The original article was published in Taxation Magazine on 4 July 2019 and can be viewed here.
A number of cases have been through the courts regarding whether HMRC’s guidance can be relied upon and if so, to what extent. If UK taxpayers cannot rely on HMRC guidance, what is its purpose?
In the case of Beardwood  TC 06357, the taxpayer had reviewed HMRC’s guidance to confirm whether he needed to file a tax return, while non-UK resident. He did not file a tax return for rental income of less than £2,000 on the basis of the guidance.
HMRC subsequently issued penalties for late submission of the return. At tribunal, the court suggested that HMRC’s website provided confusing instructions and that the taxpayer had acted in an “exemplary manner” regarding his tax affairs. It was also noted that in relation to Mr Beardwood’s wife who was in exactly the same situation, the penalties had been cancelled by a different officer.
This case demonstrates not only the lack of clarity in HMRC’s guidance, but also the inconsistent approach adopted by HMRC; why did one case go to tribunal, whilst the other was settled directly with HMRC? Mr Beardwood is likely to have had to pay significant costs, interference and disruption to his life by standing up to HMRC and taking the appeal against the penalties to the tribunal. One of the key questions was whether Mr Beardwood had a legitimate expectation that he was not required to file a tax return, despite what the legislation said.
Legitimate expectation is where “courts give legal force to procedural expectations that affected persons hold by virtue of representations made by or conduct engaged in by a statutory or prerogative authority and, sometimes, on the basis of the interest at stake” (https://tinyurl.com/y2ysbdxz). In relation to tax, a taxpayer may be entitled to his expectation that his affairs or a particular transaction will be treated in a particular way as a result of guidance issued by HMRC to a group of taxpayers or by a ruling given specific to a particular taxpayer (https://tinyurl.com/y4se9c6x).
The concept of Legitimate Expectation was tested in Mansworth v Jelley  STC 53. Following the court’s decision that the base cost of employment related securities was their market value of exercise, HMRC issued guidance that the base cost of options exercised prior to 10 April 2003, was the market value of those options on the date of exercise plus the value treated as taxable employment income. It is clear that were the shares sold immediately after exercise, a significant capital loss could have accrued.
A number of taxpayers made a claim for the capital loss in their tax returns on the basis of HMRC’s incorrect guidance. HMRC tried to deny the loss claims but the personal tax contentious issues panel stated that “it would be appropriate for HMRC to allow the taxpayers’ claims for losses. The cases would be those in which:
- taxpayers can make a realistic case that they relied on incorrect guidance (in practice this is a “balance of probabilities” test);
- the taxpayer would suffer detriment if those losses were denied by HMRC; and
- there would have been a legitimate expectation except that HMRC’s delay in working the enquiry means that the level of evidence they are now able to provide is limited (again, a “balance of probabilities” test).”(https://tinyurl.com/y5y8kuts)
These cases lead to the question of consistency within HMRC of their guidance, of application of the law and how the two interact. In Aozora GMAC Investment Ltd  TC 06849, the guidance provided in HMRC’s manuals was incorrect. The case itself regards application of tax credits in relation to US withholding taxes on a loan relationship. The UK tax authorities had requested a change in wording to the double tax treaty, such that relief would be unavailable in respect of the tax levied by the US. However, HMRC’s manuals suggested otherwise. The company had requested tax advice before carrying out the structuring and implementing the loan and the advisers had taken note of both the HMRC manuals and the double tax treaty.
The high court addressed whether the company had a legitimate expectation arising from the wording in HMRC’s manuals and referred to the judgement of Lord Justice Arden in R (on the application of Hely-Hutchinson)  STC 2048:
“where HMRC issues a policy or guidance but later comes to the view that its policy or guidance was wrong in law…a taxpayer can only rely on the legitimate expectation that the [wrong] guidance created where, having regard to the legitimate expectation, it would be so unfair as to amount to an abuse of power”.
Ultimately, Sir Judge Parker (SJP) found that Aozora had not “relied sufficiently” on HMRC’s manuals. He found that “a taxpayer whose transaction…was a mirror image in all respect of the example [given in the guidance] could fairly…ordinarily rely upon the guidance”. This makes the scope for relying on the guidance very limited.
