HMRC publishes its latest Tax Gap – TaxWatch analysis

27th June 2022 by Alex Dunnagan

HMRC’s Tax Gap has increased for the second year in a row on a like-for-like basis.

The latest HMRC estimates of non-compliance are £32bn for 2020-2021, or 5.1% of total tax revenues. This is the same gap as a percentage as seen in last year’s publication covering 2019-2020.

However, this year’s figure includes a £0.7bn revision downwards to compensate for lower compliance activity during Covid. This means that on a like-for-like basis HMRC’s Tax Gap increased.

Of the £32bn total tax gap, at least £14.4bn, or 45%, of it is attributable to fraud. Fraud as a percentage of the total tax gap hasn’t been this high since 2016-2017. This is based on the limited data available, and the actual figure for tax lost to fraud will be much higher. ^[1]TaxWatch’s methodology explaining how we arrived at this figure is explained in full detail in our assessment of the 2019-2020 figures, see our report The Tax Fraud Gap – 2021 edition, … Continue reading

As TaxWatch has previously highlighted, HMRC’s tax gap publication significantly underestimates the true scale of non-compliance with the tax system. Profit shifting by multinationals appears not to be counted at all.

Estimates of error and fraud in the HMRC-administered Covid-19 support schemes are also not included in the figures and reported on separately. These run into the billions of pounds.

Our full analysis is available in a briefing here. HMRC’s publication is available here.

References[+]

References
↑1	TaxWatch’s methodology explaining how we arrived at this figure is explained in full detail in our assessment of the 2019-2020 figures, see our report The Tax Fraud Gap – 2021 edition, here http://13.40.187.124/tax_fraud_gap_2021/

Differing approaches to combating marketed tax avoidance schemes

7th June 2022 by George Turner

Taxation magazine recently carried an article from our Executive Director looking at HMRC’s record on tackling marketed tax avoidance schemes over the last 10 years. The article looks at the differing results HMRC has achieved going after two different types of tax avoidance scheme and what lessons can be drawn. The text of the article can be found below. A pdf is available here: A_tale_of_two_avoidance_schemes_-_Taxation,_

In 2013, there were in effect two marketed tax schemes – sideways loss relief and disguised remuneration.
Several court decisions ruled that sideways loss relief schemes were ineffective from a tax law perspective.
There have been criminal prosecutions of people who operated these schemes.
HMRC has won two cases – Rangers and Aberdeen Asset Management – on disguised remuneration and that was on the PAYE argument.
The loan charge has helped promoters with the argument that nothing was wrong until HMRC changed the law retrospectively

The tax avoidance industry has been through a remarkable transformation over the past decade. Ten years ago, there were only two tax avoidance schemes that were sold to individuals in any volume: sideways loss relief schemes and disguised remuneration schemes. According to HMRC figures, in the 2013-2014 tax year 35% of all users of tax avoidance schemes – 8,500 people – were members of sideways loss relief schemes. Today that figure is zero. Over the same period, disguised remuneration has flourished. There were 13,200 people involved in disguised remuneration in 2013-14, but this has risen to 28,000 in 2019-20, the latest year when figures are available. Why is it that HMRC has been so comprehensively successful at combating one form of tax avoidance, while demonstrably failing to deal with another?

Respectable end of the avoidance market

In an appearance before the House of Commons Public Accounts Committee last year, Jim Harra, HMRC chief executive, offered one explanation: ‘The situation with the promotion of tax avoidance is over recent years, we feel we’ve been very successful at driving the respectable end of the tax profession out of offering tax avoidance.’ Clearly, we have come a long way since David Hartnett described sideways loss relief schemes as ‘schemes for scumbags’.

In 2013, there were in effect two marketed tax schemes – sideways loss relief and disguised remuneration. Several court decisions ruled that sideways loss relief schemes were ineffective from a tax law perspective. There have been criminal prosecutions of people who operated these schemes. HMRC has won two cases – has won two cases Asset Management – on disguised remuneration and on disguised remuneration and that was on the PAYE argument.was on the PAYE argument. The loan charge has helped promoters with the argument that nothing was wrong until HMRC changed the law retrospectively.

In particular, HMRC points to the code of practice on taxation for banks (large banks were frequently involved in providing the finance for sideways loss relief schemes), and the tightening of professional conduct rules for accountants and tax advisers in 2017, which in effect made it a disciplinary offence to sell a mass-marketed tax avoidance scheme. The implication is that more senior professionals subject to professional regulation were successfully persuaded to get out of selling the schemes to their clients. Although it is the case that sideways loss relief schemes were mainly targeted at high net worth individuals – the kind of people that employ professional accountants and lawyers and are clients of private banks – sideways loss relief schemes are not a form of tax avoidance defined by the involvement of professional advisers. It is well known that many senior lawyers signed off on disguised remuneration schemes, senior accountants operated and sold the schemes, and former HMRC inspectors regularly pop up as being involved with disguised remuneration. In fact, it was recently confirmed that an accountant that acts for the royal family is one of the more significant players in the field of disguised remuneration. If it really is the case that improvements in professional standards have driven out the respectable end of the avoidance market, why have allegedly respectable people continued to market disguised remuneration schemes? The simple answer is that codes of practice and professional ethics will only ever take us so far. That is not to say that improving professional standards is unimportant. It is, but sadly there will always be morally vacuous people in every profession who will seek to make a profit from taking advantage of others. In the end, the most effective way of stopping any form of tax avoidance is to establish that a scheme is unlawful with regard to tax law. As Lord Templeman put it many years ago: ‘Every tax avoidance scheme involves a trick and a pretence. It is the task of the Revenue to unravel the trick and the duty of the court to ignore the pretence.’ It is also important to ensure that dishonest behaviour is challenged, if necessary by way of the criminal prosecution of those that seek to promote dishonest tax avoidance schemes. As it was recently put by Lady Justice Simler and Mrs Justice Whipple in Ashbolt and Arundell v HMRC and Leeds Crown Court [2020] STC 1813 ‘tax avoidance moves from lawful conduct to criminal conduct when it involves the deliberate and dishonest submission of false documents to HMRC with the intent of gain by the taxpayer in question and loss to the public revenue’. When we analyse the performance of HMRC in both the civil and criminal courts, it is here where we see a real difference in performance with regard to different forms of tax avoidance.

Sideways illusion

Sideways loss relief schemes worked in the following way. Investors, who were always high earners with large income tax liabilities, entered into a partnership that was formed on the pretence of carrying out some form of trade. To encourage potential clients into the arrangements, often, scheme designers based them around well-known tax reliefs, marketing the scheme as a government-supported initiative. Film schemes such as Eclipse and Ingenious are perhaps the most well-known examples, but there were also schemes that invested in vaccine research or reforestation and green energy. However, almost any investment could be used to claim sideways loss relief, such as the well-known Working Wheels scheme based on the used car industry, and some lesser-known schemes investing in computer software. The expenditure incurred in the trade would result in losses which were used to reduce the income tax liabilities of the partners under the sideways loss relief rules. The trick was that these losses were inflated by circular financing arrangements which meant that the tax write-off ended up being multiples higher than the amounts of real cash put in by clients of the scheme. The effect of this inflation also meant that the majority of capital raised by the partnerships would never actually be spent on the trade itself. For example, in Vaccine Research Limited Partnership Scheme v CRC [2015] STC 179, the partnership claimed to have spent £114m on developing various vaccines, when in fact only £14m had been spent on research and development with the balance being paid in fees to the scheme operators and the banks that had funded the contributions of partners in the first place. HMRC disallowed the claims for tax relief for partners of sideways loss relief schemes, arguing that to qualify, expenditures had to be incurred for the purposes of a trade, and the partnerships needed to operate on a commercial basis.

Even though the schemes contained some commercial element which meant that it was theoretically possible for them to earn a profit, the inflation of losses made the prospect of any profit actually being made in the long term wholly unrealistic, undermining any idea that the partnerships were a commercial enterprise. As Judge Colin Bishop put it in his First-tier Tribunal decision in the Icebreaker case Acornwood and others (TC3545): ‘A 14-handicap golfer may set out on the first tee with the aim and hope of going round the course in par; but he could have no reasonable expectation of doing so.’ The courts were generally supportive of HMRC’s arguments, and there followed a long line of cases where various sideways loss relief schemes were defeated. This includes TowerM Cashback, Working Wheels, Eclipse, Ingenious and Vaccine Research. In some cases, HMRC started criminal proceedings. According to HMRC, since April 2016, 22 people have been convicted of ‘offences relating to arrangements that have been promoted and marketed as tax avoidance’. A review of HMRC press releases reveals that at least 20 of these individuals were involved in sideways loss relief schemes.

In these cases there was usually some aggravating factor which attracted the attention of HMRC’s criminal investigators. For example, in the case of R v Michael Richards and others, it was found that a sizeable chunk of the money that was supposed to have been invested in reforestation projects was being siphoned off into secret Swiss bank accounts for the personal benefit of the scheme operators. However, it is also remarkable that in at least some cases, the core elements of the offences prosecuted by the crown were the very basis on which sideways loss relief schemes operated. In his sentencing remarks following the conviction of four individuals behind the Little Wing film scheme Judge Drew described the ‘cheat’ as: ‘Submitting tax returns which contained false statements about the LLP’s allowable losses. They were false because the jury found as a fact either that the expenditure was not wholly and exclusively for the purposes of the LLP’s trade, or the trade was not carried out on a commercial basis.’ He may not have been aware of it at the time, but Judge Drew, in summarising the guilty act of a serious criminal offence, was in effect describing how all sideways loss relief tax avoidance operated. Something which must have at least given some promoters pause for thought.

Legal confusion

HMRC has not had the same success when it comes to disguised remuneration schemes. Many of these arrangements involve the creation of an offshore employee benefits trust. A company employing an employee or contractor would place funds into the trust, which would then be loaned to the employee. The trust might also provide some other benefit, such as a gift of shares in a company controlling a bank account full of cash. The scheme promoters argued that because the trust was independent of the company and that the loan was in theory repayable, then it should not be counted as income for tax purposes. The reality however, was that the trust always paid the loan and never asked for the money back. Both employers and employees regarded the money as income for the employee to keep.

Early attempts by HMRC to deny the benefit of schemes to taxpayers were met with opposition from the judiciary. In two cases that went before the Special Commissioners in 2000s, Dextra Accessories (SpC 331) and Sempra Metals (SpC 698), the judges found that loans granted by the employee benefit trust were not taxable income. In both cases the government decided not to appeal the point on income tax. In 2013 the Court of Session accepted HMRC’s argument that Aberdeen Asset Management v CRC [2014] STC 438 should have withheld income tax under PAYE for payments made to employees made through an employee benefit trust. HMRC won on the same argument again at the Court of Session in Murray Group Holdings v CRC [2016] STC 468, defeating the Rangers employee benefits trust scheme. In that case the judges was scathing of the rulings of the tax tribunals, which until then had found in favour of Rangers, saying:

‘The fundamental principle that emerges from these cases appears to us to be clear: if income is derived from an employee’s services qua employee, it is an emolument or earnings, and is thus assessable to income tax, even if the employee requests or agrees that it be redirected to a third party. That accords with common sense… This principle is ultimately simple and straightforward – indeed, so straightforward that in cases where elaborate trust or analogous relationships are set up it can easily be overlooked. That, it seems to us, is what happened before the First-tier and Upper Tribunals in this case.’

The Court of Session decision was later confirmed by the Supreme Court (RFC 2012 plc (formerly known Rangers Football Club plc) v Advocate General for Scotland [2017] STC 1556). Both the Court of Session and the Supreme Court found that Sempra and Dextra had been wrongly decided. However, although the Rangers case established beyond any doubt that the payments made to an offshore trust in relation to employment should be considered earnings and taxed as such, campaigners rightly point out that the case does not establish that employees in disguised remuneration schemes should be liable to pay the tax themselves. This was recognised by Jim Harra himself, in an email unearthed through a freedom of information request where he expresses frustration that he has been unable to obtain a legal analysis to back HMRC’s position that individuals are taxable on earnings received via a disguised remuneration scheme. One key difference between the findings of the civil courts in cases involving sideways loss relief and disguised remuneration, is that by removing the benefit of tax relief from the partners, the courts have taken away all the incentive for investors to participate in these schemes. With disguised remuneration, without a judgment that establishes that scheme users are liable for any tax bill, the incentive for an employee to take part in the scheme remains. Employees will care little if a scheme means that they reduce their tax bills, whilst their employer runs the risk of being hit with a tax bill in the future. This is in fact how some disguised remuneration schemes have played out, with organisations like the BBC agreeing to pay off the tax liabilities of freelancers engaged through tax avoidance schemes.

Limitations of legislative fixes

The most significant intervention the government has made against disguised remuneration has been the loan charge, a piece of legislation that attempts to ensure that people historically involved in disguised remuneration schemes are subject to taxation without the need to raise an enquiry into the scheme or a taxpayer’s returns.

However, in the absence of any decision of a court establishing that the users of loan based remuneration schemes had any tax liability at all, the use of legislation to enforce HMRC’s view of the existence of that liability has proved highly problematic. Inevitably, it has been interpreted by many people as demonstrating that disguised remuneration was at the time a lawful means of reducing a tax on the part of an individual taxpayer, which a defeated HMRC has been forced to attack with retrospective legislation, something which goes against every principle of justice in this country. The perception that the loan charge is an unjust act of a vengeful administration has pushed scheme users into the arms of promoters of loan charge avoidance schemes. As a policy designed to draw a line under disguised remuneration the loan charge has been a complete failure. Participation in disguised remuneration schemes increased substantially between the announcement of the loan charge in 2016, and its implementation in 2019.

