Disclosure, Information Notices And Discovery - June 2012

1. Introduction

   This briefing note outlines the post April 2009 situation concerning discovery, information notices and discovery assessments in the light of the following tax cases:

   i) Langham v Veltema

   ii) Neil Pattullo

   iii) Dr Michael Charlton and others v HMRC (TC01317) and

   iv) HMRC v Lansdowne Partners Limited Partnership.

   HMRC's statement of practice 01/06 on self assessment and finality is also reproduced in full.

2. Discovery

   Under the discovery provisions of the Taxes Management Act 1970 s29, HMRC may make a discovery assessment where they become aware that:

   income or gains that ought to have been assessed have not been; an assessment is, or has become, insufficient; or a relief given is, or has become, excessive. Similar provisions exist under s30B in respect of partnership statements.

   If a tax return has been submitted, a discovery assessment can only be raised if one of the following two conditions is met:

   Condition 1 - the under-assessment or excessive relief is due to fraud or negligent conduct on the part of the taxpayer or someone acting on his behalf. Condition 2 - knowledge of the tax under-assessment has been obtained outside the normal enquiry period for a tax return, or the officer had already informed a taxpayer that he had completed his enquiries into a particular tax return and the officer could not have been reasonably expected, on the basis of information made available to him prior to that time, to have been aware of an under-assessment to tax or an excessive amount of relief. The legislation states that a discovery assessment cannot be raised to make good an under-assessment or excessive relief having been granted, where that error or mistake arose as a result of the tax return having been made in accordance with generally prevailing practice at the time when it was made (TMA 1970 s29(2)/ s30B(3)). However HMRC may wish to argue whether a generally prevailing practice existed in any particular case.

3. Information notices

   Prior to 1 April 2009, in certain instances where there was no open enquiry into a return, HMRC could call for information (from the taxpayer or a third party) that would be relevant to determining the amount of a tax liability, by issuing a notice under Taxes Management Act 1970 s20. They were also required to give the taxpayer reasonable opportunity to supply the information voluntarily prior to issuing the notice. Such a notice had to be authorised by a General or Special Commissioner or in certain cases by the Board of HMRC, and they could only be issued if there was a reasonable prospect of raising an assessment. A taxpayer was not obliged to comply with a voluntary request for information.

   From 1 April 2009, procedures changed on information notices in cases where tax returns have been submitted within the required timescale, (the new provisions are found at FA2008 Sch36). Information notices, which in most cases no longer need authorisation by First Tier Tribunal, can be issued if one of four conditions is present. These are:

   a notice of enquiry has been issued and the enquiry is not completed; an HMRC officer has reason to suspect there is an under-assessment, or that a relief given is or has become excessive; a notice is given to check a person's VAT position; or a notice is given to check a person's deductions etc with respect to PAYE regulations. There are penalties for non compliance with notices and these are an initial penalty of £300, followed by a daily penalty not exceeding £60 per day for continuing failure. Compliance with a notice is required within a reasonable timescale (usually specified in the notice). There is a right of appeal against a notice to provide information, unless the issue of the notice has received prior approval of the Tribunal. However, this appeal does not extend to any information or documents which form part of a taxpayer's statutory records. If an information notice is issued in relation to income tax, capital gains tax or corporation tax for a tax return that is outside the enquiry period, then HMRC must have reasonable grounds for believing there is an underassessment.

4. Disclosure

   The important tax cases of Langham v Veltema and the Judicial review case of Neil Patullo (described below) considered what level of disclosure was required from the taxpayer in order to defend the second test laid down in Taxes Management Act 1970 s 29, namely "the officer could not reasonably have been expected, on the basis of information made available to him prior to that time, to have been aware of an under-assessment to tax or an excessive amount of relief." The decisions in those cases indicated that the level of disclosure needed to be detailed and extensive in order to draw an Inspector's attention to a potential insufficiency.

   However the judgement in the 2011 case of Charlton and others v HMRC ([2011] UKFTT 467 (TC)) appears to rein back on some of the practical implications of the decision in the Veltema case. Bearing in mind that the Veltema decision has been heavily relied on by HMRC it has not unexpectedly appealed the decision. As at June 2012 the date set for a hearing by the Upper Tribunal is 15-17 October 2012.

