to 20 years. By it’s very nature acceptance of the CDF confirms deliberate behaviour. The deliberate behaviour may not relate to all tax irregularities and therefore the higher penalties may only apply to certain tax liabilities whereas others may attract much lower penalties. HMRC may incorrectly assert the deliberate penalty applies more broadly than it should.

A taxpayer has 60 days from the date of issue of COP9 to sign and return their intention, or otherwise, to enter the CDF. After this date HMRC will generally request submission of the full disclosure report within six months. If the timescale is not realistic, it is possible to agree a longer period. It is not unusual for complicated cases to take two years to conclude.

The CDF requires the disclose all tax irregularities to HMRC. Given the complexities of tax law a person is unlikely to be aware of all errors have been made. HMRC advise taxpayers seek specialist professional assistance to help prepare and make the disclosure. This would appear sensible given that a material omission could result in prosecution.

The disclosure takes the form of a report and appendices of primary supporting evidence. It should include personal history, business history, events leading up to and giving rise to tax irregularities, technical analysis and quantification of liabilities. The report should be prepared in such a manner as to legally mitigate the exposure to tax and penalties.

The disclosure process could, in the absence of a specialist adviser be exceptionally intrusive. Normally by the time enquiries have escalated towards the issue of a CDF, those enquiries have already caused significant personal and business disruption. Ultimately, HMRC nowadays has considerable access to information as well as significant powers to obtain more information. With this in mind, HMRC are likely to identify the irregularity and therefore taxpayers only really have the option to disclose and mitigate their exposure to prosecution and penalties through that process. One last point, prosecution doesn’t wash away tax liabilities.

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