Learning lessons

By looking at the history of litigation in both the civil and criminal courts, the answer to the question, why has HMRC been much better at tackling sideways loss relief schemes than disguised remuneration, is obvious. Through careful, painstaking litigation HMRC have managed to establish the principle that sideways loss relief schemes are not only ineffective in tax law, rendering the whole enterprise pointless for scheme users, but that the promotion and operation of these schemes could be regarded a cheat on the revenue, ending with a period of incarceration at her Majesty’s pleasure. It is little wonder that the use and promotion of these schemes has stopped entirely. Until now at least, HMRC have not been able to establish the same with regards to disguised remuneration. As recently confirmed by the financial secretary to the Treasury, the number of people that have been the subject of a successful criminal prosecution is precisely zero. Despite a barrage of legislative remedies, the practice continues to operate. This may soon be about to change. HMRC recently disclosed for the first time that it currently has 17 people under active criminal investigation for ‘offences relating to arrangements promoted as disguised remuneration tax avoidance schemes’. The only investigation where details have emerged publicly, Operation Skeet, is connected with alleged attempts by Paul Baxendale Walker’s firm (or its successor) to rebrand loans so that they fell outside the scope of income tax and the loan charge. In judicial review proceedings the Court of Appeal upheld search and seizure warrants issued against two individual users of these schemes whom it suspected of offences of fraud by false representation and cheating the public revenue (see Ashbolt and Arundell v HMRC and Leeds Crown Court [2020] STC 1813). On the civil litigation side, HMRC points out that it still has thousands of open enquiries into users of disguised remuneration schemes, some of which may still come before the tribunal.

One case currently before the Court of Appeal, Hoey v CRC, deals directly with the issue of whether HMRC has the right to tax an employee, and not the employer, in a disguised remuneration scheme, one of the biggest legal issues yet to be resolved. If HMRC is successful in bringing a series of civil and criminal cases against disguised remuneration schemes, we could see the practice go the same way as sideways loss relief. But do not expect that to happen anytime soon. HMRC first opened its enquiry into the tax returns of Rangers Football Club in 2004, yet it was not until 2017 that the Supreme Court finally resolved the case in favour of HMRC. In 2005 HMRC opened an enquiry into Carbon Trading Positive Ltd, which finally ended in the conviction of Michael Richards and his co-conspirators in 2017. In that case it took seven years to bring the case to trial after the defendants had been charged. There were long-running disputes over disclosure and, at one point, a High Court judge stayed the proceedings as an abuse of process, only for them to be re-instated at the Court of Appeal. The trial itself took 11 months. One of the jurors managed to conceive and give birth to a child during the course of it.

Justice delayed is justice denied

The old saying of justice delayed is justice denied was never more true than with disguised remuneration. The decisions of the tribunals in Dextra, Sempra and Rangers meant that for the best part of ten years, the tax tribunals supported an interpretation of the law that was later found by the superior courts to be wrong. In the interim, thousands of people were brought into disguised remuneration schemes having been reassured by senior lawyers and accountants that the structures they were entering into were perfectly legal. Had the tribunal’s interpretation of the law been corrected more quickly, many thousands of people may have been spared the stress and anxiety arising from their involvement in a tax avoidance scheme. What the story of disguised remuneration demonstrates beyond any doubt is that the pitifully slow progress of tax disputes is a source of real injustice and an issue that needs to be addressed.

This article was originally featured in Taxation Magazine

The tax fraud gap – 2021 edition

16th September 2021 by George Turner

16th September 2021

The Tax Gap Attributable to Fraud was at least £15.2bn in 2019/20

At least 43% of tax losses arise from fraudulent behaviour

Executive Summary

HMRC’s annual estimate of non-compliance, “the Tax Gap” is regarded by the department as an important indicator of their long term performance and is used as a tool in developing HMRC’s strategy towards compliance. It is listed as a key performance indicator in HMRC’s annual report under their primary objective, “collecting revenues due and bearing down on avoidance and evasion”.

It is a broad measure of non-compliance defined by HMRC as “the difference between the amount of tax that should, in theory, be paid to HMRC, and what is actually paid”. What should be collected is the total amount of tax due under the law.

There are a number of reasons why any taxpayer may be non-compliant. This can range from the taxpayer making a mistake on their tax return, to not knowing about a liability to pay tax, through to criminal attempts to defraud the Treasury through filing false claims or hiding income.

HMRC break down the Tax Gap by eight “taxpayer behaviours”, which appear to be related to the department’s internal arrangements, namely: (1) criminal attacks; (2) evasion; (3) hidden economy; (4) avoidance (which does not include Base Erosion and Profits Shifting (BEPS) or tax planning); (5) legal interpretation; (6) non-payment; (7) failure to take reasonable care; and (8) error.

In this paper, we propose an alternative categorisation of non-compliance based on the three behavioural categories defined in law: Fraud, Negligence, and Honesty.

Fraudulent non-compliance is a deficiency of tax where the underlying behaviour is dishonest. Dishonest tax behaviour can lead to criminal charges, but can also be addressed through civil and administrative penalties.

Negligent non-compliance arises from carelessness or a failure to pay due care and attention on the part of the taxpayer with regard to a tax liability. Negligence, where detected, results in a tax liability and civil penalties.

Honest non-compliance can arise if a taxpayer makes an honest mistake in the filing of a tax return which is not caused by negligence or dishonesty.

If a taxpayer has ended up as non-compliant through an honest mistake and that mistake is discovered, they will have to pay any taxes due, but may not suffer any penalties, although there are some strict liability cases where a penalty may be levied.

We believe that defining the Tax Gap in these terms would provide a number of advantages. Firstly, as a matter of principle, it is right that a measure of non-compliance with the law should be defined in terms that are recognised by law.

Secondly, these three categories of behaviour are easily understood by the public. If HMRC were to present their Tax Gap in these terms, we believe that the public’s understanding of the nature of non-compliance would be significantly improved.

Finally, using these categories would provide clarity in developing HMRC’s strategy, as there is a risk that what is not recognised as fraud will not be treated as fraud.

For the purposes of this paper, we have assessed HMRC’s behavioural categories as found in the Tax Gap and find that many easily fall under the legal definitions of fraud, negligence or honesty.

We find that when categorised in this way, fraudulent behaviour accounts for at least £15.2bn of the Tax Gap – 43% of the total Tax Gap and 2.25% of the total amount of tax due according to HMRC.

In order to reach this figure, we added the sum total of tax lost to what HMRC term, “Criminal Attacks – £5.2bn”, “Evasion – £5.5bn”, “Hidden Economy – £3bn” and “Avoidance – £1.5bn”.

The categorisation of Avoidance as fraud arises because, unlike HMRC that consider only “taxpayer behaviours”, we consider the behaviour of tax professionals and conclude that this approach places tax avoidance in the fraud category.

Although tax avoidance is generally thought of as “legal” activity, it is clear that avoidance as defined by HMRC, which is an incidence of non-compliance arising from the use of a scheme, developed by tax professionals, which seeks to “exploit” the tax system through “contrived or artificial” transactions that have no commercial purpose, should properly be defined as arising from dishonest behaviour on the part of the professionals who design and market the schemes.

Our interpretation is supported by the new definition of tax fraud adopted by HMRC in the latest edition of Measuring tax gaps:

“Any deliberate omission, concealment or misinterpretation of information, or the false or deceptive presentation of information or circumstances in order to gain a tax advantage.”

More detail on our approach to this issue is provided in the main body of this paper.

However, some of the behaviours used by HMRC do not easily fall into one of the proposed categories. For example one of the largest components of the Tax Gap is “legal interpretation” which comprises £5.8bn of the Tax Gap. This is where a taxpayer disputes HMRC’s interpretation of the law. These disputes could easily arise from either dishonest or honest behaviour.

Furthermore, HMRC does not count most international tax avoidance, characterised as “BEPS”, in their Tax Gap calculations. It is clear, from HMRC’s publications in this area, that much of what HMRC categorise as BEPS arises from fraudulent conduct. If all of this is taken into account, it would not be unreasonable to assume that the Tax Fraud Gap is at least £20bn.

Even at the lower estimate, which only includes categories clearly falling under the definition of fraud, tax fraud is a far larger problem than fraud impacting other areas of public finance. For example, the latest estimates of fraud in the benefits system show that fraud accounts for £6.3bn of potential losses – before any recoveries (HMRC’s figures are after compliance efforts).¹

Given that the behaviours we identify are grounded in law, it should be relatively easy for HMRC to publish a more detailed estimate of the amount of tax lost to fraud, having assessed the amount of fraud included in categories such as Legal Interpretation, BEPS and Non-Payment. We recommend that HMRC do this in their next update to the Tax Gap.

HMRC’s Tax Gap

The Commissioners for Her Majesty’s Revenue and Customs (HMRC) was established through the merger of the Commissioners of Inland Revenue (IR) and Her Majesty’s Customs and Excise (HMCE) by the Commissioners for Revenue and Customs Act 2005.

Section 5 provided that the Commissioners shall be responsible for “the collection and management of revenue” for which the Commissioners of Inland Revenue and the Commissioners of Customs and Excise were previously responsible.

The management of revenue includes policing the tax system and conducting criminal investigations with a view to prosecution. While the former Customs and Excise prioritised both the collection of revenue and the punishment of offenders, the former Inland Revenue considered their primary objective to be the collection of revenue and not the punishment of offenders.

Against this background, HMCE published estimates of the Tax Gap in HMCE-administered taxes known as the indirect tax gap from 2001 in technical papers published alongside each Pre-Budget Report (PBR): Measuring Indirect Tax Fraud (Nov 2001), Measuring indirect tax losses (Nov 2002), Measuring and Tackling Indirect Tax Losses (Dec 2003, Dec 2004), published with the 2001, 2002, 2003, and 2004 Pre-Budget Reports.

Following the 2005 merger, HMRC continued to publish the indirect tax gap. At the same time, a broader estimate of tax losses of all taxes administered by HMRC was developed for internal use. After some resistance, HMRC made this information public after the journalist Richard Brooks sought the estimates under the Freedom of Information Act.

HMRC began regularly publishing estimates of the Tax Gap in all HMRC-administered taxes (including direct taxes) alongside the 2009 PBR. It estimated the tax gap to be around £40 billion in 2007-08 and identified the eight underlying taxpayer behaviours: (1) criminal attacks; (2) evasion; (3) hidden economy; (4) avoidance (which does not include Base Erosion and Profits Shifting (BEPS) or tax planning); (5) legal interpretation; (6) non-payment; (7) failure to take reasonable care; and (8) error. These eight behaviours remain the foundation for HMRC’s analysis of non-compliance today.

Protecting Tax Revenues detailed HMRC’s approach in using analysis of the tax gap to tackle the drivers of the Tax Gap and described the range of measures that HMRC were taking to reduce the Tax Gap. The behaviours are critical to this approach. According to the report:

“Analysis of the underlying behaviours that drive the tax gap is useful as by identifying these behaviours HMRC can most effectively develop a targeted approach, prioritising operational resources and identifying where policy solutions are required.”²

HMRC’s stated reasons for measuring the Tax Gap are as follows:

“The tax gap provides a useful tool for understanding the relative size and nature of non-compliance. This understanding can be applied in many different ways:

It provides a foundation for HMRC’s strategy — thinking about the tax gap helps us understand how non-compliance occurs and how we can address the causes and improve the overall health of the tax administration system

our tax gap analysis provides insight into which strategies are most effective at reducing the tax gap

although the tax gap isn’t sufficiently timely or precise enough to set annual targets or manage detailed operational performance, it provides important information which helps us understand our long-term performance.

The tax gap also provides important information to the public on tax compliance, creating greater transparency in the tax system.”³

Fraud, Negligence and Honesty

As far as the law is concerned, there are only three types of behaviours that lead to non-compliance: Fraud, Negligence and Honesty. Every incidence of non-compliance can be said to arise from one of these three behaviours depending on the knowledge, abilities and circumstances of the taxpayer or tax professional involved.

Fraud, cheating and dishonesty

In tax and indeed other areas of law, the terms ‘fraud’, ‘cheating’ and ‘dishonesty’ mean essentially the same thing and can be used interchangeably.

According to Justice Hardy’s widely-accepted definition of the common law offence of Cheating the Public Revenue in R v Less:

“The common law offence of cheating the Public Revenue does not necessarily require a false representation either by words or conduct. Cheating can include any form of fraudulent [or] dishonest conduct by the defendant to prejudice, or take the risk of prejudicing, the Revenue’s right to the tax in question knowing that he has no right to do so.”⁴

Dishonesty is also the essence (or essential requirement) of the relatively new criminal offence of fraud under the Fraud Act 2006, which applies to tax and other areas of law.

UK tax legislation also contains criminal offences that criminalise dishonesty. These include: fraudulent evasion of income tax (section 106 of the Taxes Management Act 1970); fraudulent evasion of VAT (section 72(1) of the Valued Added Tax Act 1994); and fraudulent evasion of excise duty (section 170(2) of the Customs and Excise Management Act 1979).

Each Act also provides for civil penalties for fraud, where the essential requirement is dishonesty.⁵

In 2021 HMRC adopted the following definition of fraud in their “Measuring tax gaps” report.⁶ The definition is as follows:

Any deliberate omission, concealment or misinterpretation of information, or the false or deceptive presentation of information or circumstances in order to gain a tax advantage. Tax evasion is fraud.

This was a significant departure from previous editions of Measuring tax gaps and other publications, which always stated that tax fraud is tax evasion. For example, in Measuring tax gaps 2020 edition fraud is defined as simply, “Deliberate, dishonest evasion of tax.”⁷

The broader definition now used by HMRC begs the question, what else, other than “evasion” should be considered fraudulent behaviour?

As we demonstrate in this report in relation to the Tax Gap behaviours, what HMRC consider to be “Tax Avoidance” and some “Legal Interpretation” could easily be described as behaviour arising from “any deliberate omission, concealment or misinterpretation of information, or the false or deceptive presentation of information or circumstances in order to gain a tax advantage.”

Negligence

The classic common law definition of negligence was set out by Baron Alderson in Blyth v Birmingham Waterworks as follows:

“Negligence is the omission to do something which a reasonable man, guided upon those considerations which ordinarily regulate the conduct of human affairs, would do, or doing something which a prudent and reasonable man would not do.”⁸

In the context of tax non-compliance negligence is defined as carelessness in section 95 of the Taxes Management Act 1970 or failure to take reasonable care under Schedule 24 of the Finance Act 2007.

