Disclosure, Information Notices And Discovery - June 2012

1. Introduction

This briefing note outlines the post April 2009 situation concerning discovery, information notices and discovery assessments in the light of the following tax cases:

i) Langham v Veltema

ii) Neil Pattullo

iii) Dr Michael Charlton and others v HMRC (TC01317) and

iv) HMRC v Lansdowne Partners Limited Partnership.

HMRC's statement of practice 01/06 on self assessment and finality is also reproduced in full.

2. Discovery

Under the discovery provisions of the Taxes Management Act 1970 s29, HMRC may make a discovery assessment where they become aware that:

• income or gains that ought to have been assessed have not been;
• an assessment is, or has become, insufficient; or
• a relief given is, or has become, excessive.

Similar provisions exist under s30B in respect of partnership statements.

If a tax return has been submitted, a discovery assessment can only be raised if one of the following two conditions is met:

• Condition 1 - the under-assessment or excessive relief is due to fraud or negligent conduct on the part of the taxpayer or someone acting on his behalf.
• Condition 2 - knowledge of the tax under-assessment has been obtained outside the normal enquiry period for a tax return, or the officer had already informed a taxpayer that he had completed his enquiries into a particular tax return and the officer could not have been reasonably expected, on the basis of information made available to him prior to that time, to have been aware of an under-assessment to tax or an excessive amount of relief.

The legislation states that a discovery assessment cannot be raised to make good an under-assessment or excessive relief having been granted, where that error or mistake arose as a result of the tax return having been made in accordance with generally prevailing practice at the time when it was made (TMA 1970 s29(2)/ s30B(3)). However HMRC may wish to argue whether a generally prevailing practice existed in any particular case.

3. Information notices

Prior to 1 April 2009, in certain instances where there was no open enquiry into a return, HMRC could call for information (from the taxpayer or a third party) that would be relevant to determining the amount of a tax liability, by issuing a notice under Taxes Management Act 1970 s20. They were also required to give the taxpayer reasonable opportunity to supply the information voluntarily prior to issuing the notice. Such a notice had to be authorised by a General or Special Commissioner or in certain cases by the Board of HMRC, and they could only be issued if there was a reasonable prospect of raising an assessment. A taxpayer was not obliged to comply with a voluntary request for information.

From 1 April 2009, procedures changed on information notices in cases where tax returns have been submitted within the required timescale, (the new provisions are found at FA2008 Sch36). Information notices, which in most cases no longer need authorisation by First Tier Tribunal, can be issued if one of four conditions is present. These are:

• a notice of enquiry has been issued and the enquiry is not completed;
• an HMRC officer has reason to suspect there is an under-assessment, or that a relief given is or has become excessive;
• a notice is given to check a person's VAT position; or
• a notice is given to check a person's deductions etc with respect to PAYE regulations.

There are penalties for non compliance with notices and these are an initial penalty of £300, followed by a daily penalty not exceeding £60 per day for continuing failure. Compliance with a notice is required within a reasonable timescale (usually specified in the notice). There is a right of appeal against a notice to provide information, unless the issue of the notice has received prior approval of the Tribunal. However, this appeal does not extend to any information or documents which form part of a taxpayer's statutory records. If an information notice is issued in relation to income tax, capital gains tax or corporation tax for a tax return that is outside the enquiry period, then HMRC must have reasonable grounds for believing there is an underassessment.

4. Disclosure

The important tax cases of Langham v Veltema and the Judicial review case of Neil Patullo (described below) considered what level of disclosure was required from the taxpayer in order to defend the second test laid down in Taxes Management Act 1970 s 29, namely "the officer could not reasonably have been expected, on the basis of information made available to him prior to that time, to have been aware of an under-assessment to tax or an excessive amount of relief." The decisions in those cases indicated that the level of disclosure needed to be detailed and extensive in order to draw an Inspector's attention to a potential insufficiency.

However the judgement in the 2011 case of Charlton and others v HMRC ([2011] UKFTT 467 (TC)) appears to rein back on some of the practical implications of the decision in the Veltema case. Bearing in mind that the Veltema decision has been heavily relied on by HMRC it has not unexpectedly appealed the decision. As at June 2012 the date set for a hearing by the Upper Tribunal is 15-17 October 2012.

