When HMRC rely on a taxpayer's carelessness to issue assessments and penalties, they must show the taxpayer failed to take reasonable care, but conflicting decisions have created uncertainty about whether HMRC must also show that the carelessness caused the tax loss. In Mainpay Ltd, HMRC maintained they did not have to show a causal link between the carelessness and the tax loss. However, the Upper Tribunal found that, although HMRC do not need to prove what would have happened if proper care had been taken, they do need to show a connection between the carelessness and loss of tax.
Everyone makes mistakes, but when it comes to your tax position, a 'careless' mistake can have serious consequences. If HMRC can show that a loss of tax was 'brought about carelessly' they can use the extended sixyear time limit under TMA 1970 s 36 to issue a discovery assessment. A loss of tax will be 'brought about carelessly' by a person 'if that person fails to take reasonable care to avoid bringing about that situation' (TMA 1970 s 118(5)). Similarly, if an inaccuracy in a document given to HMRC is due to a failure to take reasonable care HMRC can issue a penalty under FA 2007 Sch 24.
'Carelessness' is, therefore, a key concept within UK tax legislation. It is well established that 'reasonable care' is assessed by reference to what a reasonable and prudent taxpayer would objectively have done in the circumstances, and that HMRC carry the burden of proof of establishing carelessness. However, conflicting Upper Tribunal (UT) decisions and different approaches taken by the First-tier Tribunal (FTT), have created uncertainty as to whether HMRC need to show, not just carelessness, but that the carelessness caused the loss of tax/inaccuracy. The recent UT case of Mainpay Ltd v HMRC [2024] UKUT 233 (TCC) provides further guidance.
The facts in Mainpay
Mainpay was an umbrella company which engaged temporary workers to supply services to an end-user through an employment agency. The issue was whether expenses that Mainpay reimbursed to the workers were deductible, and it was common ground that they would be if the contract between Mainpay and the workers was an 'overarching contract of employment'.
Mainpay argued it had acted reasonably because it took legal advice on the contract, 'having explained the context and the importance of obtaining a deduction for the relevant expenses.' However, the FTT noted that the lawyers were not tax specialists and did not have the complete background. Further, Mainpay had not consulted its separate tax adviser, Dr O'Brien. The FTT therefore found proper advice was not taken to ensure that the contract was an overarching contract of employment. On causation, the FTT held this failure to take reasonable care led directly to the loss of tax because 'there seems little doubt that [Dr O'Brien] would at the very least have alerted Mainpay to a potential problem.'
The appeal grounds
In the UT, Mainpay argued that the FTT had erred both in concluding that Mainpay was careless and that the carelessness brought about the loss of tax. On the first ground, the UT concluded that the FTT was entitled to find that Mainpay was careless. In response to Mainpay's objection that the FTT did not identify what Mainpay should have done differently, the UT found: 'It is obvious from the FTT's decision read as a whole that the failure to take reasonable care essentially arose from a failure by Mainpay to obtain advice from a qualified tax adviser as to whether the 2010 Contract reviewed by that adviser was an overarching contract of employment.'
The trickier issue was causation. On this, the parties' positions were starkly opposed. HMRC claimed a 'knockout' argument that they did not need to establish any causal link between the carelessness and the loss of tax. Mainpay, meanwhile, asserted that HMRC needed to show what would have happened in the absence of the careless behaviour – 'the counter-factual'. Mainpay also argued that the FTT's finding on what Dr O'Brien would have advised was 'pure speculation'. Predictably, the parties placed weight on different authorities. HMRC relied on the UT case of R Atherton v HMRC [2019] UKUT 41 (TCC) and Mainpay found support in the UT case of HMRC v Bella Figura Ltd [2020] UKUT 120 (TCC).
Atherton
Mr Atherton incorrectly claimed an employment loss in box 20 of his return, and did not provide explanation as to why he had done so. The UT found that no reasonable taxpayer would think box 20 could be used, and to do so without any explanation was careless.
Mr Atherton argued that the insufficiency in his tax return was attributable only to his numerical entry in box 20, and the lack of explanation of that entry had no causal effect: even if a full explanation had been provided, the insufficiency would still have arisen. The UT noted that there was force in Mr Atherton's argument, but concluded that the general law of causation does not apply as a result of the wording in s 118(5): 'For the purposes of this Act a loss of tax or a situation is brought about carelessly by a person if the person fails to take reasonable care to avoid bringing about that loss or situation'. Instead, the relevant question is whether the taxpayer had taken reasonable care to avoid bringing about an insufficiency: if not, the insufficiency was brought about by the carelessness of the taxpayer.
Bella Figura
The UT took a very different approach to causation in Bella Figura, which concerned a pension scheme that made a loan to a company. HMRC decided the loan was an 'unauthorised payment' for pension scheme purposes and a 'scheme chargeable payment', and assessed Bella Figura accordingly. The UT found that any carelessness in not taking express advice on whether the loan constituted an unauthorised payment or a scheme chargeable payment did not cause the loss of tax. This was because Bella Figura had instructed a pension administrators firm to draft the loan documents, and it was reasonable to infer that, if asked, the firm would have confirmed that the documents produced the desired result. In other words, it is necessary to consider what would have happened had the taxpayer sought advice: if it is reasonable to infer that the result would have been the same, HMRC will not have discharged their burden of showing the carelessness caused a loss of tax. In reaching its decision on causation, the UT did not consider Atherton or the relevance of s 118(5).
Mainpay should end any suggestion by HMRC that they can score a 'knockout' by identifying an area of carelessness
Subsequent FTT decisions
The FTT considered Atherton and Bella Figura in Strachan v HMRC [2023] UKFTT 617 (TC). HMRC relied on Atherton to argue that, once they had met their burden of proving that the taxpayer had been careless, the burden shifted, and it was for the taxpayer to prove that his carelessness had not caused the loss of tax. However, the FTT preferred the Bella Figura approach that the burden remains with HMRC. Therefore, although the FTT held that it was careless of Mr Strachan not to seek advice on his filing position, they determined that HMRC had not discharged their burden as they were unable to show that the loss would have been avoided if advice had been taken.
Similarly, in Magic Carpets (Commercial) Ltd v HMRC [2023] UKFTT 700 (TC) (which concerned penalties and time limits) the FTT concluded that the taxpayer had been careless in failing to take further advice, but that HMRC had not shown the necessary causal link. The FTT did not refer to Atherton or Bella Figura, but considered cases on the previous penalty legislation which emphasised the importance of demonstrating a causal link between the carelessness and the inaccuracy. The FTT found the position was even clearer under the new legislation where the inaccuracy had to be 'due to' a failure to take reasonable care, and that it applied equally to time limits, given the loss had to be 'brought about' by the carelessness. However, the wording in s 118(5) was not considered in the context of causation.
The FTT took a different approach when considering causation and the meaning of 'due to' in Delphi Derivatives Ltd v HMRC [2023] UKFTT 722 (TC) – a case involving an EBT scheme that was found to have risks when reviewed by the taxpayer's adviser. The FTT decided that although the phrase 'due to' 'arguably may have given rise to the notion of causation', it did not equate to a 'but for' test. On that basis, the FTT refused to make a finding of 'pure speculation' as to whether a second opinion would have prevented the loss of tax and it was sufficient for HMRC to show a failure by the taxpayer to address the risk in the scheme.
The Mainpay decision
The UT considered this case law and reached a conclusion that fell somewhere in the middle of HMRC's position and Mainpay's position.
The clear findings were: (1) there is a need for a connection between the carelessness and the loss of tax; (2) HMRC bears the burden of proof in showing that connection; (3) in discharging that burden, HMRC must show what the taxpayer 'should have done differently'; but (4) HMRC does not need to prove a particular counter-factual outcome.
On the first finding, the UT considered that, while it was possible to read Atherton as confirming that HMRC did not need to establish causation, the Atherton UT was simply emphasising that the common law test of causation did not apply. As for the second and third findings, the UT found that what HMRC must show 'depends entirely on the facts.'
The UT provided some guidance on the carelessness at issue, saying that HMRC needed to show that the deficiency in advice could have been avoided by the taxpayer. They noted, for example, that if no advice were taken on a material issue, then the carelessness could have been avoided by taking advice on that issue. The suggestion appears to be that HMRC needed to show it was possible to take advice on the issue, rather than showing such advice would have been different to the filing position taken by the taxpayer. If the former is right, then it is uncertain how the requirement for causation really differs from the existence of carelessness; what a taxpayer 'should have done differently' already forms part of the carelessness test.
The uncertainty may be resolved by the implicit acceptance that the advice would have been different, even if (given the fourth finding above) HMRC did not need to show exactly what course of action Mainpay would have followed if it had received proper advice. The UT must, therefore, have accepted that it was open to the FTT to determine what Dr O'Brien's advice would have been and that it was not 'pure speculation' as Mainpay argued.
Going forward
Mainpay should put an end to any suggestion by HMRC that they can score a 'knockout' by identifying an area of carelessness. HMRC will need to show a connection between the carelessness and the loss of tax, but how far they must go is likely to be very fact dependent.
Unfortunately, while the UT found that HMRC did not need to prove what would have happened had Mainpay taken proper steps in seeking advice, there was no discussion of the FTT's factual finding as to what such advice would be, which should logically have been the crux of the causation issue. As such, it was not entirely clear exactly what HMRC was required to prove and, more particularly, whether the UT considered HMRC had the burden of proving what the advice was likely to be.
It seems likely that this question will remain an area of dispute. As the cases demonstrate, this issue arises frequently, and it is likely to be a key question when the nature of any counter-factual advice is more speculative. If the FTT considers they should not speculate on the likely nature of the advice and the burden is on HMRC, then HMRC could well have difficulties in discharging their burden. However, if the burden is not on HMRC, then it effectively puts the onus on the taxpayer to provide evidence as to why taking advice would not have prevented the loss of tax. As it stands, therefore, taxpayers would be wise to give careful consideration as to how they can demonstrate that, even if they were careless, that carelessness caused no loss of tax.
Originally published by Tax Journal
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