In tax disputes, the courts have broadly followed the test set out in Blyth when considering penalties under these provisions of these Acts. For example in Anderson v HMRC Judge Berner stated:

“The test to be applied … is to consider what a reasonable taxpayer, exercising reasonable diligence in the completion and submission of the return, would have done.”⁹

Honesty

Honesty is simply the opposite of dishonesty or fraud or cheating. It is a subjective assessment based on an individual’s knowledge at the time. According to Lord Nicholls in Royal Brunei Airlines v Tan:

“Honesty has a connotation of subjectivity, as distinct from the objectivity of negligence. Honesty, indeed, does have a strong subjective element in that it is a description of a type of conduct assessed in the light of what a person actually knew at the time, as distinct from what a reasonable person would have known or appreciated.”¹⁰

The role of professional advisers

The role played by professional advisers is crucial to the understanding of the nature of non-compliant behaviour on the part of a taxpayer.

Paragraph 18 of Schedule 24 to Finance Act 2007, which deals with the liability of a taxpayer to penalties for negligence or fraud where professional advisers are acting on his behalf, was considered in Hanson v HMRC. Judge Cannan confirmed the well-established law and practice thus:

“What is reasonable care in any particular case will depend on all the circumstances. In my view this will include the nature of the matters being dealt with in the return, the identity and experience of the agent, the experience of the taxpayer and the nature of the professional relationship between the taxpayer and the agent. In my view, if a taxpayer reasonably relies on a reputable accountant for advice in relation to the content of his tax return then he will not be liable to a penalty under Schedule 24.”¹¹

The corollary of the highlighted principle is that a taxpayer using a tax avoidance scheme, which is invariably devised and implemented by the professional enablers, to misrepresent or conceal his tax liability in a tax return submitted to the Revenue is more likely to do so honestly than negligently or fraudulently.

Tax evasion, tax avoidance and tax mitigation

The terms tax evasion, avoidance and mitigation are commonly used to describe a range of behaviours associated with both compliant and non-compliant tax behaviour.

The terms have no universally accepted definition, and are used in different and sometimes opposing ways in different contexts. HMRC have particular definitions they use, which will be set out later on in this report. In this section we look at meaning of these terms in law.

Tax evasion

Tax evasion is when a taxpayer dishonestly fails to make a tax return when they had a legal requirement to do so, or when a taxpayer makes a false tax return by failing to declare all of their income. It is tax fraud and punishable under the common law offence of cheating the public revenue. In either case, the key issue is the behaviour and knowledge of the taxpayer in their dealings with the tax authority.

As set out in R v Mavji:

“This appellant was in circumstances in which he had a statutory duty to make value added tax returns and to pay over to the Crown the value added tax due. He dishonestly failed to do either. Accordingly, he was guilty of cheating HM The Queen and the public revenue.”¹²

In R v Hudson the taxpayer was convicted of cheating the public revenue by sending in false accounts relating to their farming business which deliberately understated the profits of the business. At the court of appeal, Goddard CJ stated:

“We think that the offence here consisted of sending in documents to the inspector of taxes which were false and fraudulent to the appellant’s knowledge … for the purpose of avoiding the payment of tax. That is defrauding the Crown and defrauding the public.”¹³

Avoidance and tax mitigation

On a proper analysis of the law, Tax Avoidance could be defined as a form of tax fraud by professional advisers that design, market, implement and otherwise facilitate the use of tax avoidance schemes in which the taxpayer using an individual scheme may or may not be complicit.

Tax avoidance is distinguished from tax evasion by the use of a tax avoidance scheme created and marketed by professional tax advisers.

In a tax avoidance scheme, a taxpayer reduces their tax liability by entering into an arrangement, or a series of transactions which has the effect of making a taxpayer appear to suffer a reduction in their taxable income when in fact no real reduction has taken place.

As stated above, it is well established in tax law that a taxpayer should be able to reasonably rely on professional advice in the field of tax, and if they do so then they should not be considered to be negligent (let alone dishonest!) even if the tax return they make on the basis of that advice turns out to be wrong.

It follows from this that a tax payer that submits an incorrect tax return based on the use of a tax avoidance scheme is more likely to be behaving honestly rather than dishonestly, or negligently (depending on whether their reliance on the professional advice in question was “reasonable”).

However, just because the taxpayer may be acting honestly by entering into a tax avoidance scheme, does not mean that all participants in a scheme are acting honestly.

R v Charlton, Cunningham, Kitchen and Wheeler¹⁴, was a case which started as a standard enquiry into a taxpayer’s return, but became a criminal investigation after the Inland Revenue raided the premises of the accountants that had devised the tax avoidance scheme used by the taxpayer. It became the longest running prosecution by the Inland Revenue and ended with the conviction of a number of tax professionals for cheating the public revenue for their roles in devising, marketing, implementing and otherwise facilitating the use of tax avoidance schemes. According to Lord Justice Farquharson:

“The case for the prosecution was that Charlton had devised a dishonest, tax-avoidance scheme for the benefit of some of the firm’s clients and that the Appellants were involved with the implementation of the schemes or the concealment from the Revenue of the existence of the fraud.”¹⁵

The schemes in Charlton were designed to reduce taxable income in the UK by shifting profits using artificial transactions to intermediaries in Jersey. The type of scheme would readily be described as Base Erosion and Profit Shifting (BEPS) schemes. As set out by Farquharson LJ:

“It was the case for the Crown that the accounts presented to the Revenue by the United Kingdom companies were false in that by using Charlton’s scheme to transfer part of their profits to the Jersey companies they were not disclosing the full extent of the profits they had made. It was this lack of disclosure which formed the basis of the false representations alleged in the indictment. Each of the Appellants was charged in the relevant counts with cheating the Revenue by ‘… falsely representing that the apparent purchases (by the United Kingdom company) from (the Jersey company) were bona fide commercial transactions’.”¹⁶

Tax avoidance is usually not considered to be fraudulent behaviour by HMRC because the tax system as it currently operates is designed for the relationship between the Revenue and the taxpayer (who is usually an honest participant in the scheme). Where HMRC discover tax avoidance their usual approach is to amend the taxpayer’s return and deny them the benefit of using the scheme.

Where a tax assessment is appealed by the taxpayer, the fraudulent nature of tax avoidance scheme is obscured, because the dispute is between the participating taxpayer and the Revenue to which their tax advisors or the scheme operators are not parties.

This, combined with the fact that HMRC vary rarely prosecute dishonest tax advisors, has led to some confusion over the true nature of tax avoidance, a point neatly summarised by a leading criminal barrister Robert Rhodes in his commentary on the Charlton case:

“Amongst professional tax advisers, alarm and concern have been expressed at the approach of the Revenue and the conduct of the case. It has been argued that there is a general move to ‘blur’ the ‘very clear’ distinction between legal tax avoidance and illegal evasion. However, it might well be suggested that the distinction is not and has never been as clear as many professional advisers (and their clients) would like to believe. Where avoidance arrangements are wholly artificial and have no substance then clearly it is and always has been open to the Revenue and the courts to consider whether they are in fact ‘devices to cheat the public revenue’.

Moreover, the terms ‘tax avoidance’ and ‘tax evasion’ have been created by the legal and accountancy professions as convenient generic terms to distinguish what is legal from what is illegal, and the fact that they have also been adopted by the courts should not blind us to what they actually are.”¹⁷

It is important to understand that tax avoidance is separate from tax planning or tax mitigation, which is often confused with avoidance in common usage.

Tax planning is properly defined as when a taxpayer reduces their taxable income by making a real expense that takes advantage of a real tax benefit provided for by Parliament. This could be for example investing in plant an machinery that attracts capital allowances or putting money into an ISA. As set out by Lord Templeman in CIR vs Challenge, where the concept of tax mitigation was first developed:

“Income tax is mitigated by a taxpayer who reduces his income or incurs expenditure in circumstances which reduce his assessable income or entitle him to reduction in his tax liability. In tax mitigation … the taxpayer’s tax advantage is not derived from an ‘arrangement’ but from the reduction of income which he accepts or the expenditure which he incurs….¹⁸

Analysing HMRC’s Tax Gap behaviours using the legal concepts of fraud, negligence and honesty

HMRC’s Tax Gap is defined as “the difference between the amount of tax that should, in theory, be paid to HMRC, and what is actually paid”. It is therefore a measure of non-compliance and all non-compliance can fall under the three behavioural categories found in law and set out above – Fraud, Negligence or Honest non-compliance. Indeed, these three categories of behaviour are the bedrock of how the courts approach tax law, both civil and criminal.

HMRC presents the Tax gap as arising from eight different “taxpayer behaviours”. The use of the term “taxpayer behaviours” is significant because it underscores HMRC’s focus on the taxpayer and the failure to consider the behaviour of professional advisers, which is critical to tax avoidance. The eight behaviours are: error; failure to take reasonable care; evasion; hidden economy; criminal attacks; avoidance; legal interpretation; and non-payment.

Some of these behaviours are clearly dishonest, negligent or honest, whereas others can cover more than one category. In this section we go through each of the behaviours contained in the Tax Gap analysis used by HMRC to see into which legal category the behaviour should fall.

Tax Evasion, Hidden Economy and Criminal Attacks – £13.7bn

HMRC define “evasion”, “hidden economy” and “criminal attacks” as three separate behaviours. According to the latest Tax Gap publication, HMRC considers “evasion” to be “where registered individuals or businesses deliberately omit, conceal or misrepresent information in order to reduce their tax liabilities.”

This focus on “registered individuals or businesses” distinguishes “tax evasion” from “hidden economy” which is defined as where “whole sources of income have not been declared to HMRC for tax purposes”.

HMRC define “criminal attacks” as “co-ordinated and systematic attacks on the tax system” including “smuggling goods such as alcohol or tobacco, VAT repayment fraud and VAT Missing Trader Intra-Community (MTIC) fraud.”

In reality, all three behaviours would be considered tax evasion by the general public with the category “criminal attacks” specifically covering tax evasion which relates to the work of the former Customs and Excise.

Indeed all three are considered tax evasion by HMRC in all other publications apart from the Tax Gap. For example, the joint HMRC & HMT document Tackling tax avoidance, evasion, and other forms of non-compliance, states:

“Tax evasion is always illegal. It is when people or businesses deliberately do not declare and account for the taxes that they owe. It includes the hidden economy, where people conceal their presence or taxable sources of income.”¹⁹

As our discussion of tax evasion above demonstrates, all these forms of evasion found in the Tax Gap are from a legal perspective cheating the public revenue by a taxpayer, and so can easily be categorised as fraudulent or dishonest behaviour.

Avoidance – £1.5bn

HMRC’s definition of avoidance defines tax avoidance in terms of “schemes” which often involve “contrived” or “artificial” transactions designed to “exploit” the tax system. The definition provided in Measuring tax gaps 2021 is as follows:

“Avoidance involves bending the tax rules to try to gain a tax advantage that Parliament never intended. It often involves contrived, artificial transactions that serve little or no purpose other than to produce a tax advantage. It involves operating within the letter but not the spirit of the law.”

This is a from the previous edition of the Tax Gap which described avoidance as “exploiting the tax rules” rather than “bending them”.²⁰

Tax planning is clearly differentiated from avoidance in the HMRC’s tax gap analysis. As set out in Measuring tax gaps 2021:

“Tax avoidance is not the same as tax planning. Tax planning involves using tax reliefs for the purpose for which they were intended. For example, claiming tax relief on capital investment, saving in a tax-exempt ISA or saving for retirement by making contributions to a pension scheme are all forms of tax planning.”

Tax professionals involved in fraudulent tax schemes could be pursued by HMRC under the criminal law, as they were in the Charlton case, but these kinds of prosecutions are exceptionally rare.

Where they do occur, the approach taken by HMRC confirms the proposition that tax avoidance can involve both dishonesty on the part of tax professionals and honest behaviour on the part of the taxpayer.

To give an example of a more recent case, in 2019 three men pleaded guilty to various counts of cheating the revenue for their role in promoting and enabling what HMRC termed “a fraudulent tax avoidance scheme”. Anthony Blakey, John Banyard and Professor Ian Swingland were convicted on indictment after enticing wealthy people into investing an a scheme which purported to invest in carbon credits and research into a cure for HIV. However, HMRC found little evidence of the investments having actually been made.

As set out in the press release issued by HMRC:

“Investors were able to claim tax rebates on the losses that the businesses apparently generated, or lower their tax bills, by offsetting losses against £160 million of income, attempting to avoid £60 million in tax. The majority of repayments claimed were withheld by HMRC….

There is no suggestion that the investors knew the scheme was a sham, or knew that their money was not being spent on research and development and carbon trading business activity.”

The press release went onto say:

“HMRC is working with the tax profession to tackle those who promote tax avoidance schemes. Promoters of Tax Avoidance Schemes legislation, introduced in Parliament in 2014, is aimed at tackling those who push the boundaries of the rules, and carries consequences for those who fail to change their behaviour.”²¹

HMRC clearly categorises the Banyard scheme as “Avoidance”, yet the successful prosecution of the tax professionals behind the scheme confirms that the tax losses arose from fraudulent or dishonest conduct, even in the circumstances where the participating taxpayers were were unaware of the fraudulent nature of the scheme.

Given that HMRC’s definition of “avoidance” expressly excludes planning and is limited to schemes that are exploitative, contrived, and artificial, then the tax loss under HMRC’s “avoidance” category should be considered to be part of the fraud gap.

Error – £3.7bn

HMRC’s definition of “error” is clearly limited to error arising from honest mistake because it only includes errors that arise “despite customers taking reasonable care”. It therefore excludes errors arising from negligence.

Under the description of behaviours, “Error” is described as “Errors result from mistakes made in preparing tax calculations, completing returns or in supplying other relevant information, despite the customer taking reasonable care” in the Measuring tax gaps 2021 edition.

Failure to take reasonable care – £6.7bn

The tax behaviour which HMRC describes as “Failure to take reasonable care” clearly corresponds to negligence as explained above. According to the Measuring tax gaps 2021 edition:

“Failure to take reasonable care results from a customer’s carelessness and/or negligence in adequately recording their transactions and/or in preparing their tax returns. Judgments of ‘reasonable care’ should consider and reflect a customer’s knowledge, abilities and circumstances.”