This has been followed by the Court of Appeal decision in HMRC v Lansdowne Partners Limited Partnership ([2011] EWCA Civ 1578) where the point as to what an HMRC officer could reasonably expected to have been aware of, or inferred, at the time the enquiry window period expired was considered. The judgement in the later case highlighted that the correct test was whether the officer should have been aware of a possible deficiency based on the information made available and not whether he had sufficient information to enable him to reach a conclusion as to the amount of the possible deficiency. In view of the comments made in the Court of Appeal judgement on the test to be applied, it will be interesting to see how HMRC pursue the appeal to the Upper Tribunal in respect of the Charlton case. As mentioned below, the FTT found as a matter of fact that it was 'absolutely obvious from the information given in the white spaces of the returns, that the three Appellants had participated in artificial tax avoidance schemes to generate capital losses'. In the meantime the professional bodies continue to be in discussion with HMRC regarding the fact that HMRC's strict interpretation of the discovery legislation following the Veltema decision is at variance with reassurances about certainty given by Ministers at the time the self assessment legislation was drafted.

4.1. Langham v Veltema

www.bailii.org/ew/cases/EWCA/Civ/2004/193.html

A company had transferred a property to Mr Veltema for nil cost. The Company obtained a valuation of £100,000 from a firm of chartered surveyors and valuers. Mr Veltema used that valuation in the calculation of the assessable benefit in kind and the company subsequently used the same figure in its chargeable gains computation.

The Inspector of Taxes dealing with the company referred the valuation to the District Valuer who argued that a higher figure was appropriate. A value of £145,000 was subsequently agreed, by which time the enquiry window had closed in relation to Mr Veltema's personal return.

Mr Veltema argued that the Inspector was precluded from making a discovery assessment. Lord Justice Auld summarized the conditions set out in Taxes Management Act 1970 s 29 as follows: "It seems to me that the key to the scheme is that the Inspector is to be shut out from making a discovery assessment under the section only when the taxpayer or his representatives, in making an honest and accurate return or in responding to a section 9A enquiry, have clearly alerted him to the insufficiency of the assessment, not where the Inspector may have some other information, not normally part of his checks, that may put the sufficiency of the assessment in question." Following the Veltema decision HMRC issued Statement of Practice 01/06, see Appendix 1.

4.2. Judicial Review of the right to issue a s20 notice to Neil Pattullo - Scottish Court of Session

www.bailii.org/scot/cases/ScotCS/2009/2009CSOH137.html

In this case the taxpayer had provided a white space disclosure of aspects of a tax avoidance scheme he had used and the question was whether that disclosure was sufficient to defend the second test laid down in Taxes Management Act 1970 s 29, namely "the officer could not reasonably have been expected, on the basis of information made available to him prior to that time, to have been aware of an under-assessment to tax or an excessive amount of relief."

The taxpayer had used a marketed scheme to avoid a 2003/04 liability on £2.1m of capital gains which involved £2.6m of loans from a bank for contributions into a trust and subscription to capital redemption policies (a scheme known as SHIPS). He had disclosed in the white space the basic steps of the scheme and indicated that a capital loss of £2.6m arose as a consequence of TCGA92 s37(1). The 2003/04 tax return was submitted by 31 January 2005, with the enquiry period closing on 31 January 2006.

Counsel for the taxpayer pointed out that the tax return made reference to the particular section of the legislation said to give rise to the capital loss and he submitted that this would alert an officer to the taxpayer's thought process. He said that there was a full narration of the steps which had been taken and the facts of the transaction. In addition there was reference to the section relied upon by the taxpayer as giving rise to the capital loss. Thus he submitted that the white space contained a full and detailed disclosure of what had happened. It was his position that given this full disclosure a discovery assessment could not competently be made by an officer and therefore a discovery notice was ruled out.

Counsel for the taxpayer concluded that a discovery assessment should be an exception. In order to come within the exception it had to be shown that the information provided in the return was inadequate and that the officer having received new material had decided that there was an insufficiency in tax. It was his position that no new matter had been shown to have arisen in this case.

Counsel for HMRC submitted that the issue before the court was not whether HMRC are in a position to make a discovery assessment by reason of new or further information which had come to light since the closing of the assessment window. In his view the proper question was whether HMRC were prevented from making a discovery assessment by the taxpayer having made a proper disclosure in his tax return. It was his position that the only condition that foreclosed an investigation under Section 20 was if the taxpayer had given sufficiently frank disclosure to allow the Revenue to conclude that there was an insufficiency.

Counsel for HMRC argued that the taxpayer's return did not disclose that he had participated in a particular type of tax avoidance scheme. Nor did it disclose that the scheme may not be effective to avoid tax by giving rise to capital losses. The taxpayer did not disclose that there was anything in his self-assessment about which there was some doubt. It did not disclose that he took a different view of the legislation and its operation from that of the Revenue. In particular it did not state that the taxpayer's interpretation and application of Section 37 was different from that which the Revenue took and it did not disclose the interpretation of Section 37 which was being contended for by the taxpayer.

