HMRC’s Penalty Regime Laid Bare
by Lee Sharpe, Taxationweb
When it comes to late filing penalties, the facts on the ground amply illustrate HMRC’s success at failing to live up to its own policy goals. Enough is enough.
- The current approach to late filing penalties is really rather good at making money for the government, and it is more than a little difficult to square this with assertions that penalties are meant only to encourage compliance.
- HMRC’s job is to collect tax but HMRC makes an awful lot of money by insisting on forms even when no tax is actually due.
- Self assessment is based on the premise that the taxpayer is responsible for assessing his own tax position. Its introduction placed a significant burden on the taxpayer, and made the Inland Revenue’s life a heck of a lot simpler. Despite this, we have somehow gotten to the point that, even when you have taken on that extra responsibility, and found you owe no tax, HMRC can still charge very substantial penalties just because you didn’t send in some “nil” paperwork on time. Because in HMRC’s world, you can be non-compliant even if you have no tax to pay.
- Fundamentally, HMRC’s penalty regimes are far more likely to punish those who try to be compliant but fail, rather than those who are deliberately non-compliant. This betrays one of the key tenets of HMRC’s professed penalty policy, which is to encourage compliance.
- The vast majority of penalties are raised following the submission of a tax return of one kind or another. In essence, HMRC says: “Thank you for filing your return. Have a penalty”.
- HMRC knows that its penalty regimes can be ridiculously unfair and excessive. But for some reason, it keeps on making the same mistakes when setting out new regimes. The NRCGT penalty regime is one of its most recent, being only a couple of years old. It does one thing well: it illustrates what not to do, if you want a logical and fair penalty regime.
- HMRC actually set itself some goals to improve the penalty regime, some time ago. About which it appears to have done absolutely nothing since.
Introduction: Suck it and See
“Hey, chaps! I have an absolutely whizzer idea! Let’s make taxpayers fill in forms whose only purpose is to tell us about other forms they’re going to be filling in later. So if they don’t tell us about the forms they’re going to be filling in, then we can penalise them for not filling in the first form about the second form. But to make this really work, we need to make this new form about something really obscure, so that nobody will realise the new form applies to them until it’s too late. Now, all we need is some new tax measure that quietly overturns principles that have applied for decades…”
FA 2015 Sch 7 (and s 37) introduced the new regime for taxing non-residents when they dispose of UK residential property, but only to the extent that any gain arises from 6 April 2015. The legislation and guidance in my annotated Finance Act notes stretches to just shy of 80 pages.
The legislation requires the taxpayer to provide HMRC with a Non-Resident Capital Gains Tax (NRCGT) Return within 30 days of the disposal. This has to include a self-assessment of the CGT due, unless basically the taxpayer is going to file a Self Assessment tax return anyway. However, the NRCGT return is still itself due, even if it is to be followed by a ‘normal’ tax return with all of the information on, as usual.
Almost as an afterthought, para 59 says that the requirement to furnish HRMC with an NRCGT return is subject to the penalty regime at FA 2009 Sch 55. That penalty regime invokes penalties even where no tax is due. While I concentrate on the regime in the context of the NRCGT return, I think much could be said of the current regime as it applies to returns more broadly: NRCGT returns are not the “exception that proves the rule” so much as they comprise “the straw that breaks the camel’s back”.
Having witnessed how legislation develops in the UK over the last few years, I am reasonably confident that the above conversation never, in fact, took place. The reality of tax law drafting in the UK is almost unutterably mundane, but possibly even more tragic, with more than a whiff of a Darwinian, trial-and-error style of evolution (but, alas, with precious little evidence of a ‘guiding hand’).
It may be tongue in cheek, but drawing up a policy so patently stupid as to even risk being lampooned as having had a conversation along such lines, is almost as bad as having had the conversation itself: you have to wonder who was in the room when this little gem was crafted – and, perhaps as important, who was not. It seems to me that HMRC is at pains to disprove that "institutional memory" is a 'thing', basically by eradicating any semblance of it within its own organisation. But that is a gripe for another day.