Non-Payment – £4bn

The Non-payment component of the Tax Gap reflects the impossibility of collecting every penny of tax that is owed because HMRC cannot collect outstanding tax from individuals and businesses that become bankrupt or insolvent.

According to Measuring tax gaps 2021:

“For direct taxes, non-payment refers to tax debts that are written off by HMRC and result in a permanent loss of tax — mainly as a result of insolvency. It does not include debts that are eventually paid.

VAT non-payment differs as it is based on the difference between new debts arising and debt payments.”

Non-payment can, therefore, be honest (genuine inability to pay) or fraudulent (deliberate failure to pay such as the use of phoenix companies).

Legal interpretation – £5.8bn

The behaviour which HMRC define as “legal interpretation” is the second largest component of the Tax Gap. It is also one of the most difficult to interpret as the wording is wide enough to encompass honest and dishonest behaviours. There is no mention of the term in the methodological annex of the Tax Gap.

Under the heading ‘Resolving issues of legal interpretation’, ‘Protecting Tax Revenues 2009’ stated:

“Legal interpretation relates to the potential tax loss from cases where HMRC and customers have different views of how, or whether, the law applies to specific and often complex transactions. Examples include the correct categorisation of an asset for allowances, the allocation of profits within a group of companies, or VAT liability of a particular item. In these situations the customer will have an alternative view of the law and of how it applies to the facts in their case to that held by HMRC.²²

It follows from this that legal interpretation could cover issues arising from both honest and dishonest behaviour, even tax compliance. For example, it is possible that HMRC’s interpretation of the law in any particular case turns out to be wrong, in which case the incidence of non-compliance defined by HMRC as “legal interpretation” will be compliant, assuming that the issue under dispute does not fall foul of any other law.

If, after the case has been resolved in favour of the taxpayer HMRC continues to maintain that the disputed amount should not have been claimed, they can seek to change the law but losses that arise from a deficiency in the law should not be counted in the Tax Gap as defined by HMRC.

If HMRC end up prevailing in their view, the claiming of an allowance the taxpayer is not in fact actually entitled to claim could have been an honest mistake or a dishonest interpretation of the law.

Many avoidance schemes are characterised as honest disputes over legal interpretation, usually by the people that design and operate them, when in fact the legal interpretation claimed by the creators of the scheme is dishonest.

In Charlton, which involved a transfer pricing scheme using a Jersey registered company, the behaviour of the barrister involved, Cunningham, was described in the following terms:

“Charlton used Cunningham to reassure any doubting participants. The Crown’s case against Cunningham had been that he advised Wheeler that the scheme was effective although to his knowledge it was not.”

The fact that many tax avoidance schemes will involve the provision of legal advice to scheme users (taxpayers or customers in HMRC’s terminology) that testifies to the legality of the scheme means that by definition avoidance includes “cases where HMRC and customers have different views of how, or whether, the law applies to specific and often complex transactions.”

The examples given by HMRC of what constitutes “legal interpretation” and in particular “the correct categorisation of an asset for allowances” and “the allocation of profits within a group of companies” indicate that legal interpretation was intended to cover tax non-compliance, or avoidance by companies, particularly multinational companies as opposed to tax avoidance by individual taxpayers which is defined under the “tax avoidance” behaviour.

This proposition is fortified by the following passage contained in ‘Protecting Tax Revenues 2009’:

“HMRC’s approach to issues of legal interpretation is strategic and risk based. This has been developed to deal with the tax affairs of large businesses”²³

Whether or not an incidence of legal interpretation arises from honest or dishonest behaviour will be a matter of subjective judgment. The case of GE vs HMRC provides a good example of where HMRC have significantly changed their position over time.

In this case, which involves a dispute over whether anti-avoidance legislation should have applied to a number of transactions carried out by GE, HMRC allege that GE failed to disclose relevant information regarding the scheme. At first, HMRC alleged that this failure to disclose was due to an honest mistake on the part of GE, which resulted in HMRC being mislead as to the true nature of the scheme. More recently HMRC applied to the High Court to amend their case to allege that the non-disclosure was fraudulent.²⁴ GE and HMRC have now settled the case with no blame to either party.

In their 2019 edition of Measuring tax gaps, HMRC attempted to draw a distinction between avoidance and legal interpretation for the first time:

“Legal interpretation losses arise where the customer’s and HMRC’s interpretation of the law and how it applies to the facts in a particular case result in a different tax outcome, and there is no avoidance. Specifically, this includes the interpretation of legislation, case-law, or guidelines relating to the application of legislation or case-law.

Examples include categorisation such as an asset for allowances or VAT liability of a supply, the accounting treatment of a transaction, or the methodology used to calculate the amount of tax due as in transfer pricing, or VAT partial exemption.

The definition adopted in 2019 remains the same in the 2021 edition of Measuring gax gaps.

The reference to transfer pricing is interesting, as transfer pricing disputes frequently arise from tax avoidance by multinational companies, which demonstrates the difficulties of seeking to distinguish between “avoidance” and “legal interpretation”.

This, and the proposition that a significant amount of “legal interpretation” is fraudulent is further demonstrated by HMRC’s guidance on their profit diversion compliance facility. The facility is a form of amnesty for multinationals that have moved their profits out of the UK in a non-compliant manner. Under the heading: behaviours and conclusions on penalties, the facility states the following:

“If we find that additional tax is due, we will always consider the behaviours that have given rise to the error and whether penalties should be charged. The Facility does not offer special terms and the normal penalty provisions and HMRC practice apply.

Our investigations into Profit Diversion to date have established that in a large number of cases the factual pattern outlined to HMRC at the start of an enquiry does not stand up to scrutiny once tested. That may be a result of a careless error (for example individuals within a group being unaware of what the actual facts are) but it may also be a result of a deliberate behaviour, that is a group knowingly submitting a TP [Transfer Pricing] methodology in a Corporation Tax Return based on a false set of facts….

Where HMRC suspects there has been an attempt by a group to deliberately mislead, then we will refer the issue to Fraud Investigation Service for consideration of a criminal investigation or civil investigation into fraud.”²⁵

It should be noted that disputes over transfer pricing methodology are the most significant cases that HMRC take on. The latest figures for tax under consideration show that “Transfer Pricing and Thin Capitalisation” make up 1/3rd of the total tax receipts being disputed between HMRC and large businesses – £10bn.²⁶

Drawing all of this together, the term “legal interpretation” appears broad enough to cover a wide range of tax behaviour.

However, the subjective nature of how HMRC assesses tax behaviour, and the fact that questions of legal interpretation will often arise before any assessment of whether or not a company or individual’s interpretation is honest or not, will mean that a significant part of the “legal interpretation” category will arise from fraudulent behaviour.

A good exercise would be for HMRC to conduct an analysis of cases that fell into the legal interpretation category five years ago, and publish what the outcomes of those cases were with an assessment of any underlying behaviour that led to non-compliance.

Base erosion and profit shifting (BEPS)

HMRC appear to recognise a separate type of tax behaviour – BEPS – which falls outside the Tax Gap. BEPS is a term which emerged from the OECD’s 2013 study commissioned by the G-20 entitled ‘Addressing Base Erosion and Profit Shifting’ and has been used to describe tax avoidance by multinational enterprises.

BEPS appeared for the first time in HMRC’s ‘Measuring tax gaps 2014 edition (Tax gap estimates for 2012-13)’ following tax avoidance and incorporating the OECD definition in these terms (emphasis added):

“It [tax avoidance] does not include international tax arrangements such as base erosion and profit shifting (BEPS). Measures for tackling this are overseen by the Organisation for Economic Co-operation and Development (OECD). The OECD defines BEPS as tax planning strategies that exploit gaps and mismatches in tax rules to make profits disappear for tax purposes or to shift profits to locations where there is little or no real activity, but the taxes are low resulting in little or no overall corporate tax being paid.”²⁷

In ‘Measuring tax gaps 2015 edition (Tax gap estimates for 2013-14)’ 2015, HMRC added the following paragraph to the existing description (emphasis added):

“Where we can challenge cross-border tax avoidance or aggressive tax planning under UK law, it is reflected in the tax gaps for avoidance and legal interpretation, but where the effect of such activity is the result not of frustrating UK law but of exploiting the international tax framework, we do not include it in the avoidance tax gap.²⁸

Measuring tax gaps 2021 contains a more nuanced but essentially similar description:

“Some forms of base erosion and profit shifting (BEPS) are included in the tax gap where they represent tax loss that we can address under UK law.

As new measures introduced in accordance with recommendations made in the BEPS project by the G20 group of world-leading economic nations and the Organisation for Economic Co-operation and Development (OECD) take effect, our ability to address BEPS under our domestic law will be greatly strengthened.

The tax gap does not include BEPS arrangements that cannot be addressed under UK law and that will be tackled multilaterally through the OECD.

HMRC have never provided a breakdown of how much BEPS activity they categorise as avoidance and legal interpretation, and how much they don’t count at all.

The descriptions given by HMRC suggests that the tax authority believes that a substantial amount of tax avoidance by BEPS arises from the honest use of international tax system, albeit with outcomes that the UK government may not like. This is the natural conclusion of the proposition that BEPS cannot be dealt with under UK law and requires changes in the law agreed internationally to be addressed.

That confusion is not aided by the OECD’s own characterisation of BEPS (which is repeated in HMRC’s Measuring gax gaps document), which describes BEPS as follows:

“What is BEPS?

Base erosion and profit shifting (BEPS) refers to tax planning strategies that exploit gaps and mismatches in tax rules to make profits ‘disappear’ for tax purposes or to shift profits to locations where there is little or no real activity but the taxes are low, resulting in little or no overall corporate tax being paid.”²⁹

The use of the term “planning” is clearly a misnomer. The definition, with references to attempts to exploit the tax rules by what are clearly artificial transactions closely aligns with HMRC’s own definition of avoidance.

The schemes in Charlton would be described today as Base Erosion and Profit Shifting (BEPS) schemes because they were devised to erode the UK’s tax base by shifting the taxable profits of UK companies to Jersey intermediaries. According to Farquharson LJ:

“It was the case for the Crown that the accounts presented to the Revenue by the United Kingdom companies were false in that by using Charlton’s scheme to transfer part of their profits to the Jersey companies they were not disclosing the full extent of the profits they had made. It was this lack of disclosure which formed the basis of the false representations alleged in the indictment. Each of the Appellants was charged in the relevant counts with cheating the Revenue by ‘… falsely representing that the apparent purchases (by the United Kingdom company) from (the Jersey company) were bona fide commercial transactions’.”³⁰

The avoidance scheme used by Google, which would clearly be described as BEPS by both the OECD and the UK government, was subject to criminal procedures for “aggravated tax fraud” in France³¹ – an OECD member.

This suggests that a significant amount of tax behaviour described as BEPS and not counted in the Tax Gap should be classified as dishonest or fraudulent tax behaviour.

Measuring the tax fraud gap

From the above analysis, we can see that even on its own terms the behavioural categorisation by HMRC of non-compliance into eight categories (with a ninth BEPS, which falls outside the tax gap) is highly problematic.

The level of tax evasion and avoidance are grossly misstated by separating evasion into several different behavioural categories and via the inclusion of some avoidance in the “legal interpretation” category and the exclusion of BEPS. Through this approach, the overall level of dishonest behaviour is obscured.

The artificial nature of HMRC’s categorisations of tax behaviours in the Tax Gap may well be explained by the historical division between the work of the Inland Revenue and Customs and Excise and the fact that historically the Tax Gap was used as an internal performance measure and strategic tool. This has meant that Tax Gap the categorisation has followed how HMRC internally treat different types of tax non-compliance.

However, the dilution of categories such as avoidance and evasion as well as the exclusion of categories like BEPS also has the effect of diverting criticism that “HMRC has not been sufficiently challenging of multinationals’ manifestly artificial tax structures”³² in the words of the Public Accounts Committee.

Given that the Tax Gap has now developed into a measure by which HMRC presents their performance to the public and parliament, it would be better to move away from system based on technical definitions derived from HMRC’s internal arrangements, to categories based on clear legal concepts that everyone can understand. Fraud, Negligence and Honest non-compliance.

Categorising the Tax Gap in this way would provide a clearer way of presenting Tax Gap data to the public, and provide a better understanding of the scale of unlawful non-compliance.

The Department for Work and Pensions (DWP) already follows a similar approach in their equivalent of the Tax Gap, “Fraud and Error in the Benefit System”. This categorises non-compliance into just three categories, fraud, claimant error and official error (which does not differentiate between errors arising from honest mistakes or negligence).

As our analysis demonstrates, calculating the fraud, negligence, and honest non-compliance tax gaps should be relatively easy to do. There are already several categories which are clearly analogous to fraud, negligence and honesty.

If we take the HMRC behaviours that clearly arise from fraudulent conduct, we find that in 2019/20 fraud accounted for at least £15.2bn or 43% of the Tax Gap. To this would need to be added any fraudulent conduct that can be found in the categories of non-payment and legal interpretation, and of course BEPS.

HMRC have never published an estimate of how much tax is lost to BEPS and there are a number of studies from both academics and NGOs. Research from the University of Oxford calculated that profit shifting by multinationals results in foreign owned multinationals shifting 50% of their taxable profit outside of the UK, leading to tax losses of £25bn in 2014.³³ A study by a number of academics produced for the European Parliament found that profit shifting could have cost £20bn in 2013.³⁴

Taking BEPS into account, and assuming that a proportion of tax losses to Non-Payment and Legal Interpretation result from fraudulent tax behaviour, it would not be unreasonable to assume that Tax Fraud Gap is at least £20bn in the UK. However, more work would be needed to come to a reliable estimate. We recommend that HMRC complete this analysis as part of next year’s Tax Gap estimates.

TaxWatch, September 2021

The full report can be found as a PDF here.