The judge agreed with the approach taken by Auld LJ in the Langham case:

"[94] In my view in approaching the construction of section 29(5) as he has done Auld LJ has arrived at a construction which is in line with the underlying purpose of the new scheme in that: the right is given to the taxpayer of early finality of assessment. However, that right is balanced by a corresponding duty incumbent upon the taxpayer namely: to clearly alert the officer to an insufficiency. It appears to me that if the section were read in any other way it would render the system of self assessment unworkable. In that without such a duty being incumbent upon the taxpayer the whole system would be open to the clearest abuse and would be likely to lead to material losses in tax to HMRC. It accordingly seems to me that he has correctly identified the key to the scheme.

[95] ...the test to be applied once the officer newly comes to the conclusion that there is an insufficiency in deciding whether a discovery assessment is competent is this: has the disclosure in the self assessment return clearly alerted the officer to the insufficiency?

[102] In my opinion the test has to be a two stage one to fit in with the underlying purpose of the scheme. The officer has to discover something new otherwise the underlying purpose of early finality of assessment would be defeated. His assertion of the newly discovered insufficiency is then tested against the adequacy of the disclosure by the taxpayer. It is only if the taxpayer has made a return which has clearly alerted the officer to the insufficiency that it will be considered adequate and will shut out a section 29 discovery assessment.

[104] On a proper understanding a discovery assessment can only be foreclosed if the taxpayer has clearly alerted in his return the officer to the insufficiency of tax which the officer has asserted he has newly discovered, thus rendering it not a new discovery but rather something on the information provided by the taxpayer the officer should have been aware of during the enquiry window. In my judgement on a proper construction the section clearly places the emphasis on the adequacy of the disclosure by the taxpayer. That fits in with the underlying purpose of the scheme. Thus the taxpayer is given the right of early finality. However, there is a corresponding duty on the taxpayer to clearly alert the officer to the insufficiency. If he does not the officer can newly discover an insufficiency.

[109] I am not satisfied that the information contained in the white space should have clearly alerted an inspector with the knowledge and skill as I have defined it to an insufficiency in tax.

The question for the court becomes: is there a clear alerting of an officer within the white space, that officer being one of ordinary knowledge and skill of the participation by Mr Pattullo in such a scheme of tax avoidance and of an insufficiency in tax arising therefrom?

The answer to the above question is that I have not been satisfied by Mr Johnston's submissions that there was such a clear alerting within the white space. As is pointed out in his affidavit by Dr Branigan the white space does not contain the following:

a) A statement that Mr Pattullo was a participant in the CRC Mark II tax avoidance scheme. Dr Branigan at paragraph 26 makes clear that had there been such a statement this would have guaranteed that an enquiry would have been opened and that Mr Pattullo's tax advisers would have been aware of this.

b) A statement that the petitioner and his advisers had adopted a different view of the law from that published as HMRC's namely: they had taken a view in respect of the tax treatment of Capital Redemption Contracts which is the opposite of that taken by HMRC Capital Gains Tax Manual at CG69004 dated 2 September 2003 (production 7/3) is not contained within the white space. The petitioner's tax return was not filed until 31 January 2005. The necessity to make such a declaration in order to comply with the duty to clearly alert has been held to exist in HMRC Commissioner v Household Estate Agents Limited page 712, paragraph 10 where it was held as follows:

"Taxpayers who adopt a different view of the law from that published as HMRC's can protect against a discovery assessment after the enquiry period. The return and accounts would have to indicate that a different view had been adopted by entering comments to the effect that they did not follow HMRC guidance on the issue or that no adjustment had been made to take account of it."

c) There is no explanation as to how Mr Pattullo contends that Section 37 operates in order to produce the capital loss.

d) The details other than the basics of the transactions which have been entered into are not contained within the white space.

e) There is no indication of any doubt in the disclosure that the petitioner is entitled to the loss. I accept Mr Johnston's position that the taxpayer does not require in order to clearly alert to say there is an insufficiency as of course that is not his position. However, in circumstances such as this a reference to doubt or as I have said to the fact that it is, a position contrary to HMRC's would be necessary to comply with the duty incumbent upon him.

In the absence of information of the type as above described an inspector of the skill and knowledge as I have earlier defined it could not in my judgment have been aware of actual insufficiency.

