UK: Tax Avoidance Schemes: The Balance Between Avoidance And Evasion

Last Updated: 6 November 2014
Article by Tessa Lorimer

Tax avoidance schemes have been plastered all over the press of late. Almost on a daily basis hither to much loved pop stars and television personalities have been ‘ousted’ for investing in a tax avoidance scheme. Taxpayers who have been used to having complete confidentiality regarding all things tax related are suddenly discovering that their tax planning is subject to public scrutiny in both the press and through social media. And of course it’s not only individuals which have come under the tax spotlight, high profile corporations have been castigated by the public accounts committee. HM Revenue & Customs (HMRC) estimates that approximately 43,000 taxpayers and 10,000 companies are currently in dispute with HMRC because of marketed tax avoidance schemes.

HMRC recognises that a number of high net worth individuals use marketed tax avoidance schemes; these are schemes which use contrived arrangements to seek tax advantages in circumstances where the legislation doesn’t intend that the advantages be available. Indeed, HMRC accepts that an individual or a company may properly take steps to achieve a legal tax advantage.

Historically, the avoidance of income tax by high net worth individuals has relied upon sideways loss relief schemes that seek to create trading losses which are incurred in accounting form but which HMRC thinks have no economic substance. The trading loss is used to offset the individual’s normal income and thereby reduce his or her liability to income tax.

Where a taxpayer seeks to take advantage of an avoidance scheme, the matter is generally dealt with by Special Investigations under Code of Practice 8 because there is a high tax loss, but fraud is not suspected, at least initially. However sometimes things are not always what they seem to be at first blush. What appears to be a properly set up offshore company engaged in commercial activity may on investigation be something quite different. The company may be a shell company, controlled in the UK and not from abroad. It may reveal on closer inspection, there is no commercial activity, invoices may be forged or inflated, and Value-Added Tax (VAT) numbers may be hijacked. If for the avoidance scheme to be successful it becomes necessary to conceal or misrepresent the transactions which have taken place to HMRC, what looks like a genuine tax avoidance scheme will have crossed the line and the promoters of the scheme will most likely be investigated by Criminal Investigations.

So where does this leave our high profile taxpayer? Obviously the trading losses will be reduced to zero and the tax loss will be denied but is that the end of it? In some schemes, the investor has to certify himself as being a sophisticated investor before he can invest in the scheme, and the protections available for investors as regards the promotion of securities by a person authorised under the Financial Services Act are thereby removed. The taxpayer may have also unwittingly exposed himself to a higher risk of prosecution because in signing a sophisticated investor certificate he has declared that he knows what he is doing as far as sophisticated investments are concerned. It then becomes much easier for HMRC to allege that the taxpayer knew that what they were doing was dishonest when putting the losses in their tax return.

HMRC believes that some widely sold avoidance schemes have been based on misleading HMRC, even where the scheme has been disclosed under Disclosure of Tax Avoidance Schemes (DOTAS). What’s more, historical cases which HMRC found difficult to investigate at the time because of the lack of transparency between countries and which were therefore dealt with on a civil basis, can now be reopened as a criminal investigation. Information which HMRC historically needed from offshore jurisdictions to be able to dismantle a fraudulent avoidance scheme, and which was almost impossible to obtain a few years ago, is now readily available since 44 jurisdictions have signed up to the global standard for automatic exchange of information. In the circumstances it is expected that there will be a lot of cases which historically would have been investigated under Code of Practice 8 will now be investigated under the civil investigation of fraud procedures or taken up for criminal investigation and prosecution.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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