1DWP, Fraud and error in the benefit system for financial year ending 2021, https://www.gov.uk/government/statistics/fraud-and-error-in-the-benefit-system-financial-year-2020-to-2021-estimates/fraud-and-error-in-the-benefit-system-for-financial-year-ending-2021#total-estimates-of-fraud-and-error-across-all-benefit-expenditure

2HMRC, Protecting Tax Revenues 2009, para 5.2 https://webarchive.nationalarchives.gov.uk/ukgwa/20101007004119/http://www.hmrc.gov.uk/pbr2009/protect-tax-revenue-5450.htm

3HMRC, ‘Measuring tax gaps 2021 edition’ https://www.gov.uk/government/statistics/measuring-tax-gaps/measuring-tax-gaps-2021-edition-tax-gap-estimates-for-2019-to-2020

4 The Times, March 30, 1993.

5 The standard of proof differs. Fraud is proved beyond reasonable doubt in criminal proceedings and on a balance of probability in civil cases.

6See, HMRC, Measuring tax gaps, 2021 Edition, Glossary, https://www.gov.uk/government/statistics/measuring-tax-gaps/measuring-tax-gaps-2021-edition-tax-gap-estimates-for-2019-to-2020

7 HMRC, Measuring tax gaps, 2020 Edition, Glossary, page 93. https://webarchive.nationalarchives.gov.uk/ukgwa/20200730195942/https://www.gov.uk/government/statistics/measuring-tax-gaps

8Blyth v Birmingham Waterworks (1889) 14 App. Cas. 337, 374 https://www.bailii.org/ew/cases/EWHC/Exch/1856/J65.html c

9 Anderson vs HMRC [2009] UKFTT 206 at [22].

10 Royal Brunei Airlines v Tan [1995] 2 AC 378, 389. Emphasis supplied.

11 Hanson vs HMRC [2012] UKFTT 314 at [21]. Emphasis supplied.

12 R vs Mavji, [1987] 84 Cr App R 34

13 R v Hudson, [1956] 2 QB 252, 261-262.

14 R vs Charlton and others, [1996] STC 1418.

15 Ibid

16 Ibid

17 Robert Rhodes et al, ‘Regina v Charlton, Cunningham, Kitchen and Wheeler’ (1999) Journal of Money Laundering Control, 197 page 206.

18 Commissioner of Inland Revenue (New Zealand) v Challenge Corporation Ltd. [1986] BTC 442

19 HMRC & HMT, Tackling tax evasion and avoidance, (CM9047, March 2015) https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/785551/tackling_tax_avoidance_evasion_and_other_forms_of_non-compliance_web.pdf

20 See: HMRC, Measuring tax gaps, 2020 Edition, table 1.7 page 24, https://webarchive.nationalarchives.gov.uk/ukgwa/20200730195942/https://www.gov.uk/government/statistics/measuring-tax-gaps

21 HMRC Press Office, Two jailed for £60m fraudulent HIV cure tax fraud, 25 February 2019, https://www.mynewsdesk.com/uk/hm-revenue-customs-hmrc/pressreleases/two-jailed-for-ps60m-fraudulent-hiv-cure-tax-fraud-2840331

22 HMRC, Protecting Tax Revenues 2009, para 5.14 https://webarchive.nationalarchives.gov.uk/ukgwa/20101007004119/http://www.hmrc.gov.uk/pbr2009/protect-tax-revenue-5450.htm

23 Ibid, pages 16-17, paragraphs 5.15-5.16.

24 For more information on the GE case see TaxWatch, Around the world with $5bn, http://13.40.187.124/ge_hmrc_tax_fraud_allegations/

25 Profit Diversion Compliance Facility Guidance, para. 4.4.1.

26 HMRC, Customer compliance: how HMRC’s compliance yield is split by business area and our approach to tax compliance and large businesses.

27 HMRC, Measuring tax gaps, 2014 Edition, P.15. https://webarchive.nationalarchives.gov.uk/ukgwa/20150612044958/https://www.gov.uk/government/statistics/measuring-tax-gaps

28 HMRC, Measuring tax gaps, 2015 Edition, P.20. https://webarchive.nationalarchives.gov.uk/ukgwa/20160615051045/https://www.gov.uk/government/statistics/measuring-tax-gaps

29 OECD, Bitesize BEPS, available from: http://www.oecd.org/ctp/beps-frequentlyaskedquestions.htm#background.

30 R vs Charlton and others, [1996] STC 1418.

31 Following criminal investigations and with criminal proceedings looming, Google agreed to a EUR 1 billion settlement under a non-prosecution agreement. See: Reuters, Google to pay $1bn in France to settle fiscal fraud probe, September 12 2019, https://www.reuters.com/article/us-france-tech-google-tax-idUSKCN1VX1SM

32 Public Accounts Committee, Ninth Report, Tax Avoidance – Google, 10 June 2013 https://publications.parliament.uk/pa/cm201314/cmselect/cmpubacc/112/11204.htm

33 Bilicka, Comparing UK tax returns of foreign multinationals to matched domestic firms, American Economic Review, 2019, 109(8), 2921-53, https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3682277

34 European Parliamentary Research Service, “Bringing transparency, coordination and convergence to corporate tax policies in the European Union I – Assessment of the magnitude of aggressive corporate tax planning”, September 2015 https://www.europarl.europa.eu/RegData/etudes/STUD/2015/558773/EPRS_STU(2015)558773_EN.pdf

Comparing the prosecution of tax crime with benefits crime

19th February 2021 by George Turner

A new report from TaxWatch: “Equality before the law? HMRC’s use of criminal prosecutions for tax fraud and other revenue crimes. A comparison with benefits fraud”, reveals the huge disparity between the way in which benefits crime is treated in the UK when compared to tax crime.

The report finds that between 2009 and 2019 the UK prosecuted 23 times more people for benefits offences than tax offences. This is despite the value of tax fraud being nine times higher than benefits fraud.

The research further reveals that:

The DWP employs 3.5x more staff in compliance than HMRC (adjusted for size of tax and benefits gaps)
Over the past 11 years there have been 86,000 criminal prosecutions for benefits crimes, compared to 3,665 prosecutions for tax crime
8.5x more suspended or immediate custodial sentences have been handed down for benefits crime vs tax crime over the last 11 years
The number of criminal prosecutions relating to tax crime of all kinds have decreased by 39% since 2015
HMRC has improved its focus on serious and complex tax crime, with the number of investigations in this area increasing from 50 to 400 between 2015 and 2020

HMRC told TaxWatch that since the launch of its Fraud Investigation Service in 2016, it has “launched over 76,000 civil cases and more than 4,000 criminal investigations”.

According to the latest DWP annual report, the agency concluded 46,000 fraud investigations and referred 2,000 cases for criminal prosecution in one year.

The full report can be seen here, or downloaded in pdf format here.

Equality before the law?

19th February 2021 by George Turner

19th February 2021

HMRC’s use of criminal prosecutions for tax fraud and other revenue crimes. A comparison with benefits fraud.

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Summary

In this report we look at criminal investigations and prosecutions into tax fraud and other revenue crimes initiated by HMRC, and contrast this with the Department for Work and Pensions investigations and prosecutions for benefits crime.

We find that on the basis of the government’s own figures, tax fraud costs the Treasury nine times the amount lost to benefits fraud.

Despite this, the government allocates significantly more resources (relative to the tax and benefits gaps) to compliance in the benefits system than in the tax system. This inequality of arms, combined with a stricter policy on when to refer cases for prosecution practised by the DWP, leads to a vast disparity between the amount of benefits crime prosecuted as a criminal offence when compared to tax offences.

This disparity demonstrates that the law is not being applied equally with regards to crimes committed against the public purse.

In numbers

Tax fraud cost the Treasury an estimated £20bn in 2018/19 – 9x more than benefits fraud (£2.2bn)
DWP employs 3.5x more staff in compliance than HMRC (adjusted for size of tax and benefits gaps)
Over the past 11 years there have been 85,745 criminal prosecutions for benefits crimes, 23x more prosecutions than for tax crime of all types (3,665)
8.5x more suspended or immediate custodial sentences have been handed down for benefits crime vs tax crime over the last 11 years
The number of criminal prosecutions relating to tax crime of all kinds have decreased by 39% since 2015
The number of live criminal investigations into serious and complex tax crime has increased from 50 to 400 between 2015 and 2020

Prosecutions for tax fraud and other tax crimes

HMRC has faced calls to do more to tackle tax fraud through criminal prosecution for some time.

In 2015, Parliament’s Public Accounts Committee described the number of prosecutions for offshore tax evasion as “woefully inadequate”.1 In 2016 the Committee called on HMRC to:

“do more to tackle tax fraud and counter the belief that people are getting away with tax evasion. It needs to increase the number of investigations and prosecutions, including wealthy tax evaders, and publicise this work to deter others from evading tax and to send out a message that those who try will not get away with it.”2

The Ministry of Justice publishes data on the number of criminal cases prosecuted under several broad categories defined by the Home Office. This data is a National Statistics publication. The categories relevant to tax law are: “Acting with Intent to Defraud and to the Prejudice of Her Majesty the Queen and the Public Revenue”; “Revenue Law Offences” and “Other Offences (against Revenue Laws)”.3

When looking at this data there is a marked decline in the numbers of cases being proceeded against for all three categories of revenue crimes, from 430 in 2015 to 261 in 2019.

The Home Office categorisations of crimes used by the MoJ are broad and cover a wide variety of tax crimes including offences relating to customs and excise.

In order to find out more about the prosecutions for tax fraud TaxWatch sent an FOI to the Crown Prosecution Service (CPS) seeking to discover how many offences they had charged relating to specific revenue offences related to tax fraud. The figures we received are reproduced below.

The data are not consistent with the statistics from the Ministry of Justice as the CPS numbers look at all charges. It is possible to charge an individual with several offences and the 2,278 offences charged in the table below relate to 887 individual case files. The Ministry of Justice data relates to individual defendants.

Overall, the trend was the same: a clear decline in prosecutions for almost all forms of tax fraud.4

	2015-2016	2016-2017	2017-2018	2018-2019	2019-2020
Common Law – Cheating the Public Revenue	154	144	113	127	79
Criminal Law Act 1977 { s.1(1) } – Conspiracy to Cheat the Public Revenue	3	9	13	49	27
Customs and Excise Management Act 1979 { s.167 } – Providing false documents or information to HMRC	1	0	0	0	0
Taxes Management Act 1970 { s.106A } – Fraudulent evasion of income tax	244	173	127	62	69
Value Added Tax Act 1994 { s.72(1) } – Fraudulent evasion of VAT	182	228	184	161	129
Totals	584	554	437	399	304

Table 1: Offences Charged And Reaching A First Hearing At Magistrates’ Courts5

This downward trend in prosecutions is likely to continue as HMRC’s latest accounts state that due to Covid-19 there has been a significant reduction in the amount of criminal investigations they have undertaken.6

Prosecutions for serious tax fraud and complex tax crimes

One area where there has been particular pressure for HMRC to do more is in the area of serious and complex tax fraud.

In HMRC’s 2015-2020 Business Plan a commitment was made to increase the number of criminal prosecutions of serious and complex tax crime, with a particular focus on wealthy individuals and corporates, to 100 per year by the end of Parliament. At the time, Parliament was scheduled to run until 2020.7

In 2016, HMRC brought together various elements of its criminal investigations activities under the Fraud Investigations Service (FIS). One of the ideas behind this was to tackle more complex areas of tax crime through a more co-ordinated approach.

The department also launched the J5 in 2018, the Joint Chiefs of Global Tax Enforcement, which brings together directors of criminal investigations from the revenue services of the UK, United States, Canada, Australia and the Netherlands. This group is aimed at creating a more effective approach to transnational tax crime.

HMRC’s increased focus on complex tax crime does appear to be paying some dividends. The only charge that has seen an increase in prosecutions in the CPS data is “conspiracy to cheat the revenue”. Conspiracy charges are generally more amenable to more complex cases (although that is not always the case).

HMRC told TaxWatch that since 2016 it has increased the number of investigations into the wealthiest and most sophisticated offenders by a factor of eight, from 50 to 400.

With regard to the 100 prosecutions target, HMRC provided us with the following data on charging decisions related to serious and complex tax crime over the last three years.

FY	Positive Charging Decisions
2017/18	33
2018/19	42
2019/20	46

Table 2: Positive Charging Decisions against the target of 100 prosecutions for serious and complex tax crime. Data provided by HMRC.

HMRC told us that they had expected to meet their 100 prosecutions target by 2021, but that this is now unlikely to happen due to the Covid-19 crisis.

There has not been one prosecution of a company from 2015–2020, despite the Corporate Criminal Offence coming into force in September 2017.8 HMRC told us CCO investigations take a significant amount of time and it is too soon for prosecutions to start coming through the system. They told us that they currently have 13 live investigations under the Corporate Criminal Offence with a further 17 cases under review.

Overall, despite the clear decline in the number of prosecutions for all types of tax crime, the evidence shows that HMRC has had some success in focusing its limited resources on increasing the investigation and prosecution of some incidences of more serious and complex crime.

But it must be stressed that this all starts from a very low base. Before 2015, the UK government launched several amnesty programmes designed to encourage people to declare offshore income. The UK Government’s Lichtenstein Disclosure Facility even went as far as to give assurances against criminal investigation, and offered a favourable 10% penalty on undeclared income that was declared through the scheme.

By 2015, the year in which HMRC told us they opened 50 criminal investigations into serious tax fraud, 5,644 people had made disclosures under the Lichtenstein amnesty programme.9 If HMRC took the same approach as the DWP, all of these individuals would have been referred to the Crown Prosecution Service for criminal prosecution.

HM Government’s policy on tax fraud and benefits fraud

Criminal investigation leading to prosecution is just one way that the government can seek to recoup money from tax underpayment or benefits overpayment. There are also civil recovery processes, administrative penalties, and the tax courts.

Both HMRC and the DWP have the choice whether to pursue fraud as a criminal or civil matter. Both have a different policy and approach with regards how they make that decision.

Like the former Inland Revenue, HMRC has maintained a selective prosecutions policy. This has a strong preference against using criminal investigation and prosecution to deal with tax fraud.