   This has been followed by the Court of Appeal decision in HMRC v Lansdowne Partners Limited Partnership ([2011] EWCA Civ 1578) where the point as to what an HMRC officer could reasonably expected to have been aware of, or inferred, at the time the enquiry window period expired was considered. The judgement in the later case highlighted that the correct test was whether the officer should have been aware of a possible deficiency based on the information made available and not whether he had sufficient information to enable him to reach a conclusion as to the amount of the possible deficiency. In view of the comments made in the Court of Appeal judgement on the test to be applied, it will be interesting to see how HMRC pursue the appeal to the Upper Tribunal in respect of the Charlton case. As mentioned below, the FTT found as a matter of fact that it was 'absolutely obvious from the information given in the white spaces of the returns, that the three Appellants had participated in artificial tax avoidance schemes to generate capital losses'. In the meantime the professional bodies continue to be in discussion with HMRC regarding the fact that HMRC's strict interpretation of the discovery legislation following the Veltema decision is at variance with reassurances about certainty given by Ministers at the time the self assessment legislation was drafted.

   4.1. Langham v Veltema

   www.bailii.org/ew/cases/EWCA/Civ/2004/193.html

   A company had transferred a property to Mr Veltema for nil cost. The Company obtained a valuation of £100,000 from a firm of chartered surveyors and valuers. Mr Veltema used that valuation in the calculation of the assessable benefit in kind and the company subsequently used the same figure in its chargeable gains computation.

   The Inspector of Taxes dealing with the company referred the valuation to the District Valuer who argued that a higher figure was appropriate. A value of £145,000 was subsequently agreed, by which time the enquiry window had closed in relation to Mr Veltema's personal return.

   Mr Veltema argued that the Inspector was precluded from making a discovery assessment. Lord Justice Auld summarized the conditions set out in Taxes Management Act 1970 s 29 as follows: "It seems to me that the key to the scheme is that the Inspector is to be shut out from making a discovery assessment under the section only when the taxpayer or his representatives, in making an honest and accurate return or in responding to a section 9A enquiry, have clearly alerted him to the insufficiency of the assessment, not where the Inspector may have some other information, not normally part of his checks, that may put the sufficiency of the assessment in question." Following the Veltema decision HMRC issued Statement of Practice 01/06, see Appendix 1.

   4.2. Judicial Review of the right to issue a s20 notice to Neil Pattullo - Scottish Court of Session

   www.bailii.org/scot/cases/ScotCS/2009/2009CSOH137.html

   In this case the taxpayer had provided a white space disclosure of aspects of a tax avoidance scheme he had used and the question was whether that disclosure was sufficient to defend the second test laid down in Taxes Management Act 1970 s 29, namely "the officer could not reasonably have been expected, on the basis of information made available to him prior to that time, to have been aware of an under-assessment to tax or an excessive amount of relief."

   The taxpayer had used a marketed scheme to avoid a 2003/04 liability on £2.1m of capital gains which involved £2.6m of loans from a bank for contributions into a trust and subscription to capital redemption policies (a scheme known as SHIPS). He had disclosed in the white space the basic steps of the scheme and indicated that a capital loss of £2.6m arose as a consequence of TCGA92 s37(1). The 2003/04 tax return was submitted by 31 January 2005, with the enquiry period closing on 31 January 2006.

   Counsel for the taxpayer pointed out that the tax return made reference to the particular section of the legislation said to give rise to the capital loss and he submitted that this would alert an officer to the taxpayer's thought process. He said that there was a full narration of the steps which had been taken and the facts of the transaction. In addition there was reference to the section relied upon by the taxpayer as giving rise to the capital loss. Thus he submitted that the white space contained a full and detailed disclosure of what had happened. It was his position that given this full disclosure a discovery assessment could not competently be made by an officer and therefore a discovery notice was ruled out.

   Counsel for the taxpayer concluded that a discovery assessment should be an exception. In order to come within the exception it had to be...