Were the PAC's criticisms fair?

by Jaimie Kaffash

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20 Dec 2011

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IT MIGHT be the season of goodwill, but HM Revenue & Customs is unlikely to be feeling much of it today. The Public Accounts Committee report into its dispute settlement, released this morning, is a "damning indictment" into HMRC's procedures and leadership, according to PAC chair Margaret Hodge.

Anyone who has followed the fiery and, at times, farcical (as HMRC general counsel Anthony Inglese will testify, probably under oath) evidence sessions will not be entirely surprised that the committee has come down so hard on the taxman. The gripes are lengthy and were all explored in depth at the meetings: an overcautious approach to confidentiality; concern that it departed from its governance procedures; little confidence in how it reaches settlements: and a lack of transparency around decisions made.

In reality, this broadly translates to four major criticisms that are potentially damaging to HMRC: the department's actions are losing the Exchequer money; its governance is prohibiting progress; HMRC should be more transparent; and that HMRC is treating large companies differently to other taxpayers. So how valid are these criticisms?

Lost revenue?

PAC chairman Margaret Hodge says the Exchequer could be losing out on revenue. "Having looked at the two cases in the public domain, we are concerned that many millions of pounds may be lost to the public purse," she claims.

The two cases that the PAC has the most details about - involving Vodafone and Goldman Sachs - could have lost the Exchequer up to £4.75bn and £20m respectively. But there is little basis for these figures.

In the Vodafone case, the figure was arrived at because the phone company set by £6bn for its tax bill yet ended up paying only £1.25bn. In the Goldman Sachs deal, a whistleblower who worked in the HMRC legal department said up to £20m was foregone.

However, in both cases, it is difficult to say how much the Revenue lost out on, for two reasons: first, specifically to the Vodafone case, accounting standards decree that the company plans for the worst case scenario - keeping £6bn ringfenced for a potential tax bill was cautious planning; second, there is a misconception in some quarters that there is a "right" amount of tax to pay in all cases.

This is simply not true. The complexity of corporate tax means that there will always be differing opinions on how much tax is due. "The Vodafone case is all about transfer pricing and I don't believe anyone could accurately predict the tax due in a transfer pricing case," says Ray McCann, tax disputes director at McGrigors.

"The only ‘right' amount is the amount decided by a tribunal judge - and even then, these figures can be challenged," he adds. But litigation is expensive in itself and it gives no guarantee of a favourable outcome for HMRC. In terms of maximising revenue, it is a safe bet to arrive at an agreement.

For Goldman Sachs, £20m in lost interest payments was an estimate in itself. Although the National Audit Office has faced criticism for its role in the inquiry, its estimate of £5m-£8m lost through HMRC's error is the best available.

The PAC report also claims that there is £25.5bn at stake in big business settlements for HMRC. Again, this is a little misleading. This figure is "tax under consideration" - HMRC's rough estimate of possible revenue. This has nothing to do with income for balance sheet purposes, but is a tool for HMRC to know where to put its resources.

There is little doubt that permanent secretary for tax Dave Hartnett has helped maximise revenues in the past year, including from big business. This line of criticism is playing into Hartnett's hands.

Governance

However, in its criticisms of HMRC governance, the PAC is on stronger ground. "In some cases, the same officials negotiated and approved the settlements, which is clearly unacceptable," the report said, partly referring to Hartnett's role in the Goldman Sachs affair.

During the PAC meetings, Cabinet secretary Sir Gus O'Donnell announced the appointment of two more commissioners at the department. Currently, there are four, which is problematic - in contentious and high profile disputes, one commissioner is often involved in negotiations and two are needed to sign the agreements off.

However, the MPs did not feel that O'Donnell's announcement was satisfactory. The appointment of two commissioners "does not in itself guarantee there will be effective separation of roles or proper accountability for decisions reached, not least because the two new commissioners are existing members of the department's senior team", the report said.

The appointment of two more commissioners was also intended to fix one of the problems that Hodge expressed shock about - that Hartnett was the only commissioner with deep tax knowledge. With the appointment of Stephen Banyard, acting director general for personal tax, there is now a second commissioner with deep tax knowledge. But Hartnett's retirement in summer 2012 will again reduce the number to one.

A further proposal to appoint an assessor from outside the department to review large settlements "could provide the important external assurance that is currently missing", the report said. But this will only work if the role is "demonstrably independent of the department", the MPs added - and they are not convinced this will happen.

These criticisms seem fair. The National Audit Office report on HMRC in the summer pointed to four cases where governance procedures were not adhered. But it was only the controversy generated by the leaking of details about Goldman Sachs and the subsequent PAC inquiry that brought this into the public arena. O'Donnell's announcement was made during a PAC meeting, so it is reasonable to assume that the increased focus precipitated the proposed reforms.

The committee is right to highlight the governance errors and to remain dubious about governance reforms in the medium to long term.

