What exactly is ‘deliberate’ behaviour?

It is a serious matter when HMRC suggests that a client made a deliberate error, as they carry a number of financial and practical consequences. Some recent cases, such as the Court of Appeal’s decision in HMRC v Tooth [2019] EWCA Civ 826 and the FTT’s decision in Leach v HMRC [2019] UKFTT 352 , may shed new light on when a deliberate error is deemed to occur and the identity of the person causing it.

Why is ‘deliberate’ behaviour concerning?

If a mistake occurs as a result of ‘deliberate’ behaviour, the consequences may include:

• a 20 year time limit for discovery assessments;
• higher tax-geared penalties, and the loss of the ability to suspend them;
• potential additional penalties if the tax issue is an offshore matter or offshore transfer, i.e. asset based (FA 2016 Sch 22) and/or offshore asset moves penalties (FA 2015 Sch 21);
• the taxpayer being placed in HMRC’s ‘managing serious defaulters’ regime; and
• the taxpayer’s details being published as a deliberate defaulter (FA 2009 s 94).

Restrictions on the taxpayer’s ability to work or obtain new customers may apply if they are found to be a deliberate defaulter; for example, due to actions taken by professional associations, registrations (e.g. Financial Conduct Authority) or the nature of their business (e.g. government procurement). This is in addition to potential reputational risks if the taxpayer’s inclusion on the deliberate defaulters’ list is widely publicised.

So what behaviour is deliberate?

HMRC is permitted to assess additional tax liabilities when it makes a valid discovery and the under-assessment arose as a consequence of deliberate behaviour by the taxpayer or someone acting on their behalf (TMA 1970 s 29; FA 1998 Sch 18 paras 41–43). In this situation, extended assessment time limits apply such that assessments must be issued within 20 years of the end of the tax year in question (TMA 1970 s 36(1A)) or the accounting period (FA 1998 Sch 18 para 46(2A)). FA 2007 Sch 24 enables HMRC to impose tax-geared penalties on taxpayers where a document is given to HMRC which contains an error leading to an under-assessment of tax, where the error was caused by the taxpayer’s deliberate behaviour (with or without concealment).

The legislation does not comprehensively define ‘deliberate’. However, TMA 1970 s 118(7) states that:

‘In this Act references to a loss of tax or a situation brought about deliberately by a person include a loss of tax or a situation that arises as a result of a deliberate inaccuracy in a document given to Her Majesty’s Revenue and Customs by or on behalf of that person’.

To date, tribunal decisions clarified the meaning of ‘deliberate’ behaviour as including:

• knowingly providing HMRC with a document containing an error whilst intending that HMRC should rely on it as accurate (Auxilium Project Management v HMRC [2016] UKFTT 249);
• consciously or intentionally choosing not to find out the correct position, particularly despite the taxpayer knowing that they should do so (Clynes v HMRC [2016] UKFTT 369); and
• making a statement that the person knows is untrue or in which they do not hold any real belief in its truth. For an omission, this would include knowing that the information needs to be included but omitting it anyway, or not really believing that it can be omitted (Farrow v HMRC [2019] UKFTT 200).

The difference between ‘deliberate’ and ‘careless’ behaviour may be narrow, as illustrated by Soleimani-Mafi v HMRC [2018] UKFTT 451 in which the FTT decided that if some consideration is given to the consequences of an action then it is deliberate, so ‘a person who says he has no information about what those consequences could be, cannot be said to be acting deliberately to bring about any particular consequence, although he may be acting foolishly’. Similarly, in Farrow , the tribunal considered that someone who made a false statement or omitted information could be deemed careless if they did not know about the mistake or failed to seek advice.

In Tooth , a taxpayer’s accountant sought advice on how to claim a loss arising from a tax avoidance arrangement on the taxpayer’s tax return as their software did not permit the entry advised by the promoter. At the software engineer’s suggestion, the entry was ultimately put on the partnership pages, albeit that a detailed explanation was inserted in the tax return’s additional information box (including a statement that HMRC’s interpretation of tax law may differ from theirs). The Court of Appeal considered whether this approach meant that the under-assessment arose as a consequence of deliberate behaviour by the taxpayer or someone acting on their behalf. The court’s views are obiter and so are not binding on other courts as it decided that the discovery assessment was invalid as it was stale.

By a majority, the Court of Appeal considered that the single box with the incorrect entry should be their sole focus, rather than considering the return as a whole (including the white space note), because s 118(7) refers to an inaccuracy in a return. Whilst the Court accepted the taxpayer and his agent did not intend to mislead, they knew the entry in the partnership pages was incorrect so s 118(7) deems this to be deliberate behaviour causing a loss of tax, thus satisfying s 29(4).

Section 118(7) was considered to be a deeming provision so, if there is a deliberate error in a document given to HMRC which causes an under-assessment, no further enquiry is needed about the taxpayer’s intention. Floyd LJ suggested that blameworthy conduct is not needed for the 20 year extended time limits to be used, as illustrated by the failure to notify condition. However, some may consider that if there is a failure to notify then this must be blameworthy of itself as, for the 20 year time limit to apply, there is, by definition, an absence of a reasonable excuse.

