More Challenges to the Establishment

The growing number of human rights decisions have important consequences for tax practitioners, advise JONATHAN LEVY and CHRIS OATES.

THE IMPACT THAT the Human Rights Act might have on the imposition of direct tax penalties was discussed in our article 'A Challenge to the Establishment' in Taxation, 7 June 2001 at pages 238 to 240. The human rights field is fast moving, however, and since publication of that article there have been a number of important decisions by the courts of which practitioners should be aware.

Article 6

In that article, we stated that it was generally agreed that tax disputes do not fall within Article 6, as they are, in form and substance, disputes between the citizen and the state and not private law matters (see X v France [1983] 32 EHRR 966). Confirmation of this position has recently been provided by another decision of the European Court of Human Rights in Ferrazzini v Italy [2001] STC 1314. In that case, the Court considered that an appeal by Mr Ferrazzini to the Italian Tax Commissioners against assessments raised upon him did not concern his 'civil rights and obligations' and Article 6 therefore did not apply. It seems probable that the United Kingdom courts will follow this decision.

However, we also stated that there was considerable authority that punitive tax-geared penalties would constitute a 'criminal charge' under the Convention and thus attract the protection of the 'criminal' provisions of Article 6. Again, this position has been confirmed by two recent authorities. In Customs and Excise v Han [2001] STC 1188 appeals were brought by taxpayers against the imposition by the VAT Commissioners of civil penalties for dishonest evasion of VAT, in two cases under section 60(1), VAT Act 1994 and in the third under section 8(1), Finance Act 1994. Stephen Oliver QC, in applying the criteria in Engel v Netherlands (No 1) [1976] 1 EHRR 647, decided that these penalties were designed to be punitive and deterrent in nature and that the taxpayers were, therefore, entitled to the protection of Article 6. This decision was upheld by the Court of Appeal which, following the jurisprudence of the European Court of Human Rights, held that the classification of the penalties as 'civil' was no more than a starting point where the levying and enforcement of the penalty concerned was designed to punish and deter members of the public at large in respect of dishonest conduct. The Court of Appeal held that it was not necessary for the purposes of a 'criminal' charge to show that the penalty for alleged tax evasion involved imprisonment, merely that the penalty concerned was substantial and that its purpose was punitive and deterrent. Since those requirements were met by the legislation in issue the taxpayers were entitled to the rights provided by Article 6.

In the direct tax field Mr Justice Jacob, in King v Walden [2001] STC 822, held that penalties for fraudulent or negligent conduct, under section 95, Taxes Management Act 1970, were also 'criminal' proceedings and were entitled to the protection of Article 6.

Standard of proof

In the previous article, we stated that the Revenue would face additional difficulties where Article 6 applies, the first problem being the higher standard of proof required. Article 6(2) provides: 'Everyone charged with a criminal charge shall be presumed innocent until proven guilty according to law'. Thus, it might be thought that a person charged with a criminal offence would have the benefit of the criminal standard of proof, i.e. beyond all reasonable doubt. This is, however, in considerable doubt. In Han & Yau Lord Justice Mance said:

'The classification of a case as a criminal … is a classification for purposes of the Convention only. It entitles the defendant to the safeguards provided expressly or by implication by that Article. It does not make the case criminal for all domestic purposes. In particular, it does not necessarily engage protection such as those provided by the Police and Criminal Evidence Act 1984.'

In Ajay Chandubhai Kumar Patel (17248), the VAT tribunal considered that:

'The standard is the civil standard of the balance of probabilities; however, under Article 6(2) the appellant is innocent until proved guilty. In any event, clear evidence is needed for a finding of dishonesty; the more serious the allegation, the more cogent the evidence must be.'

The tribunal cited a previous House of Lords case (Khawaja v Secretary of State For Home Department [1988] 1 All ER 765) to the effect that the courts should not be satisfied with anything less than probability of a high degree. It remains to be seen how this more stringent standard of civil proof will be applied in future cases.

Self incrimination

The problems concerning the privilege against self-incrimination were set out in the earlier article. In Saunders v UK 23 EHRR 313, the European Court of Human Rights considered that the admission in evidence at the applicant's trial of transcripts of interviews with Inspectors of the Department of Trade and Industry violated Article 6(1); this was because at the time of the interrogation the applicant was under duty to answer the Inspectors' questions, a duty which was enforced by proceedings for contempt of court. The Court stated that the right to silence and the right not to incriminate oneself are 'generally recognised international standards which lie at the heart of a notion of a fair procedure under Article 6'.

