The UK generally operates a self-assessment regime, requiring corporate and individual taxpayers to complete tax returns in order to calculate their tax liability for a specified period and pay any tax within a particular deadline. Certain taxpayers are not required to file self-assessment tax returns – for example, individuals whose only earnings are under a certain amount and subject to withholding taxes by their employer through payroll.
The majority of tax disputes therefore arise as a result of an investigation by the UK tax authority, HM Revenue and Customs (HMRC), seeking to verify that the correct amount of tax has been paid through self-assessment.
HMRC investigations can take different forms depending on the issues involved. HMRC generally uses the term “compliance check” to describe any investigation where it is seeking to verify that the correct amount of tax has been paid. In the case of self-assessment tax returns, these checks are subject to strict statutory procedures and properly referred to as “enquiries”. Unlike some other jurisdictions, therefore, the UK does not generally refer to tax “audits”.
According to compliance yield data published by HMRC, for the period 1 April 2021 to 31 March 2022 (the latest data available), the approximate breakdown of tax controversies across all business areas was as follows:
The best way to mitigate the possibility of tax controversy is through ensuring upfront compliance by relying on professional advisers (tax lawyers and/or accountancy firms). However, there is of course the possibility that HMRC could disagree with the position adopted by the taxpayer.
Where applicable, certain mechanisms can enable an upfront agreement between the taxpayer and HMRC, including:
In addition, where errors have occurred, penalties charged in respect of tax errors can be heavily mitigated by the timing and quality of taxpayer disclosure (and, in some cases, eliminated altogether or potentially suspended).
The UK has implemented a number of domestic measures in order to combat tax avoidance over a number of years, including (without limitation):
In addition, the UK has taken a proactive approach in relation to the implementation of the OECD’s Base Erosion and Profits Shifting (BEPS) project, which is aimed at reforming international tax rules to combat tax avoidance.
HMRC is also being increasingly armed with further powers and resources in order to conduct investigations. For example, in November 2022, the UK government announced a package of measures to tackle tax avoidance, evasion and wider non-compliance, estimated to raise an additional GBP1.7 billion over five years. This included a further GBP79 million investment in additional HMRC staff to help tackle serious tax fraud and tax compliance risks among wealthy taxpayers.
For most direct taxes (eg, income tax, capital gains tax and corporation tax), HMRC will generally agree (on application) to postpone payment of any disputed tax, pending the outcome of a statutory appeal. There are, however, certain exceptions, for example:
For most indirect taxes (eg, VAT, excise duty and customs duty), the disputed tax must be paid upfront, unless the taxpayer can demonstrate financial hardship. If the appeal is ultimately successful, HMRC will have to repay any tax previously paid.
Late Payment Penalties
Late payment penalties will apply where an amount of disputed tax is not paid or such amount has not been successfully postponed pending the outcome of the appeal.
Notwithstanding any appeal or postponement application, late payment interest will continue to accrue on the amount of any disputed tax until paid. The rate of interest charged by HMRC fluctuates over time, but typically tracks at 2.5% above the Bank of England’s base rate. Given tax appeals can take years to finalise, accrued interest can become material. In some cases, taxpayers may therefore decide to make a payment on account to HMRC – that is, pay the disputed amount without admitting liability, which would then be refunded to the extent that the taxpayer’s appeal is successful.
As mentioned previously, HMRC investigations can take different forms depending on the issues involved. HMRC generally uses the term “compliance check” to describe any investigation where it is seeking to verify that the correct amount of tax has been paid. In the case of self-assessment tax returns, these checks are subject to strict statutory procedures and properly referred to as “enquiries”. Unlike some other jurisdictions, therefore, the UK does not generally refer to tax “audits”.
Although a small number of HMRC self-assessment enquiries or other compliance checks are started on a random basis, in the vast majority of cases, taxpayers are selected for a reason, either on the basis of specific information held by HMRC or a risk-based assessment (based on factors such as inconsistencies in tax returns, previous compliance history, the value or complexity of a taxpayer’s affairs, the use of potential avoidance schemes, and offshore arrangements). HMRC does not have to provide reasons for starting a self-assessment enquiry or compliance check, and the reasons may not always be obvious.
In order to open an enquiry into a self-assessment tax return, HMRC must generally give written notice of its intention to do so within 12 months from the date that the return was delivered. However, different time limits can apply, depending on the taxes involved and other circumstances (eg, where tax returns have been filed late or are subsequently amended by the taxpayer). This is commonly referred to as the “enquiry window”.
A self-assessment enquiry is only considered formally concluded when HMRC issues a “closure notice” (and the taxpayer should have the ability to appeal any unfavourable conclusion contained in that closure notice). A closure notice can be issued in respect of an entire tax return (referred to as a “final closure notice”) or a specific matter within that return (referred to as a “partial closure notice”).
However, there is no specific time limit for HMRC to issue a closure notice, meaning that this is often a key area of disagreement with taxpayers. If a taxpayer considers that HMRC already has sufficient information to conclude a self-assessment enquiry, it may apply to the First-Tier Tribunal (Tax Chamber) (FTT) for a direction requiring HMRC to issue a closure notice within a specified period. The burden is then on HMRC to demonstrate, on the balance of probabilities, that there are reasonable grounds not to do so.
If the enquiry window has expired, HMRC can still make tax assessments where it “discovers” a loss of tax (ie, if an amount of corporation tax has not been assessed, has been undercharged, or relief has been overclaimed).