Overall, the non-binding view of the Court of Appeal in Tooth is that ‘deliberate’ behaviour includes an error in one part of a document, which the taxpayer and/or the person acting on their behalf knows to be incorrect despite not intending to mislead.

Does the context change the answer?

Whilst the Court of Appeal’s interpretation of ‘deliberate’ is obiter , will it affect discovery assessments and penalties? Might it only affect TMA 1970 s 29 and s 36 or will it be more widely influential?

In Leach , the FTT noted that VATA 1994 s 77(4B) contains similar wording to that in TMA 1970 s 118(7) and VAT returns are submitted electronically, as was the case for Mr Tooth’s return. Consequently, despite the Court of Appeal’s comments not being binding and there being no statutory construction principle of importing meaning between different Acts without specific legislative instructions to that effect, the FTT decided that the analysis in Tooth applies to s 77(4B). Extended time limits therefore apply to VAT ‘where a person knows that the return he is submitting contains an error, even where there is no intention to mislead’. The FTT inferred that Mr Leach knew he was using incorrect figures in his VAT returns, as he destroyed his records, so his behaviour was deliberate. There was no need to show that he intended HMRC to rely on his figures.

The word ‘deliberate’ is also an important feature of penalties. Leach considered penalties for errors and followed Auxilium Project Management ’s interpretation of ‘deliberate’. Mr Leach knew his VAT figures were incorrect such that he knowingly made excessive VAT reclaims (which reduced significantly after HMRC paid him a VAT visit) so the FTT decided that he intended HMRC to make those refunds. His behaviour for penalty purposes was therefore also ‘deliberate’.

FA 2007 Sch 24 penalises errors where there was no intention to mislead (i.e. careless errors) and has a ‘reasonable care’ defence overall, but there is no interpretation paragraph similar to that of s 118(7) or a ‘reasonable excuse’ provision. The FTT interpreted the explanatory notes to FA 2007 as using a ‘behaviour-based approach’, so that ‘deliberate’ behaviour does not include ‘purely mechanical errors where there is no intention to mislead’. Consequently, the FTT decided that the wider meaning of deliberate in Tooth does not apply to penalties for errors.

Who erred?

It is also important to ascertain whose error it is, in other words who brought about the under-assessment or excessive claim? The answer affects:

• whether the test in s 29(4) is met; and
• whether HMRC is able to charge a penalty or impose a personal liability notice.

Evidence is key, as is understanding the taxpayer’s knowledge and capabilities and not making assumptions:

• In Chauhan t/a One Stop Shop v HMRC [2019] UKFTT 61, HMRC considered there was a deliberate understatement of takings via the shop’s electronic tills. However, the FTT noted that their staff struggled to use the tills and relied on their accountant for the VAT calculations as they were complex. The FTT agreed that, on the balance of probabilities, the errors were the taxpayer’s, so the deliberate error penalty assessments were cancelled.
• In Farrow, after errors were found in a company’s CIS returns, HMRC charged deliberate error penalties before issuing a personal liability notice (FA 2007 Sch 24 para 19) to a director. The FTT confirmed that just being a director was insufficient to show that the error was attributable to that person. Whilst he had full control of the company’s strategic decisions and daily operations, this did not mean that he personally made every decision or knew everything that occurred. He relied on others, did not know the returns were incorrect and believed them to be correct, so the error was not attributable to him.

So, what next?

Overall, these decisions suggest that the meaning of ‘deliberate’ is now slightly different for discovery compared to penalties for errors. This may make advisers’ jobs somewhat more difficult in explaining the situation to clients who face discovery assessments or penalties until binding decisions clarify the position (if they do so).

When dealing with compliance checks and disclosures it remains essential to find out clearly what taxpayers and their agents and advisers knew and did (or omitted to do) when mistakes were made. The Upper Tribunal will hopefully clarify who is ‘acting on behalf of the taxpayer’ in the context of discovery following this autumn’s hearing of HMRC’s appeal against the decision in Hicks v HMRC [2018] UKFTT 22.

It is important to remember that the Special Commissioners, in AB v HMRC [2007] STC (SCD) 99, decided that a taxpayer is entitled to rely on advice if it’s not obviously wrong. Negligence or carelessness by an agent is not to be imputed to the taxpayer (as illustrated by Cannon v HMRC [2017] UKFTT 859). This is reinforced by:

• FA 2007 Sch 24 para 18, which confirms that no penalty is due for a careless error in a document caused by their agent’s actions or omissions, if a taxpayer took reasonable care to avoid inaccuracy;
• FA 2007 Sch 24 para 3, as only the taxpayer’s actions are relevant for deciding the behaviour for a para 1 error penalty; and
• FA 2007 Sch 24 para 1A, which penalises deliberate errors attributable to third parties in limited circumstances.

Consequently, taxpayers who take advice on how their returns should reflect a transaction or tax planning can still rely on that advice as long as their understanding is that the return is correct when it is submitted. Evidencing that understanding remains important.

Advisers struggling to get their computer software to put entries where the believe they should go may wish to follow up on Floyd LJ’s observation in Tooth and file a paper return instead. Whilst a small late filing penalty may be incurred (if the paper filing deadline’s expired), as long as there are no other consequences, like missing the window to amend a return or make a claim, this would side-step knowingly inserting an entry in the wrong box (at least until making tax digital mandates electronic filing).