No discovery – HMRC fail before the First-Tier Tribunal
HMRC's ability to raise 'discovery' assessments under section 29 of the Taxes Management Act 1970 ('TMA'), is a topical issue at the moment and there have been a number of important cases in recent months (see our previous blog here of30/01/12).
The latest taxpayer to successfully challenge the validity of a discovery assessment is Mr Anthony While.1
Before considering Mr While's case, it may be helpful to remind ourselves of the relevant statutory provisions. As readers will be aware, under section 9A TMA, HMRC may enquire into a taxpayer's self-assessment return if they notify the taxpayer of their intention to do so:
- up to the end of the period of 12 months after the day on which the return was delivered if the return was delivered on or before the filing date;
- up to and including the quarter day next following the first anniversary of the day on which the return was delivered if the return was delivered after the filing date;
- up to and including the quarter day next following the first anniversary of the day on which the amendment was made if the return was amended.
However, under section 29(1) TMA, HMRC can make an assessment to make good a loss of tax if they 'discover' that there has been an under-assessment because:
- any income or chargeable gain that ought to have been assessed to tax has not been assessed, or
- an assessment to tax is, or has become, insufficient, or
- any relief that has been given is, or has become, excessive.
If a taxpayer has submitted a tax return, HMRC's power to make a discovery assessment is restricted by sections 29(2) and 29(3) TMA. In the present case, only section 29(3) was relevant. Section 29(3) prevents an assessment unless one of the following applies:
- the under-assessment is attributable to fraudulent or negligent conduct by the taxpayer or a person acting on his behalf (section 29(4) TMA);2 or
- based on information available to him, an HMRC officer could not reasonably have been expected to be aware of the situation mentioned in section 29(1) of TMA 1970 when he notified the taxpayer that he had completed his enquiries into the return in question; or the period for notifying an intention to begin an enquiry expired (section 29(5) TMA).
Under section 29(6) TMA, information is made available to an HMRC officer for the purposes of section 29(5) TMA if it is:
- contained in the taxpayer's return for the relevant tax year, or in any accounts, statements or documents accompanying the return, or
- contained in any claim for the relevant tax year by the taxpayer acting in the same capacity as that in which he made the return, or in any accounts, statements or documents accompanying any such claim, or
- contained in any documents, accounts or particulars which, for the purposes of any enquiries into the return or any such claim by an HMRC officer, the taxpayer produces or provides to the officer, or
- information the existence of which, and the relevance of which as regards the situation mentioned in section 29(1) TMA, an HMRC officer could reasonably be expected to infer from information falling within the first three categories above; or the taxpayer notifies in writing to an HMRC officer.
Mr While was in arrears with his tax affairs and agreed with HMRC a programme of repayments for the tax, interest and penalties that he owed. The payment plan was interrupted in 1992 when he was dismissed by his employer. Mr While brought a claim against his former employer for wrongful and unfair dismissal and damages for the negligent provision of an incorrect reference.
It took six years for his claim to be resolved, but eventually, the High Court awarded Mr While £300,000 in damages in respect of the incorrect reference and £57,571, expressed to be 'net of all deductions' for wrongful dismissal. Mr While's accountants at the time, who prepared the schedule of loss, failed to apply the Gourley principle and gross up the payment due.3
Mr While had kept HMRC Enforcement Office informed of progress of his claim and when the matter was finally resolved sent to Enforcement Office a copy of a newspaper cutting giving details of the case and of the amounts awarded.
Believing no tax to be due in respect of the amounts awarded by the court, Mr While made no reference to the awards in his tax return for 1998/99.
HMRC had opened an enquiry into Mr While's 1997/98 tax return in relation to an unconnected matter. At the start of a meeting with Mr While and his accountant on 14 April 2000, the HMRC investigating officer announced the opening of an enquiry into his 1998/99 tax return. The HMRC officer had referred to the damages paid in her preparatory notes which had been prepared prior to the meeting and at the meeting Mr While disclosed the damages payment he had received. The enquiry was closed in January 2001, without any reference to the damages payment.
Mr While eventually received a letter from HMRC in 2004, stating that he owed tax in respect of the damages awarded for wrongful dismissal. A discovery assessment was issued on 13 January 2005 and an amended assessment issued on 20 August 2007 claiming tax of £35,769.54.
Mr While appealed against the validity of the discovery assessment on the ground that no new information had come to light and that the taxpayer had made HMRC aware of the damages received both by way of the newspaper cutting and during the course of the enquiry meeting in April 2000.
The First-tier Tribunal ('FTT') upheld Mr While's appeal against the validity of the discovery assessment. It did, however, endorse the conclusion of the FTT in Charlton and others v HMRC  UKFTT 467 (TC)4 that it was sufficient for a new HMRC officer to take over a case or for an officer to change his mind about the existence of a possible omission for there to be a 'discovery'. It is then for HMRC to prove, on the balance of probabilities, that the taxpayer had acted fraudulently or negligently (section 29(4) TMA) or that when he completed his enquiries, the officer could not reasonably have been expected to know, on the basis of the information made available to him, that there had been an under assessment of tax (section 29(5) TMA). There was no suggestion by HMRC that Mr While had acted fraudulently and the FTT found that he had not acted negligently. The question of the need to gross up the damages payment had been overlooked by a number of professional advisers and by the court itself. In the circumstances, the FTT did not find Mr While negligent for being unaware of a point of tax law, and did not find that his tax adviser had been negligent.
On the question of whether, in submitting a copy of the newspaper cutting to Enforcement Office, Mr While had satisfied the requirement of section 29(6) of making HMRC aware of the payment, the FTT decided that he had not, as the cutting was not sent to the officer responsible for examining the tax return and there was no explanation of its relevance in relation to his tax affairs.
However, as regards the information available to a hypothetical HMRC officer examining Mr While's tax affairs during the course of the enquiry, the FTT found, from the notes of meeting, that the officer would have been aware that substantial damages were paid, that they were, in part, taxable and were not included in the return. The hypothetical officer could reasonably conclude that there was an actual insufficiency in the tax return (not simply that there was a potential insufficiency). Accordingly, the FTT found that the condition in section 29(5) TMA was not satisfied.
Although HMRC have a broad power under the discovery provisions, which they frequently exercise, it is reassuring to note that, for the purposes of section 29(5), anything disclosed to HMRC during the course of an enquiry meeting will be treated as having been brought to the attention of HMRC. It is therefore important that taxpayers and their professional advisors ensure that full and contemporaneous notes of all meetings with HMRC are made as they may well have to be relied upon as evidence at a later date should a dispute with HMRC arise in relation to the validity of a subsequent discovery assessment.
1 While v HMRC  UKFTT 58 (TC).
2 From 1 April 2010, the words 'is attributable to fraudulent or negligent conduct' have been replaced by the words 'was brought about carelessly or deliberately by' (section 118 and paragraph 3, Schedule 2, Finance Act 2008).
3 See British Transport Commission v Gourley  AC 185.
4 It is understood that the Charlton decision has been appealed to the Upper Tribunal.