It is worth noting that SJP also stated “The general position in public law appears to be that public authorities must apply the law correctly, even if inconsistent representations have previously been made”, meaning that it may be very difficult to find a recourse where a taxpayer relies on HMRC’s incorrect guidance. In my opinion however, it is difficult to see how an ordinary taxpayer, with no prior tax knowledge could be expected to do anything other than rely on HMRC’s manuals and guidance. Given that HMRC are the UK tax authority, a taxpayer should be able to rely on the guidance in the government publications or its website to be correct.
Surely that would be a legitimate expectation? Given the outcome of Beardwood, this understanding is supported by the courts. Where Aozora differs is that not only did the Company get specialist advice, it could not be shown that they relied specifically on HMRC guidance in carrying out the structuring. This seems a reasonable conclusion on the basis of the facts of the case.
Of more concern is that HMRC’s manuals are essentially the publication of their internal guidance, which HMRC officers follow. If the guidance is wrong, there can be significant inconvenience to the taxpayer as well as increased professional costs and the taxpayer has no recourse to have these repaid. This is the case even when, as pointed out by the tribunal in Beardwood, “HMRC have wasted everyone’s time in bringing a case which has very little merit on their side and where the taxpayer seems to have acted in an exemplary manner”.
I for one would like to see HMRC have to pay the costs to taxpayers who are forced to take unnecessary steps to get the right answer, particularly in cases where there is no public interest.
New penalty policy
Conversely, what is a taxpayer to do when HMRC instigates a new policy, that is not addressed by the legislation?
The penalty regime for incorrect returns makes it clear that provided the disclosure is unprompted by HMRC, the penalty for inaccuracies as a result of a failure to take reasonable care (carelessness) is between 0% and 30% of the tax due and for deliberate behaviour, it is between 20% and 70%. HMRC start with the standard (30% or 70%) penalty and reduce it depending on the quality of the disclosure. Until recently, “quality” is defined as Telling (making a full disclosure), Helping (quantify the inaccuracy) and Giving access to records per HMRC’s guidance.
HMRC’s guidance states that for disclosures made in relation to an inaccuracy that occurred more than three years prior to disclosure, the penalty mitigation will be restricted by 10%. This is unsupported by any legislation and demonstrates to my mind a troubling disregard for the law as it stands. In particular, it is difficult to explain to clients that if they make a voluntary disclosure, they will still receive a penalty (or a higher than minimum penalty) even if they provide all information and assistance.
When asked to reference the legislation to support this, professional advisers are unable to do so. It should be noted that the legislation contained within Sch 24, FA2007 states that “HMRC must reduce the standard percentage to one that reflects the quality of the disclosure”, however “quality” is not defined in the legislation. HMRC suggest that they are therefore acting within the legislation, but the fact that this significant change to the application of penalties has been carried out, without alerting the tax profession and the fact that it is treated as a fixed penalty loading is the point that needs to be addressed.
Effectively, this means that for anyone making a disclosure in relation to deliberate behaviour, the minimum penalty is now 30% (or 45% for a prompted disclosure).
In addition, the fact that the full penalty mitigation cannot therefore be obtained by anyone coming forward more than three years after the event (subject to certain exemptions) means that anyone making a prompted disclosure for deliberate behaviour may well be “named and shamed”. HMRC’s Factsheet CC/FS13 states that “if you’ve taken a significant time to tell us about the default, we will not normally give the maximum penalty reduction for disclosure. If you’ve taken a significant period (normally 3 years) to correct or disclose the default, we’ll normally restrict the penalty range by 10 percentage points above the minimum to reflect the time taken before working out the individual reductions for telling, helping and giving. In such cases, you will not have been given the maximum reduction so we may publish your details.” This makes disclosure to HMRC less appealing, which surely makes HMRC’s job of collecting the correct amount of taxes more difficult.
Whilst HMRC’s point in this context is that the more time that has passed, the more difficult it is for them to verify facts. I would have thought that this is offset by the higher penalties for deliberate behaviour, when investigations and disclosures address issues that occurred more than 6 years ago.
The more pressing concern for advisers is what is the next “policy” that HMRC will enforce without the consideration of Parliament. If HMRC are able to implement policies like this without any legislative background, what is the legislation worth?
 Taxation, 12 June 2014, 5 (1), Legitimate expectation may be agreed in some Mansworth v Jelley loss claims