Tax Avoidance Investigations
There is sometimes a fine line between legitimate strategic tax planning and the creation of artificial tax schemes which HMRC may characterise as tax avoidance. Tax avoidance is generally defined as using legal means to pay the least possible amount of tax (as opposed to tax evasion, which involves using illegal methods). However, governments around the world are taking an increasingly strong line to frustrate schemes which may break no laws at the time they are created, but use those laws to produce outcomes which the legislators never intended.
In recent years there has been a significant increase in the proliferation of schemes which seek to provide tax advantages which HMRC argue are not intended under the laws. These schemes often include steps which would not normally be expected to be undertaken. HMRC are successfully challenging such schemes on the basis of historic case law where they can show that these steps provide no commercial benefit to the business.
If you are considering participating in a scheme, or have participated in a scheme which is being challenged by HMRC, consult our expert tax advisers to avoid or mitigate the potential damage to your personal tax position.
Tax Avoidance Schemes
HMRC continuously review tax schemes which are potentially abusive and regularly close them down. As a consequence, many scheme participants are left in a worse financial position than they would have been if they had not tried to avoid tax.
Schemes which HMRC have challenged include:
Employee Benefit Trusts (EBTs)
EBTs are legitimate structures, discretionary trusts which a company can set up for the benefit of its employees and directors, either within the UK or offshore. However in HMRC’s view, these have sometimes been misused by granting loans (in effect non-repayable) to create tax-free payments to employees. The most high-profile case involves Rangers Football Club, a dispute that so far has gone in Rangers’ favour, but which is currently being appealed by HMRC in the High Court.
Employer-Finance Retirement Benefits Scheme (EFRBS)
Designed to provide retirement benefits to high-earning executives from funds with very flexible investment criteria, they are similar to EBTs in that these trust vehicles have sometimes been used in an attempt to avoid PAYE and provide tax-free loans. Legislation is now in place to remove this “disguised remuneration” loophole and ensure that income tax is chargeable in these circumstances.
A scheme used by some high-profile individuals which in effect provides loans in lieu of salary, thereby avoiding UK income tax. This is achieved by setting up an offshore shell company, which signs contracts with UK earners who have supposedly left their UK employment. The company then hires them back to the UK on a greatly reduced salary supplemented by loans which are offset against tax. Of K2, HMRC has stated that it “will challenge it in every way”.;
Where a single supplier provides a customer with a package of goods and/or services which, if supplied separately, would be subject to different rates of VAT, then it will be taxed at the VAT rate applicable to the main supply. Supply splitting occurs when the different elements are provided by different business entities creating separate supplies. HMRC will continue to take action to counter instances of supply splitting, where there is evidence of value shifting between the elements to ascribe a higher value to those which are subject to the lower rates of VAT at the expense of those taxed more highly.
VAT Artificial Leasing
– HMRC are aware of schemes using an artificial leasing structure to exploit possible differences of interpretation by EU Member States of a lease with an option to purchase. The scheme user acquires a new pleasure craft which purportedly has 'VAT paid status' while, in reality, paying little or no VAT. The user provides the funds, directly or indirectly, that are used to purchase the asset. HMRC will challenge examples of this scheme and recoup the tax that has been avoided.
Sideways Loss Relief
These schemes seek to exploit the loss relief by generating trade losses for individuals. Typically, a large loss is generated, either in partnership or alone, by accounting for the arrangement as a trade and either writing down the value of trading stock or claiming deductions or allowances for purported trading expenditure. HMRC’s view is that individuals participating in these schemes also do not meet the requirement that at least ten hours a week are spent personally engaged in commercial activities of the trade carried on with a view to earning profits from those activities.
Stamp Duty Avoidance
Efforts to avoid Stamp Duty on property purchases may involve either creating a company to effect the purchase and distributing it as a dividend, or splitting the purchase price between couples. HMRC have won significant test cases to prevent this – the Vardy case where the company purchase/dividend distribution of a £7m property was defeated and the Project Blue scheme, involving 25 commercial property cases and around 900 residential cases, protecting £85m in tax revenues.
Stamp Duty Sub-Sale Relief
An alternative device to avoid Stamp Duty by effecting two transactions on the purchase of a single property, in effect shielding the actual purchaser by introducing a third party. The government has introduced retrospective legislation to frustrate these schemes.
Stripped Bond Scheme
A scheme under which banks sold bonds which had been 'stripped' of their interest coupons to their clients at a discount. Later, their clients would either sell the bonds back to the bank at a higher price or redeem them at maturity. The banks sold the products to give a relatively safe interest-like return 'tax free' but a tax tribunal ruled in both appeals that the return (the profit) was taxable as income. As a result of HMRC's enquiries, the vast majority of people who took up these products have already agreed that the income they received from these products is taxable and have paid the tax due in full.
If you have participated in any of these schemes, or others which have resulted in a tax demand or investigation, contact us for advice. We will help you to make any necessary disclosures and endeavour to mitigate any resulting taxes and penalties due.
Disclosure of Tax Avoidance Schemes (DOTAS) and HMRC’s Risk-based Approach
The DOTAS mechanism provides a channel for the promoters and users of tax avoidance schemes to pre-notify HMRC. The objectives of the disclosure rules are to obtain early information about tax arrangements and how they work; and information about who has used them.
On its own the disclosure of a tax arrangement has no effect on the tax position of any person who uses it. However, a disclosed tax arrangement may be rendered ineffective by Parliament, possibly with retrospective effect
Separately, HMRC adopts a risk-based approach to identifying potentially abusive schemes, using a number of indicators which include:
- Transactions or arrangements which have little or no economic substance or which have tax consequences not commensurate with the change in a taxpayer’s economic position.
- Transactions or arrangements bearing little or no pre-tax profit which rely wholly or substantially on anticipated tax reduction for significant post tax profit.
- Transactions or arrangements that result in a mismatch such as: between the legal form or accounting treatment and the economic substance; or between the tax treatment for different parties or entities; or between the tax treatment in different jurisdictions.
- Transactions or arrangements exhibiting little or no business, commercial or non-tax driver.
- Transactions or arrangements involving contrived, artificial, transitory, pre-ordained or commercially unnecessary steps or transactions.
- Transactions or arrangements where the income, gains, expenditure or losses falling within the UK tax net are not proportionate to the economic activity taking place or the value added in the UK
- Tax law is sometimes enacted to target particular transactions or arrangements and give them a particular tax result. Alternative transactions or arrangements designed to sidestep the effect of such legislation, but which otherwise achieve the same result.
The General Anti-Abuse Rule
The General Anti-Abuse Rule (GAAR) which came into force on 17 July 2013, is another part of the UK government's approach to managing the risk of tax avoidance. It has been introduced to strengthen HMRC’s anti-avoidance strategy and help HMRC tackle abusive avoidance. The GAAR legislation defines what are, for its purposes, tax arrangements that are abusive.
Even if something isn't covered by the GAAR, that doesn't mean it won't be tackled in another way. HMRC will continue to tackle tax avoidance using existing anti-avoidance methods as well as the GAAR, where appropriate.
The GAAR applies to the following taxes:
- Income Tax
- Corporation Tax (including amounts chargeable or treated as Corporation Tax)
- Capital Gains Tax
- Petroleum Revenue Tax
- Stamp Duty Land Tax
- Annual Residential Property Tax
If you need to disclose undeclared tax to HMRC and would like some assistance, contact us here.