Quarterly Contentious Tax Review

13 October 2021.

The Tax Law Review Committee (TLRC) has published an in-depth review of the First-tier Tribunal (FTT), how it operates and why. In some respects, it is not working as well as it could for certain users. The review makes a number of positive recommendations, which we discuss below, together with two important developments concerning the requirement for HMRC to initiate a formal enquiry; and HMRC's strategy on settling disputes relating to the use of historic tax avoidance arrangements.

This blog is based on an article which first appeared in Tax Journal magazine on 22 September 2021. A link to that article can be found here

The Tax Tribunals

The TLRC previously participated in the reform of the tax appeals system, leading to the abolition of the Special and General Commissioners of Income Tax and the VAT and Duties Tribunal and their replacement, in 2009, with the FTT and the Upper Tribunal (UT). As more than 10 years have passed since the establishment of the new tax tribunal system, the TLRC decided to commission a review of its operation (the Review).

The Review is partly based on analysis of documentary evidence and on a survey of FTT users (mainly barristers and solicitors) conducted in December 2020, together with follow-up interviews conducted in February 2021. The Review identified the following principle issues with the present system:

1. Delay – A major cause of dissatisfaction among users of the tribunal system is delay. Many respondents attributed delays to the FTT itself: through a lack of efficient case management and delays in writing up decisions. The Review explains that there is a perception that the FTT administration (based in Birmingham) is the root of many delays – especially in listing cases and the filing and distribution of documents. The Review notes the very high turnover of administrative staff within the tribunal system, with many staff regularly leaving to join other government departments on more favourable terms. This has led to under-staffing problems and delays in recruitment.

2. Lack of judicial engagement – Some FTT users report a lack of engagement by some judges during hearings, which they attribute either to a lack of available preparation time for judges or lack of judicial experience of a particular type of case. Some users also attribute the delay in decision writing to similar causes. The Review notes that these issues are likely to stem from a lack of judicial resource in the FTT - this issue was also identified in several recent annual reports of the President of the FTT. 

3. Costs - Due to the technically complex nature of tax law, many respondents thought that it was very difficult for taxpayers to access the FTT and effectively present their case without engaging professional advisers and representatives. Similarly, the ‘cost-shifting’ regime in the UT, where the unsuccessful party is usually  liable to pay the other party's reasonable costs, is a deterrent to some taxpayers when considering whether to appeal a decision of the FTT to the UT, or to defend an appeal they won in the FTT.

The following key recommendations were made in the Review to address some of the issues identified above:

1. Increase the number of sitting days for judges and ensure that all judges have sufficient paid writing and preparation time. This would no doubt alleviate the burden on judges and help in reducing the backlog of cases already before the tax tribunals. We note that a recruitment exercise to recruit more fee paid judges is already underway, which is to be welcomed. It is clear that there is considerable strain on existing judges (an issue not limited to the tax tribunals). 

2. The FTT should develop a plan for reducing the backlog of unwritten decisions and should publish targets both (i) for hearing cases; and (ii) issuing decisions after the case has been heard. 

3. Better training for judges that do not have a contentious background should be provided in order to ensure that cases are managed more robustly and efficiently. The Review notes that tax lawyers who have a predominantly advisory practice will often have excellent technical skills and knowledge that may make them appropriate people to be appointed judges in the FTT. However, as their exposure to contentious matters may be limited, it suggests that introductory training is appropriately comprehensive with regard to procedural matters and the conduct of hearings.

4. Rule 28 of the FTT Rules, which allows the transfer of a case from the FTT to the UT, should be amended so that the consent of both parties is not required. In our view, this is a sensible recommendation. The consent of all parties is not required for 'leapfrog' applications made under the CPR, and there is no obvious reason why one party should have a unilateral veto on referral. Having an appeal determined directly by the UT may be appropriate for larger and more complex cases (that are likely to be appealed from the FTT in any event), and would alleviate the strain on the FTT and reduce costs for all parties. 

5. Issues with FTT staffing was also highlighted as an area of concern. The Review recommends improving pay and conditions for tribunal staff, to reduce turnover and staff shortages.  

6. The Review's survey showed that the threat of costs in the UT can be a deterrent to some taxpayers pursuing an appeal to the UT. For cases not allocated to the Complex category in which the taxpayer was successful in the FTT, the Review recommends that cost-shifting should not apply to appeals, unless the taxpayer chooses to elect into the cost-shifting regime in the UT. For cases in the Complex category, cost-shifting should not apply in the UT if (i) the taxpayer was successful before the FTT; and (ii) the taxpayer did opt out of the cost-shifting regime before the FTT. The Review also recommends allowing the FTT to intervene to determine when the 'Rees practice' (the practice of HMRC agreeing not to seek an adverse cost award, if it is successful), should apply and this should be formalised in the FTT Rules. Recent decisions appear to indicate that HMRC is more inclined than ever to use costs (or the threat of costs) as a strategic weapon in litigation. Providing the FTT with greater supervisory power in this respect would go some way to rebalancing the inequality of arms which exists between the taxpayer and HMRC.

