HMRC - New Penalty Regime

There has been a significant change in the approach which HMRC will be taking in dealing with all tax returns relating to periods starting on or after 1 April 2008, where the return is due to be submitted on or after 1 April 2009. Note this includes returns covering all taxes. Below is a brief overview of how the penalty system worked under the old rules and a more in-depth explanation of the new regime. We recommend you read this carefully.

The need for all taxpayers (individuals and businesses) to retain full and complete records of their affairs is now extremely important in order to help reduce the potential penalties .

We work with our clients to help them maintain appropriate records based upon their individual circumstances in order to reduce the risk of penalties being charged for failure to maintain adequate records. If you are unsure if your records meet the appropriate standard or want to discuss any aspect of your record keeping, please contact us on 01509 267827.

Old Rules

HMRC have the legal right to enquire into any return and if they find that there is an error in that return which has caused tax to be underpaid they have the power to levy a penalty which is usually based on the tax underpaid.

At present, HMRC can levy a penalty if they believe that the taxpayer is guilty of fraudulent or negligent conduct. This can cover everything from a simple failure to include an item of income through to a planned fraud.

The penalty level starts at a maximum of 100% of the tax due and can be reduced by taking into account the level of disclosure made by the taxpayer, the degree of co-operation shown in the enquiry and the size and gravity of the offence.

Note it has always been possible to negotiate penalties because the Inspector has had a considerable degree of discretion. That is now going to change.

New Penalty Regime

Under the new regime, there will be a basic presumption that every taxpayer has taken ‘reasonable care’ in completing their tax return. An individual will be expected to have records of all their income and expenses. There has been a legal requirement for many years that all taxpayers should have sufficient records to back up every item on their return and this will remain in place.

In considering what rate of penalty to apply to an incorrect return the Inspector will consider the action taken by the taxpayer against the benchmark of ‘reasonable care’. No penalty will arise if it can be shown that the error was due to a simple honest mistake by the taxpayer. The three levels of unacceptable behaviour that will give rise to a penalty are defined as:

• careless action;
• deliberate action; and
• deliberate action with concealment.

The precise way in which HMRC will interpret these terms is not yet known, although the legislation itself defines ‘careless action’ as not doing something that a reasonable person would be expected to do. The borderline between that and a simple mistake may become blurred.

Level of penalties

What is clear is that the legislation sets a maximum penalty for each type of offence. The rules then allow a certain level of reduction, taking into account only the level of disclosure, but there is a minimum penalty level which the Inspector will not be able to go below.

Two types of disclosure are mentioned. ‘Unprompted disclosure’ is made by a taxpayer when they have no reason to suspect that HMRC are aware of any error. In other words, this is a completely voluntary admission by the taxpayer. Any other type of disclosure is deemed to be prompted. The effect of this can be seen in the table below which sets out the new penalty levels:

These rates are then applied to the ‘potential lost revenue’ to HM Revenue & Customs, ie: tax underpaid.

You need to be aware that these levels are considerably higher than the levels which have, historically, been negotiated with HMRC for similar types of offence.

It seems inevitable therefore that the cost of making an error is going to increase significantly and the utmost care needs to be taken in keeping records to ensure that they are accurate and complete.

Any Questions, please call us on 01509 267827 or email us.