Instead, HMRC’s stated policy is to deal with tax fraud by civil investigation and settlement. The department’s criminal investigations policy will “consider” opening a criminal investigation in certain circumstances.

HMRC’s policy reserves criminal investigation “for cases where HMRC needs to send a strong deterrent message or where the conduct involved is such that only a criminal sanction is appropriate.”10

The Department for Work and Pensions’ policy is much stricter. The Department states that they “will normally” refer a case to the CPS or Crown Office and Procurator Fiscal Service under a number of proscribed circumstances, including cases where the recoverable amount is more than £5,000.11

Fraud investigations

Before a decision is made on whether or not to prosecute, an investigation has to be carried out.

The DWP annual report reveals that the organisation completed 46,000 fraud investigations and 332,000 “compliance cases” (which is a review of a case where there may be an overpayment but fraud is not suspected) in 2019-2020. Of these fraud investigations over 2,000 were referred to prosecuting authorities.

HMRC deal with tax fraud through a variety of procedures: criminal investigations under the Police and Criminal Evidence Act 1984, and civil fraud investigations under Code of Practice (COP) 8 or 9.

A Freedom of Information request from an accountancy firm revealed the number of investigations carried out by HMRC under COP 8 and 9.

COP8	2016-2017	2017-2018	2018-2019	2019-2020	Total
Cases opened	297	369	258	271	1195
Cases closed	218	249	380	328	1175
Yield recorded	£70,063,729	£73,691,338	£118,473,279	£115,179,253	£377,407,599
COP9
Cases opened	549	486	438	425	1898
Cases closed	340	375	512	528	1755
Yield recorded	£161,101,906	£91,132,829	£95,829,887	£121,282,884	£469,347,506
Total cases opened	846	855	696	696	3093
Total cases closed	558	624	892	856	2930
Total yield recorded	£231,165,635	£164,824,167	£214,303,166	£236,462,137	£846,755,105

Table 3: HMRC COP8 and COP9 investigations 2016-202012

HMRC told us that in 2019-20 they concluded 864 criminal investigations. This means that between COP 8, COP 9 and criminal investigation, HMRC’s Fraud Investigations Service completed 1,720 investigations for tax fraud in 2019-20.

HMRC also told us that they concluded 337,000 civil compliance checks in 2019-20 and that since its launch in 2016 the FIS had launched over 76,000 “civil cases”.

These cases involve the use of a wide range of civil tools used by the FIS, including account freezing orders, the seizure of alcohol from illegal distribution sites as well as HMRC’s work with supply chains, including regular monitoring and engagement with legitimate traders at risk of involvement with illicit trade, to VAT assessments and penalties for companies knowingly involved in fraudulent trading.

If we limit our analysis to fraud investigations completed by the DWP and tax fraud investigations carried out under COP 8, 9 and criminal procedure, we find that the DWP completes 27 times more civil and criminal fraud investigations than HMRC.

Even if we were to include the “civil cases” launched by the FIS, these 76,000 cases were spread over four years, and so do not account for the difference in fraud investigations completed by DWP on a yearly basis. In any event, the information provided to us about what constitutes a “civil case” suggests that they are not analogous to fraud investigations carried out by the DWP.

Perhaps the better measure is in criminal investigations. The number of cases referred to prosecuting authorities by the DWP is more than double the total number of criminal investigations carried out by the FIS in the latest year we have figures for.

Criminal prosecutions for tax crimes vs benefits crimes

The obvious outcome of the DWP completing more fraud investigations and having a policy of referring more cases of fraud to prosecutors is that vastly more people face criminal charges leading to a criminal record, fines or a prison sentence for benefits related offences compared to tax related offences. Our analysis of government criminal justice system statistics reveal that in the 11 years to 2019:

23 times as many people are prosecuted for benefits related offences as they are for tax related offences.
Tax crime is generally considered a more serious offence, with 44% of those prosecuted for tax related offences handed a suspended or immediate custodial sentence, compared with 16% for benefits related offences.
Despite prison sentences being more common for tax crimes, the difference in the volume of prosecutions for benefits crime means that many more people end up going to prison for benefits crime than tax crime. Over the 11 year period 13,540 people were handed suspended or immediate custodial sentences for benefits related offences, compared with 1,601 people for tax related offences.

The table below sets out the total numbers of people prosecuted for tax and benefits crime between 2009 and 2019.

	2011-2019	2009-2019
Offence categories/ outcomes	Acting with intent to defraud and to the prejudice of Her Majesty the Queen and the Public Revenue	Revenue law offences	Other offences against revenue laws	Total tax related offences	Benefit fraud offences summary	Benefit fraud offences triable either way	Other social security offences	Total benefits related offences
Proceeded against	829	1,144	1,692	3,665	24,731	46,151	14,863	85,745
Found Guilty	644	1,211	1,318	3,173	22,112	38,798	12,960	73,870
Sentenced	1,283	1,237	1,318	3,838	22,196	38,851	12,807	73,854
Fined	5	34	1,065	1,104	5,835	5,188	3,725	14,748
Suspended sentence / immediate custody	623	978	0	1,601	1,562	11,502	476	13,540
Per cent proceeded against resulting in a suspended sentence or immediate custody	75.15%	85.49%	0.00%	43.68%	6.32%	24.92%	3.20%	15.79%
Average Fine	£0	£615	£945	Average £780	£188	£229	£284	Average £234
Average custodial sentence (months)	43	23.5	0	Average 33.3 months	3	7.4	1.9	Average 4.1 months

Table 4: Criminal justice system statistics 2009-201913

It should be noted that the statistics from the Ministry of Justice on criminal prosecutions bundle a variety of tax crimes together, and include a number of customs and excise offences. There is no easy way of breaking out the data to look at fraud offences specifically. It also should be noted that as set out in more detail below, HMRC’s remit goes substantially beyond the policing of revenue offences only.

If we look at more serious revenue and benefits crimes by excluding summary only offences (the “Other offences against revenue laws”, “Summary benefit fraud offences” and “Other social security offences” categories) we see that in the 11 year period there were 1,973 prosecutions of individuals for revenue law offences and 46,151 offences for more serious benefits fraud, a ratio of 23:1, the same as for all benefits and revenue crimes.

The tax fraud gap and the benefits fraud gap

It may not be surprising that the DWP completes more fraud investigations and more prosecutions than HMRC. Benefits crime tends to involve lower amounts of money and tax fraud can be very complex. This means that tax cases can require more resources to be dedicated to each case. It may be that looking at case numbers alone does not give us the whole story.

To delve more into this issue, our research attempted to look into whether the relative amount of resources dedicated to pursuing tax fraud and benefits fraud were proportionate to the size of the problem being faced.

The DWP categorises losses in the benefits system under three categories: fraud, official error and claimant error. These figures reveal that the total benefit overpayments due to fraud and errors were worth £4.1bn in 2018-2019, 2.2% of the total benefits bill.14 Of this, DWP categorise £2.2bn as arising from fraud, accounting for 1.2% of the total benefits bill.15 These figures are gross figures, before any collections arising from compliance work.

This is no small sum, but it is a relatively small amount compared to the amount of tax underpayments from fraud, error or negligence. The gross tax gap for the same period was £44bn and the net tax gap after cash collected from compliance work was £31bn.16 This means that the loss to the Treasury due to the underpayment of tax accounts for 4.9% of tax revenue on a net basis or 7% on a gross basis.17

HMRC’s Measuring Tax Gaps publication does not categorise tax losses in the same way as the DWP. Instead of simply using fraud and error, HMRC define tax losses using a number of different behaviours. The tax gap figures are also reported on a net basis, whereas DWP figures for losses to fraud are reported on a gross basis.

The following behaviours in the tax gap are very clearly analogous to fraud as categorised by the DWP: evasion, criminal attacks, hidden economy and avoidance (which is defined as the use of avoidance schemes and therefore could not be considered to be the same as either claimant error or official error). These total £13.4bn in the latest tax gap figures – 2.1% of the total tax take.

This is equivalent to 43% of the total tax gap.

In order to create a gross fraud figure to compare with the DWP statistics, we added back in 43% of the cash received due to compliance activities (£13.2bn). This produces a total gross tax gap attributable to fraud as £20bn.

This will not include all tax losses to fraud, as in reality there will be fraud in the behavioural categories of “legal interpretation” and “non-payment”, which account for £4.9bn and £4.1bn of the tax gap respectively.

If we limit ourselves to just categories which are clearly analogous to the DWP categorisation of fraud, we find that the potential value of tax fraud is approximately nine times the potential losses to benefit fraud.

Compliance resourcing

One way of looking at the resourcing of counter fraud activity is to compare the staffing levels at HMRC to the DWP. This is not a straightforward comparison.

The Counter Fraud, Compliance and Debt (CFCD) Department of the DWP had approximately 8,000 staff in 2019-2020.18 We asked the DWP whether it would be possible to give us the number of staff directly employed in fraud investigations, rather than broader compliance work. They were not able to provide this data.

According to an FOI request made by TaxWatch, HMRC has 24,191 people working in its Customer Compliance Group, a reduction of 800 staff members over the past four years.

HMRC’s Customer Compliance Group is a large group that cuts across several directorates and includes a number of functions that would not be carried out by the DWP’s CFCD Department.

The number of people working in HMRC’s Fraud Investigations Service, which focuses on more serious incidences of fraud, is 5,000. The number of staff employed in the Wealthy and Mid-Sized Business Compliance directorate unit reduced from 1,007 in 2016-2017 to 866 in 2019-2020.19,20

Because we are not able to break down the DWP’s CFCD department by function, we felt the fairest comparison would be to look at staffing in compliance as a whole, looking at all compliance staff in HMRC and the DWP’s CFCD department and compare this to the gross tax and benefits gaps.

This comparison demonstrates that for every £1m of tax underpaid HMRC employs 0.55 compliance officers, whereas the DWP employs 1.95 compliance officers for each £1m in benefits overpaid due to fraud or error. On this basis the government dedicates three and a half times the amount of resource to benefits compliance as it does to tax compliance.

If the government were to dedicate the same amount of resources, on a per pound at stake basis, to closing the tax gap as they deployed to recouping overpayment in the benefits system, it would mean that HMRC would need to employ an additional 62,000 staff in their compliance department. This is more than ten times the amount of staff currently employed in the Fraud Investigation Service, or more than twice the amount of staff currently employed in compliance.

It should be noted that the figures we have produced for HMRC’s resourcing compared to the gross tax gap will be a significant underestimate, because HMRC’s tax gap does not include significant areas of avoidance such as profit shifting by multinational companies which means that the real tax gap is significantly higher.

It also needs to be noted that HMRC’s remit includes a broad range of compliance activities that go well beyond tax crime, and even includes the enforcement of benefits crime.

In correspondence, HMRC were able to provide us with figures for all prosecutions initiated by the department over a ten year period. This demonstrated that the department secured 6,017 convictions over the last ten years, for all offences that come under its remit. The list of offences provided by HMRC included an impressive array of offences ranging from a failure to pay the minimum wage under National Minimum Wage legislation, entering the country illegally contrary to the Immigration Act, and offences relating to Tax Credits and Child Benefits, which are forms of welfare benefits administered by HMRC and which would likely be counted as “benefits fraud” under the categorisation of crime by the Home Office.

FY	Convictions	Acquittals	Prosecutions	% Success
2011/12	413	36	449	92%
2012/13	540	36	576	94%
2013/14	716	45	761	94%
2014/15	642	67	709	91%
2015/16	808	72	880	92%
2016/17	807	79	886	91%
2017/18	835	82	917	91%
2018/19	648	101	749	87%
2019/20	608	83	691	88%
Total	6,017	601	6,618	91%

Table 5: HMRC 10 year prosecutions, all offences, data provided by HMRC

This data shows that the number of convictions HMRC secures goes far beyond those categorised as tax crimes under the national statistics database. It demonstrates that HMRC’s resources in tackling tax crime are significantly more stretched than our analysis would suggest. HMRC have fewer resources than the DWP relative to the size of the problem they face, and in addition to tax crime, they police a variety of other crimes including some benefits crime.

Conclusions

“Don’t tell me what you value, show me your budget, and I’ll tell you what you value.”

– Joseph Biden Jr

Both revenue fraud and benefits fraud are similar in that in both cases the victim is the Treasury. Although comparisons between the DWP and HMRC are not straightforward given the much broader remit of HMRC and the differences in the way data is collected, 86,000 prosecutions over 11 years for benefits offences against a few thousand for tax offences tells a pretty clear story.

As a society we treat benefits fraud much more severely than revenue fraud – and are prepared to dedicate significant resources in pursuit of that policy.

Our research has found that the DWP employs more than three times (3.5x) the number of staff in compliance compared to HMRC when the amount of cash at stake from benefits overpayments and tax underpayments is taken into account.

If HMRC applied the same policy as the DWP and referred every fraud case worth more than £5,000 to the Crown Prosecution Service, the criminal justice system would topple over. Prosecutors would not be able to cope with the caseload and the criminal courts would become flooded with tax cases.

HMRC’s highly selective use of criminal prosecution is not new. It is a policy that was previously practiced by the Inland Revenue and has been around for at least 70 years. HMRC contends that the preference it shows for the use of civil procedure is a cost-effective way of making sure that taxes due are paid and historically the Inland Revenue did not see its role as being the punishment of offenders.21

However, if the result of the differences in policy and resourcing is that someone committing benefits fraud is more likely to face criminal prosecution and go to jail than someone engaged in tax fraud, this raises serious questions about whether the rule of law is being applied fairly across society.

This disparity cannot be explained away by any difference in severity of the crimes committed. When people are convicted of tax fraud, on average they receive longer sentences, reflecting the more serious nature of the crime. Our research demonstrates that even on HMRC’s own figures, tax fraud costs the Treasury nine times the amount lost to benefits fraud.

The issues raised by this report go far beyond the administration of the tax and benefits system, and speak to the way in which government and society as a whole treat crimes committed by benefits claimants and those committed by tax cheats.