[115] I do not believe for the foregoing reasons that Mr Johnston's position that the full factual and legal position is set forth in the white space is correct. The full factual position would have included a statement that the petitioner was part of such a scheme and a full statement of the legal position would have included a statement of doubt or a statement that a contrary position to the HMRC was being insisted upon together with a clearer picture of the operation of the scheme. I believe it is a fair conclusion to hold that the disclosure in the white space is a carefully crafted disclosure seeking to pass through the initial checks carried out by HMRC but in no way meeting the test of clearly alerting to an actual insufficiency."

4.3. Dr Michael Charlton and Others v HMRC (TC01317)

www.bailii.org/uk/cases/UKFTT/TC/2011/TC01317.html

In this case a number of clients of a firm of accountants had participated in a tax avoidance scheme. It appeared that all individuals had made detailed disclosures in their tax returns about the scheme and had shown the DOTAS scheme reference number. In the majority of cases HMRC commenced enquiry proceedings before the deadline. However in three cases, including Mr Charlton, they failed to do so.

On discovering the oversight later HMRC sought to raise discovery assessments on the grounds that whilst the returns included factual details of the scheme they did not flag up that there was an actual insufficiency in the return which was what the judge in the Veltema case had said was necessary to prevent a discovery assessment.

The judges found that the necessary requirements that would enable HMRC to raise a valid discovery assessment were not satisfied saying (in the following selected paragraphs from the decision):

"108. In Veltema the return gave no indication of what asset had been transferred, what it was worth and whether it might have been worth more than £100,000. Whilst there are a number of references in Lord Justice Auld's judgment to the requirement that the return must disclose that there was an actual insufficiency disclosed by the return, it was abundantly clear that all these references referred to the fact that it was the inadequate information that occasioned the doubt as to whether there was in fact an under-assessment. The whole feature that the case revolved around the interpretation of sub-section 29(6) and the feature that that subsection refers only to the factual information deemed to be available to the notional officer in considering the sub-section 29(5) test makes this absolutely plain.

114. Taking the facts of Veltema, where an employment benefit had been declared at £100,000, it must be self-evident that if the return had in fact also indicated (something that on the actual facts had not been identified until later) that the relevant house had been treated as disposed of by the company for Corporation Tax purposes for £145,000, and that the director had paid nothing for the house, it would have become instantly obvious that the self-assessment return by the individual revealed an under-assessment. If these facts had been revealed, but no statement had been inserted into the return to draw attention to the fact that the declared employee benefit might have been, or was bound to be, under-stated, we cannot think that in so obvious a case, the absence of those further disclosures would have been of the slightest significance.

115. At the other end of the spectrum, there may very well be cases where to derive the protection of subsection 29(5) the taxpayer would need to refer to the basis on which he had made his self-assessment, and it might indeed be necessary to go further and disclose that, whether or not HMRC's approach to the law was known, other views were also tenable. The situation that we have in mind here is that where there are complex issues of tax law involved, having nothing whatever to do with outright and obvious avoidance, and thus notably where the average HMRC officer, or indeed even the "distinctly above average" officer might have no idea that some features of the return might justify adjustments. In his own interests, if the taxpayer in that sort of situation wishes to achieve "finality" it might very well be prudent, and indeed necessary, to flag areas that any officer might very easily miss, without any discredit.

118. We first observe that the reason why an enquiry was not opened in relation to the tax returns of the three Appellants was not because any Inspector looked at the returns and missed points, but was due to administrative slip-ups, such that no-one of the appropriate seniority would have even looked at the three returns. HMRC admitted that there had been such slip-ups.

119. Anticipating the findings of fact that we are going to reach, we are going to conclude that:

• it was absolutely obvious from the information given in the white spaces of the returns, that the three Appellants had participated in artificial tax avoidance schemes to generate capital losses; and
• the disclosure of the SRN reference number for the scheme, and the fact that the scheme had been implemented in the then current tax year, not only reinforced the point that the transactions were effected as part of a marketed tax avoidance scheme, but they also indicated that full disclosure would have been made to HMRC specialists of the workings of the scheme. From this information, it would have been obvious to any officer that those officers receiving the DOTAS disclosures in the AAG1 would have considered the scheme with those in HMRC responsible for the specialist areas in question, and a view would already have been reached as to whether (i) the scheme might be challenged successfully under existing law; or (ii) whether a change in legislation was required, or (iii) whether the planning was considered reasonably acceptable such that neither (i) nor (ii) was appropriate.

