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What to do if HMRC investigates your tax affairs

PUBLISHED: 11:45 17 April 2019

(c) Jirapong Manustrong / Getty Images

(c) Jirapong Manustrong / Getty Images

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Patrick Cooper at Paish Tooth shares his advice on what to do if you attract an investigation from HMRC

If you make a good effort to keep your tax affairs in order, and you comply with HMRC's strict deadlines, then you'd probably like to assume that you wouldn't ever attract an investigation from HMRC. Unfortunately though, many tax investigations are conducted totally at random and can be simply down to fate – HMRC doesn't need a reason to put you under the spotlight.

Closing the UK's tax gap

In recent years HMRC has cracked down on tax avoidance in an attempt to close the UK's tax gap. Investigations into mistakes and omissions made by taxpayers are a lucrative source of revenue for HMRC. Enquiries into individual self-assessment tax returns rose 15% in the last tax year, bringing in an extra £2.2bn for the Revenue.

There has also been a dramatic increase in errors deemed to be 'deliberate', which allows HMRC to charge taxpayers much higher penalties. HMRC accuses taxpayers of 'deliberate' behaviour when it thinks an error on a tax return was not an accident, or the taxpayer knew of an error and chose not to correct it.

Many businesses are also targeted by HMRC as it hunts for extra revenue. Small businesses may feel that they are only 'small fry', and therefore beneath HMRC's radar. However, current estimates are that as many as one in ten small businesses are under investigation by HMRC.

For businesses, tax investigations can be particularly damaging as they use up resources on external legal spend, and can lead to a loss in revenue if sales are reduced. There's also the risk of possible reputational damage to be aware of.

The different types of tax investigation

Tax investigations are usually referred to as either full or aspect investigations. A full investigation goes into a lot of detail – all your records are reviewed, potentially including your personal financial records if you're a business owner or director. It's a long process which can take up to 16 months to complete.

An aspect tax investigation will be opened if HMRC decides that something looks wrong on your tax return. The enquiry will usually just examine one area which has given cause for concern, and often as not it's down to a genuine error. However, even these smaller aspect investigations can take between three to six months to reach a conclusion.

In addition to these enquiries, HMRC carry out compliance visits to check on VAT, PAYE and CIS. These routine inspections take time and often HMRC collect extra tax where they have been able to identify errors in the basic compliance records of a business.

How you can avoid coming under the spotlight

You can't guarantee that you'll never become the subject of a tax investigation, but there are things you can do to help avoid one.

1. Make sure you always file your tax returns on time, and that you pay your tax bills on time

2. Use an accountant to make sure you're being 100% accurate – if you make a one-off mistake you're unlikely to attract attention, but if you regularly make errors (even unwittingly) this will begin to look suspicious.

3. Be sure to explain any major variations in your figures – such as profit margins that rise or fall significantly compared to the previous year.

4. Be aware if your business is in a sector that HMRC is targeting, or your business performance is vastly different to others in your industry, and explain this if necessary.

5. Make sure you're not running a cash-only business

Inheritance Tax investigations

HMRC has also increased its investigations into Inheritance Tax (IHT), as it looks to squeeze more from its compliance activities in this area. Research from the Land Registry has revealed that 24% of the total estates liable for IHT were investigated by HMRC over the last 12 months, equivalent of a one-in-four chance of being investigated.

If an investigation finds that IHT has been underpaid, the estate may have to pay all of the tax owed plus a penalty, which could be up to 100% of the tax at stake. Therefore, families need to be careful when valuing assets to ensure that they pay the correct amount of IHT. HMRC are likely to investigate three main areas when examining an IHT return:

• Whether the figures submitted correctly reflect the market value for assets

• Whether claims for business or agricultural reliefs are valid

• Whether assets have been omitted deliberately or due to a lack of reasonable care

Estates need to take special care when valuing residential properties as HMRC, in some cases, add additional value to properties due to the potential for refurbishment, development or attached land. This can lead to the miscalculation of an estates value which leaves taxpayers exposed to considerable penalties.

IHT investigations are not only costly and time consuming but also come at the worst time for many families.

How to deal with a tax investigation

If you do discover that HMRC wants to investigate your tax affairs, the important thing is not to panic. If you've been selected for a random investigation, it doesn't necessarily mean that HMRC thinks you've done something wrong. Make sure you don't ignore the enquiry, or 'file it' out of sight and out of mind. You'll need to respond by a set deadline (usually 30 days) and you'll need to provide all the information which HMRC requests. It's always best to speak to an accountant for advice in the first instance, because they can always deal with any correspondence on your behalf. Then if the outcome of the investigation is that you owe further taxes, your tax accountant can help to negotiate the additional penalties for you.

Remember that mistakes and omissions on returns can lead to more than just an immediate investigation – it can also lead to HMRC closely monitoring a taxpayer's affairs for years afterwards. After applying a penalty to a taxpayer, HMRC is allowed to track the same taxpayers for years to come, allowing for potentially even more revenue to be collected in the future. Tax investigations can be time consuming and stressful for both individuals and businesses and need to be avoided at all costs.

If you need help dealing with a tax investigation, or with getting your tax affairs in order, please get in touch with the Paish Tooth team and they'll be happy to help.

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