7. The FTT should publish its policy on (i) which decisions are published; (ii) how judges are allocated to cases; and (iii) why FTT members (who sometimes sit with judges) are allocated to only certain cases.

8. Other interesting recommendations on private hearings and a 'duty' scheme which would require professional advisers to be on call for litigants in person, were also made. 

The Review's categorisation of issues and subsequent recommendations will not come as a surprise to those who regularly use the tax tribunal system. Having more judges, and judges being paid to sit on more days, would no doubt help alleviate some of the strain on the tax tribunals. Likewise, ensuring that administrative staff remain in post for longer, so that they have a comprehensive understanding of the tax tribunal system, would go a long way in alleviating some of the current problems identified by the Review. Delay in obtaining a judgment is clearly an issue, and one suggestion is to impose targets for judgments to be delivered – this will only work if the judges themselves are provided with more resources. 

The Review is to be welcomed for its candid and sensible recommendations. However, it is important that the Review's laudable intention of achieving a better and more efficient tax tribunal system is not replaced by target-driven, swift justice. The primary aim for the tax tribunals should remain to deliver impartial, high quality judgments. 

Estop right now, thank you very much

Disputes as to whether HMRC has a valid open enquiry into a taxpayer's return are not uncommon. Opening an enquiry into a return enables HMRC to utilise an array of invasive statutory powers. In a number of recent cases, including Credit Suisse Securities (Europe) Ltd and others v HMRC [2020] UKFTT 86 (TC), the FTT has held that unless the strict requirements of the legislation are adhered to, an enquiry will not be considered to have been opened, which may preclude HMRC from recovering any underpaid tax which might otherwise have been recoverable. 

An argument which is novel, in a tax context, was pursued by HMRC in the recent case of Tinkler v HMRC [2021] UKSC 39. 

In 2005, HMRC sent a letter opening an enquiry into the taxpayer’s (Mr Tinkler's) return. The letter was sent to an old address rather than the address which he had included in his return. A copy of the letter was sent to his agent, BDO. The enquiry continued through correspondence and phone calls between HMRC and BDO, culminating in the issue of a closure notice in 2012. The taxpayer appealed against the notice and subsequently amended his notice of appeal to contend that HMRC had failed to give a valid notice of enquiry because the enquiry notice was not sent to his last known place of residence. HMRC's case was that the doctrine of estoppel by convention applied such that, through their mutual dealings, on the basis of a shared but mistaken belief that a particular fact (the existence of the enquiry) was true, the taxpayer was prevented from asserting that it was untrue. In other words, HMRC responded to the taxpayer's case by asserting that he was estopped from challenging the validity of the enquiry.

The dispute progressed and, on appeal, the Court of Appeal held that the enquiry notice was invalid and rejected HMRC’s argument that the taxpayer was prevented, under estoppel by convention, from denying that the enquiry had been validly opened. HMRC appealed to the Supreme Court.

The Supreme Court found in favour of HMRC, approving (subject to one refinement) the principles set out by the High Court in HMRC v Benchdollar Ltd [2009] EWHC 1310 (Ch). The Supreme Court was of the view that BDO’s statement in a letter to HMRC of 6 July 2005 (and subsequent discussions) that the taxpayer's return for the 2003/4 tax year was “now the subject of a s9A TMA 1970 enquiry” meant that the taxpayer and his advisers shared the mistaken belief that notice of enquiry had been validly given. The Supreme Court considered that, in most cases, whether it was unconscionable to permit the doctrine to apply is unlikely to add anything, in particular, where it has been established that the person relying on estoppel has detrimentally relied on the common assumption. On the basis of earlier cases, the Supreme Court said that while HMRC were “primarily at fault on the facts of this case” through “carelessly sending the notice of enquiry to the wrong address and its consequent misrepresentations to BDO”, this did not amount to unconscionable conduct which would itself prevent HMRC from invoking estoppel by convention. The Supreme Court also concluded that permitting HMRC to succeed (on the preliminary issue) through estoppel by convention did not undermine the requirement in section 9A, TMA 1970, that a taxpayer be given notice of an enquiry. It reached this conclusion by considering that there were other means through which HMRC could have provided notice to the taxpayer (with his agreement), such that the TMA 1970 is “permissive as to the method of giving notice”

The Supreme Court also indicated that the fact that the taxpayer was aware of HMRC’s enquiry in November 2005, supported the argument that the purpose of section 9A would not be undermined by permitting HMRC to invoke estoppel by convention.

Notwithstanding this important victory for HMRC, whether estoppel by convention is applicable in other cases will very much depend upon the relevant facts in those cases, particularly in circumstances where the taxpayer (or their agent) do not explicitly acquiesce to an assumption that an enquiry has been validly opened by HMRC. 

One step forward, two steps back  

HMRC has issued over 22,000 follower notices (FNs) since 2015.1  As many readers will be aware, a FN requires, amongst other things, the recipient taxpayer to abandon an appeal they may be pursuing against a decision made by HMRC to recover tax which it considers to be owed. 

HMRC's view was that FNs could be issued in circumstances where it was likely that a judicial ruling would, if applied in the circumstances of another case, defeat the taxpayer's appeal in that other case. Following the Supreme Court's decision in RFC 2012 Plc v HMRC [2017] UKSC 45, FNs were issued to a large number of taxpayers all of whom had used a broad range of tax arrangements. For example, HMRC issued FNs to taxpayers who had used the arrangement litigated in OCO Ltd & Anor v HMRC [2017] UKFTT 0589 (TC), notwithstanding that the FTT in that case had expressly rejected on the facts of that case the application of the so-called 'redirection of earnings' argument that prevailed in RFC (we understand that those FNs have since been withdrawn). 

In response to receiving FNs, many taxpayers made statutory representations to HMRC, indicating that they considered that HMRC had misinterpreted the legislation and was applying it incorrectly. They argued that the FN legislation was designed to enable FNs to be issued to taxpayers who had participated in certain tax planning arrangements where the efficacy of those arrangements had already been determined in HMRC's favour. FNs were not to be issued for the purposes of compelling taxpayers to withdraw their appeals where HMRC had been successful in litigation relating to other arrangements which were only tangentially comparable to the arrangements utilised by the recipient of the FN.  

This issue was considered by the Supreme Court in R (oao Haworth) v HMRC [2021] UKSC 25. The Supreme Court dismissed HMRC’s appeal and held that the FN issued to the taxpayer was invalid.

The facts in Haworth can be stated shortly. The taxpayer entered into arrangements aimed at taking advantage of sections 77 and 86, TCGA 1992, and the application of the double tax treaty with Mauritius, in order to avoid a charge to capital gains tax on shares disposed of by a trust in which he held an interest. Following the decision in Smallwood v HMRC [2010] EWCA Civ 778, HMRC issued the taxpayer with a FN. HMRC considered that it was ‘likely’ that applying Smallwood would deny the tax advantage sought by the taxpayer.

The main issue for the Supreme Court was whether HMRC’s opinion that it was likely that Smallwood would deny the tax advantage was enough to establish that the conditions for issuing a FN were met. This turned on what was meant by ‘would’ in section 205(3)(b), FA 2014. That provision sets a requirement for HMRC to form the opinion that the "principles laid down, or reasoning given, in the ruling would, if applied to the chosen arrangements, deny the asserted advantage" (our emphasis). 

The Supreme Court held that the use of the word ‘would’ in the provision required HMRC to form the opinion that there was "no scope for a reasonable person to disagree that the earlier ruling denies the taxpayer the advantage". An opinion merely that the ruling was likely to do so was not sufficient. In interpreting the legislation, the Court took particular account of the fact that FNs evidently discourage taxpayers from pursuing their appeals and applied the principle that, where a statutory power authorises an intrusion upon the right of access to the courts, it must be interpreted as authorising only such a degree of intrusion as is reasonably necessary to fulfil the provision’s objective (R (UNISON) v Lord Chancellor [2017] UKSC 51).

It is arguable that the Supreme Court's decision has seriously undermined HMRC's policy regarding the deployment of FNs. In appropriate circumstances, taxpayers who have received a FN should consider asking HMRC to withdraw it in light of Haworth (even if the statutory review process has already been exhausted). The position for taxpayers who have already complied with a FN may be more complicated. It is likely that such taxpayers entered into a final and binding settlement, which engaged the provisions of TMA 1970. Seeking to resile from any such agreement may not be straightforward and will require careful consideration.  

This decision does not present a 'get out of jail for free' card for affected taxpayers. Enquiries into returns or extant appeals will need to be resolved.  Although taxpayers generally face an uphill struggle in cases that involve marketed tax avoidance arrangements, HMRC may resort to further settlement offers to resolve historic disputes relating to such arrangements. A settlement offer has been made by HMRC to investors in certain film finance partnerships, under which 'dry tax' charges that were previously threatened by HMRC, will not be pursued (see our Update on this settlement offer here).  

Footnote 1 : 

Follower Notices and Penalties - consultation at para 2.2.

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