The tax investigations specialist role is to assist taxpayers who are being investigated by HMRC or those who need to make a disclosure after they become aware a previous tax return contains an error. Naturally many private client lawyers are often not familiar with the intricacies of the tax code dealing with tax enquiries and investigations. Mala Kapacee aims to highlight some key points to be aware of, particularly in relation to Inheritance Tax and estates. The article “Got HMRC investigation worries?” was originally published in The Wize Magazine on 9 June 2021.
Inheritance Tax administration and time limits
As will be familiar to many, the IHT return is due within 12 months of the end of the month in which the death occurred (although IHT is payable six months earlier). Typically (COVID aside), HMRC raise queries within about 12 weeks or at least advise they will be sending questions. They proceed to send the questions within another eight weeks and these will take the form of an informal enquiry.
With other direct taxes there are mechanisms for HMRC to open formal enquiries. Whilst these can be incredibly stressful and time consuming, one of the benefits of formal enquiries is that if the investigation does not appear to be going anywhere then the taxpayer (or their adviser) can request the enquiry is closed. This request can go to the tax tribunals if necessary. With an informal investigation, there is no such protection.
The legislation requires HMRC to raise assessments within a certain number of years, based on the “behaviour” of the taxpayer – four years if the taxpayer (here, the executor of the estate) took reasonable care, six years if they were careless or 20 years for cases of fraud (for UK taxes). This applies to IHT only where the IHT return was filed.
Where no IHT return is filed, then there are no time limits if the individual responsible for filing the tax return deliberately failed to do so. If it was not deliberate, but there was a lack of reasonable care, then HMRC has 20 years to raise an assessment.
To carry out enquiries and investigations, HMRC has a number of tools at its disposal. One of the most powerful is its information powers. Broadly speaking, HMRC is permitted to request any information relating to the taxpayer’s present, past or future tax position provided there is an open enquiry for the period the documents relate to. If there is no open enquiry, HMRC must have reasonable suspicion that there is a tax loss.
We often come across information notices where HMRC has not complied with the requirements but the taxpayer has provided information regardless. Also, although there is no right to refuse provision of statutory records (subject to other criteria being met), you may qualify for legal or litigation privilege.
Beware informal requests for information as they may not be safeguarded by the requirements in the Information Powers legislation and therefore there may not be legislative ground on which to deny the information. It may be useful to ask HMRC to request the information formally, though you would need to weigh up the associated consequences.
If HMRC ask informally and no information is provided, then they will use their formal information powers. This could then affect the penalty levied (if any) on the basis that full cooperation was not given by the client from the beginning. Any refusal to provide information should therefore be carefully thought through and justified.
On submission of an IHT return, there are a few areas that will be sure to attract HMRC’s attention including:
Business Property Relief and Agricultural Property Relief: Has relief been claimed on the correct value, and is the property entitled to relief at all? Particular care is required where a company also makes investments.
Tax avoidance: For example, transfers into pensions are taken outside the deceased’s estate and can reduce IHT significantly. However, if it appears this was done close to death to avoid tax, HMRC might seek to claw this back.
Potentially exempt transfers: Beneficiaries should be made aware that all relevant PETs should be disclosed and that they would be liable to any relevant taxes. Since Finance Act 2020, HMRC has had the power to go directly to Financial Institutions and request a taxpayer’s bank statements. This includes deceased taxpayers. HMRC’s CONNECT algorithm will also take information from the various Government departments and publicly available media (including social media) to determine whether a return is at risk of being inaccurate.
Valuations: Any valuation is inherently subjective and therefore subject to scrutiny. Proper record keeping is vital.
Previously undeclared income/gains and HMRC enquiries into the deceased
You may become aware of ways in which a client was not tax compliant during their lifetime. In cases like this, we explain to (e.g.) the executors that a disclosure needs to be made to HMRC and this is the wisest course of action. A voluntary disclosure is preferable to waiting for HMRC to intervene as you retain control of the narrative and penalties are lower than they would be otherwise.
When HMRC enquires into a deceased person’s tax affairs, they have four years from the due date of the tax return for the year in which the person passed away to raise an enquiry.
The legislation requires HMRC to raise assessments within a certain number of years, based on the “behaviour” of the taxpayer – four years if the taxpayer took reasonable care or six years if they were careless. Deliberate behaviour cannot be inferred on the deceased. Where any undeclared tax relates to overseas, from 2013/14, the four or six year time limits are extended to 12 years.
Given the events of the last year, it is clear HMRC will be seeking to recover as much tax as possible. Enquiries and investigations will increase and as advisers you need to know your rights and obligations to best serve your clients. This article should hopefully give a flavour of things to look out for so you are better placed to warn and advise your clients as appropriate.