The taxman gets tough

When the Inland Revenue and Customs & Excise merged, uppermost in many
advisers’ minds was whether or not the Revenue would take on the strong-arm
tactics of Customs. Would regulations designed for eighteenth-century smugglers
be used on those late with their tax returns?

What advisers didn’t expect were questions about tax avoidance, HM Revenue
& Custom’s analysis of avoidance issues across all taxes and investigations
into VAT schemes spilling over into their corporation tax effects.

It is a point that Dave Hartnett, HMRC’s director-general, is not shy of
making. ‘One of the great values of setting up HMRC is that we are starting to
look at avoidance issues from a direct and indirect perspective. We feel there
was a broader tax analysis to be made here,’ he says.

When he says ‘here’ he is referring to the Debenhams test case currently
wending its way through the courts. In one of the clearer examples of the new
approach, HMRC is picking on retailers who set up card-handling schemes by
looking at all the relationships generated by the schemes.

Not only is it fighting a legal battle over the exemption of the
card-handler, worth £550m, it also intends to charge VAT for the supply made by
the retailer to the card handler, worth another £100m.

It will not stop there. Chris Tailby, head of HMRC’s anti-avoidance unit, has
said that the department plans to look at the corporation tax effects of the

Hartnett’s key point in the interview, exclusive to Accountancy
, was to say that the department intends to make avoidance ‘not
worthwhile’ by 2008.

It is difficult to know exactly what that might mean. The Debenhams’ case is
one point: charging users of schemes more than they would be charged if they had
never got involved sends a message that avoidance will not be tolerated.

Hartnett has another initiative too. The department will make no settlements
on national insurance contributions’ cases below 100p in the pound, as they have
done previously.

HMRC feels it may have ‘incentivised’ avoidance by allowing those with
schemes to get away with some of the tax avoided just by being prepared to go to

The forthcoming Halifax decision in the European Court of Justice could also
give him extra ammunition. The case hinges on an abuse of law argument, and
HMRC’s accusation that Halifax pursued VAT avoidance schemes merely to avoid tax
and not for any economic purpose.

If the principle that avoidance is illegal if it is pursued merely for
avoidance’s sake is established, it might be possible to push the argument.

‘We will certainly be looking at the potential scope of using abuse of law
arguments if the court confirms the view,’ says Hartnett.

Another court decision this year is also exercising HMRC. July’s Dextra case
handed it £500m in a key victory over employee benefit trusts, used to pay city
bonuses and by private companies.

Some advisers contend that the decision is not as wide ranging as HMRC
thinks. ‘[Dextra] may not be an easy decision for the tax-planning industry. If
people won’t pay or want to start a new argument then we will oblige them. This
is a decision of the House of Lords of wide application,’ says one. The courts
may end up deciding that as well. But there is a broader message to take from

‘The real issue for advisors who want to argue very fine points about
application of Dextra is this: they may be legal points but does UK plc really
want to tolerate that sort of behaviour any longer?’ asks Hartnett.

And more general messages on tax avoidance follows. ‘One is for taxpayers –
if you are attempting to get into avoidance, don’t. For advisers, the message is
that the world is changing. How well are these advisers, who are judging these
fine arguments, judging the mood of the moment?’

The tone of HMRC’s approach echoes similar rumblings in the US, where KPMG
was recently fined £456m over its sale of complex tax shelters. Will we see
criminal investigations of tax advisers in the UK?

‘I think what has happened in the US is that there was huge competition
between tax advisers and huge greed and dishonesty.

‘The dividing line between evasion and avoidance is the line which is
honesty. Advisers in America became dishonest. I haven’t seen that to anything
like the same extent in the UK,’ say Hartnett.

Some complain that the talk of avoidance neglects evasion, a more pernicious
problem. HMRC has been moving on evasion in relation to offshore fraud, a move
that Hartnett says ‘has the potential to create a lot of tax’.

HMRC does face one banana skin – the law. For all the billions gained in
avoidance, it faces a legal threat from group litigation orders, even assuming
the avoidance legislation proves watertight.

‘I think it’s possible that we have seen the high watermark of the European
court’s decisions in favour of big claims for repayment [on the GLOs],’ says

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