A consultation document, ‘Disclosure of Tax Avoidance Schemes’ (the consultation document), has beenpublished in respect of proposed changes to the disclosure of tax avoidance schemes (DOTAS) regime, which are largely aimed at improving compliance and widening the scope of the types of transactions that are disclosable. It is clear that HMRC consider this legislation to be extremely effective in countering and reducing tax avoidance, and consequently they would like to improve and develop the disclosure regime by broadening its application. This article will briefly review the current DOTAS rules and consider whether the proposed new rules are likely to have a positive impact on tax recovery and mitigating tax avoidance.
Budget 2009 announced that HM Revenue & Customs (HMRC) would be having discussions with interested parties with a view to revising the existing DOTAS legislation. The DOTAS legislation was introduced in 2004 and amended in 2008. The disclosure regime is central to HMRC’s approach in tackling what they perceive as widespread tax avoidance. The regime provides HMRC with early information on tax avoidance schemes, enabling effective risk-based investigations and rapid legislative changes. Although the legislation has been very successful, HMRC believe there are a minority of tax agents and their clients who consistently try to bend the rules to breaking point, exploiting tax legislation to generate avoidance schemes. HMRC consider that this creates complexity in the tax system thereby effectively shifting the burden of taxation onto compliant taxpayers.
The consultation document was released with the PBR 2009 and included draft legislation containing five measures aimed at revising and extending the ‘hallmarks’ used to identify avoidance schemes. The consultation document is intended to explore the implementation of the proposed legislation and HMRC are seeking views as to whether the proposed legislation would be effective in reducing tax avoidance.
CURRENT DOTAS REGIME
DOTAS was introduced in 2004 with the aim of providing an early warning of avoidance schemes and identifying users of those schemes. It was an innovative approach to countering tax avoidance, and so was initially limited to certain high-risk areas of income tax, corporation tax and capital gains tax. A separate, but similar, regime was introduced for VAT at the same time.
DOTAS has proved to be highly successful, and the government has used information from DOTAS to introduce variousanti-avoidance measures every year since 2004. According to figures published in the consultation document a total of 49 measures have been introduced, closingoff over £12bn in avoidance opportunities.
Since 2004, DOTAS has been extended to stamp duty land tax (SDLT) and to National Insurance contributions (NICs), and various other extensions and improvements have been made to the system. There is a separate disclosure regime for VAT, whichis not affected by the proposed changes and therefore not included in the scope of this consultation.
OVERVIEW OF CURRENT RULES
DOTAS requires certain persons, normally promoters of schemes, to provide HMRC with information about schemes falling within certain descriptions. The promoter must explain how the scheme is intended to work and must normally do so within five days of making the scheme available to clients. Promoters are accountants, solicitors, banks and financial institutions, and small firms of specialist promoters known as ‘tax boutiques’. Schemes developed offshore, if not disclosed by the promoter, must be disclosed by the user.
The descriptions of schemes required to be disclosed under the main regime are known as ‘hallmarks’. A scheme reference number (SRN) system enables HMRC to identify the users of schemes. When a scheme is disclosed, HMRC allocates a SRN and notifies it to the promoter. The promoter passes the SRN to their clients who in turn must use it to identify themselves to HMRC, normally by including the SRN on a tax return. The penalty for breaching the rules is financial (£5,000, with a daily maximum penalty of £600 thereafter).
WHAT CHANGES ARE PROPOSED?
A package of the following five proposed measures is being consulted on. These are summarised below.
A change to the time when a promoter must disclose a marketed scheme to HMRC
Obtaining early information about tax avoidance schemes enables the government, where appropriate, to protect tax revenues by announcing legislation closing down the scheme with immediate effect.
In the current legislation, the event that triggers the disclosure of a ‘proposal for arrangements’ (ie a marketed scheme) is the making of the scheme ‘available for implementation’ by clients. It has become apparent that some promoters are deliberately taking steps to delay havingto make a disclosure under the law to maximise potential avoidance opportunities before HMRC is able to react to any disclosure.
The proposal is to amend s308(1) Finance Act (FA) 2004 so as to bring forward the trigger for the disclosure of a marketed scheme to the point where:
- the design has been developed in sufficient detail to allow the promoter to provide ‘prescribed information’ (a description of how the scheme works) about it; and
- the promoter takes steps to make the existence of the scheme known to third parties (potential clients or intermediaries who may make the existence of the scheme known to potential clients).
A power to require persons who introduce potential clients to a promoter to provide information about the promoter
The Finance Act 2007 inserted a series of information powers into FA 2004 enabling HMRC to investigate cases where it suspects a person of promoting a scheme that should have been disclosed. The focus of the powers is on identifying the reasons why a promoter considers a scheme to be non-disclosable.
To broaden their investigative powers, HMRC would like to be able to require an ‘introducer’ to provide information to HMRC on the source of the scheme so that the promoter (as defined by the legislation) can be approached. This proposed change widens the scope of the rules so they may now apply to introducers and should have the desired result of increasing the number of disclosures.
Increased penalties for failure to disclose a scheme
To deter promoters from delaying disclosure, HMRC would like to amend the penalty regime to increase the maximum level of the penalty so that it offsets the economic advantages of not disclosingthe scheme.
HMRC would like to provide for higher maximum initial penalties and allow the penalties to be determined by a tribunal, within the range provided for. This would allow the tribunal to impose greater penalties on those parties that deliberately breach the rules.
Promoters to provide HMRC withperiodic information about clientsto whom they have issued a SRN
The SRN system is relatively successful when identifying users of avoidance schemes. However, HMRC have identified two weaknesses with the current system.
The first, ‘the identification weakness’, is that there are inherent difficulties in identifying a user who fails, for whatever reason, to report a SRN. The second, ‘the risk assessment weakness’, is that the timing of SRN reporting is generally too late to inform real-time risk assessment. For most income tax and corporation tax schemes HMRC will only learn of the extent of use once the returns for the scheme users have been submitted.
HMRC would like to introduce legislation that imposes a requirement on promoters of a disclosable scheme to provide HMRC with information about clients to whom they have provided the scheme.
Revisions and extensions to the ‘hallmarks’
There are currently eight hallmarks:
- Confidentiality involving a promoter: the scheme incorporates an element, or elements that are structured in a way that a promoter would wish to keep confidential from either other promoters or HMRC.
- Confidentiality where no promoter is involved: this hallmark is similar to the test above. However, the test is whether the scheme user wishes to keep the arrangements confidential from HMRC.
- Premium fee: a promoter might be expected to command a fee that is to a significant extent attributable to the tax advantage or to any extent contingent on obtaining the advantage.
- Off-market terms: this hallmark is aimed at schemes where a premium fee can be hidden in the price of a financial product forming part of the scheme.
- Standardised tax products: schemes with standardised documentation and transactions (ie ‘plug and play’ schemes).
- Loss schemes: this hallmark targets schemes that seek to create tax losses for individuals to set off against their regular income or gains.
- Leasing schemes: this hallmark targets certain finance leasing schemes, primarily those that involve parties outside the scope of corporation tax, and those that involve sale and leaseback or lease and leaseback.
- Pension contributions: this hallmark targets schemes that seek to avoid the pensions contributions anti-forestalling measure introduced in Finance Act 2009.
HMRC now wishes to revise elements of the existing hallmarks and introduce new specific hallmarks to target known risk areas. These changes are designed to strengthen the regime and ensure that it continues to provide early identification of avoidance schemes and those using them.
HMRC are proposing that certain amendments are made to several existing hallmarks to ensure that the legislation applies as intended and to remove any potential loopholes. HMRC are also proposing to delete the ‘off-market terms’ hallmark on the basis that this is now considered superfluous and unnecessary.
In addition to the changes referred to above, the following new hallmarks are proposed:
- Employment schemes: this hallmark would target schemes that seek to avoid tax in relation to employment income. It contains a generic description of an employment scheme and a list of excepted arrangements.
- Income into capital schemes: this hallmark would target schemes that seek to gain a tax advantage by substituting a capital receipt for income. It contains a generic description of what is meant by ‘income into capital’ and a list of excepted arrangements.
- Offshoring schemes: this hallmark would target schemes where the provision of the tax advantage relies on a transaction with one of the territories recognised by the G20, currently by way of the Organisation for Economic Co-operation and Development list, and thereafter by the UK as a non-compliant jurisdiction.
The proposals considered above clearly broaden the ambit of the DOTAS regime,and, if enacted, the proposals should result in an increase in the number of arrangements that are disclosable. The government appear intent on moving from a position where they could only close down avoidance schemes after they have been implemented to a position where disclosure is made before the a client has even been found to implement the scheme. This should enable HMRC to introduce remedial legislation before a scheme has been implemented. The introduction of the new hallmarks will certainly increase the number of schemes subject to the DOTAS rules, which will increase the compliance cost placed on promoters.