120. We have already suggested, in paragraph 115 above, that where the notional officer, or even the distinctly above average officer, might well not have been expected to perceive doubtful matters of tax law in relation to the type of situation canvassed in that paragraph, it would not be appropriate to expect the officer to question the return unless doubt was expressly drawn to the officer's attention in the return. Absent such a "flag" in the return, the officer could also not be assumed to have sought guidance from others into a matter that anyone could have missed. The fact that remote specialists within HMRC might have readily appreciated that the legal basis, on which the self-assessments had been submitted, were challengeable would be completely irrelevant. Thus in that situation, sub-section 29(5) protection might only be secured if the points were aired or flagged in some way by the return.

121. Where, however, as in this case, no officer could conceivably have missed the points made by the bullet points in paragraph 119 above, it is inevitably the case that the officer would either have considered the law himself or, more appropriately still in the light of seeing the SRN reference number, he would have sought guidance from specialist colleagues, who he would have known would have considered the scheme in depth. And he would consider their views before deciding whether or not assessments were justified.

122. We consider that the ban on raising further enquiries about the facts, implicit in the Court of Appeal's decision in Veltema, and indeed in sub-section 29(6), has no bearing on how we should expect the notional officer to approach his proper task of then considering the information and deciding whether or not he should raise assessments. And if it is glaringly obvious either that the relevant officer should consider the law, and possibly refer to published material or, where an SRN number is disclosed, simply send an e-mail or make a phone call to colleagues and ask for guidance, this is precisely how we should treat the notional officer as proceeding.

123. This approach does not fall into the error of attributing to the "notional average officer" the views and knowledge of specialists as such. It only has this effect in those cases where any officer would inevitably seek guidance, and indeed knows precisely where to seek that guidance. It simply deems the notional average officer to approach matters realistically, as HMRC would inevitably expect him to operate, and it avoids the absurdity of consigning the officer to his dark room, without legislation, books or other information, and with no opportunity to seek guidance from colleagues.

124. The above approach would have no bearing on the simple case where we would postulate the notional average officer taking his own decision on whether to assess. It simply suggests that one just considers what the notional officer should and would have done in the relevant circumstances. It thus deals perfectly sensibly with the very simple cases, the distinct type of situation referred to in paragraph 115 above, and the manifestly obvious tax avoidance scheme that has already been disclosed to, and reviewed by, HMRC in this case. It deals with each in the appropriate way, and it avoids the consequence of HMRC's contention and acceptance that the test is crafted essentially for the simple scheme, and thus regrettably fails to work sensibly in a case such as the present case.

125. We are considering the proper application of subsection 29(5) in this case, and the issue of whether the test creates the right balance of fairness between HMRC and the taxpayer is entirely secondary. If we were to adopt the contentions and conclusions advanced in this case by HMRC, we cannot resist observing that a quite extraordinary imbalance would have been achieved between the taxpayer and HMRC. In this case the taxpayer has disclosed, with perfect accuracy, the essential features of the scheme, such that we understood immediately precisely what was involved. The notional officer might have been slightly slower in reaching such a conclusion, but could not have doubted that a very artificial scheme had been implemented. Equally clearly that scheme had been disclosed to HMRC under the DOTAS rules."

4.4. HMRC v Lansdowne Partners Limited Partnership

www.bailii.org/ew/cases/EWCA/Civ/2011/1578.html

This case considered whether rebates of fees to individual partners of Lansdowne Partners Limited Partnership (LPLP) were deductible in computing profits of the partnership, and whether HMRC had raised a discovery assessment within the required time limits.

LPLP is a fund manager managing investments in open ended investment companies (OEICs). Lansdowne Partners International Ltd was appointed as investment manager of the OEICs, but subcontracted management to LPLP. As envisaged in the investment prospectus (though this was not a guaranteed term of investment), LPLP rebated its share of investment management fee income to individual partners based on their investment in the funds under management. When the partnership submitted its partnership statement for the year 2004/05 these rebates were treated as deductible expenditure in computing its taxable profit. On 27 August 2008 HMRC notified the partnership that it had amended the partnership statement for the tax year 2004/05 by adding back an estimate of the payments made to partners when arriving at the partnership profit. The partnership appealed against the amended assessment. HMRC appealed against the General Commissioner's decision that the rebates were tax deductible and that HMRC was out of time in making the assessment.

The High Court (Mr Justice Lewison) determined that as the rebate was not a contractual term of investment, there was a duality of purpose to the rebate (while LPLP was due investment management fees for services supplied to the funds, it made rebates at its discretion to the partners), so they were not wholly and exclusively incurred for the purpose of the trade.