In Han & Yau, however, Lord Justice Potter doubted that the inducement procedure under VAT Notice 730 would breach the right to silence and the privilege against self incrimination. He pointed out:

• that the inducement procedure made explicit to the taxpayer that the civil evasion investigation would not be conducted with a view to prosecuting the trader for VAT evasion;
• that the trader was not obliged to co-operate in the Customs' investigation; and
• that it was entirely a decision for the trader to decide whether or not to speak to the investigating officer or assist generally in the Customs investigation.

A contrary view, however, in the direct tax field, appears to have been given by the House of Lords in the recent decision of R v Allen [2001] STC 1537. Lord Hutton stated that:

'If, in response to the Hansard statement, the appellant had given true and accurate information which disclosed that he had earlier cheated the Revenue and had then been prosecuted for that earlier dishonesty, he would have had a strong argument that the criminal proceedings were unfair and an even stronger argument that the Crown should not rely on evidence of his admission, but that is the reverse of what actually occurred.'

Lord Hutton distinguished evidence provided by a taxpayer under the Hansard procedure which was true, from false information. False information provided by a taxpayer would not, in his view, be privileged. He disapproved of the earlier case of R v Barker [1941] 2 KB 381 where, in response to a Hansard statement, the taxpayer produced to the Revenue two ledgers which had been fraudulently prepared to induce the Revenue to believe that irregularities amounted to £7,000 in all. At a later interview, however, further ledgers and working papers were produced which showed that the earlier ledgers had been falsely prepared. The taxpayer was prosecuted and convicted of the offence of conspiring to cheat the Revenue. On appeal, however, the Court of Appeal held that the appellant had produced the books or documents as a result of a promise, inducement or threat, that consequently his actions were not free and voluntary, and that the books or documents should not have been admitted in evidence. In Lord Hutton's view, however, R v Barker had been wrongly decided.

As far as Hansard is concerned, Lord Hutton's view is both correct and sensible. The R v Barker case appears to confuse the production of false accounts with a confession of false accounting. Such evidence is, moreover, admissible under section 76(4), Police and Criminal Evidence Act 1984, which provides for the admissibility of the facts discovered as a result of a confession, even if the confession itself is wholly or partly excluded as having been unfairly obtained. It is clearly in the public interest that a taxpayer who provides false information to the Revenue in response to a Hansard warning should be prosecuted. It is equally in the public interest that a taxpayer who produces true information should not be prosecuted, a fact which is recognised by the Revenue which, in practice, does not prosecute taxpayers who have provided correct information to it under the Hansard procedure.

If Lord Hutton's view is correct, the question then arises as to the effect on the Hansard procedure. It is clearly in the public interest that the Hansard procedure should continue, because it provides a real opportunity for taxpayers to escape criminal proceedings by co-operating fully with the Revenue. On the other hand, the Hansard warning in its present form reserves to the Revenue a complete discretion as to whether to prosecute even if accurate and truthful disclosure is made by the taxpayer. This discretion is supported by section 105, Taxes Management Act 1970, which reversed the decision of the Court of Appeal in R v Barker and which preserves the admissibility in subsequent criminal proceedings of evidence provided under the Hansard procedure. If Lord Hutton's approach is the correct one, the Hansard warning may have to be amended to remove the Revenue's discretion to prosecute. In the writers' view, this need not in any way be fatal to the Hansard procedure. The real inducement for the taxpayer is to escape a criminal prosecution by providing truthful information to the Revenue. If he does so, the Revenue does not prosecute in any event. The taxpayer will know, however, that if he provides false information he runs the risk of a prosecution.

The above applies to prosecution, i.e. a real prosecution under the Police and Criminal Evidence Act 1984, following a Hansard disclosure. What about penalties, which are, for the purposes of the Convention, a criminal charge? In the previous article we suggested that, in Hansard cases, the Revenue clearly has the possibility of a penalty in mind from the outset and that it is likely that the privilege against self-incrimination would apply from the time when the Revenue issues the Hansard warning. Subject to what is said below this would still appear to be true (see VAT tribunal cases John Lucas Murrell (16878) and Ajay Chandhubai (17248)).