HMRC’s ability to make “discovery assessments” is subject to various conditions and will depend on the taxes involved. For example, the general rule is that HMRC cannot make a discovery assessment more than four years after the end of the relevant tax year or accounting period (as applicable). That time limit is extended in certain circumstances, for example where the loss of tax was brought about “carelessly” (six years) or “deliberately” (20 years). Extended time limits can also apply where there has been a failure to comply with certain obligations relating to filing returns or the disclosure of tax avoidance schemes.
Aside from time limits, where a taxpayer has filed a return, HMRC must also be able to demonstrate that one of two gateway conditions is satisfied in order to make a discovery assessment, broadly:
Furthermore, where a taxpayer has delivered a tax return for the relevant tax year or accounting period, no discovery assessment may be made if the loss of tax is attributable to a mistake in the return as to the basis on which the taxpayer’s liability should have been computed and such return was made in accordance with the practice generally prevailing at the time when it was made.
Other Compliance Checks
Other than in respect of self-assessment enquiries, there is no statutory time limit or formal mechanism for HMRC to initiate or conclude a compliance check. However, there are time limits for any consequential tax assessments to be made.
For example, the time limit for HMRC to make an assessment to VAT is generally four years after the end of the relevant VAT period (or 20 years for cases involving “deliberate” behaviour). In addition, a VAT assessment may not be made after the later of either:
Such time limits are unaffected by the duration of any such compliance check.
HMRC investigations predominantly take place through correspondence and, where appropriate, may include site visits or meetings (typically at the premises of the taxpayer or its adviser or, increasingly, by way of remote meetings).
The key areas of focus in any HMRC investigation will vary depending on the type of investigation and taxes involved.
As an internal matter, HMRC may refer to certain self-assessment enquiries as “full” (a comprehensive, in-depth examination of the underlying tax return) or “aspect” (concentrating on one or more separate matters). However, this distinction has no basis in law and, once a notice of enquiry has been issued, HMRC is generally not limited as to what matters arising from a tax return it may want to investigate.
For businesses, a “cross-tax enquiry” refers to a situation where HMRC wishes to combine enquiries/compliance checks into different taxes (eg, direct taxes, VAT, employment taxes, etc) into one comprehensive review of the business’s tax affairs.
As an indication of the types of areas HMRC may have a particular current interest in, HMRC regularly publishes details of “nudge” letter campaigns on specific issues (see the UK Trends & Developments chapter in this guide).
The increasing prevalence of rules concerning cross-border exchanges of information and mutual assistance between tax authorities has led to unprecedented levels of scrutiny over UK (and other) taxpayers. The full impact of this on the number of investigations being started by HMRC is yet to be determined.
Broadly, a key task for any taxpayer under investigation will be to strike the right balance between protecting themselves and being seen to co-operate with HMRC. Attempting to simply stonewall the investigation is unlikely to be helpful – HMRC ultimately has powers to compel the sharing of information in certain circumstances. However, there are limits as to what HMRC can ask for and taxpayers should therefore be aware of their rights before handing over any information.
Once a notice of enquiry or compliance check has been issued by HMRC, businesses would also be well advised to conduct their own investigations with their professional adviser(s) to reassess their tax position as filed in order to identify issues before these are discovered by HMRC. Where issued are identified internally, the taxpayer can consider a pre-emptive disclosure to HMRC where appropriate – not only may this help mitigate any penalties, but it may also help retain an element of control over the investigation and the flow of information being provided (including to set out the taxpayer’s perspective on how any errors may have occurred).
Strategy will need to be approached on a case-by-case basis. Taxpayers under investigation by HMRC should always seek appropriate professional advice.
If a taxpayer disagrees with a decision made by HMRC (eg, a closure notice or discovery assessment), in most cases a challenge may be brought by way of statutory appeal to the First-tier Tribunal (FTT). Where there is a right of appeal, however, taxpayers will also have the right to have the decision reviewed by a different HMRC officer not previously involved in the matter. This process is sometimes referred to as a “statutory review”.
The statutory appeal and review process will vary depending on the taxes involved:
The review process is intended as an alternative to litigation. If the taxpayer does not agree with a review conclusion letter, it will still have the right to notify its appeal to the FTT (usually within 30 days). However, once the review process is underway, the taxpayer will be barred from notifying an appeal to the FTT until that process is concluded. Equally, once an appeal has been notified to the FTT, it is no longer possible to invoke the right of review.
If a taxpayer accepts or requests a statutory review, HMRC must carry out the review and set out its conclusions in writing within 45 days (unless a different period is agreed).
The court of first instance for tax disputes in the UK is generally the FTT. See 3.1 Administrative Claim Phase in respect of the procedure to initiate an appeal. As noted, appeals must be notified to the FTT within a specified time limit (usually 30 days of the date of the relevant decision from HMRC). It is critical to ensure that appeals are made within such time limit. While late appeals can be made in certain circumstances, this requires HMRC’s agreement or permission from the FTT.
Aside from statutory tax appeals, it may be possible in certain circumstances to challenge the decisions of public bodies in the UK – including HMRC – by way of judicial review. However, the FTT is a creature of statute (specifically, the Tribunal, Courts and Enforcement Act 2007) and its jurisdiction is therefore limited by statute. It is well established that the FTT does not have a general judicial review jurisdiction to hear public law arguments. Judicial review claims are generally, therefore, initiated in the High Court. For judicial review proceedings, a claim must be made promptly and, in any event, no later than three months after the grounds for making the claim first arose.
The following sections are relevant to statutory appeals only, rather than judicial reviews, unless otherwise indicated.
Upon receipt of a notice of appeal, the FTT will write to the parties and place the case in one of four categories:
“Complex” cases are those which require voluminous or complex evidence or a lengthy hearing (more than five days), involve a complex or important principle or issue, or otherwise involve a large financial sum (at least GBP750,000 for direct tax cases or at least GBP2 million for indirect tax cases).
For standard or complex cases, the initial stages before the FTT are generally as follows:
Prior to the final hearing, the parties will then typically provide the following documents in sequence (within time limits specified by case management directions issued by the FTT, but agreed in advance between the parties as a matter of good practice):
After the date of the hearing (typically some months later), the FTT will provide its decision in writing.
Prior to the final hearing before the FTT, the parties will exchange a list of documents upon which they intend to rely, together with any witness statements or expert reports.
At the hearing, any party seeking to rely on a witness statement or expert report may also call that witness or expert to answer supplemental questions (but the statement or report is typically taken as read) and must call that witness or expert to be available for cross-examination by the other party (unless notified in advance by the other party that the evidence of the witness or expert is not in dispute).
There is no requirement to provide a witness statement or expert report. However, adverse inferences may be drawn in certain circumstances – see 4.4 Burden of Proof in Judicial Tax Litigation.
In civil tax litigation, the burden of proof will be on the appellant which, in the context of an appeal before the FTT, will be the taxpayer. The standard of proof is the balance of probabilities (ie, the taxpayer must show that it is more likely than not that its case is made). The burden may shift in specific circumstances – for example, in the context of a closure notice application – see 2.2 Initiation and Duration of a Tax Audit.
In criminal proceedings, the burden of proof is on the prosecution. The standard of proof is beyond reasonable doubt (ie, a jury or magistrate must be sure that an offence has been committed).
The strategic options for any tax litigation will depend on the factual and legal issues involved and should therefore be considered on a case-by-case basis.
The UK’s legal system follows a hierarchical system whereby decisions of higher courts bind those below (see 5.1 System for Appealing Judicial Tax Litigation).
Prior to Brexit, UK courts and tribunals were also bound by decisions of the Court of Justice of the European Union (CJEU). As of 11pm on 31 January 2020, the UK ceased to be an EU member state. Decisions of the CJEU made before this time are binding on UK courts and tribunals (although the Supreme Court and Court of Appeal may depart from such decisions in certain circumstances). Decisions of the CJEU made after the time of the UK’s exit are no longer binding on UK courts and tribunals (although they may still have regard to the CJEU’s decisions if relevant).
The Human Rights Act 1998 requires UK courts and tribunals to take account of decisions of the European Court of Human Rights (which is entirely separate from the European Union). However, UK courts and tribunals are not required to follow the decisions of that court and can decline to do so in certain circumstances.
In England and Wales, appeals from the FTT are to the Upper Tribunal (Tax and Chancery Chamber) (UT). The unsuccessful party (ie, the taxpayer or HMRC, as applicable) has 56 days to seek permission to appeal a decision of the FTT.
Subsequent appeals are to the Court of Appeal and then the Supreme Court. It can take several years for an appeal to progress through these various stages of the appeal system, although most do not reach the higher courts. At each stage, permission is required in order to appeal (from the tribunal/court that made the decision or, failing that, from the court to which the appeal is being sought). Appeals may be made on points of law only. In addition, permission to appeal to the Supreme Court will usually only be granted for appeals involving points of general public importance.
Judicial review proceedings follow a different structure. Appeals from the High Court are to the Court of Appeal, and then to the Supreme Court.
Proceedings before the UT, Court of Appeal and Supreme Court are governed by rules and procedures specific to those tribunals/courts.
The composition of the court will depend on the level of appeal proceedings.
In the FTT and UT, appeals may be heard by a single judge or a panel including lay members (individuals who are not legally qualified but have other relevant experience, such as in tax or accountancy).
In the Court of Appeal and Supreme Court, decisions are made by a panel of judges (based on a simple majority).
Where appropriate, taxpayers can apply to HMRC for their tax dispute to be subject to ADR proceedings by way of formal mediation. The ADR process is non-statutory and entirely voluntary, meaning any application for, or entering into, ADR should not affect a taxpayer’s statutory rights of appeal or review.
In addition, for cases where there is double taxation, the Mutual Agreement Procedure (MAP) may be applicable. The UK has around 130 double tax treaties with other jurisdictions in place, the vast majority of which contain a MAP provision based on the provisions of Article 25 of the OECD Model Convention. See8. Cross-Border Tax Disputes.
The ADR/mediation process described in 6.1 Mechanisms for Tax-Related ADR in This Jurisdiction is similar to that used in commercial mediation – there will usually be a single mediation day where the mediator brings the taxpayer (and its adviser(s)) and the HMRC case team together for a series of joint and private discussions over the course of the day.
However, unlike commercial mediation, an HMRC employee will act as the mediator (and will be “independent” in the sense that they will come from a specialist ADR team within HMRC and have had no prior involvement with the case). In some circumstances, at the taxpayer’s cost, it is also possible to appoint a third party to act as co-mediator.
The ADR procedures described in 6.1 Mechanisms for Tax-Related ADR in This Jurisdiction can apply to tax assessments and tax-geared penalties (not automatic late payment/filing penalties or civil evasion penalties), although any change to the amount of a tax assessment will of course have a consequential impact on the calculation of any interest payable.
Under parts of UK legislation, a taxpayer may apply to HMRC for advance clearance on the tax treatment of certain transactions. In addition, HMRC also provides a non-statutory clearance service for issues on which the tax position may not be clear.
In either case, broadly, the clearance will provide written information of HMRC’s view in respect of a specific transaction or issue, which the taxpayer should then be able to rely upon. In some circumstances, HMRC may regard a clearance provided to a taxpayer as no longer binding – in particular, where it is found that the taxpayer has not provided all the relevant information as part of the clearance application.
The ADR/mediation process described in 6.1 Mechanisms for Tax-Related ADR in This Jurisdiction is not automatic, but is available on application by the taxpayer, where appropriate. HMRC publishes a list of categories of cases which it considers unsuitable for ADR. This currently includes, for example, matters which are the subject of a criminal investigation, civil evasion penalties, debt recovery or payment issues, accelerated payments and follower notices.
Importantly, HMRC has a framework for conducting disputes with taxpayers, referred to as the “Litigation and Settlement Strategy”. Broadly, this framework provides that any settlement must accord with HMRC’s interpretation of relevant law and that HMRC cannot settle for less than it thinks can be achieved through litigation. HMRC cannot, therefore, “do deals” with taxpayers.
In most cases, the taxpayer may have already appealed to the FTT before making an application for ADR. If HMRC accepts the taxpayer’s application for ADR, the FTT should be informed as soon as possible. The FTT will usually be willing to stay (ie, pause) proceedings in order to facilitate the use of ADR at another stage of the proceedings. The FTT will normally allow a stay of 150 days where an appeal has been accepted for ADR, with any additional time required needing to be on further request. However, where a hearing date has already been scheduled, the FTT will normally only be willing to stay proceedings if satisfied that the hearing will be able to go ahead on the scheduled date (in the event that the ADR does not resolve the dispute).
The ADR/mediation process described in 6.1 Mechanisms for Tax-Related ADR in This Jurisdiction should in principle be available to settle disputes arising under transfer pricing cases.
Alternatively, in cases where there is double taxation, a Mutual Agreement Procedure (MAP) may be applicable.
In addition to late filing and payment penalties, taxpayers may become subject to tax-geared civil penalties where tax infringements involve “careless” or “deliberate” behaviour. These penalties can be heavily mitigated by the timing and quality of taxpayer disclosure and, in certain cases, eliminated altogether or suspended. Litigation proceedings involving civil penalties generally follow those for tax assessments (see 4. Judicial Litigation: First Instance and 5. Judicial Litigation: Appeals).
Where applicable, HMRC has powers to carry out criminal investigations and, when deciding whether to seek prosecution for cases involving tax fraud, has a range of (statutory and common law) offences at its disposal. Where HMRC concludes that criminal wrongdoing has taken place, a referral will be made to the relevant prosecution authority (in England and Wales, the Crown Prosecution Service), which will be responsible for prosecuting the case. Punishment can range from fines to imprisonment. At the Spring Budget 2023, the UK government announced that the maximum sentences for the most egregious forms of tax fraud would increase from seven to 14 years.
The criminal tax offences referred to above apply equally to both individuals and corporate entities. Generally, English law allows corporate entities to be found guilty of tax fraud offences where dishonesty can be attributed to the “directing mind and will” of the business (ie, members of senior management). In addition, the Criminal Finances Act 2017 established new offences related to the failure to prevent the facilitation of tax evasion by associated persons. These are strict liability offences, meaning there is no requirement to prove any element of dishonesty – potentially making it much easier for corporate entities to be prosecuted in relation to tax fraud. Although corporate entities clearly cannot face prison sentences, a successful prosecution under UK tax offences could result in unlimited fines (as well as loss of reputation and any other applicable regulatory approvals).
Civil and criminal investigations conducted by HMRC are separate processes. However, where HMRC suspects tax fraud (whether as part of an existing enquiry/compliance check or otherwise), it may use “Code of Practice 9” (“COP9”). This is a civil procedure whereby the relevant individuals are offered the opportunity to make a full disclosure of any fraudulent behaviour through the associated Contractual Disclosure Facility and pay any tax due (together with any interest and penalties), in return for which HMRC will agree not to start a criminal investigation with a view to prosecution.
Where HMRC suspects that the taxpayer has failed to make a full disclosure or has provided false statements, it reserves the right to start a criminal investigation.
It is HMRC’s policy to deal with cases of suspected tax fraud by using COP9 wherever appropriate. Criminal investigation is typically reserved for cases where HMRC wants to establish a strong deterrent or where the conduct involved means that only a criminal sanction would be appropriate (eg, organised crime).
When considering whether a case should be investigated under COP9 or through a criminal investigation, one factor that will be relevant is whether the taxpayer has made a complete and unprompted disclosure of the offences committed.
Criminal tax proceedings can arise independently, or out of existing civil enquiries/compliance checks where facts come to light that indicate potential tax fraud.
Where HMRC decides to pursue a criminal investigation, it has similar criminal investigatory powers to other UK law enforcement agencies (albeit specific to HMRC-related offences). This includes powers to:
Where HMRC concludes that criminal wrongdoing has taken place, a referral will be made to the relevant prosecution authority (in England and Wales, the Crown Prosecution Service), which will be responsible for prosecuting the case and deciding whether to charge the suspect.
Where a suspect has been charged, they will be committed for trial in due course. These are criminal court proceedings, which are entirely distinct from the civil/tax appeal process described in 3. Administrative Litigation to 5. Judicial Litigation: Appeals. All criminal proceedings in England and Wales start in the magistrates’ court, but more serious matters are sent to the crown court (which will be most cases involving tax fraud).
If COP9 is applicable, the relevant individual should be able to avoid any criminal fines through full disclosure of the fraudulent activities and payment of any tax due (together with any interest and civil penalties).
See also 7.1 Interaction of Tax Assessments With Tax Infringements regarding the potential to mitigate civil penalties.
See 7.5 Possibility of Fine Reductions regarding COP9. Corporate entities may also be able to benefit from a deferred prosecution agreement in certain circumstances – this is an agreement with the prosecuting authority allowing a prosecution to be suspended for a defined period, provided that the relevant corporate entity meets specified conditions.
Appeals against a sentence or conviction passed by the magistrates’ court are made to the crown court. Appeals from the crown court are made to the Court of Appeal, and then to the Supreme Court.
Most UK tax disputes do not rise to the level of criminal offences.
For corporate taxpayers in particular, it has historically been more difficult to bring prosecutions due to the “directing mind and will” test (see 7.1 Interaction of Tax Assessments With Tax Infringements). The new strict liability offences introduced by the Criminal Finances Act 2017 should make it easier for corporate entities to be prosecuted in relation to tax fraud, but no prosecutions have yet been brought (see separate trends and developments article).
In cases where there is double taxation, the Mutual Agreement Procedure (MAP) may be applicable. The UK has around 130 double tax treaties with other jurisdictions in place, the vast majority of which contain a MAP provision based on the provisions of Article 25 of the OECD Model Convention.
Where MAP is being pursued, it would also be typical to make relevant statutory appeals under domestic legislation (in case MAP is not ultimately successful). An application may be made to the FTT to stay proceedings pending the outcome of MAP.
Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting
The UK has signed, without any reservation on the MAP article, the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (the “MLI”). The UK is in favour of using arbitration to eliminate double taxation where the relevant competent authorities have been unable to reach agreement through MAP, and it is UK policy to include a provision for arbitration in its double tax treaties. The UK seeks to follow Article 25(5) of the OECD Model Convention in its double tax treaties and has committed to mandatory binding arbitration through the MLI.
As a result of the UK’s departure from the EU, no new MAP claims have been accepted under the EU Arbitration Convention since 1 January 2021.
The UK’s GAAR was introduced to counteract tax advantages which arise from abusive tax arrangements. HMRC’s view is that the GAAR cannot apply to arrangements that are not “abusive” but which simply benefit from international tax rules provided through double tax treaties (eg, the attribution of profits to branches or between group companies of multinational enterprises, and the allocation of taxing rights to different states where such enterprises operate). However, where there are abusive arrangements which try to exploit the provisions of double tax treaties and result in UK tax advantages, HMRC considers that the GAAR can be applied. The same should in principle apply for any specific targeted anti-abusive rules.
In the UK, most transfer pricing disputes are settled through agreement with HMRC or through MAP. Very few transfer pricing cases have proceeded to litigation before the courts.
DPT has also heavily incentivised taxpayers to settle transfer pricing disputes. Introduced by the Finance Act 2015, DPT targets contrived arrangements where multinational enterprises seek to divert profits earned in the UK to other jurisdictions where they pay little or no tax. DPT is separate from corporation tax (which applies in respect of transfer pricing) and is therefore subject to different rules. However, DPT is intended to work alongside the UK’s transfer pricing regime and, in many cases, taxpayers can avoid a liability to DPT by making appropriate transfer pricing adjustments for corporation tax. The incentive to do so stems from the fact that DPT is set at a higher rate than corporation tax, with no right of appeal until the end of a 15-month review period (ie, the disputed tax, which may be material, is paid upfront).
Multinational enterprises operating in the UK may apply for unilateral and bilateral advance pricing agreements (APAs) with HMRC in order to prevent disputes from arising in respect of transfer pricing.
HMRC expects that APA applications will be bilateral rather than unilateral except where:
An APA may relate to all of the business’s transfer pricing issues or be limited to specific issues (which may be pre-existing).
HMRC recommends that an enterprise interested in applying for an APA contacts HMRC informally before submitting any formal application. Once a formal application has been submitted, HMRC aims to complete the process within 18 to 21 months, depending on the complexity and number of jurisdictions involved (and the enterprise may withdraw the application at any time before a final agreement is reached). If the APA is ultimately agreed, an annual report will be required to demonstrate compliance and an APA may be revoked in certain circumstances.
As noted in 8.3 Challenges to International Transfer Pricing Adjustments, very few transfer pricing cases have proceeded to litigation before the UK courts, but other cross-border issues are the subject of litigation (eg, residence, withholding tax issues and permanent establishments). There is no specific published data on the number of these cases.
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The UK is in favour of using arbitration to eliminate double taxation where the relevant competent authorities have been unable to reach agreement through MAP, and it is UK policy to include a provision for arbitration in its double tax treaties. The UK seeks to follow Article 25(5) of the OECD Model Convention in its double tax treaties and has committed to mandatory binding arbitration through the MLI.
The UK is content for arbitration to apply to all cases where taxation is not in accordance with its double tax treaties. However, not all treaty partners agree and certain of the UK’s double tax treaties may therefore be restricted (eg, to cases involving transfer pricing or the attribution of profit to permanent establishments). Reference to the individual treaty should always be made.
See 10.1 International Tax Arbitration Options and Procedures regarding the implementation of the MLI. Reference to the individual treaty should always be made.
As a result of the UK’s departure from the EU, no new MAP claims have been accepted under the EU Arbitration Convention since 1 January 2021.
See 10.1 International Tax Arbitration Options and Procedures and 10.4 Implementation of the EU Directive on Arbitration.
The UK’s Digital Services Tax (DST) was introduced, with effect from 1 April 2020, as a new 2% tax on the revenues of search engines, social media services and online marketplaces which derive value from UK users. In conjunction with the implementation of the OECD’s Pillars One and Two, the UK is set to withdraw DST by 31 December 2023.
On 23 March 2023, the UK published draft legislation in respect of the UK’s implementation of Pillar Two. The draft legislation introduces a “multinational top-up tax” and a “domestic top-up tax”. These provisions, once enacted, will apply from accounting periods beginning on or after 31 December 2023. It is expected that the undertaxed profits rule will not apply in the UK earlier than for accounting periods beginning on or after 31 December 2024, with draft legislation to be released at a later date.
In principle, information given and received during arbitration is treated as confidential. The standard provision of the MLI relating to arbitration provides for the arbitration decision to be provided only to the relevant competent authorities.
See all of 10. International Tax Arbitration Options and Procedures above.
Taxpayers involved in tax disputes relating to international tax issues will typically seek professional advice from legal advisers and/or accounting firms, as appropriate. However, the role such advisers can directly play in the arbitration process itself may be limited.
There are generally no costs or fees payable to HMRC in connection with tax disputes (subject to 11.3 Indemnities).
No court fees are payable in proceedings before the FTT or UT.
Fees do apply for proceedings before the Court of Appeal or Supreme Court on the filing of certain documents, payable by the appellant (in the case of a notice of appeal) or by the party filing the relevant document.
See 4.2 Procedure of Judicial Tax Litigation regarding the allocation of appeals in the FTT, which has important implications for a taxpayer’s costs. In the FTT, the general rule is that each party bears its own costs. Therefore, if the taxpayer wins its appeal, it will not be able to recover its costs from HMRC. Equally, if the taxpayer loses its appeal, it usually does not have to worry about paying HMRC’s costs.
There are certain exceptions to this general rule, primarily where an appeal is allocated to the “complex” track and the taxpayer has not opted out of the associated costs regime within the time permitted (28 days of receiving notice of the appeal’s allocation). The FTT may also award costs if it considers that one of the parties has acted unreasonably in bringing, defending or conducting the proceedings.
The position on costs is different if an appeal extends beyond the FTT (or for any judicial review proceedings), where the normal position is that the losing party will be ordered to pay a portion of the successful party’s costs (subject to the court’s discretion).
If the disputed tax has been paid pending the outcome of the appeal, HMRC must also repay that amount plus repayment interest (however, the amount of interest applied to repayments is far lower than the amount charged by HMRC in respect of late payment – see 1.5 Additional Tax Assessments).
In respect of ADR proceedings by way of formal mediation (see 6.1 Mechanisms for Tax-Related ADR in This Jurisdiction), an HMRC employee will act as the mediator, meaning there should typically be no costs or fees payable by the taxpayer (other than for their own professional advisers). However, in some circumstances it is also possible to appoint a third party to act as co-mediator, usually at the taxpayer’s cost.
Based on the latest published statistics at the time of writing (HMRC’s annual report and accounts for 2021 to 2022, published on 18 July 2022):
HMRC does not publish litigation statistics broken down by different taxes.
However, HMRC does publish compliance yield data for different taxes across different parts of HMRC. See 1.2 Causes of Tax Controversies.
As noted in 6.1 Mechanisms for Tax-Related ADR in This Jurisdiction, HMRC has a framework for conducting disputes with taxpayers, referred to as the “Litigation and Settlement Strategy”. Based on that framework, only a proportion of tax disputes will proceed to litigation and HMRC’s success rate is typically very high (based on HMRC’s own criteria for “success”).
Based on the latest published statistics at the time of writing (HMRC’s annual report and accounts for 2021 to 2022, published on 18 July 2022), HMRC’s own stated success rate for all decided appeals across all tribunals and courts was 88% in the period 1 April 2021 to 31 March 2022. Note that this figure includes a large number of unrepresented taxpayers and/or non-material disputes.
As noted in 2.6 Strategic Points for Consideration During Tax Audits and 4.5 Strategic Options in Judicial Tax Litigation, the strategic options for any tax controversy will depend on the factual and legal issues involved and should therefore be considered on a case-by-case basis. Taxpayers involved in a tax controversy should seek appropriate professional advice as soon as possible.
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The UK tax landscape underwent a period of considerable turbulence in 2022, with four fiscal events (in the form of the Spring Statement in March 2022, the ill-fated “Growth Plan” of September 2022, the subsequent 17 October 2022 Statement and the Autumn Statement in November 2022), as well as the appointment of three chancellors of the exchequer after July 2022 (one of whom was even investigated for his own alleged tax avoidance).
In light of current economic circumstances, together with planned spending cuts and tax rises, there is now huge pressure on HMRC (like other tax authorities) to recover further tax revenue. It came as no surprise, therefore, that the Spring Budget 2023 announced various measures designed to help tackle the “tax gap” (ie, the difference between the amount of tax that HMRC considers should be collected and the amount actually collected). We look at some of these announcements below as part of our key expectations for UK tax disputes in the year ahead. This is not, however, intended to be an exhaustive list.
As a general matter, HMRC had already been ramping up activity since the end of the COVID-19 pandemic, and the latest developments are expected to see that trend accelerate further. Both individual and corporate taxpayers would therefore be well advised to check their tax position as soon as possible to prepare for any potential HMRC investigation into their tax affairs.
The behavioural science of “nudge theory” has become an increasingly used weapon in HMRC’s arsenal over the last few years – ie, that people can be better directed towards a desired course of action through suggestion rather than obligation. UK taxpayers may have noticed the same concept at work when completing their online tax returns, where certain information is now pre-populated based on figures held by HMRC (the idea being that the taxpayer will likely accept those figures by default).
In 2022, HMRC launched an unprecedented number of nudge letter campaigns on various issues (some of which are referenced below) – a trend which is likely to continue. Any taxpayers who receive nudge letters, even those taxpayers who are confident of their tax position, should seek professional advice as soon as possible. While nudge letters do not make specific accusations and are rarely overtly threatening in tone, they are generally based on actual data held by HMRC. Failure to take action or respond is therefore likely to mean the imminent risk of HMRC starting an investigation.
Tax Fraud and Avoidance
It is anticipated that there will be a rise in the number of HMRC investigations into tax fraud-related offences and associated prosecutions, as well as a crackdown on alleged tax avoidance in the next few years. In November 2022, the UK government used the Autumn Statement to announce that the programme to repair the country’s public finances would need to be supported by a package of measures to tackle tax avoidance, evasion (ie, tax fraud) and wider non-compliance. It is estimated that these measures will raise an additional GBP1.7 billion in tax revenue over the next five years. This includes a further GBP79 million investment in additional HMRC staff to help tackle serious tax fraud and tax compliance risks among wealthy taxpayers, forecasted to raise GBP725 million over the next five years.
HMRC has powers to carry out both civil and criminal investigations, and when deciding whether to seek prosecution for cases involving tax fraud, has a range of both statutory and common law offences at its disposal. Punishment can range from fines to imprisonment, and one of the announcements made in the Spring Budget 2023 as part of addressing the tax gap was the increase in the maximum sentences for the most egregious forms of tax fraud from seven to 14 years. A consultation was also announced on the introduction of a new criminal offence for promoters of tax avoidance.
From 30 September 2017, the UK Criminal Finances Act 2017 (CFA) created new, strict liability corporate criminal offences relating to the failure to prevent the facilitation of tax evasion by associated persons. However, over five years later, no prosecutions have yet been brought. In figures published in January 2023, it was revealed that HMRC then had nine live CFA investigations, with no charging decisions made, and a further 26 live opportunities stated to be under review. The year 2023 might therefore see the first prosecution brought under the CFA offences.
The only defence in law against the CFA offences is to have had in place “reasonable preventative procedures” at the relevant time. Despite the CFA offences being introduced in 2017, many businesses still do not have proper procedures in place (including those who may have purchased an “off-the-shelf” set of procedures). Businesses should therefore consider evaluating their position to see if they are properly protected.
Research and Development (R&D) Tax Claims
There has been a significant rise in activity from HMRC on the issue of R&D tax claims, which is likely to continue in 2023. HMRC has allocated extra staff to assist with a backlog of R&D tax claims, following a huge surge in the number of such claims being made (including the number of fraudulent or otherwise speculative claims). In January 2023, nudge letters were also issued to certain companies that had made R&D tax claims. This followed standard letters being issued by HMRC’s Fraud Investigation Service in response to claims made for R&D tax relief which HMRC believed may have been tied to fraudulent activity. The highly aggressive nature of these standard letters was much criticised, with HMRC even having to publish a statement to deny that it had expressly accused the recipients of fraud.
Legislation being introduced for accounting periods beginning on or after 1 April 2023 has also seen further changes intended to curb abuse, including that all claims must be made digitally and endorsed by a senior officer of the claimant company (and pre-notified within six months of the end of the relevant accounting period).
In light of these developments, any outstanding or future R&D tax claims, whether valid or not, are at increased risk of investigation (in certain cases, potentially criminal).
The global tax landscape has undergone radical change in recent years. This includes international initiatives which have seen unprecedented levels of transparency and co-operation between tax authorities.
HMRC was previously taking too long to comply with exchange-of-information requests from overseas tax authorities (12 months on average compared with the six-month target set under international standards). To help address this, financial institution notices (FINs) were introduced from June 2021 as a new type of information notice aimed specifically at financial institutions. Unlike traditional third-party notices, no prior approval is required from the UK tax tribunal and no consent is needed from the relevant taxpayer before FINs can be issued. There is also no right of appeal. The removal of these key safeguards generated widespread criticism from tax professionals and the financial services industry, which in turn led to HMRC being required to publish an annual report on the use of FINs to help keep this new power under review. The first such report was published in January 2023, with the data suggesting that HMRC may be willing to use FINs in previously unanticipated ways and potentially on a larger scale than expected.
All financial institutions potentially affected – not just banks and building societies – should therefore ensure that they are adequately prepared for the months ahead. Many financial institutions are already likely to have procedures in place for dealing with information requests from law enforcement authorities, such as HMRC, to ensure that data privacy and other relevant obligations are properly complied with. Such institutions may want to consider whether those procedures should now be reviewed.
The “New” Economy
As part of closing the tax gap, HMRC will be looking for further sources of potential revenue, including to extract further money from the “new” or digital economy. The taxation of crypto-assets, for example, has already been a particular focus for HMRC for the last few years and the Spring Budget 2023 included an announced amendment to self-assessment forms (starting from the tax year 2024/25) to require amounts relating to crypto-assets to be separately identified. Nudge letters have also previously been issued to taxpayers identified as having invested in crypto-assets, inviting them to review whether they have paid the correct amount of tax and to disclose any errors accordingly. HMRC’s information on crypto-investors is derived from a variety of sources, including directly from crypto-asset exchanges (in response to past freedom of information requests, HMRC has confirmed that it is using its information powers to gather user data from crypto-asset exchanges). In the wider context, HMRC seized non-fungible tokens (NFTs) for the first time in 2022 as part of a suspected VAT fraud.
Similarly, in January 2023, HMRC issued nudge letters to individuals it believes may have underdeclared income from trading on online marketplaces or from creating content on digital platforms (ie, online traders and social media influencers). Recipients of these nudge letters are advised to make a voluntary disclosure to HMRC, failing which it is likely that HMRC will launch an investigation.
Transfer Pricing and Diverted Profits Tax (DPT)
HMRC will, of course, remain interested in more traditional sources of revenue. In February 2023, HMRC published the latest transfer pricing and DPT statistics for 2021/2022. The statistics show that this remains a key area of focus for HMRC, with a sharp rise in the number of enquiry cases being settled, as well as the number of Mutual Agreement Procedure (MAP) cases being resolved. The net amount of DPT received in the period covered by these statistics was GBP198 million (not including amounts repaid as a result of cases being settled on the basis of transfer pricing adjustments and associated corporation tax being paid instead). HMRC is reportedly currently carrying out around 100 reviews into multinationals with arrangements to allegedly divert profits (including those registered under HMRC’s voluntary Profit Diversion Compliance Facility). The total amount of tax under consideration in those reviews was GBP2.4 billion as at the end of March 2022.
There have been a series of high-profile cases considering whether the UK’s intermediaries/off-payroll rules (known as “IR35”) should apply to individuals working in the media industry. There may be further appeals in these cases in the coming year, as well as further high-profile cases.
These media-related cases involve individuals in a position that will be different to most taxpayers, as they typically deal with an individual as a unique “brand”. More generally in relation to IR35, one of the much-feted announcements in (former) Chancellor Kwasi Kwarteng’s short-lived “Growth Plan” in 2022 was the reform of recent changes to IR35. The planned reforms would have reversed certain changes to the regime introduced in 2017 and 2021. A return to the pre-2017 position would have meant that a personal service company, when engaged to provide a service by a third party in the public or private sector, would once again be responsible for determining its workers’ status for tax purposes and accounting for any tax liabilities. It was later announced by the new (and current) Chancellor Jeremy Hunt that these reforms would no longer go ahead, meaning that the liability for determining worker status for tax purposes remains with the end-user. The effect is that public sector bodies and medium and large businesses contracting with personal services companies must continue to carry out status determination assessments and will remain responsible for relevant employment taxes.
Aside from the media, HMRC will be interested in wealthy and high-profile taxpayers in all sectors. The huge sums paid in respect of elite football player salaries/transfers, for example, means there is inevitably the potential for significant amounts of unpaid tax. Unsurprisingly, therefore, professional football has long been an area of interest for HMRC and published figures indicate that there is now an unprecedented level of scrutiny of the industry’s tax arrangements. According to media reports, HMRC opened investigations into the tax affairs of a record 329 professional football players, including Premier League players, in 2021/22 (more than three times the number of investigations opened in the previous year), together with 31 clubs and 91 agents.
Key areas of focus for HMRC’s investigations include agent fees paid in respect of player negotiations – in particular, where the same agent may represent both the club and the player (referred to as “dual representation”) – as well as arrangements around the so-called “image rights” of players. In the coming months, cases involving these issues may start to be litigated.
HMRC is required by statute to charge interest where tax is not paid by the required date. The rate of interest charged fluctuates but tracks at 2.5% above Bank of England rates. As at 31 May 2023, therefore, the rate of interest charged by HMRC was 7% (meaning there have been 12 interest rate rises since January 2022).
Given that tax appeals can take years to finalise, accrued interest can become material. Interest will continue to accrue until the tax is paid, even when it has been agreed with HMRC that payment of tax may be postponed pending the outcome of litigation. The increased rates of interest charged by HMRC may be particularly controversial in circumstances where, for example, a taxpayer feels that HMRC has unreasonably delayed litigation proceedings. In light of this, the Chartered Institute of Taxation has reportedly called on HMRC to review its position on interest rates.
While there is no formal appeal procedure in respect of the amount of statutory interest charged, it is open to taxpayers to raise objections to statutory interest on certain limited grounds. Objections will normally be considered by HMRC’s Interest Review Unit once any underlying tax has been paid (so that the amount of interest chargeable is known). Taxpayers who wish to raise an objection should seek professional advice as to whether this may be possible in their particular circumstances, and also to discuss related strategy. For example, in future, more taxpayers may decide to make a “payment on account” in their tax disputes (ie, pay the tax without admitting liability, in the knowledge that the money will be refunded if the taxpayer eventually wins their appeal).
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