However in relation to discovery, the High Court upheld the General Commissioners' decision. Justice Lewison commented in respect of the Langham v Veltema case that:

• "awareness" is the officer's awareness of an actual insufficiency in the self-assessment in question, rather than an awareness that he should do something to check whether there is an insufficiency;
• the test whether an officer could reasonably have been expected to be aware of an actual insufficiency is an objective test;
• the sources of information referred to in section 29 (6) TMA1970 are the only sources of information to be taken into account in deciding whether an officer ought reasonably to have been aware of the actual insufficiency;
• the information in question must clearly alert the officer to the insufficiency of the assessment.

In relation to this case he commented that the actual insufficiency was an insufficiency in respect of a particular period. In his judgment, that information provided by or on behalf of the representative partner must clearly alert HMRC to an insufficiency in the partnership return for a particular period.

In relation to the source of information, he commented that the statute requires that the representative partner should notify HMRC in writing of both the existence of the information and also its relevance to the "situation mentioned in subsection (1)". In other words the information must clearly alert HMRC to the relevance of the information to the insufficiency in the year in question. However, he did not consider that the statute requires that the existence of the information and its relevance must be contained in the same written communication. He thought it would be sufficient if one communication notified the officer of the existence of the information and another notified the officer of its relevance.

On that basis he agreed with the General Commissioners that on 31 January 2007, on the basis of the information notified to HMRC in writing by or on behalf of the representative partner before 31 January 2007, HMRC should have been aware of an insufficiency in the partnership return for the year of assessment 2004/2005.

In this particular case there had been a meeting in February 2006 and correspondence in March 2006 between the representative partner and an HMRC employment compliance officer where the rebates had been mentioned and the officer asked for the partners' personal tax office details. Justice Lewison considered that the General Commissioners were entitled to place weight on the fact that the HMRC officer had written with reference to the rebates and that he would pass the information on to the officers dealing with the partners and that it would be for those officers to raise further enquiries if they wished to.

He therefore concluded that since the discovery assessment was out of time, even though the rebated fees were incorrectly treated as a deduction, HMRC's appeal must be dismissed.

HMRC appealed the out of time point and Lansdowne cross-appealed on whether the rebated fees should be taxable, and if they were whether the payment to the partners should be deductible.

The Court of Appeal (CA) has now heard the appeals and given its judgement. Lord Justice Moses summarised the questions for decision as follows:

i) whether the sums, described as 'rebates', were correctly excluded from LPLP's statement of income or profits?

ii) if not, whether they were deductible from those profits?

iii) if not, whether the Revenue was entitled to amend LPLP's partnership tax return?

The view of the CA was that "There can be no warrant for treating LPLP as a legal entity separate from its partners". The rebates to the partners were not applied wholly and exclusively for the purposes of the partnership's trade and should not have been deducted from the partnership profits.

That left the third question to be decided.

The success of the HMRC's appeal as to whether the discovery assessment in May 2008 was out of time rested on whether, in January 2007, a hypothetical inspector having before him the partnership return and statement, the letter from the representative partner to the inspector dated 30 March 2006 and the note of the meeting held on 22 February 2006 would have been aware of "an actual insufficiency" in the declared profit.

The CA answered that in the affirmative taking account of the following:

• the income of LPLP consisted of management and performance fees;
• there had been deducted from that income what was described as 'rebates';
• 'rebates' had been paid to limited partners;
• Mackinlay v Arthur Young McLelland Moores [1990] 2 AC 239 had established that all payments to partners should be included in gross income and were not, generally, deductible for tax purposes;
• there was no indication on the face of the accounts or in the letter to suggest any special treatment of 'rebates' paid to limited partners either by omission from the gross income or in their deduction therefrom.

The point was that the hypothetical inspector is not required to resolve points of law, nor need he forecast and discount what the response of the taxpayer may be. It is enough that the information made available to him justifies the amendment to the tax return he then seeks to make. Any disputes of fact or law can then be resolved by the usual processes.

HMRC had contended that mere awareness of the fact that rebates had been deducted is not the same as awareness that the amount of profits stated were insufficient. Lord Justice Moses objected to that argument on the basis that the letter to the employment compliance officer containing information, on the basis of which an officer ought to have been aware that the rebates had been excluded or deducted from the profits, arrived more than 10 months before the expiry of the time limited for opening an enquiry. That was more than sufficient time to obtain further information as to the taxpayers' justification for exclusion or deduction and to form a legal view as to the lawfulness of exclusion or deduction.