Transparency

The report's major criticism of HMRC leadership was undoubtedly the lack of transparency surrounding large settlements. For observers of the PAC meetings, the most striking moment was HMRC general counsel Anthony Inglese being made to testify on oath after a series of non-answers.

Hartnett was also accused of a lack of co-operation during the meetings. "We expect far greater candour from public officials involved in administering such an important area of government, especially when there is a question about whether HMRC acted within the law and within its protocols," said the MPs.

"The department has made matters worse by trying to avoid scrutiny of these settlements and has consistently failed to give straight answers to our questions about specific cases, which has severely hampered our ability to hold it to account for the settlements reached... this situation is entirely unacceptable," the report added.

HMRC was bullish in its response: "Senior HMRC officials sought to be co-operative by providing as much information as possible within the legal constraints of taxpayer confidentiality under which they work." Confidentiality is "a legal requirement, fundamental to tax administration", it said. The NAO provides the parliamentary scrutiny, the statement added.

In one aspect, the taxman is correct. It is up to Parliament to introduce reforms and when Accountancy Age asked Exchequer secretary to the Treasury David Gauke recently, he said there would not be any moves to change this.

But the PAC's criticisms focus on HMRC's duty to Parliament. These cases are in the public interest, and this allows HMRC to be more open with no fear of legal repercussions. Hartnett told the committee that his legal advice said greater openness was prohibited. Furthermore, Inglese said that the upcoming judicial review from UK Uncut on this very issue prevented him even discussing HMRC's legal advice - a defence shot down by the MPs, who pointed out this would only be the case if UK Uncut's proceedings had already begun.

The main point to come out of this generally is that there is a lack of transparency regarding HMRC's decisions. Parliament relies on faith in the NAO to uncover failures in HMRC's performance or it relies on whistleblowers. The NAO did in fact point out the Goldman Sachs error, without referring to the company. But this is not an ideal situation. Taxpayer confidentiality should remain the priority, but the MPs say that when errors are spotted or there has been a failure in governance, Parliament and the public has a right to know further details.

Hartnett had every right not to disclose further details. But the MPs pointed out on numerous occasions that had Hartnett positively wanted to speak in more detail, the legislation allowed him to in the public interest.

The introduction of assessors might change this. But it is clear that the current level of transparency is undesirable.

Lack of even-handedness

The most damning criticism of all is that HMRC is not even-handed in its approach to big business.
"We have serious concerns that large companies are treated more favourably by the department than other taxpayers... The department has left itself open to suspicion that its relationships with large companies are too cosy," the report said.

Hartnett's numerous lunches with big business have perhaps been blown out of context. But there is undoubtedly a close relationship between representatives of HMRC and of large companies.

The rationale is understandable. The "tax in the boardroom" approach was based on maximising revenue through closer working - for the benefits of being closer to HMRC, the large companies would clean up the more aggressive tax avoidance practices. Large companies were assigned "account managers" within HMRC, who solely worked on their tax affairs.

There were safeguards introduced - the Litigation and Settlement Strategy was designed, and this year updated, to prevent "portfolio" settlements, where inspectors and companies would agree dropping some liabilities to guarantee payment in others. Contrary to popular belief, it did not prevent agreement between the parties, but it did discourage litigation unless necessary.

The upshot of this was that HMRC did bring in more revenue through greater engagement. But this has created a two-tier system. Alastair Kendrick, tax director at MHA MacIntyre Hudson and a former HMRC inspector, says that account managers "are likely to do more deals". He adds: "Effectively the account management structure for big business is completely different to the rest of the Revenue."

Hartnett said he was brought in to the Goldman Sachs negotiation because the relationship between the account manager and the bank had broken down. It is true there would have been costly litigation if the deal had not been made. But the unfortunate implication in this is that if a relationship breaks down, and litigation is on the horizon, then there will be greater moves to make a deal involving a commissioner. In this context, the PAC's criticisms are fair.

Pragmatism above fairness?

The report is undoubtedly a blow for HMRC. There is an obvious annoyance on the part of the MPs that HMRC was not co-operative. But this does not mean the criticisms were invalid.

HMRC has been successful in maximising its revenue income, and to accuse the taxman of losing money for the Exchequer might be too strong though, of course, without transparency we have no way of knowing.

But what is more likely is that HMRC officials have prioritised the huge chunk of revenue it receives from large companies over fairness. Smaller companies do not have the benefit of account managers eager to make deals to avoid litigation: a £1m late payment from Vodafone will unlikely receive penalties or interest, but a £400 late VAT payment from a smaller business will be pursued vigorously.

Perhaps the question the PAC, Parliament and society need to ask is: will we sacrifice fairness for more money in the government bank? Unfortunately, there is no easy answer to this.

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Financial Planning and Performance AnalystCabinet Office-Greater London-Competitive

 
 
 
 
 
 
 
 

 

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