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THE FINANCE ACT 2004, Part VII is entitled 'Disclosure of Tax Avoidance Schemes'. It imposes a requirement on several categories of persons to make disclosure to HMRC of various proposed and actual tax planning strategies. At the time of their introduction in 2004, HMRC claimed that these rules were closely targeted and would not impose burdens on tax advisers generally. However, it was immediately apparent that this was, as the title of this article indicates, 'a suggestion of something which is untrue' and that an onerous new burden had been imposed on taxation advisers resulting in cost increases for their clients. Furthermore, the extent of the disclosure duties was greatly extended by new regulations which came into effect as from 1 August 2006. (These were the Tax Avoidance Schemes (Prescribed Descriptions of Arrangements) Regulations SI 2006 No 1543) referred to in this article as the 'Prescribed Descriptions Regulations 2006' and the Tax Avoidance Schemes (Information) (Amendments) Regulations SI 2006 No 1544 referred to in this article as the 'Information Regulations 2006'.)
No attempt at quantification
Writing on these disclosure rules in 2004 ('Big Brother Forces a Confidence', Taxation, 13 May 2004 and 20 May 2004) I expressed my surprise that:
'... it is very surprising that the regulatory impact assessment does not contain any attempt to quantify the cost to the taxpayer of these measures. It refers throughout to returns made by “promoters” without any real consideration of the extent to which compliance burdens will be placed on advisers who are not promoters of the schemes in the ordinary sense. It would be extraordinary if such a fundamental change to our tax system should have been introduced without any attempt to quantify the costs to taxpayers of the change.
'In reaching its decision to proceed with these provisions, the Government needed to balance the benefits of the change against these potential costs. That surely required the Government to have quantified the tax at risk from arrangements, which it regards as tax avoidance arrangements, and the extent to which these new rules will allow it to frustrate those arrangements and therefore increase the Government's tax yield ... surely, before making such a fundamental change to the tax system, the Government must have quantified the benefit to the Exchequer of the change?'
It is truly extraordinary, therefore, that over two years after this system was introduced, the regulatory impact assessment which was published on the extension of the system (The Regulatory Impact Assessment: Extension of the disclosure regime to the whole of IT, CT and CGT (SIs 2006 No 1543 and 2006 No 1544) referred to in this article as the '2006 RIA') should make no attempt to quantify the costs and benefits of the extension (paras 54, 55 and 63 ibid) blaming those who have responded to the consultations on the matter — at great cost of their professional time freely given — for not having provided sufficient information to allow HMRC to perform that quantification (paras 29 and 63 ibid). Amazingly, HMRC admit that they will not be able to fully evaluate the disclosure regime for a further three years (para 74 ibid).
An onerous burden on tax advisers
The 2006 RIA repeats the Government's claim that those mainly affected will be those who design and market tax schemes (para 68 ibid). That is quite untrue; virtually all tax advisers will have to spend time in considering in relation to all the advice which they give whether or not a return under the disclosure rules is required.
The RIA makes the claim that:
'to date, both the number and quality of disclosures received indicate that the regime is targeting tax avoidance without affecting legitimate tax planning. HMRC have not received significant numbers of unnecessary 'safety first' disclosures, which some commentators have predicted.' (Para 6 ibid.)
Many advisers do not understand the scope of the provisions. Undoubtedly many pieces of advice which fall within the disclosure rules are not being disclosed because, instead of looking at the actual rules, advisers have relied on HMRC's assertion that the rules do not affect most tax advisers. In designing the system, HMRC deliberately created a system which would cover far more than their ostensible target. The system confers a de facto power to punish only those breaches of which HMRC disapprove.
Neither the original 2004 regulatory impact assessment (The Regulatory Impact Assessment: Tackling Tax Avoidance — Disclosure Requirements referred to in this article as the '2004 RIA') nor the 2006 RIA have taken proper account of the burden placed on those advisers who have taken the trouble over the last two years to understand the system of reviewing large quantities of tax planning advice only to decide that a return in respect of it is not required. Now, as we shall see, with the introduction of the Prescribed Description Regulations SI 2006 almost all advice in relation to income tax, capital gains tax and corporation tax (the 'prescribed direct taxes' per para 5) is disclosable.
Evading Parliamentary scrutiny
A deeply unsatisfactory feature of the original introduction of the regime was that a very large amount of it was introduced by way of regulation rather than primary legislation. That is an increasingly common technique by which the Government avoids its legislation being subject to proper Parliamentary scrutiny. The extension of the disclosure regime has been achieved by regulation with the original legislation in FA 2004, Part VII remaining unchanged.
The guidance
HMRC have also issued revised guidance on the disclosure which has effect from 1 August 2006 (Guidance: Disclosure of Tax Avoidance Schemes — Income Tax, Corporation Tax, Capital Gains Tax and Stamp Duty Land Tax, referred to in this article as the 'Guidance'). This Guidance has to be treated with the greatest caution. Its statements of the law are often inaccurate, construing some provisions too loosely and others unjustifiably tightly. The inaccuracy of the Guidance poses difficult questions for advisers of what they are to do where they have a legal duty to make a disclosure which seems not to be recognised by the Guidance. Many advisers will be tempted to take what they think is a pragmatic view and rely entirely on the Guidance in determining whether or not a disclosure is required. There is a danger in that; the Guidance is often so poorly expressed that it is difficult to construe it with any precision.
