Follower Notices: Corrado & Haworth

On 17 December 2014 HMRC sent an FN to Mr Corrado. The FN contained an incorrect calculation of the tax due. It stated that it was £191,803.60 but was actually £16,580.29. 

HMRC confirmed on 7 January 2015 that the FN was incorrect and that the correct amount of tax due was £16,580.29. Mr Corrado was liable to pay that sum by 21 March 2015 (the penalty deadline) which he did. 

Despite paying the tax due, HMRC issued a penalty of £57,541.08 on Mr Corrado. The penalty was due because Mr Corrado had failed to take corrective action. Mr Corrado appealed the penalty.Issues Under AppealThe Tribunal considered the following three issues on appeal:

1. Whether Mr Corrado had taken corrective actions;
2. If not, whether Mr Corrado’s actions were reasonable in all the circumstances; and
3. If not, whether the penalty should be upheld in the reduced amount, increased, or further reduced.

 
Given how the Tribunal ruled on the first two issues, it was unnecessary to consider the third issue.

Whether corrective action had been taken 
The difference between Accelerated Payment Notices (“APNs”) and FNs was considered:

1. The amount demanded by the APN is simply to deprive the taxpayer of the timing advantage of keeping the money pending resolution of the dispute. If the dispute continued, and the taxpayer was successful, any money paid under the APN on account of the tax would have to be repaid to him by HMRC.
2. An FN “requires the taxpayer to bring the dispute to an end on terms favourable to HMRC. It requires the taxpayer to accept that he or she was wrong to claim the tax relief/tax advantage concerned and to irrevocably give up the claim to it. Doing so would of course trigger the liability to the tax. This would be a payment of the tax liability and not an amount on account of the disputed tax liability.”

With that in mind the Tribunal went on to consider the steps taken by Mr Corrado. He:

1. Contacted HMRC regarding their December letter;
2. Reached an agreement that the FN contained incorrect information; and
3. Reached an agreement regarding the correct information that should have been included in the FN on the basis that Mr Corrado would not receive the benefit of the losses originally claimed in his return.

 The Tribunal determined that the steps taken did not amount to “corrective action” within the meaning of the statute. Whilst the correct amount of tax was paid, Mr Corrado had not communicated to HMRC that he had irrevocably given up his tax advantage through amending his SA return.
Whether reasonable in all the circumstancesUnder section 214 of the Finance Act 2014 (“FA 2014”), it is possible to appeal against a section 208 penalty on the following grounds:

1. Condition A, B, or D is not met.
2. The judicial ruling is not relevant to the chosen arrangement;
3. The notice was not given within the time limited; or
4. It was reasonable in all the circumstances for P not to have taken the necessary corrective action.

 The test for reasonable in all the circumstances is similar but different to the test for a “reasonable excuse” found elsewhere in legislation.

In looking at “all the circumstances” there is obviously a wide range of circumstances that can be taken into account. 

The Tribunal determined that the test is an objective test. The Tribunal judge followed the approach in Perrin v HMRC [2018] UKUT 156:

“[To] decide whether, viewed objectively, those proven facts do indeed amount to an objectively reasonable excuse for the default and the time when that objectively reasonable excuse ceased. In doing so, it should take into account the experience and other relevant attributes of the taxpayer and the situation in which the taxpayer found himself at the relevant time or times.”

In relation to the question of objective reasonableness, the court considered 5 distinct points and determined that Mr Corrado was reasonable:

1. It was reasonable for Mr Corrado to rely on his advisor. Blind reliance on an advisor would not be good enough. A person’s reliance must be reasonable. It was not necessary for Mr Corrado to seek advice from HMRC or other professionals. A reasonable person in Mr Corrado’s circumstances would not have viewed it as necessary to get a second opinion.
2. Mr Corrado engaged with the issue immediately.
3. It was reasonable for Mr Corrado to decide not to send back the FN form as it was incorrect.
4. Mr Corrado’s overall understanding of the FN was reasonable.
5. Mr Corrado’s actions were reasonable in the context of bringing his dispute with HMRC to settlement.  