Lord Justice Moses expressed "polite disapproval" of the way the legislation was interpreted in the cases of Corbally-Staunton and Patullo:

"I also wish to express polite disapproval of any judicial paraphrase of the wording of the condition at Section 30B(6) or Section 29(5). I think there is a danger in substituting wording appropriate to standards of proof for the statutory condition. The statutory condition turns on the situation of which the officer could reasonably have been expected to be aware. Awareness is a matter of perception and of understanding, not of conclusion. I wish, therefore, to express doubt as to the approach of the Special Commissioner in Corbally- Stourton v Revenue and Customs Comrs [2008] STC (SCD) 907 and of the Outer House in R (on the application of Patullo) v Revenue and Customs Commissioners [2010] STC 107, namely, that to be aware of a situation is the same as concluding that it is more probable than not. The statutory context of the condition is the grant of a power to raise an assessment. In that context, the question is whether the taxpayer has provided sufficient information to an officer, with such understanding as he might reasonably be expected to have, to justify the exercise of the power to raise the assessment to make good the insufficiency".

5. Conclusions

All four cases referred to above indicate that the quality, form and level of disclosure is crucial in achieving certainty once the self-assessment deadline has passed. HMRC can be expected to take a robust view of whether a disclosure is sufficient to comply with the provisions of Section 29 or 30B. All four cases make it quite clear that merely alluding to a transaction will give no protection against later discovery.

In order for a white space disclosure to afford any chance of protection from a subsequent discovery assessment being raised in relation to a tax return that is outside the enquiry period, the disclosure will need to be sufficiently complete and comprehensive. It needs to enable a reasonable inspector to be able to understand what is being claimed or outline the basis under which an entry was made so that the inspector, with such understanding as he might reasonably be expected to have, could be aware of a possible insufficiency.

In a case where the tax position is not clear cut it will be necessary to provide the full facts, explain why the matter is not clear and put forward a detailed argument that supports the figures shown in the tax return. Where a return is being made on a basis that is contrary to the view held by HMRC, that position needs to be clearly stated so that a reasonable inspector would be alerted that, on the basis of the HMRC held view, there would be an insufficiency.

Where meetings are held with HMRC to discuss particular aspects of a return, it will be appropriate to obtain written confirmation of points raised and discussed at those meetings if those points are later to be relied on as evidence that the taxpayer had made HMRC aware of the relevant facts and circumstances before the enquiry window closed.

Statement of Practice 01/06 states that if a taxpayer includes a note in the tax return that they have taken a different view from HMRC and that no adjustment has been made, then provided the point is clearly identified and the position taken is not wholly unreasonable, HMRC accept that there can be no discovery, even though all the documents to quantify any shortfall in tax had not been submitted with the tax return.

6. APPENDIX

6.1. SP 01/06 - Self Assessment: Finality and Discovery

6.1.1. Overview

Self Assessment tax returns are usually issued to taxpayers in April, shortly after the end of the tax year. The Return has to be completed and sent in by the following 31 January. The Revenue can open an enquiry into that return within twelve months of 31 January to check that the self assessment returns the right amount of tax. If it is incorrect the self assessment can be corrected.

There are some circumstances in which the tax inspector can assess further tax after the twelve month enquiry period. This usually happens when tax was under-assessed because of fraud or negligence by the taxpayer but it can also happen if the taxpayer does not provide enough information for the inspector to realise, within the enquiry period, that the self assessment is insufficient.

The judgement of the Court of Appeal the case of Langham v Veltema was concerned with how much information the taxpayer needs to provide to remove the possibility of the inspector making a further assessment, known as a discovery assessment.

This Statement of Practice clarifies the circumstances in which HMRC seeks to recover tax when a self assessment is found to be insufficient either: after the end of the period in which a notice of enquiry may be given, or after an enquiry into a return has been completed, and it is considered that the information provided by the taxpayer was not sufficient to make the Inspector aware of the insufficiency. The following examples illustrate what information taxpayers must disclose to guard against the possibility of a subsequent discovery assessment:

Most taxpayers who use a valuation in completing their tax return and state in the Additional Information space at the end of the Return that a valuation has been used, by whom it has been carried out, and that it was carried out by a named independent and suitably qualified valuer if that was the case, on the appropriate basis, will be able, for all practical purposes, to rely on protection from a later discovery assessment, provided those statements are true.

Most taxpayers will be able to gain finality with exceptional items in accounts. An example might be a deduction in the accounts under Repairs. If an entry in the Additional Information space points out that a programme of work has been carried out that included repairs, improvements and new building work and that the total cost has been allocated to revenue and capital on a particular basis, the inspector should not enquire after the closure of the enquiry period unless he becomes aware that the statement was patently untrue or unreasonable.