Other investigations

In other cases, such as Code 8 investigations, a distinction must be drawn between the Revenue's functions in establishing a tax liability and any subsequent penalty proceedings, which may be based on the liability as established, Abas v Netherlands application 27943/95. In R v Allen, the appellant was served, on 9 May 1991, with a notice under section 20(1), Taxes Management Act 1970 requiring, among other things, a statement of his assets and liabilities. He failed to comply with the section 20 notice and was subsequently given Hansard. Although not specifically stated in Lord Hutton's decision, it seems clear the Revenue had in mind the possible imposition of penalties at the time of issue of the section 20 notice. In Lord Hutton's view, the section 20 notice requiring the information could not constitute a violation of the privilege against self incrimination. Lord Hutton cited Lord Bingham of Cornhill in Brown v Stott [2001] 2 WLR 817 to the effect that while the overall fairness of a criminal trial could not be compromised, the constituent rights comprised, whether expressly or implicitly, within Article 6 were not themselves absolute. Limited qualification of these rights was acceptable if 'reasonably directed by national authorities towards a clear and proper public objective …'

Lord Hutton stated that:

'… viewed against the background that the state, for the purpose of collecting tax, is entitled to require a citizen to inform him of his income and to enforce penalties for failure to do so, the section 20 notice requiring information cannot constitute a violation of the right against self incrimination.'

Lord Hutton considered that the privilege would be breached if the Revenue subsequently took prosecution proceedings following a truthful Hansard disclosure. R v Allen, however, appears to have the effect of removing the privilege against self-incrimination in response to a section 20 notice, even where it is likely that tax-geared penalties would be in the Revenue's mind when serving the notice.

There is, however, confusion in this area as a result of a seemingly contradictory decision of the European Court of Human Rights in JB v Switzerland (Case 31827/96). The applicant was a Swiss citizen residing in Switzerland. He failed to declare certain investments for the period 1981-82 and 1987-88. As a result, the District Tax Commission instigated tax evasion proceedings (criminal proceedings under Swiss law) in respect of his federal taxes. He was requested to submit all documents which he had concerning his investments in various companies. On 22 December 1987, the applicant acknowledged that he had made these investments and that the income had not been properly declared by him. He did not, however, submit the necessary documents. Having failed to submit the information required, various disciplinary fines were imposed on the applicant by the Swiss authorities. In an appeal against one of these disciplinary fines, the Swiss Tax Appeals Commission found that the applicant had intentionally not complied with the order of the tax authorities to give information. Under Swiss law, however, persons liable to pay taxes were obliged to co-operate with the tax authorities and in particular to submit accounts, documents and other receipts in their possession which could be relevant when determining their taxes.

There were two strands to this case. On the one hand, the Swiss authorities needed information to establish an amount of undeclared money. The establishment of the tax liability also ran side by side with the tax evasion proceedings. The former did not constitute a criminal charge, the latter clearly did.

The European Court of Human Rights acknowledged that the proceedings served the dual purpose of establishing the taxes due by the applicant and, if the conditions were met, of imposing a fine for tax evasion on him. The Court found that the privilege against self-incrimination had been breached and that there was, therefore, a violation of Article 6. Although the Court expressly stated that it was not deciding the issue of whether a state can oblige a taxpayer to give information for the sole purpose of securing a correct tax assessment, because of the dual nature of the proceedings the information provided could have been used by the authorities as evidence of tax evasion. Somewhat unhelpfully, the Court concluded:

'Finally the (Swiss) Government has submitted that a separation of proceedings - the regular tax proceedings, on the one hand, and the criminal tax evasion proceedings, on the other would be impracticable. However, the Court recalls that its task is to determine whether the contracting states have achieved results called for by the Convention, but not to indicate which means a state should use in order to perform its obligations under the Convention …'

How can the apparent tension between these cases be reconciled? One view is that it is surely correct that the Revenue should be able to use its information powers to establish a taxpayer's liability. Also, it would seem reasonable and sensible that the Revenue could use such information in subsequent penalties proceedings provided that, at the time the information was submitted to the Revenue, the Revenue did not have the imposition of a penalty in its mind. By contrast, however, where the Revenue has provided the taxpayer with IR 73, or referred to the imposition of penalties to elicit a disclosure of irregularity, then it may follow from the JB v Switzerland case that the privilege applies.