IMPORTANT TAKEAWAYS
It is not enough to pay the tax due. It is important to make sure that the appropriate steps as defined in the legislation have been undertaken to avoid a penalty. Whilst it is not necessary to fill out the FN form, there must be some clear communication to HMRC that P is irrevocably giving up the tax advantage.
 

Reliance on an advisor will normally provide an excuse that is reasonable in all the circumstances for the penalties if there is a failure to correct. However, blind reliance will not be enough.

1. In 2000, Mr Haworth established a trust for the benefit of himself and his family which held shares.
2. The shares increased in value and he was advised that the gains arising on the disposal of the shares held by the trusts could avoid capital gains tax if the Jersey trustees resigned in favour of trustees resident in Mauritius.
3. The shares were disposed of as a result of a restructuring in July 2000. The Mauritian trustees then became the shareholders of the company. The shares were then sold.
4. In October 2000, the Mauritian trustees retired and UK trustees were appointed.

 
HMRC considered that Mr Haworth had used the “round the world” scheme. HMRC determined that that scheme was unsuccessful in Smallwood and the principles laid down or reasoning given in that case if applied to his case would prevent Mr Haworth from being able to assert the advantage.
 
HMRC issued a FN in the following terms (see paragraph 17):
“On 8 July 2010 the Court of Appeal gave a final ruling in the case of HM Revenue and Customs v Smallwood & Anor [2010] EWCA Civ 778, [2010] STC 2045 . The Court ruled that the scheme used in that case did not achieve the intended tax advantage of eliminating Capital Gains Tax on certain disposals.
The trust of which you are settlor used a similar scheme. In my view you have failed by use of the chosen arrangements to achieve the asserted tax advantage of eliminating the capital gains tax that you should pay in respect of the trust’s gains.
I consider that the judicial ruling is relevant to you as:
(i) it relates to tax arrangement, that is, to arrangements where the main purpose, or one of the main purposes, is to obtain a particular tax advantage;
(ii) it is a final ruling;
(iii) the principles laid down, or reasoning given, by the Court of Appeal as set out below apply to the tax arrangements used by you or on your behalf; in particular as follows:
1. In the Smallwood case the relevant Double Taxation Convention was that between the UK and Mauritius. The Court reasoned that the following factors indicated that the place of effective management of the relevant Trust for the purposes of Article 4(3) of the UK/Mauritius Double Taxation Convention was in the United Kingdom:
a. the scheme was devised in the United Kingdom on the advice of UK advisors;
b. the steps taken in the scheme were carefully orchestrated throughout from the United Kingdom;
c. it was integral to the scheme that the trust should be exported to Mauritius for a brief temporary period only and then be returned, within the fiscal year, to the United Kingdom;
d. in accordance with the scheme design, the trust was exported to Mauritius for a brief temporary period and duly returned to the United Kingdom within the fiscal year;
e. there was a scheme of management of this trust which went above and beyond the day-to-day management exercised by the trustees for the time being, and the control of it was located in the United Kingdom.
2. The Court of Appeal accordingly found the place of effective management of the trust to be in the UK and hence the trust to be resident in the UK.
3. Corresponding reasoning applies to the circumstances and implementation of the tax arrangements used by you or on your behalf.”
 
Issues under appealThere were two issues under appeal which were matters of interpretation:

1. The first relates to the words “principles laid down, or reasoning given”.
2. The second issue concerns the word “would” in “the principles lad down, or reasoning given, in the ruling would, if applied to the chosen arrangements deny the asserted advantage or part of that advantage”

“principles laid down, or reasoning given”

1. The Court of Appeal determined that “principles laid down” and “reasoning given” are separate and alternative concepts (see paragraph 34). In establishing whether this section applies both “principles” and “reasoning” are relevant. Therefore, HMRC are able to take into account not only the ratio of a case but also the other reasoning to be found in it.

“would”

1. The Court of Appeal determined that the word “would” (in section 205(3)(b) FA 2014) requires more than HMRC determining that the principle or reasoning in a ruling would be more likely than not to deny the advantage.