What should advisers do?
This leaves all tax advisers in a very difficult position. Almost all the advice which they will give to clients in relation to income, capital gains and corporation tax will be disclosable. If they do not make that disclosure they will be liable, on each occasion on which they fail to make a return without reasonable excuse, to a penalty of up to £5,000. In particular, the Guidance on the confidentiality hallmark and the premium fee hallmark is substantially inaccurate. Unfortunately it is also so imprecise that it is unlikely that an adviser who has failed to make a disclosure could rely on it as providing a reasonable excuse for his failure.
It is unlikely that HMRC want to be inundated with disclosures of routine tax planning. They really only want details of strategies of which they are not aware and in relation to which they can raise substantial sums of additional tax by blocking legislation. But the problem which bedevils the disclosure rules is part of a wider problem which HMRC have always had with anti-avoidance legislation. They cannot define its target with sufficient precision. So they produce legislation which hits many things which are not their target, making the legislation workable only by exercising a discretion not to enforce it to its letter.
That is constitutionally objectionable. Penal laws, whether criminal or civil, which are widely ignored, undermine respect for the law itself. The existence of a wide duty of disclosure, however, which is only partially enforced by HMRC, poses particular problems for advisers.
Disclosure problems
First, there is the very practical problem that although HMRC may start by taking a liberal view of the law, the adviser can rarely rely on them to continue to do so. The sorry tale of HMRC's attempt to apply the settlements legislation to husband and wife companies is an illustration of the danger of relying on HMRC's continued 'reasonableness' in the application of broad and imprecise anti-avoidance legislation when there is additional revenue to be raised. Penalty assessments on advisers who have failed to realise that the duty of disclosure is as wide as
it is, could be a useful source of additional revenue in
the future.
Secondly, there is the question of whether failing to make a disclosure required by law is consistent with the ethical rules of the professional body to which the adviser belongs. For example, in an article in the Tax Adviser, the official journal of the Chartered Institute of Taxation ('Practical Issues on Disclosure', October 2004), the Institute's technical officer, Colin Davis, said:
'The CIOT and ATT believe that members should comply with the disclosure regulations. It has been suggested that some practitioners may take the commercial view that they can increase their profits by not disclosing arrangements, but simply paying any penalty that may be imposed. The CIOT and ATT do not find that approach acceptable. They have been in discussion with HMRC since the avoidance disclosure rules were announced and considerable changes were made to target the regime much
more closely.'
That article was written in 2004. Even then its view of the degree to which the regime was 'targeted' was naive. The 2006 Prescribed Arrangements Regulations have failed 'to target the regime' to any significant extent at all. If CIOT members were to take a commercial decision to avoid imposing unnecessary costs on their clients by not disclosing arrangements where it seemed unlikely that HMRC would impose a penalty for their failure to follow the letter of the law, would that be acceptable to the professional bodies?
The question raises a wider ethical point. Until now, almost all professionals, in my experience, have taken the view that where the law imposes a duty to disclose, they have an ethical duty to do so even where their economic interests may be served better by failing to make the disclosure and risking the imposition of a penalty. The penalties imposed for failures to make returns, however, are civil penalties not criminal penalties. The Crown is subject to a higher burden of proof in relation to criminal penalties simply because those who commit crimes are subject to the opprobrium of society. Civil wrongs are not morally equivalent to crimes.
Conclusion
The imposition of the disclosure regime represented a departure from the normal pattern of the UK tax system which requires a return primarily from the owner of assets or the persons undertaking transactions rather than from advisers. For the first time, advisers were required to disclose details to the state, albeit limited and anonymised, of their advice to clients before the client had undertaken the transactions concerned. That undermined the relationship between the client and the adviser and between taxpayers (and their advisers) and HMRC.
The system which has been produced is so broad that it is likely to bring the law itself into contempt. It has been introduced simply to give the Government an overwhelming advantage over the subject in formulating its fiscal imposts. Until quite recently, the UK taxation system has been almost unique in the world in creating a balance between the power of the Government to tax and the protection offered by the law to the taxpayer. Since 1997, this balance has been lost as the Government has taken every opportunity to skew our revenue law in its favour so as to maximise short term tax collection. Professionals in the UK continue to recognise their duty to make disclosure in accordance with the law regardless of whether their commercial interests would be better served by accepting the risk of incurring a civil penalty for non-compliance. I hope that they will continue to do so.
Simon McKie is a designated member of McKie & Co (Advisory Services) LLP (tel: 01373 830956, e-mail: simon@mckieandco.com). This article is based on a longer article published in Private Client Business (Publisher: Sweet & Maxwell) issue 6, 2006.