The reasons for the differences in treatment are beyond the scope of this paper. However, whatever the reason, the unequal treatment between similar types of offence seems difficult to justify.

Picture credit James Cridland, used under the Creative Commons Licence

Note on data and sources

As has been set out in this report, we have used a number of data sets to look at the rate of criminal investigations and prosecutions for tax and benefit fraud.

The data sets are not directly comparable and do not always compare like for like, but together we believe that they present strong evidence for our findings.

The sources of our data include national statistics publications, freedom of information requests and data provided directly to us by HMRC. We are grateful to HMRC for engaging with us in this project and providing us with additional data for our report.

Here we set out a bit more detail on the various data we collected.

Table 1 was derived from a Freedom of Information Request made to the Crown Prosecution Service. The CPS collects data on offences which are charged and proceed to a first hearing at a magistrates court. This will include indictable only offences which are then referred to the Crown Court.

The data in this table relates to offences and not prosecutions. As such it is not comparable to other data sets. A single person can be charged with multiple offences, in the data given to us, there are 2,278 offences charged which relate to 887 individual case files.

It should be noted that this CPS data is for England and Wales only.

Table 2 presents figures from HMRC on the number of cases referred to prosecutors resulting in a charging decision in relation to its own categorisation of serious and complex tax crime. This categorisation exists to keep track of the target set to reach 100 prosecutions a year in this area. HMRC provided us with this data directly.

Table 4 is derived from Ministry of Justice’s Criminal Statistics Quarterly Publication. This is a national statistics publication and is based on a Home Office categorisation of crimes.

The offence categories are taken directly from the criminal justice system statistics database. In the data there are no categories for tax fraud, whereas there are for benefits fraud. Some crimes included under the “other revenue offences” category will relate to customs offences and other offences perhaps not directly related to tax.

Because of this we thought the fairest comparison was to compare all types of benefits crime to revenue crimes, As such, the “total tax related offences” will likely overstate the amount of people who are prosecuted for tax related offences.

The data is derived from court records in both the crown and magistrates courts. It covers all countries of the United Kingdom and Northern Ireland. In this dataset, data for “Acting with intent to defraud and to the prejudice of Her Majesty the Queen and the Public Revenue” is only available from 2011 onwards.

Table 5 is a list of all prosecutions coming out of HMRC. This data was provided to us by HMRC directly. HMRC has a broad remit which goes beyond tax crime. The full list of offences included in this table is included below:

We asked HMRC specifically how many cases it had prosecuted under the Tax Credits Act and under the Immigration Act. They told that there were fewer than 20 prosecutions under Tax Credits Act in the dataset. The Immigration Act prosecution figures relate to a single case where individuals were arrested for both PAYE and immigration fraud.

ALDA 1979

CAA 1981 – s 1(1)
CJL Act 2010 – s49
CLA 1977 – s1(1)
Common Law – Fraud and Fraudulent Scheme
CRCA 2005 – s30
CRCA 2005 – s32
Forgery and Counterfeit Act 1981 – s1
Fraud Act 2006 – s1
Fraud Act 2006 – s2
Fraud Act 2006 – s3
Fraud Act 2006 – s4
Fraud Act 2006 – s6(1)
Fraud Act 2006 – s7(1)
HODA 1979 – s13(4)
Immigration Act 1971 – s24a(1)
MLR 2007 – s45
MLR 2007 – s7
NMW 1998 – s31(1)
NMW 1998 – s31(5)(a)
Perverting the Course of Justice
POCA 2002 – s327(1)
POCA 2002 – s327(1)
POCA 2002 – s328(1)
POCA 2002 – s329(1)
POCA 2002 – s330
POCA 2002 – s334
POCA 2002 – s327(1)
Section 684(4A) of the Income Tax (Earnings and Pensions) Act 2003
Serious Crime Act 2007 – s25
Social Security Admin Act 1992
TCA 2002 – s35
TDA1979 – s8H
Theft Act 1968 – s17
TMA 1970 – s106(B)
TPA 1979 – s8(g)
TPDA 1979 – s8(H)
TPDA 1979 s8(G)
VAT Act 1994 – s73 (3), s72 (8) s72(10), s72(11)

1Committee of Public Accounts, HM Revenue and Customs performance in 2014-15, Sixth Report of Session 2015-16, HC393, para 9: http://www.publications.parliament.uk/pa/cm201516/cmselect/cmpubacc/393/393.pdf

2Tackling tax fraud, Parliament.uk, 04 April 2016, https://publications.parliament.uk/pa/cm201516/cmselect/cmpubacc/674/67405.htm#footnote-055-backlink

3Statistics available from Criminal Justice Quarterly https://www.gov.uk/government/collections/criminal-justice-statistics-quarterly

4We have provided a note on our data at the end of this document

5FOI Response from the CPS to TaxWatch, 16 December 2020

6See HMRC, 2019-2020 Annual Report and Accounts, R10, available from: https://www.gov.uk/government/publications/hmrc-annual-report-and-accounts-2019-to-2020

7HMRC, Single departmental plan 2015 to 2020, https://www.gov.uk/government/publications/hmrc-single-departmental-plan-2015-to-2020/single-departmental-plan-2015-to-2020

8HMRC fails to deliver on pledge to increase criminal prosecutions by end of 2020, FOI request reveals, Kingsley Napley, 21 December 2020, https://www.kingsleynapley.co.uk/insights/blogs/criminal-law-blog/hmrc-fails-to-deliver-on-pledge-to-increase-criminal-prosecutions-by-end-of-2020-foi-request-reveals

9FT Advisor, Crown Dependency tax disclosure failure, August 3 2015, available from: https://www.ftadviser.com/2015/08/03/regulation/crown-dependency-tax-disclosure-failure-p49cHwoUDuXo9nAukPCRyI/article.html

10HMRC’s criminal investigation policy, Gov.uk, Updated 13 May 2019, https://www.gov.uk/government/publications/criminal-investigation/hmrc-criminal-investigation-policy

11DWP Policy Paper, “Penalties policy: in respect of social security fraud and error”, August 14th 2017 https://www.gov.uk/government/publications/penalties-for-social-security-fraud-and-error/penalties-policy-in-respect-of-social-security-fraud-and-error

12HMRC Serious Tax Investigations – latest statistics, Lancaster Knox, 15 July 2020, https://lancasterknox.com/hmrc-serious-tax-investigations-latest-statistics/

13All data sourced from Criminal justice system statistics quarterly: December 2019, Gov.uk, 21 May 2020, https://www.gov.uk/government/statistics/criminal-justice-system-statistics-quarterly-december-2019.

14DWP, Fraud and Error in the Benefits System 2018/19 Estimates, May 2019, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/801594/fraud-and-error-stats-release-2018-2019-estimates.pdf

15DWP do have figures for 2019-20, but the latest HMRC data relates to 2018/19 and so we are using the previous year’s figures

16To calculate a ‘gross tax gap’, we took the 2019-2020 tax gap of £31bn from ‘Measuring tax gaps 2020 edition’, and added to it the £9bn cash HMRC expected to recoup due to its compliance work from HMRC’s November 2020 corporate report on compliance yield.

17The measuring tax gaps publication by HMRC 2018-19 edition quotes a figure of 4.7%. We have measured the potential tax losses against the 2018/19 total tax revenues figure in the HMRC annual report from that year which gives a slightly different figure.

18DWP 2019-2020 Annual Accounts, pg72, DWP, June 2020, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/896268/dwp-annual-report-and-accounts-2019-2020.pdf

19FOI Response from HMRC to TaxWatch, 21 December 2020

20TaxWatch correspondence with HMRC

21The former Inland Revenue’s selective prosecution policy is set out in R v Inland Revenue Commissioners, ex parte Mead and Cook [1992] STC 482

Netflix, tax reform and the unreal nature of digital taxation

8th December 2020 by George Turner

Netflix, tax reform and the unreal nature of digital taxation

Netflix has announced that it will be reporting the billions of pounds of revenues it gets from its European customers to their local tax authorities. In the UK, customers have received an email telling them they will now be billed by Netflix Service UK.

In making this move Netflix is the latest in a line of digital companies that have changed their structures to ensure that more revenue is declared to local tax authorities.

In each case where a company has changed their practices, it has come after pressure from the public and tax authorities.

Netflix is no different, the move comes after the company has come under increased scrutiny by organisations like TaxWatch, UK Parliament, and a number of European Tax Authorities.¹ ² This includes in the UK, where Netflix has disclosed that its previous tax returns are under examination,³ and in Italy, where the company is the subject of a criminal investigation.⁴

So what does this all tell us about the tax structures employed by large digital companies and the process of tax reform and tax collection in the digital sector?

Digital services and distance selling

The argument often made is that digital companies have changed the way business and business tax works because they can provide their services from overseas in a way that is not possible with the exchange of physical goods.

This distance selling model has been a common feature of the tax structures employed by a numerous multinationals operating in the so called digital space, including well known companies such as Google, Facebook, and Amazon.

This has been the model applied by Netflix. As detailed in our report from earlier this year, Netflix has billed all its international customers from a company in the Netherlands, and not declared that income to local tax authorities in the UK and other European countries.

The model relies on long established rules of international taxation, which say that a government can only tax the profits of a company that is based overseas if they operate via a “permanent establishment” in the country. By selling their goods and services from outside the jurisdiction, it is hoped that the country where the customer is based loses the right to tax profits made by the seller.

Although this model may have some effect in smaller economies, for large economies like the UK, this argument has always been slightly problematic.

Amazon, Netflix, Google, Facebook and other large US multinationals all have a significant presence in the UK. Google has built a London HQ with 7,000 staff at Kings Cross. Facebook has 23,000m² of office space in Central London. Netflix has a long term lease on Shepperton Studios and does large amounts of production in the UK. All own companies that are incorporated in the UK.

Under the traditional distance selling model, these local UK companies have no sales to UK customers. They simply provide services to a non-UK unit of their parent company. The amount that the UK company charges for the services provided is reimbursed at relatively low rates, meaning that little profit arises in the UK.

This structure is designed to preserve the idea that the Irish or Dutch company billing the customer is an independent entity with no physical presence in the UK, and so the UK has no rights to tax any profits on sales.

Distance selling in practice

A key question for tax authorities is whether these structures operate in practice as they do on paper.

One of the early pioneers of the distance selling model was not a digital services company, but Amazon, which grew as an online bookseller. When you buy something from the Amazon.co.uk website, you are buying from a company called Amazon EU S.à r.l. in Luxembourg, which then contracts with a company in the UK, Amazon UK Services Ltd, to “fulfil” the order.⁵

Amazon’s argument from a tax point of view was that the Luxembourg company that made all the sales, should be viewed as being entirely separate from the UK company which fulfilled the order, other than the contract between the two.

However, this was not how the company in fact operated. In 2013, Lush, the cosmetics company, sued Amazon for breach of copyright.⁶ Part of the argument deployed by Amazon in the case was that Amazon UK and Amazon EU were two entirely separate companies, which meant that Amazon UK should not be a party to the action.

Having examined the evidence of how the company worked in practice, the judge found that the two companies worked together in furtherance of a common plan, and that the idea that Amazon UK merely facilitates Amazon EU to be: “wholly unreal and divorced from the commercial reality of the situation.” ⁷

As outlined by academic Claire Quentin, the findings of fact in this judgment undermined the entire basis of Amazon’s tax planning, although it appears that little was done by tax authorities at the time to reclaim any taxes on this basis. ⁸

Pressure for change starts to impact on tax structures

Amazon did start to change its structure after that judgment, but for unrelated reasons.

In 2015, the UK government imposed the Diverted Profits Tax, which placed an additional charge on profits shifted out of the country. In 2015 Amazon responded to this via the establishment of a UK branch of its Luxembourg company that would file a tax return in the UK and account for sales from UK customers.

In 2016, after years of public pressure that criticised Facebook’s practice of billing its companies from Ireland, the company started to book sales from larger clients in the UK via its UK subsidiary. At the time, the reason given by Facebook itself was that for larger clients, its UK sales team were already responsible for making the sale.

Both of these examples raise questions of whether or not the distance selling model was ever in fact effective in the countries where the company operated a sales infrastructure. If Facebook staff located in the UK were booking sales to large clients based in the UK, what possible reason did they have for sending an invoice from a company in Ireland? Is it really possible to separate the sales and marketing function from all the infrastructure required to deliver a product?

The impacts of structural change

Although changes to corporate structures, ensuring that revenue raised in a country is reported to local tax authorities, is a more transparent way of operating and so welcome, it does not necessarily follow that there will be huge increases in corporate tax as a result. In order to increase the tax base, the underlying avoidance behaviour needs to be tackled. This is why in the past, TaxWatch has proposed imposing income tax on royalties paid by digital companies to tax haven entities.

In 2015, Facebook UK had a current tax charge of £4m. Despite revenues jumping from £211m to £842m the following year, the company’s current tax charge increased to just £5m.⁹

We do not know how much tax Amazon EU pays in the UK after it started declaring revenuesto HMRC in 2015, as the company does not publish its accounts on a country by county basis. However, as a whole, Amazon EU S.à r.l. does not it seems pay any corporation tax at all – in fact the company receives tax credits from governments.

All this means that even though Netflix Services UK will see its revenues increase next year by hundreds of millions of pounds after it starts to bill its UK customers, that is no guarantee that this will flow through into higher profits declared in the UK.

In fact, as we have pointed out, Netflix has substantial operations in the UK that qualify for UK film production credits. These credits can be offset against any profits that the company makes in the UK.

The European approach

Whilst the UK has generally looked at the distance selling model deployed by digital companies as an avoidance issue, and responded with new anti-avoidance rules to capture the avoided tax (like the Diverted Profits Tax), European tax authorities have taken a different approach to the very same issues.

In France, tax authorities opened an investigation into fraud after it alleged that Google had failed to declare activities in the country. Google settled the matter and paid a fine of €965m.¹⁰

In Italy, Italian prosecutors are currently investigating whether or not Netflix is guilty of tax evasion through the non-declaration of revenue from its Italian subscribers (because until now, that revenue has been declared in the Netherlands). The case is interesting in that it asks whether the physical infrastructure that Netflix owns to deliver content to its subscribers (including servers and cables) means that it is in fact trading via a permanent establishment.¹¹ Netflix has until now not had an office in Italy.