The reasons for this were (paragraph 36):

1. The word “would” implies that HMRC must be of the opinion that, should the point be tested, principles or reasoning found in the ruling in question will deny the advantage. As a matter of language, “would” requires more certainty than just a perception that there is a 51% chance of the advantage being denied.
2. Parliament did not specify either way in terms of interpretation.
3. HMRC’s construction would allow FNs to be given in a surprisingly wide range of cases. The Court of Appeal did not believe that FNs were to be applied in anything other than exceptional circumstances.
4. The consequences of FNs are quite extreme and so it seems Parliament would only intend them to apply in limited cases.
5. The receipt of an FN may deter a taxpayer from resort to the FTT which suggests that it calls for more than just a 51% chance of principles/ reasoning from an earlier case being held to apply.

Application to Mr Haworth’s case

The Court of Appeal found that HMRC had overstated the conclusions of Hughes LJ in the Smallwood case and so misdirected themselves.

HMRC had proceeded to issue the FN in circumstances where there was only a likelihood that a Tribunal would find similarly rather than that they actually would find similarly.

​As a result, the right course must be to allow Mr Haworth’s appeal and to quash both the FN he was given the APN that was based on it (paragraph 48).

FN Form (section 206 FA 2014)
Section 206 FA 2014 stipulates that an FN must, among other things, “identify the judicial ruling in respect of which Condition C in section 204 is met” and “explain why HMRC considers that the ruling meets the requirements of section 205(3) “.
 
It is clearly on HMRC to provide an adequate explanation in the FN.
 
The Court of Appeal agreed with the High Court that the FN form need not be lengthy. A concise explanation should be enough
 
That being said, the Court of Appeal did consider the FN to Mr Haworth was deficient. Whilst HMRC laid out the principles they thought applied, there was no further explanation as to why they applied to Mr Haworth’s circumstances. The FN to Mr Haworth did not state anything specific about how the real top-level management of the Mauritian trustees was believed to be in the UK.
 
Ultimately, the Court of Appeal did not determine that the failures to comply with section 206(3)(b) FA 2014 resulted in complete invalidity. There may be circumstances where the irregularity would result in invalidity; however, the Court of Appeal did not consider that this was the case here.
 
KEY TAKEAWAYS
Look closely at the case HMRC is seeking to apply in the FN and whether the principles and/or reasoning really would result in the client losing in tribunal.
 
Simply not complying with the requirements of section 206 FA 2014 will not invariably lead to the quashing of a notice. In advising clients as to whether or not the irregularity would be likely to lead to its being quashed, it is necessary to carefully read the wording used and whether any irregularity is important.
 
The Court of Appeal showed that the power to issue FNs is not necessarily as wide as HMRC would hope / want to believe it is (see comment of Gross LJ at paragraph 66 and 68):
“66 Secondly, given the draconian nature of these powers conferred on HMRC, it is right that they should be carefully circumscribed, not least – amongst other reasons – because of their impact on access to the courts and the rule of law: R (Unison) v Lord Chancellor [2017] UKSC 51; [2017] 3 WLR 409 , at [66] and following, per Lord Reed JSC (as he then was). The interpretation of ss. 204 and 205 of the FA 2014 set out by Newey LJ, serves to confine the exercise of these powers to their proper sphere and in accordance with their true statutory purpose.
 
68 Fourthly, as the test generally applied by HMRC when considering litigation is whether they are “likely to succeed”, it strikes me as implausible that Parliament intended mere likelihood of success to suffice for HMRC to form the opinion that a judicial ruling ” would, if applied to the chosen arrangements, deny the asserted advantage…” (FA 2014, s.205(3)(b) , italics added), so that follower and accelerated payment notices could properly be given. A test of likelihood of success would permit the invocation of these powers in a range of cases outside their statutory purpose. In this respect too, HMRC misdirected themselves; as Newey LJ has expressed it, “a substantial degree of confidence in the outcome” was instead required.”
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