TW received the following post towards the end of May, on a long-running thread about NRCGT penalties:
“We contacted HMRC in March 2014 with regard to NRCGT. We were advised the requirement would be to include sales details in our Self Assessment. We have always filed on time and paid our dues as well as responding in a timely manner to HMRC questions. We have NRL numbers as we are registered as non-resident with regard to our rental properties. In the tax year 2015/16 we sold 3 properties and, when our accountant was preparing our SA returns, he came across the NRCGT requirements. We filed asap, no CGT was payable and we then were hit with £3,960 in fines which we are fighting through the appeals process. These fines have been reduced to £1,600 as "due to representations from agents and customers, the daily penalty has been removed." We have had our final appeal rejected, cannot appeal to the so-called independent HM Courts & Tribunal Service because they cannot overturn a fixed penalty. We are incensed we have been hit with fines as we believe we took the initiative to find out by contacting HMRC to ask about NRCGT. We have asked Freedom of Information [FoI] questions and we're told as of 31 Jan 2017:
1. 20,264 NRCGT returns have been filed
2. 1,583 show tax due of £7,688,004
3. 7,356 were late : our comment that is 36%!!
4. Late filing penalty issued for 4,022 resulting in penalties of £3,338,910. Our comment: that is 30% of the revenue from NRCGT is penalties! We are asking what about the 45% who were late and didn't receive penalties.
Surely this is a clear indication that HMRC failed to inform those who were affected by the tax and reporting mechanism; HMRC send out reminders for self-assessment returns (we've just received ours). Why couldn't they do that to non-residents regarding NRCGT?"
The figures are legit: we have seen the FoI response, together with a follow-up letter to the taxpayers’ MP – the ring of authenticity all the more sonorous thanks to HMRC’s customary apologies for a tardy reply, and for having accidentally included another taxpayer’s papers in its previous letter. The FoI letter goes into some detail about why so many NRCGT returns will have been “nil”. I am not sure of the relevance to a complaint about getting hit for a late filing penalty, since the penalty applies regardless of whether there is a liability or not (although the amount may change).
A Quick Consideration of the Figures
- Anyone else think that 20,000 returns filed since April 2015 is a laughably small number? Does 1,000 property disposals a month throughout the entirety of the UK really represent the sum total of NR disposals here? Or perhaps simply demonstrate how few people are actually aware of the regime and filled in a return?
- Only 7% of the NRCGT returns actually resulted in a tax liability. If fewer than 1 in 14 SA tax returns actually resulted in a liability, I don’t think SA would exist – certainly nothing like in its current form. Of course, HMRC would point out that many of those returns would be nil because the actual tax liability would be handled entirely through the corresponding SA tax return filed later on by the same taxpayer. I am afraid that I cannot address that point without expletives. My attempt at humour in the Introduction above is as close as I can get without smashing something.
- The total yield in roughly 20 months is £7.7 million. That is a very small amount of tax after almost 2 years, and almost 80 pages of legislation and guidance notes. Of course the NRCGT regime is working from a standing start, being April 2015. The potential yield will increase, however, assuming UK property prices continue to rise.
- More than a third of the returns were late. This clearly indicates that people are unaware of the new regime – which is hardly surprising, given who is caught.
- Almost 20% of the returns resulted in a late filing penalty. That is a ridiculously high number. It would surely have been better to wait for several years before introducing a penalty regime, or to start with a wide-ranging amnesty..?
- However, as the querists have already pointed out, that still leaves a lot of taxpayers who filed a late return but who were not penalised – roughly half of the late filers escaped a penalty. There is of course the “reasonable excuse” of legend (more on that later) but that would not account for almost half of the penalties being withdrawn, using normal criteria. Which brings me on to another key theme of HMRC’s penalty policy: penalties must be applied consistently.