These cases demonstrate how different tax authorities around the world can look at the same problem and take a very different view over the approach to take, including what legal remedies to employ in order to combat suspected tax avoidance.

Tax Reform

When Google settled its dispute with the French Authorities, the company made a statement which said:

“We remain convinced that a coordinated reform of the international tax system is the best way to provide a clear framework to companies operating worldwide.”¹²

It may well be the case that tax reform is necessary in the digital sector to make the administration of taxation easier. There also may be tax policy reasons why governments would want to reform the tax systems to require a different apportionment of income between countries.

However, the need for tax reform has often been used as an argument that the tax system is unable to capture the income of multinationals today, and that we live in some new world unforeseen by current tax law.

This narrative can suggest to the public that governments are unable to levy taxes until reform materialises, and that they should overlook any sins of the past.

However, as has been demonstrated by the various actions taken by governments with regard to the distance selling models used by digital companies, tax authorities can often do more than people may think when they take a detailed look at the commercial reality of these schemes and testing them against their current tax law. On top of that, public pressure works, as has been demonstrated by the way that changes to company tax structures have often followed public pressure. All of this can be done without the need to wait for international tax reform, and given the slow nature of that process, continuing scrutiny of the tax affairs of multinationals by tax authorities and the public is essential.

Photo by freestocks.org on Unsplash

1 Netflix tax affairs debated in the House of Commons, TaxWatch, http://13.40.187.124/netflix_debate_parliament/

2 Parliament forces Netflix to respond to TaxWatch research, TaxWatch, http://13.40.187.124/netflix_responds_to_taxwatch_report/

3 Video streaming giant Netflix faces new probe into how it escapes UK tax bills, Daily Mail, 09 August 2020, https://www.thisismoney.co.uk/money/markets/article-8607869/Netflix-faces-new-probe-escapes-UK-tax-bills.html

4 Italy to Investigate Netflix for Failing to File Tax Return, Bloomberg, 03 October 2019, https://www.bloomberg.com/news/articles/2019-10-03/italy-said-to-investigate-netflix-for-failing-to-file-tax-return

5 Why is Amazon still paying little tax in the UK?, Tax Justice Network, 10 August 2018, https://www.taxjustice.net/2018/08/10/why-is-amazon-still-paying-little-tax-in-the-uk/

6 Ethical cosmetics company Lush takes ‘bullying’ Amazon to court, The Guardian, 30 November 2013, https://www.theguardian.com/money/2013/nov/30/lush-amazon-trademark-court-battle

7 Cosmetic Warriors Limited, Lush Limited vs Amazon.co.uk Limited, Amazon EU SARL, High Court, 10 February 2014, https://www.bailii.org/cgi-bin/format.cgi?doc=/ew/cases/EWHC/Ch/2014/181.html&query=(cosmetic)+AND+(warriors)

8 Risk-Mining the Public Exchequer, Journal of Tax Administration, 2017, http://jota.website/index.php/JoTA/article/view/142/118

9 Facebook UK Ltd, Companies House, https://find-and-update.company-information.service.gov.uk/company/06331310/filing-history

10 Google to pay $1 billion in France to settle fiscal fraud probe, Reuters, 12 September 2019, https://uk.reuters.com/article/us-france-tech-google-tax/google-to-pay-1-billion-in-france-to-settle-fiscal-fraud-probe-idUKKCN1VX1SM

11 Italy prosecutors open Netflix tax evasion investigation: source, Reuters, 03 October 2019, https://www.reuters.com/article/us-netflix-probe-italy-idUSKBN1WI0NE

12 France fines Google nearly €1 billion in ‘historic’ tax fraud ruling, DW, 12 September 2019, https://www.dw.com/en/france-fines-google-nearly-1-billion-in-historic-tax-fraud-ruling/a-50407433

When is tax avoidance tax fraud? Remarks to the FS Tax Conference 2020

23rd November 2020 by George Turner

Our Director, George Turner was recently asked to speak on a panel at the Hansuke Financial Services Tax Conference, during a session on tax fraud. The panel was moderated by Alice Kemp, Barrister at RPC and included Simon York, Director of the Fraud Investigation Service at HMRC, Donal Griffin, Financial Reporter at Bloomberg, Eric Ferron, Director General of Criminal Investigations at the Canadian Revenue Authority and Michael Sallah, Senior Reporter at the International Consortium of Investigative Journalists.

His remarks focused on whether tax avoidance could and should be subject to criminal investigation and prosecution.

George Turner’s remarks at the panel on Tax Fraud, Thursday 19th November:

Thank you so much for inviting me, it is really a privilege to be invited to talk on such a high profile panel.

Much of the focus of investigative journalism over the last ten years has focused on tax avoidance.

And it is held as an article of faith by many journalists, politicians and society more widely that there is a clear dividing line. Tax avoidance is legal, while tax evasion is illegal.

This faith has developed for a number of reasons. For journalists the idea that tax avoidance is legal provides a convenient defence against libel. How can someone be defamed for being accused of doing something legal?

A tax avoidance industry that makes billions of dollars a year selling and marketing tax avoidance schemes around the world wouldn’t make nearly as much money telling people that their schemes are potentially criminal.

However, without wanting to cast aspersions on the concept of faith more generally, this particular faith is a fiction.

In English law tax evasion is most often prosecuted under the Common Law Offence of Cheating the Revenue, where the potential liability is draconian in comparison to what we heard from Eric earlier about the criminal code in Canada. Cheating carries with it a maximum penalty of life imprisonment and an unlimited fine.

It is defined by the Oxford Dictionary of Law Enforcement as: “To make a false statement relating to tax with intent to defraud the Crown… or to deliver or cause to be delivered a false document relating to tax with similar intent.”

There is no requirement for the offence to be committed by the taxpayer, it can be committed by anyone who advises the taxpayer, or assists them in the preparation of a tax return, i.e. an accountant or a lawyer.

There is no requirement for concealment or deception, the conspirators can be open about what they are doing. There is not even a requirement for the revenue to demonstrate any actual loss.

As set out in the leading textbook on English criminal law:

“It is difficult to see how the offence could be stated in more expansive terms. The offence is of course even broader when charged as a conspiracy to cheat, as it often is.”

What this means is that pretty much the only issue at trial is whether the tax position being claimed is honest.

So what is dishonesty, in the legal sense? Quite simply, as has now been put beyond doubt by the Supreme Court, dishonesty is simply not being honest, and is judged against the standards of ordinary decent people.

This is an important point, because up until recently the courts believed that in order to be convicted of a crime of dishonesty the prosecution had to prove that the person committing the crime knew that they were being dishonest, that is now no longer a requirement, for the obvious reason that the more dishonest someone is the harder it would be to convict them. As put succinctly by Lord Nicholls “Honesty is not an optional scale, with higher or lower values accordingly to the moral standards of each individual”.

Now lets consider for a moment what the design and promotion of a tax avoidance scheme means in practice. Tax avoidance as understood by tax law, is where a real economic transaction is made to appear to be something else in order to cause a loss to the revenue, a gain for the taxpayer, and a healthy fee for the scheme operator.

This often involves a set of contrived or artificial transactions with no real business purpose, which means that the transactions do not provide an honest representation of the real economic position of the person or company involved.

In corporate taxation this can often mean things like paying royalties, commissions and management fees to shell companies that employ no staff or have no discernable operations. For individuals this often means the creation of fake investment losses, which are written off against a tax liability but are never in reality suffered.

Given widespread and targetted anti anti-avoidance rules schemes often require an element of concealment, which is why accountants and lawyers fight so hard to keep their advice from entering the public domain, or from being disclosed to tax authorities.

Now putting this together, we can see that many, and in my opinion the majority of tax avoidance schemes could easily fall foul of the law on cheating. Where there has been an active attempt to conceal the scheme, or a failure to information relating to a scheme, that is clearly fraud.

Given the ultimate judge of whether or not a scheme is dishonest is a group of randomly selected members of the public, and the total disdain with which the public view tax avoidance, I think many tax avoidance schemes, if put before a jury would be found to be dishonest, and therefore criminal.

In the past, the UK has prosecuted barristers and accountants for operating and tax avoidance schemes, although such examples are relatively few and far between.

We heard from Michael earlier the issues with deferred prosecution agreements in the US. In the US, the IRS has done what he UK never has, and prosecuted big four accountancy firms firms for their role in designing and selling tax shelters to high net worth individuals.

A previous head of HMRC, Dave Hartnett, once famously told a journalist that the reason why HMRC did not prosecute as many cases of tax fraud in the tax advisory profession compared to the US, was simply because advisers in the UK were more honest than American advisers.

Make of that what you will!

But the simple fact is there is no requirement in the UK, and I think elsewhere to prosecute tax fraud as a criminal offence. Tax authorities can instead seek to claim back any taxes lost through the civil legal process.

In many cases these civil cases do not even come to court, with the taxpayer settling the case. Indeed, there is no requirement on tax authorities to plead fraud at all, with many cases involving clearly fraudulent schemes being considered under anti-tax avoidance laws with no specific allegations of fraud being made out.

This approach clearly can have advantages for tax authorities which are focused on revenue raising, however it is also an approach which in my view encourages avoidance.

It must be said that it is HMRC’s policy that they will not prosecute most cases of tax fraud as a criminal offence, instead having a preference to pursue civil claims. This is clearly stated in HMRC’s criminal investigation policy which states the following:

“It’s HMRC’s policy to deal with fraud by use of the cost effective civil fraud investigation procedures under Code of Practice 9 wherever appropriate. Criminal investigation will be reserved for cases where HMRC needs to send a strong deterrent message or where the conduct involved is such that only a criminal sanction is appropriate”

This does sometimes lead to some bizarre outcomes, such as one case this year, Lindsay Hackett vs HMRC where HMRC was seeking a £13m fine from an individual involved in a fraudulent VAT scheme. The individual in question sought to claim that it was an abuse of process to not try them in a criminal court, where they would have greater procedural protections.

As the judge in the case noted, it is not often that someone expresses a preference for a criminal trial!

Another good example of this policy in action was provided this week, with the front page of the Financial Times declaring a new crackdown on corporate tax avoidance.

This related to a disclosure facility regarding corporate profit shifting. The disclosure facility was prompted by a series of investigations into large multinationals in the UK. If you look at what HMRC says about those investigations they say:

“HMRC has found that some Multinational Enterprises have adopted cross border pricing arrangements which are based on an incorrect fact pattern.”

What is an incorrect fact pattern if not a lie? An alternative fact perhaps?

It goes onto say:

“Some have made incorrect assumptions, or not implemented arrangements as originally intended or declared to HMRC, so that there is a divergence between the fact pattern on which the Transfer Pricing analysis is based, and what is actually happening on the ground. This could be for a variety of reasons, including incorrect or misleading statements on the nature or relative value of functions, assets and risks.

The description of the behaviours outlined by HMRC clearly point to fraud, but all HMRC are doing is inviting its large business customers to make a voluntary disclosure to resolve the matter.

I don’t think this approach will be sustainable in the future. Partly because there will be institutions like TaxWatch seeking to push government to take a stronger approach to tax fraud, and also because as we emerge from the Coronavirus crisis and governments start asking the public to contribute to paying back the vast amounts of money spent over the last six months, I do not think the public are going to tolerate an approach where people and companies committing tax fraud are spared a criminal prosecution.

tax fraud

HMRC publishes its latest Tax Gap – TaxWatch analysis

Differing approaches to combating marketed tax avoidance schemes

Respectable end of the avoidance market

Sideways illusion

Legal confusion

Limitations of legislative fixes

Learning lessons

Justice delayed is justice denied

The tax fraud gap – 2021 edition

Executive Summary

HMRC’s Tax Gap

Fraud, Negligence and Honesty

Fraud, cheating and dishonesty

Negligence

Honesty

The role of professional advisers

Tax evasion, tax avoidance and tax mitigation

Tax evasion

Avoidance and tax mitigation

Analysing HMRC’s Tax Gap behaviours using the legal concepts of fraud, negligence and honesty

Tax Evasion, Hidden Economy and Criminal Attacks – £13.7bn

Avoidance – £1.5bn

Error – £3.7bn

Failure to take reasonable care – £6.7bn

Non-Payment – £4bn

Legal interpretation – £5.8bn

Base erosion and profit shifting (BEPS)

Measuring the tax fraud gap

Comparing the prosecution of tax crime with benefits crime

Equality before the law?

HMRC’s use of criminal prosecutions for tax fraud and other revenue crimes. A comparison with benefits fraud.

Download PDF

Summary

In numbers

Tax fraud cost the Treasury an estimated £20bn in 2018/19 – 9x more than benefits fraud (£2.2bn)

DWP employs 3.5x more staff in compliance than HMRC (adjusted for size of tax and benefits gaps)

Over the past 11 years there have been 85,745 criminal prosecutions for benefits crimes, 23x more prosecutions than for tax crime of all types (3,665)

8.5x more suspended or immediate custodial sentences have been handed down for benefits crime vs tax crime over the last 11 years

The number of criminal prosecutions relating to tax crime of all kinds have decreased by 39% since 2015

The number of live criminal investigations into serious and complex tax crime has increased from 50 to 400 between 2015 and 2020

Prosecutions for tax fraud and other tax crimes

Prosecutions for serious tax fraud and complex tax crimes

HM Government’s policy on tax fraud and benefits fraud

Fraud investigations

Criminal prosecutions for tax crimes vs benefits crimes

The tax fraud gap and the benefits fraud gap

Compliance resourcing

Conclusions

Note on data and sources

Netflix, tax reform and the unreal nature of digital taxation

Netflix, tax reform and the unreal nature of digital taxation

Digital services and distance selling

Distance selling in practice

Pressure for change starts to impact on tax structures

The impacts of structural change

The European approach

Tax Reform

When is tax avoidance tax fraud? Remarks to the FS Tax Conference 2020

George Turner’s remarks at the panel on Tax Fraud, Thursday 19th November: