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Markel Tax

15 Sep 2020

The importance of being earnest; or how to avoid a Code of Practice 9 catastrophe

Investigations under Code of Practice 9 (COP9), for cases of suspected serious fraud, are the second most serious form of compliance activity carried out by HMRC, second only to a criminal investigation.

As practitioners dealing with these investigations will know, many of these cases were paused at the beginning of the lockdown period and, following several months, HMRC have now reactivated these enquiries. In some cases, HMRC offered practitioners the option to pause the process during lockdown, due to the clear practical difficulties presented to practitioner and client by lockdown, but in other cases HMRC paused the cases themselves because their resources had to be redirected to more pressing matters of dealing with the various coronavirus support schemes that they have administered. Also, notably, when lockdown began, HMRC also ceased opening any new investigations under COP9.

The unprecedented support provided by the Government to help those affected by the emergency measures imposed to slow the spread of the pandemic, has cost the treasury an enormous amount of money; now the treasury must refill its coffers and the pressure will be on HMRC to help them do this by reducing the ‘tax gap’.

As HMRC now begin to return to their ordinary compliance activities, the focus will be on the key areas where HMRC believe they can get value for money; amongst other things this will inevitably include a return to investigations under COP9 where they see large liabilities and the ability to collect the tax.

One particular area where COP9 might be utilised is in HMRC’s investigations into suspected fraudulent claims made in respect of the coronavirus support schemes. The schemes themselves have created a brand new risk for HMRC and there have already been reports in the press of the first criminal cases brought against those who have abused them. The introduction of Finance Act 2020 brought payments made under the schemes into the tax code, enabling civil investigations into these matters.  

What could possibly go wrong?

The most dangerous pitfall is assuming that an enquiry under COP9 is no different to an ordinary enquiry opened under section 9A TMA1970, where the approach is comparatively fairly relaxed, beginning with informal requests for information and where HMRC tell you what they are specifically interested in.
Investigations under COP9 are very different; every decision is important, missing deadlines can be fatal and the onus is entirely on the agent and their client to establish what the tax irregularities are; HMRC will not reveal the nature of their suspicions.

Where HMRC open an investigation under COP9, they offer the taxpayer the opportunity to enter into the Contractual Disclosure Facility (CDF), which confers them immunity to prosecution for the tax offences they have committed. If they decide not to, HMRC decide whether to investigate using their civil powers, or whether to launch a criminal investigation. However, from the outset HMRC warn the taxpayer:

HMRC makes this offer with the intention that at all stages throughout the Contractual Disclosure Facility (CDF) process your disclosure to us will be full, open and honest and that you will provide timely, accurate and complete information to the very best of your ability.

So what are the main areas where COP9 disclosure cases go wrong?

Receipt of the opening letter – an untimely response

The first a client will know of an investigation under COP9 is the receipt of the opening letter. The letter will inform the client of the investigation and offer the CDF, enclosing the pro forma required to make an initial outline disclosure. The problem that arises at this stage is a failure to react quickly enough. The key point is that this is a one-time offer and receipt of the letter has already started the clock ticking. The client has only 60 days to accept the offer and make their ‘outline disclosure’. Only in very exceptional circumstances will HMRC provide any longer than 60 days and failure to respond could result in a decision to launch a criminal investigation.

Outline disclosure – admission of deliberate behaviour

In order to accept the offer of CDF, there must be deliberate behaviour by the client that has led to the understatement of tax. This is reported to HMRC in the form of an ‘outline disclosure’, which is a high-level summary of all the irregularities in their tax affair. A common problem that arises is the failure to establish the deliberate behaviour. Typical examples of this are:

  • A client accepts the offer, but no deliberate behaviour is actually disclosed.

  • Another tax irregularity, other than the most serious one, is identified where deliberate behaviour could be admitted. If HMRC suspect this is the case, they will not accept this as a valid outline disclosure.

There may the temptation to do either of these things where a client does not wish to admit to a serious fraud, but wants the protection of the facility. In both cases the application will be rejected, leaving HMRC to decide how to investigate.

Scope of the outline disclosure

It is important that the outline disclosure is complete to the best of the knowledge and belief of the client. In essence, the legal protections only apply to the issues disclosed in the outline. The introduction of previously undisclosed issues after this stage could result in criminal prosecution in respect of those items. Similarly, material discrepancies in the quantum of irregularities disclosed initially when later compared with the reality could expose a client. The problems commonly seen with outline disclosures are as follows:

  • Failure to disclose all of the deliberate errors.

  • Failure to disclosure non-deliberate errors, either intentionally, or by simple failure to do the necessary background work.

  • Decisions to limit the timescale of irregularities. There may be a temptation to limit the disclosure of certain irregularities, based on perceptions of the relevant behaviour types involved and assessing time limits, or simply because the client believes HMRC will not find out about old irregularities.

  • Failure to consider all of the capacities in which a client may act; CDF is not just about their personal income tax, it covers their actions as a director, trustee, executor and so on.

Report stage

A key part of the CDF process is the production of a disclosure report for HMRC, normally compiled in accordance with a scope agreed with them, following the outline disclosure and opening meeting, if one is held. At this stage there is still the potential for painful mistakes. The problems most commonly seen are as follows:

  • Delay – if things are taking longer than agreed, keep HMRC informed – continued slow progress could result in expulsion from the process.

  • Failure to report new, significant issues. If such issues arise from the review work being undertaken, tell HMRC about this and consider making a further payment on account. Leaving this to the end and simply including it in the report, could result in re-investigation by HMRC. As HMRC would not have been aware of the new issue from the outline, they would not have had the opportunity to consider the scope of the related review work necessary to address it. They may also consider that it was deliberately omitted from the outline disclosure and now only disclosed through necessity.

  • Failure to disclose deliberate behaviour. After reporting deliberate behaviour in the outline, the behaviour eventually reported falls short of a full admission. HMRC will take a dim view of this tactic.

One of the key things to consider before embarking the CDF process with a client is the time it will take to undertake the review work and draft the report. The process is time-consuming and continuous and so it would be prudent for the client’s accountant to assess whether they have time to fit such a project in around their ordinary commitments. Unfortunately, having other client commitments is not a valid reason for delay in HMRC’s eyes.

COP9 is a collaboration

It is important to remember at all times that the disclosure is the client’s disclosure. They must fully understand the content and their contributions to the process are the foundation stone of it. Clients need to understand from the outset that the production of the disclosure reports, outline and full, are a joint venture between them and their agent and that it will be necessary for their agent to, at times, ask them challenging and personal questions. A failure to properly engage clients in the process is likely to result in a substandard disclosure and lead to protracted follow-up enquiries in some cases and even criminal investigation in others.

Accordingly, there is often an advantage for an accountant in engaging a third-party specialist to undertake the COP9 process, not only because it is their specialist area and the hours involved, but because from HMRC’s point of view, they are a fresh pair of eyes, unencumbered by an involvement with the client’s previous tax compliance and because they can then have those difficult conversations with the client, helping to preserve the existing client-accountant relationship.  

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Tagged Tax Investigations Tax investigations
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