- FA 2016 s 91 introduced a fresh relieving provision, to say that penalties would not be applied if the property disposal qualified as a “no-gain, no-loss disposal”, as defined in the general definitions/interpretations at TCGA 1992 s 288. This covers such events as disposals between spouses, and between corporate group members. Presumably, someone at HMT/HMRC realised that ordinary taxpayers do not generally have to report no-gain, no-loss transactions so it was a bit rich (or discriminatory) to ask non-residents to do so. Ordinarily, I should be most doubtful that such disposals could account for half of all late NRCGT returns, so that they might escape a penalty. But then the numbers involved are so small… My suspicion is that HMRC has been uncharacteristically generous in its application of “reasonable excuse”, to account for the high proportion of late returns that were not penalised. But I am not aware that HMRC has publicised a specific policy in this regard.
- But the standout figure coming out of the FoI letter is that HMRC made almost half of its tax yield in penalties. Given the numbers, most of this amount will have come from nil returns, and probably most of those will be nil returns because the information will be included later on in a Self Assessment tax return. In other words, HMRC will probably have made most of its money out of penalties from NRCGT returns that served absolutely no useful purpose – other than to generate penalty revenue. Or is the government so dim as genuinely not to have foreseen the obvious implication of insisting on NRCGT returns even for those who already file under SA?
To me, these numbers strongly suggest a penalty regime that is out of control. As politely as I can put it, It is well nigh impossible to reconcile these figures with HMRC’s oft-stated intention that it wants to encourage compliance and would much rather have the returns than raise a penalty. As most practitioners will be all too aware, the reality is that the vast majority of these penalties will have been triggered only after a return has been submitted and in fact only because a return has been submitted. The effect is to punish those who are trying to be compliant, since those who do not comply at all will, in all likelihood, never appear on HMRC’s radar in the first place.
In its defence to the querist taxpayers' MP, HMRC said that it went to some lengths to publicise the new regime. This is – again, as politely as I can manage – more than a little hard to swallow. Practitioners are all too aware that HMRC basically has no budget for publicity, and is reduced to mass e-mails, updates on its website and to Twitter. Unfortunately, large as HMRC’s Twitter following may be, it does not include every non-resident person on the planet. Simply put, the only people that HMRC has been able to reach, for the last several years, are practitioners and perhaps a relatively small number of taxpayers who know or suspect that they have a UK tax bill.
HMRC might argue that, in this case, their potential target population was disconcertingly large, numbering c6 billion souls, give or take the population of a small collection of islands off the coast of Europe. I would say that was implicit in deciding to make everyone who doesn’t live in the UK potentially liable to UK CGT when they sell residential property here. You cannot decide to make the rest of the world potentially chargeable to UK tax and then complain that it may be difficult to administer – or blame the rest of the world for not knowing that you changed the rules.
More to the point, in relation to NRCGT penalties specifically:
1. Did HMRC write to all SA taxpayers resident overseas, or at least those who had previously returned UK property rental income, to warn them about the intricacies of the new regime and what those taxpayers might need to do if they sold UK residential property?
2. Did HMRC try to contact those who already had Non-Resident Landlord references, along similar lines?
No, they did not. According to its letter to the taxpayers’ MP, HMRC’s attempts at publicity in relation to the new NRCGT regime basically boiled down to:
- The Autumn Statement 2013 itself (I hadn't realised our beloved former Chancellor had such a global following)
- Updates on its website – consultations, responses, Agent Updates 46, 47, 51 and new guidance pages on NRCGT
- Four weekly announcements on Twitter
What must be particularly galling for the querist taxpayers in this case, is that they actually contacted HMRC to enquire about the NRCGT regime, were told that they should report the disposals on their tax returns, duly did so – and then got hit for almost £4,000 in penalties.
Indirectly, taxpayers may get to hear from their accountants, (if they have one), a “trade press”, (assuming there is one for non-resident landlords of UK property who are living in, say, Bilbao), or the odd article in a newspaper/website. All the same, we have had cause in the past to highlight just how poor is the average hack’s understanding of the subject matter in previous articles, such as here, and here – although it must be said that some of the blame for those misunderstandings must at least sometimes fall to HMRC itself, when its website betrays a disappointingly sparing appreciation of the regime in question (as those earlier articles also make clear).
I think if I were responsible for introducing NRCGT and hadn’t even attempted directly to contact any of those taxpayers whom I might reasonably expect to stand a good chance of being caught by the regime in future, despite all the information resources at my disposal, I’d be too embarrassed to start talking about penalties.
Think it Through, HMRC!
Let’s think about how some of these penalties might come about in “real life”.
Let’s assume that you are a UK property owner living in, say, Singapore. English is not your first language. You sell one of your UK properties, using a UK conveyancing solicitor. You make a capital gain, but that’s OK, because everyone knows that non-resident gains in the UK are not taxable in the UK (although they may be in Singapore). That scenario has applied for decades – perhaps when you last checked, when you last bought or sold a property.
Your conveyancing solicitor certainly won’t warn you of a new tax regime that was introduced in April 2015, because he’s not a tax lawyer and he doesn’t follow HMRC on Twitter. If at some stage you discover you should have made an NRCGT return, and belatedly file it, HMRC will say “Thank you for your NRCGT return. By the way, here is a penalty for having filed an NRCGT return.” (HMRC would probably explain things a little differently, evincing a failure to grasp how it will be perceived by the taxpayer).
Or, let’s assume you are a landlord of UK property and resident in, say, Mumbai. You are a conscientious person, filing your annual tax returns with both UK and Indian tax authorities every year. You sell a UK apartment, making a capital gain in the UK. You are aware that gains on residential property disposals made in the UK from April 2015 are taxable, and fully intend to make all relevant disclosures – and pay any CGT due – with your UK tax return.
To that end, you advise your UK accountant of the sale when you send in your annual tax papers. He has some bad news for you, saying that you should have filed an NRCGT return months ago.
“Why do they want the tax and information early? I thought it should go on my tax return, because surely that’s what a tax return is for?”.
“Oh no, they still want you to fill in your tax return as before, with the capital gain on it, and to pay the CGT on 31 January as normal. This is just an extra form that they want.”
“But why do I have to fill in a form that gives them the same information they will get in my tax return? Will I really have to pay a penalty?”
“Yes, but don’t worry: your tax return will give them all the information they need to realise that you should have made an NRCGT return and when it should have been made and that a penalty is now due.”
“So I am being penalised for not submitting a form to warn them I would be sending in my annual tax return form, which I have been doing every year anyway, for years and years?”
“That’s about the size of it, yes. Oh, and it’s a joint property, isn’t it? So Mrs. Taxpayer will have to pay a penalty as well.”
Which is basically an abridged version of the conversation I imagine Mr. & Mrs. Querist had with their accountant before they posted on TaxationWeb.
How Bad Can Penalties Get?
The standard penalty regime under FA 2009 Sch 55 works up as follows:
- Initial £100 penalty, regardless of whether or not there is a liability
- After 3 months, a daily £10 penalty to a maximum of £900, regardless of liability
- After 6 months £300 or 5% of the tax due, whichever is the larger amount (i.e., a minimum £300)
- 12 months £300 or 5% of the tax due, whichever is the larger amount (i.e., a minimum £300)
So that’s a minimum £1,600 per person for a 12 month delay, even If there is no actual liability to return.
You might think it would be quite difficult to be 12 months overdue by accident. But an NRCGT return is due 30 days after the property disposal, so if you mistakenly thought that your normal Self Assessment tax return would suffice, (and that is due by 31 January following the tax year in question) then you can very easily clock up more than 12 months before you submit your tax return, HMRC gets around to processing it and requests an NRCGT return (or before you send in your annual tax return papers to your accountant).
It is worth bearing in mind that, because ordinary Corporation Tax returns have not yet been brought within FA 2009 Sch 55, the standard late filing penalty for a company – of any size – is £100, effectively rising to £200 after 3 months. That is not an invitation to rush CT filing under Sch 55, since I strongly believe that the current Sch 55 regime was a great big fat leap in the wrong direction. But it hardly smacks of fairness or consistency.
Construction Industry Scheme Penalties
While this article focuses on the penalty regime under FA 2009 Sch 55, and particularly in relation to NRCGT returns, no discussion of out-of-control penalties is complete without mention of the penalty regime as it stood under the Construction Industry Scheme (CIS). CIS is a regime used as an abridged version of PAYE for those involved in the building trade, to ensure that HMRC gets its slice of any payments made. There is a monthly return element and, again, penalties are due even if you have no tax to pay, and even if you didn’t know you were caught by the CIS regime.
The old basic charge was £100 for each overdue return, per month, every month. So if you found out that you should have been making monthly returns for the last year or so but had failed to do so, then your earliest return would be 12 months overdue, and your latest return would be a month overdue, meaning the penalties would be at least £7,800. Again, these penalties were due even if there were absolutely no tax to pay, and therefore no reason to suspect a return of any kind might be due. And it could be several years before you found out you were liable to make CIS returns, so it was not unheard of to rack up penalty charges £70,000 - £80,000 – again, with no tax actually being due. Ultimately, even HMRC admitted that these penalties might be just a tad the wrong side of outrageous and the penalties were toned down, particularly in relation to nil returns, in the migration from TMA 1970 s 98A to the new FA 2009 Sch 55 regime, in 2011.
While many would welcome a restriction of the worst excesses of a penalty regime, the fiasco that was CIS penalties essentially proves that the government really does not appreciate how penalties will play out in the real world – or does not care, until the adverse publicity is deafening.
HMRC’s Position on Penalties
HMRC issued a discussion document in 2015, wherein it set out its overarching penalty policy (from the Powers Review) as follows:
- Reinforce legal obligations to encouraging compliance
- Deter non-compliance
- Help return people to compliance
- Clear, easily understood and accessible to all
- Set in statute
- Simple and cost effective to administer
- Separate from interest
- Applied consistently
- Customer focused, recognising differences
- Subject to appeal (where they cannot be overturned by taxpayer action)
- Conform with Human Rights legislation
All of the above seems reasonable enough. Some further extracts include:
“Penalties are applied to encourage taxpayers to comply with their obligations, to act as a sanction for those who don’t and to reassure the compliant majority that they will not be disadvantaged by those who don’t play by the rules. We don’t use penalties as a way of raising revenue, or to offset our running costs. In essence, we want compliance, not penalties.”
I am struggling with the notion that penalising an innocent taxpayer can achieve any aim other than raising revenue. In fact, punishing those who were unintentionally non-compliant may be counter-productive, as HMRC itself realises:
“Where customers believe penalties to be unfair and/or disproportionate, it can have implications for their future compliance. Research suggests this can lead to increased non-compliance…”
And not just for those directly penalised, I’d wager: if HMRC gets a public reputation for handing out huge penalties like confetti (I say “if”) then this must surely be counter-productive?
So how did the, er, “discussion” fare?
HMRC published its summary findings later in the year. If I might summarise the summary, it seems that HMRC heard all of the concerns about fairness, proportionality, etc., and decided that the answer was to automate and streamline the penalty regime so that HMRC could concentrate on more important aspects of non-compliance. I have a sneaking suspicion that is what HMRC wanted to do all along.
A blueprint, if you like, for many consultation processes since, whether it be in relation to company distributions, (see the “Is it Capital, or is it Revenue? Answer: Whichever Makes You Pay More Tax” section), probate fees or pretty much anything to do with Making Tax Digital (OK, the probate fees think is really the MoJ’s bag, but there is a trend).