An alternative view is that a distinction must be drawn between the privilege as it relates to a 'real' prosecution and one that is, after all, criminal only for the purposes of the Convention. One can see why the privilege should apply if correct information is provided to the Revenue under Hansard and then used for a prosecution. Similarly, information provided under a section 20(1), Taxes Management Act 1970 notice in circumstances where the Revenue has a prosecution in mind should also attract the privilege. But there is an argument that, on a Brown v Stott approach, the public interest in penalties being administered outweighs the privilege against self-incrimination. In this respect it is worth noting that in JB v Switzerland, Swiss law characterised tax evasion as a criminal offence.

It is unclear, however, whether the European Court of Human Rights, as opposed to the United Kingdom courts, will make such a distinction. So far as the European Court of Human Rights is concerned, tax-geared penalties constitute a criminal offence under the Convention and attract the protection of Article 6, which includes a privilege against self incrimination. It has not stated that the privilege should be reduced to reflect the lesser criminal status of such penalties. No doubt subsequent cases will shed further light on this difficult area.

Penalties - the practical impact

In the writers' view, the Human Rights Act has significant implications for the manner in which the Revenue should conduct itself, where the imposition of penalties is in point. Firstly, under Article 6(1), everyone facing a criminal charge is entitled to 'a fair and public hearing' 'within a reasonable time'. In King v Walden Mr Justice Jacob stated:

'In future (penalty) cases it is highly desirable that such appeals (and penalties determinations) are put on a fast track. So far as I can see they were treated in the same way as other determinations and appeals, but it should be appreciated that more is at stake in the case of penalties. Serious consideration should be given to penalty determinations being made earlier - in appropriate cases along with the assessments giving rise to the penalties.'

It remains to be seen what the Revenue's response will be, but if penalty proceedings are not put on a fast track it may be open to taxpayers to argue, in appropriate cases, a breach of Article 6(1) on grounds of unreasonable delay.

The second point concerns the principle of equality of arms. In Georgiou and another (trading as Marios Chippery) v United Kingdom [2001] STC 80, the European Court of Human Rights stated that, in the absence of any public policy reasons for non disclosure, fairness required Customs to disclose all relevant material, whether it was in their favour or against the taxpayer. Under the VAT régime, the tribunal has wide powers to order the disclosure of documents in the Revenue's possession. Under the relevant rules Customs must serve, within a prescribed period, a statement of case setting out the matters and facts on which they rely for the making of the penalty (rule 7(1)). They must also serve lists of documents which they propose to produce at the hearing, again within a prescribed time (rule 20(1) and (2)(a)). These documents should contain the evidence, which forms the basis of Customs' case, such as officers' notebooks relating to covert observations.

The documents are open to inspection and may be copied by the taxpayer. In the tribunal case of Nene Packaging Ltd (17365), the tribunal considered that these rules provided sufficient protection for the taxpayer, for the purpose of Article 6. There is a glaring omission in the Special and General Commissioners regulations, however, whereby the Commissioners have no power to order the Revenue to disclose documents (or witness statements or other evidence) upon which it proposes to rely to establish a penalty. In the writers' view, this position is clearly at odds with Article 6.

Approach to take

It is important to recognise that the Revenue is likely to be allowed a wide margin of appreciation by the European Court of Human Rights in order to give it reasonable scope for the levying and collection of penalties, which are clearly a necessary and integral part of the United Kingdom tax system. As always, the goal should be to reach a mutually agreeable resolution to any dispute with a minimum of fuss and inconvenience. Raising human rights points may not necessarily be in the interest of the clients, and each case should be examined on its own merits.

It remains the case, however, that the privilege against self-incrimination is alive and well and advisers will have to bear this in mind in investigation cases. It is also likely that significant changes will take place in the way in which penalty proceedings are litigated, i.e. in the speed with which penalty proceedings will have to be taken and the greater disclosure of its evidence to which the Revenue will have to adhere.

Such changes are to be welcomed.

Chris Oates is London region director of Ernst & Young's tax investigation solutions and Jonathan Levy is a senior consultant with Ernst & Young's tax controversy service.

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