Representing the sinners

Image via WikipediaPart of my work as a tax practitioner is to represent those who for one reason or another have not declared their income properly. Sometimes they have not declared their capital gains either. Sooner or later they need help from someone like me.

There are all sorts of reasons why people find themselves outside the tax system. I have certainly heard some tales. I can however see certain trends in the way my new clients might have fallen outside the system.

The innocent

Some individuals do start out in innocence in that they may start a very small business for “pin money” which would be well below the level of income tax or National Insurance. Their business might then take off, they think they ought to have told HM Revenue & Customs before, and they become afraid to do so for fear of retribution. Thus they go on outside the system for several years. At some point they are either caught by HMRC or (as I much prefer) they approach me for help because they simply want to come clean and meet their obligations to the Exchequer. I love people with a real conscience!

The oblivious

Strangely there are some who really never dream that they could possible be liable to tax. These are more commonly those who receive some sort of investment income upon which they “assume”, if they had thought about it at all, that the tax is already paid. Other people in this category may include those in receipt of rents on their property. Yes, there really are some extremely naïve types who have no idea that the Government might want its share of their income.

The not so innocent

This category really knows that they should be paying tax. They just like to live on the edge and take the risk of being caught, but somehow they do not expect to be. They may have earnings or have let property.

The net tightens

It is a popular belief amongst both the public and some accountancy and tax professionals that HMRC does not have the resources to catch tax evaders, and especially small time ones. They think that HMRC prefers to concentrate on the big fish amongst the dodgers by going after the miscreants who have substantial funds in Swiss bank accounts. They believe that the Liechtenstein Disclosure Facility represents the main type of evasion mainly being targeted.

HMRC have other strings to their bow. For example they have been checking the Land Registry and have been finding not only undeclared capital gains realised by property investors, but also significant undeclared rents from such properties. Judging from instructions I have received from new clients who have been found out, this is a very successful initiative.

All are welcome

Helping new clients who want to come out of the woodwork and into the system is very pleasing, and I am happy to assist those who have been nabbed by HMRC too. I don't judge people and in the end they all need help.

The variety of work is hugely satisfying, and once we have established that there is absolutely nothing else which has been forgotten in the way of income or gains, I can get a fair deal.

Of course I don't like tax evasion because dodging obligations to the Exchequer is much the same as taking the money out of our own back pockets. For the small timers, though, whether innocent, oblivious or a bit guilty, HMRC mainly wants them in the system rather than bankrupting them or hanging them at Tyburn Tree. In the end it is better to cough up some money and have someone like me represent them, because afterwards there will be no more looking over their shoulders.

Blearsy-eyed!

We read here that Hazel Blears is to pay £13,332 on the sale of a second home. How is she going to do this? Presumably her accountants or tax advisers got the documentation right so that she successfully avoided a liability by making the appropriate election. The only way she can get HMRC to accept the money is by saying she made an error or worse, deliberately misled them. She will not be happy if they charge interest and penalties in addition to the CGT.

Perhaps she thinks the way to pay this voluntary tax is to just send a cheque. If HMRC cannot match the amount paid against a current liability, they will want to just send the money back. Remember that following the change in treatment of offshore income received by non-domiciled residents in UK, advisers on US tax told their UK resident clients that they should pay their tax due in the UK on US and worldwide income received in the period 6th April to 31st December 2008 before the end of December 2008 so as to have it matched with and set off against US tax due for 2008. The problem with this was that UK tax would not have become due before 31st January 2010, and HMRC's reaction was to try to repay the tax, thus defeating the object. Does Hazel know something we don't, or is this just political expediency without worrying about the consequences? I can guess, but answers on a post card please.

Update 14th May

Hazel Blears might have read my blog yesterday! I heard on BBC radio this morning that because HMRC would not be able to accept a cheque if they could not allocate it to a known liability (given that she has done nothing that she was not legally permitted to do), an official from HMRC was summoned to Westminster last night to accept the £13,332 on behalf of the Public Purse. I think it might have been better used if paid to a charity for the homeless. This is gesture politics at its worst, and really, you couldn't make it up, could you?

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Property flipping and knee jerk reactions

I must admit that the publicity about some Members of Parliament with two or more residences changing their designated main residence to one they are about to sell has me a little concerned because of all the publicity around it, and because of the public's ire. The principal residence capital gains exemption is there for good reason, and whilst as with any rule it might be possible to exploit it to one's advantage, the main purpose of electing as to which is the main residence is actually to prevent hardship or difficulty. Often people acquire a second property through the necessity, perhaps related to a job or through inheritance, and electing as to which property is the main residence avoids unnecessary debate with HM Revenue & Customs at a later date. If a large family home were to be treated inadvertently as the second property, then upon moving, a large tax bill might prevent the purchase of a suitable replacement with similar and adequate accommodation. There has to be a rule determining which property attracts the exemption. Of course the system might be manipulated, but it is not a “loophole” as many commentators have described it.

If it is thought that MPs or ordinary taxpayers are taking serious liberties with what amounts to serial property dealing, then HMRC can look at the background and might believe that they are participating in an “adventure in the nature of a trade”, the profits of which would be liable to income tax, so it is not sensible or true to say that the tax man or tax woman does not have some powers to clamp down. With all the publicity MPs have received, those who have abused the system more seriously may certainly expect to receive letters from HMRC, who read the newspapers like anyone else. I should be concerned if there were some sort of knee-jerk clampdown emanating from Gordon Brown or Alistair Darling which might catch and be unfair to the innocent taxpayer.

Any system can be used or exploited. Readers of this piece might be interested to read about the late Frankie Howerd's ex-partner using the new Civil Partnership legislation to avoid Inheritance Tax and pass his estate tax free to their “son”. It is very ingenious, but just because rules can be exploited and manipulated by the clever or even the unscrupulous does not mean that they are wrong in principal or have to be scrapped in favour of some onerous and unfair regime which is detrimental to the greater “innocent” population.

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Dickering Darling delays amending capital gains reforms

What are we to make of Alistair Darling's delay in the announcement of any amendments to his proposals on capital gains tax “reform”? He told the Commons on Thursday that he was postponing any decision on change until the New Year.

In my view, commentators tend to hang too much on what might be motive. There was, I am sure, genuine concern from the Chancellor and the Government that they had put their foot in it and made a serious misjudgement, and I am sure that that Treasury Civil Servants will have felt the wrath of their political masters over this matter. There was of course quite a “Clever Dick” or maybe “Clever Alistair” element in the Pre-Budget Report last October, which was a real “rabbits out of the hat” performance of the type we usually associate with the Budget itself. Of course, many Budget tricks have little impact and are designed for show. Unfortunately in many ways, the particular announcements made in October do have genuine impact and we all know a couple were designed to trump the policies announced by the Conservatives at their conference.

The reform of the position concerning treatment of non-domiciled taxpayers (or non-taxpayers) is not very intelligent any more than was the Tory proposal, but I will return to that another time. The Inheritance Tax change also borrowed from the Tories is hardly a give-away except in the sense that it will save some legal fees related to will making.

But back to capital gains tax. The Government proposals sweep away a raft of complications in calculation of gains, some of which have been in place since 1965, and yes, they will be simpler to administer or for taxpayers and their advisers to calculate gains. However, it is hard to see why the taper relief for business assets is being replaced by a flat rate, therefore increasing the effective rate of tax for most sellers of such assets from 10% to the 18% flat rate, an increase in tax of 80%, while at the same time reducing tax on investment gains from between 30% and 40% to the 18% flat rate. It is fine for investors, of course, but seems to involve little insight in an understanding of the realities of the change on the part of the Treasury. Why 18% anyway, which is a strange rate? Maybe someone was fond of the construction industry income tax flat rate for subcontractors which was in force until April this year, and wanted to keep the number on the tax tables somewhere.

Of course, many buy to let and other property investors will be delighted with an 18% rate. Investment in property has been booming under the current Government since the late nineties. My own theory as to the reason (partly because it was my wife's and my reason) is that this is the result of:

1. the disastrous consequences for the pension industry and people's pension funds of the removal of the dividend tax credit refunds (Gordon Brown's first Budget in 1997)

2. the other pension disasters brought on by subsequent funding problems for many pension schemes,

3. the regulatory failures such as Equitable Life (where many lost some tens of thousands) which whilst it was not entirely the Treasury's fault, it played its part.

So I believe that the popularity of property investment amongst the less wealthy is as a result of Government policy. Now, with interest rates so high, many are subsidising their mortgages to a degree, and few are making any income profit on lettings where they borrowed anything like the maximum. Income losses are the norm, though many will hang on (those who can afford it) for their hoped for capital gain down the line. The trouble might be those who cannot afford to pay the mortgages and will try to cut and run. That could cause the whole market to lose confidence, which has the potential for disaster.

So, back to the capital gains issue as it affects small business owners who may wish to sell, and the prospect of paying 18% tax after 5^th April 2008 rather than 10% on their gains. Why the delay in announcing changes? Well, I am sure it is nothing more sinister than the Treasury not knowing what it is doing. People say”why is Government policy so against small businesses?”. Well, I don't think the Government is against small businesses. It simply has no policy, or at least no long-term thought-through policy with regard to small business in general.

I also think that ideas tend to come from different places.. The 18% capital gains tax trick comes from the Treasury Civil Servants (I speculate) who do not understand the old system and were anxious to have something they could understand, though they did not appreciate the consequences of their changes. The income-shifting document on which I commented last week is much more driven by HM Revenue and Customs, anxious to make up for the Arctic Systems defeat and to prove that their leadership knows what it is doing. This is coupled with HMRC's deep suspicion of small businesses, which it feels are mostly on the fiddle. Having had brief exchanges earlier this year with a certain someone who has had a recent promotion in the upper echelons of HMRC following the tax credit data loss debacle, I have the distinct impression that this suspicion is extended to the small businesses' tax advisers too. We were told we should be more helpful. In the good old days we tax practitioners worked in partnership with the Revenue to get things right (all right, there were some naughty schemes for the very rich, but most small businesses were a long way from being able to take advantage). Oh, the days when we could talk to someone in the Revenue who had a file, someone who would telephone to clear up a query, when it was all so much less confrontational!

We tax advisers should not all be tarred with the same brush, and neither should business owners in general.

What to do about business asset capital gains tax? I would have had a new acquisition base point of 5^th April 1998 and abolished taper relief except for business assets, and I would be surprised if the cost to the Treasury would have been all that much, though I accept that part of the motive for the change announced was a tax raising exercise. Probably we will get some sort of retirement relief, maybe £100,000 exempt and then 18% flat rate. If we just have a £100K lower rate band that will be a stupid fudge which will not win the Government any friends (and it needs friends).

I just hope that whether under this Government or a future administration HMRC and the Treasury policy makers and planners do put together a coherent strategy for managing business taxation, and that Ministers take responsibility for their actions and for their failures. Here is an irony: Paul Gray as Chairman of HM Revenue & Customs did fall on his sword over the lost CDs crisis, even though this was not his personal responsibility. He deserves great credit for that, and I would love to see honour, principle, competence and vision, rather than suspicion, drive fiscal policy.

© Jon Stow 2007