The timing of the penalties consultation is rather nice, too, given that HMRC was publicly acknowledging that it needed to do better with penalties, just as it was considering a new penalty regime for NRCGT returns that would make pretty much the same mistakes as before, only more so.
Now, that was not all that was in HMRC’s summary findings in relation to penalties. HMRC also said it would consider:
- Not charging a penalty where no tax is due and where the circumstances for not charging are appropriate;
- Not charging a penalty where the period of lateness is very short;
- Not charging a penalty for the first default;
- Taking account of the customer’s compliance history across all of the taxes they are involved with;
- Increasing opportunities for and use of mitigation in recognition of the circumstances surrounding the default and HMRC’s desire to encourage future good compliance; and
- Using notifications to remind the customer that their return is due (before the due date is reached) and draw their attention to the default and its consequences for penalty purposes (after the due date has passed).
That was 2 years ago. To my knowledge, nothing has changed since.
Tax practitioners will also be aware that both (1) and (2) used to apply, so for example:
- There used to be no late filing penalty if your Self Assessment tax return was late – until the current penalty regime was introduced
- There was a concessionary 7-day grace period for filing Corporation Tax returns
But perhaps most fundamental of all is the continued refusal to apply mitigation to a range of the newer ‘flat rate’ penalties, as per (5), which is why Mr. and Mrs. Querist Taxpayer above were still left with £1,600 in penalties even after daily penalties had been removed. TMA 1970 s 102 gave HMRC broad powers to reduce penalties but apparently not insofar as the current regime’s flat-rate penalties are concerned. This would not be so bad, if the flat-rate penalties could not result in bills running to several thousands of pounds. But they can, and they do.
HMRC will struggle to automate and streamline a system that also provides adequate recourse to mitigation, which must surely involve some degree of human intervention.
HMRC’s UNreasonable Interpretation of Taxpayer’s “Reasonable Excuse” Defence
The standard defence to the imposition of a penalty under the current regime is that you had a reasonable excuse. Unfortunately, ignorance of the law is not generally accepted as a reasonable excuse. Even when the government changes laws that are decades old, and you live on the other side of the planet. I have written about HMRC’s rather narrow interpretation of reasonable excuse in the past – fire, flood, famine, plagues, alien abduction, warp in the very fabric of the space-time continuum, yadayadayada… Let's just say that HMRC sets the bar a bit high.
It is an interpretation that I think most practitioners disagree with, and also the courts. That was three years ago, and I don’t see that anything has tangibly changed. But, as I have said before, unrepresented taxpayers are unlikely to have the confidence to challenge HMRC if their appeal is refused, and many practitioners are likely to have an eye to the potential costs of protracted correspondence.
The NRCGT penalties serve to highlight how unfair and disproportionate the current late filing penalty regime can be. This MUST change, or it will further damage HMRCs’ reputation and undermine the very point of penalties, which is supposed to be to encourage compliance. HMRC has a duty to live up to its promises in the 2015 consultation, and we need to ensure that their all-pervading imperative to reduce costs does not prevent a reasonable approach to penalties in future. And when I say “reasonable”, I do not mean HMRC’s understanding of the word.
We have to thank Mr. and Mrs. Querist Taxpayer for their contribution, for their efforts and for their success in getting something useful out of a Freedom of Information request of HMRC, where so many have come unstuck.
I should also thank ETF for his or her efforts, for starting the ball rolling and for continuing to update the thread.
One final point made by Mrs. Querist Taxpayer:
“We have also asked HMRC under FoI to confirm how many of their Non-Resident customers follow HMRC on Twitter. “
Which is of course a ridiculous question, since HMRC could not possibly be expected to know how many taxpayers follow it on Twitter, let alone whether or not they are not resident in the UK for tax purposes.
But then, HMRC did try to underpin the defence of its NRCGT publicity efforts based on four “Tweets”. And actually, given the extent of the data HMRC now holds about taxpayers in its Connect database, I reckon its IT experts probably could give the request a reasonable stab, if they wanted to. So, maybe not that ridiculous after all.