The theory was that HMRC had a “window” during which they could decide to open an enquiry into a tax return, and that “window” ended 12 months after the filing date for the tax return in question.
For example, the time limit for filing a self assessment return for the tax year ending on 5 April 2006 was 31 January 2007, and the “enquiry window” expired 12 months later, on 31 January 2008.
After that date, if they wanted to alter the tax payable for the year, HMRC would have to show that they had “discovered” that the return was incorrect, and the Courts have interpreted this to mean that they must show that they could not have known, from the information included in the return, that the self assessment was insufficient.
This question of whether the information in the return was adequate and therefore whether the return was still vulnerable to an HMRC enquiry more than 12 months after its filing date has generated a number of tax cases. They all focussed on what constituted a sufficient “disclosure” in the return so that HMRC could not come along after the 12 month window had expired and claim they had “discovered” new information so that the time limit did not apply.
There were two main areas of controversy: matters of judgement such as the market value of something that had not been sold at arm’s length, and matters of interpretation such as whether a particular piece of legislation applied to a particular transaction.
HMRC’s demands were in both cases unreasonable, in that they argued that what was required was more than a clear disclosure of the facts and the interpretation placed on them – they wanted the point to be highlighted and surrounded by flashing lights so that even the dimmest inspector could see there was something to enquire into.
In the case of valuations, for example, they recommended that a copy of an actual (professionally done at some expense) valuation report should be included, and in the case of the interpretation of the law it was not enough to show clearly what the transaction was and how it had been treated – the return must contain words to the effect that “HMRC think this should be taxed in this way, but we have treated it in that way instead”.
The next turn of the screw was, just as with the introduction of self assessment, deceptively presented as a relaxation of the rules in favour of the taxpayer. With effect from the self assessments for 2007/08, the 12 month enquiry window will expire not on 31 January 2010 (12 months after the filing deadline), but 12 months after the date on which the return was filed. Mine, for example, was filed at the end of October 2008, so HMRC have until the end of October 2009 to open an enquiry.
That, at least, is the public relations version of the facts.
The reality is that other changes in the legislation covering HMRCs right to demand information mean that this so-called deadline no longer has any meaning.
Schedule 36 to the 2008 Finance Act contains wide new powers for HMRC to demand information “for the purpose of checking the taxpayer’s tax position”. Any tax inspector may serve a notice on a taxpayer if he “has reason to suspect” that the taxpayer concerned has not paid enough tax, even if the taxpayer has submitted his self assessment, and even if the 12 month enquiry window has expired. There are no restrictions on this power based on full disclosure having been made in the return.
When Schedule 36 comes into force (from a day “to be appointed” which I will take a wild guess and suggest will be April 2009), the carrot of certainty as to your tax liability that has been dangled in front of us since the end of the 1990s as the reward for compliance with the increased administrative burdens of self assessment will finally have been removed.
In its place will be the stick of an enquiry at any time into any year for which you have made a self assessment return, on the whim of any tax inspector who “has reason to suspect” your return may be incorrect. When I was a tax inspector, before self assessment, I could open an investigation at any time within six years into a return if I was “not satisfied” that it was correct.
If (perish the thought!), I were to rejoin HMRC once Schedule 36 comes into force, I would find myself right at home.