The old system, which covers 2007/08 returns, worked on a simple concept: the maximum penalty for an incorrect return was 100% of the tax lost as a result of the mistake, and this was then “mitigated” by considering three factors:
“Disclosure” meant telling HMRC about the error, and earned a maximum of 25% off the penalty in a case where you ‘fessed-up’ before HMRC got their hooks into you.
“Cooperation” meant supplying the necessary information to put the error right, and that could reduce the penalty by a further 40% in the case of perfect cooperation.
Finally, there was “Size and Gravity”, which dealt with both the amount of tax involved, and the “heinousness” (a lovely word you never come across outside a tax office) of the offence, with innocent mistakes at one end (another 40% off) and deliberate forgery, fraud, and so on at the other.
Finance Act 2008 has replaced this with a system which is clearly evolved from the old one, but which is much more prescriptive and allows the inspector (and the tax adviser) much less discretion to do deals on penalties.
Essentially, it is a “dumbed down” version of the old rules, where individual human judgement is largely replaced by a complex set of rules on the amount of mitigation for various factors.
The theory, I suppose, is that it will produce more consistency in the level of penalties charged in different cases. It will also mean that judgement and experience will be replaced by slavish adherence to what is, in effect, a very complicated flow chart. Given HMRC’s almost overwhelming problems with recruitment and retention of staff, one can see the attraction for them of introducing a system that a new recruit can be taught on a one-day training course.
The new system is terribly complicated, and we need to take it in manageable chunks. There are three categories covering the reasons for a mistake in a tax return, and each has its maximum and minimum levels of penalty. I am going to concentrate on the least “heinous” end of the scale – “failure to take reasonable care”. The next two categories are “deliberate understatement” and “deliberate understatement with concealment”, and we can wallow in them another time.
A mistake in a return due to carelessness attracts a maximum penalty of 30% of the tax involved, and in a case where it is HMRC who spot the mistake, a minimum of 15%. If, however, you can demonstrate that you took “reasonable care” when you completed the return, the penalty is, in all cases, Nil.
It thus becomes all the more important to be able to show that you took “reasonable care”. If you prepare your own return, then you will need to demonstrate that you did your best to understand the relevant legislation, and that you were careful in entering the right numbers in the right boxes.
Examples of what HMRC would accept as an innocent mistake are not encouraging, as they only involve such matters as accidentally transposing numbers and, for example, entering “£3,009” instead of “£3,900”, and do not cover such things as confusing income (20% to 40% tax) with a capital gain (18% tax).
If your tax affairs are at all complex, or if there are matters of tax law that are difficult to interpret, you are going to need advice – indeed, one of the professional journals recently carried an article with the title “New Tax Penalties – Unrepresented Taxpayers Don’t Stand A Chance”.
The point is that if there are any difficult questions that need addressing when you fill in the return, then “taking reasonable care” is going to be interpreted as knowing you need advice and seeking it.
One choice, of course, is to contact HMRC and ask them. You would expect me to be prejudiced, but in my experience there are two certainties about the advice you will get: it will either be wrong or it will be the advice that results in the maximum amount of tax payable, and if it is wrong they will deny giving it unless you have it in writing.
That leaves you with choosing a Tax Adviser, and HMRC’s guidance on the new rules makes some interesting points on the choices you have to make.
The stakes are high here, because if there is an error in your return and you took advice when preparing it, you will be able to claim that you took “reasonable care” and thus avoid a penalty, provided you took “reasonable care” when you chose your adviser.
This is very different from the old rules, where the stock response by an inspector to a taxpayer protesting that his adviser prepared the incorrect return was “that’s a matter between you and your adviser – the return is your responsibility, not his”.
HMRC begin by dismissing those who rely on a friend or “someone they meet in a pub”, and for once I applaud them. I have lost count of the number of times clients have asked me why I am not using some complex (and often illegal) scheme they have been told about by someone down at the Golf Club. I call it “saloon bar tax planning” and it never works – and it won’t work to avoid a penalty, either.
So, you go to a professional adviser. Regrettably, not all those who describe themselves as “Tax Consultants” know what they are doing. If you go to a Chartered Tax Adviser, or a Chartered Accountant, then you can make a strong case that you were entitled to assume that they were competent at dealing with tax.
There are plenty of unqualified advisers out there who do an excellent job, but the trouble is that you will have a harder time persuading HMRC that you were careful to check that they were competent.
In their guidance, HMRC refer to the Citizens’ Advice Bureau, and make the point that the onus is still on the taxpayer to satisfy himself that the individual he is dealing with has the appropriate level of skill in tax matters. With apologies to my unqualified fellow professionals, I am afraid that the most prudent course of action is to use someone who has the appropriate formal qualifications to prepare your return.
Choosing the appropriate adviser does not let you off the hook entirely, of course. We are all human, and if the draft return does not include something you know should be there, it remains your responsibility to point it out to the adviser. Your job is to give him all the bricks; his job is to put them in the right places.
But the thing to remember is that in the future, provided you choose an appropriate adviser, give him all the facts, and do your best to check that they all are reflected in one way or another in the completed tax return, you will not suffer a penalty if there is an error.