Taxpayers who adopt a different view of the law from that published as the Revenue's view can protect against a discovery assessment after the enquiry period. The Return would have to indicate that a different view had been adopted by entering in the Additional Information space comments to the effect that they have not followed Revenue guidance on the issue or that no adjustment has been made to take account of it. This Statement does not cover cases where a self assessment is insufficient due to fraudulent or negligent conduct by or on behalf of the taxpayer.

This Statement applies to the two main areas of self assessment:

• Income Tax and Capital Gains Tax ("IT").
• Corporation Tax ("CT").

This statement of practice applies to the following for the years specified:

• Individuals - for returns from 1996/97.
• Partnerships - for returns from 1996/97.
• For bodies within the charge to Corporation Tax - accounting periods ending on or after 1 July 1999.

6.1.2. Background

1. Prior to the introduction of self assessment, discovery assessments were subject to statute, case law and practice. Cases of particular relevance were Cenlon Finance Co Ltd v Ellwood (40 TC 176) and Scorer v Olin Energy Systems Ltd (58 TC 592). Statement of: Practice 8/91 explained how the provisions were applied.

2. When IT self assessment ("ITSA") was introduced by FA 1994, new S29 TMA 1970 was intended to reproduce the mix of law and practice on discovery set out in SP 8/91. The Self Assessment Legal Framework issued in 1995 explained that the redrafting of S29 TMA 1970 was to ensure "that a taxpayer who has made a full disclosure in the return has absolute finality twelve months after the filing date. This will be the case if the return is subsequently found to be incorrect, unless it was incorrect because of fraudulent or negligent conduct. In any case where there was incomplete disclosure or fraudulent or negligent conduct the Revenue will still have the power to remedy any loss of tax".

The intention was to offer finality, but there was also a recognition that there would be circumstances, even without fraud or neglect, that could still result in a discovery assessment. The equivalent legislation for CT self assessment ("CTSA") is at Paras 41 to 49 Sch 18 FA 1998.

3. The Court of Appeal in the case of Langham v Veltema, [2004] STC 544, considered when disclosure was incomplete. It concluded that information made available, as defined in statute, must make an Inspector aware of an actual insufficiency in the assessment for that information to be complete enough to prevent the making of a discovery assessment.

That conclusion gave rise to two concerns:

• the lack of finality for the taxpayer at the close of the enquiry window; and
• the inherent difficulty of complying with the law as expounded in the Court of Appeal.

4. Guidance was issued in December 2004 to help ITSA taxpayers achieve finality when completing their 2004 returns. This Statement of Practice confirms the position in respect of ITSA and extends it to CTSA. The circumstances in which HMRC will regard a taxpayer as having made a full disclosure are set out and assurance of finality is given in particular situations.

6.1.3. Discovery Powers

5. The authority to make a discovery assessment is given by S29 TMA 1970 (ITSA), Para 41 Sch 19 FA 1998 (CTSA). In all cases, the relevant requirement for the purposes of this Statement is a discovery "that an assessment to tax is or has become insufficient". Mere suspicion that an assessment may be insufficient is not adequate grounds for making a discovery assessment.

6. Where there has not been fraudulent or negligent conduct, discovery can only take place where HMRC "could not have been reasonably expected, on the basis of information made available before that time, to be aware of" the insufficiency in the assessment [S29 (5) TMA 1970; Para 44(1) Sch 18 FA 1998].

7. 'Information made available' is defined at S29 (6) TMA 1970 (ITSA), Para 44(2) Sch 18 FA 1998 (CTSA). Relevant information includes that contained in documents accompanying the return.

8. The requirement that HMRC must discover that an assessment is insufficient restricts the opportunity for using discovery powers to make an assessment. If HMRC considers that an assessment may be insufficient, it may seek more information using S20 TMA 1970 to establish whether the assessment is insufficient. However, where there is no reason to suspect fraud, the taxpayer will be told about the use of Section 20 and will have the opportunity to make representations to an independent Commissioner. The ability of HMRC to "enquire" after the closure of the enquiry window is therefore subject to external oversight.

6.1.4. Discovery in Practice

9. A taxpayer can further restrict the opportunity for discovery by providing enough information for an HMRC officer to realise within the enquiry period that the self assessment is insufficient. However taxpayers are encouraged to submit the minimum necessary to make disclosure of an insufficiency. The Veltema judgement does not require the provision of enough information to quantify the effect on the assessment. Information will not be treated as being made available where the total amount supplied is so extensive that an officer 'could not have been reasonably expected to be aware' of the significance of particular information and the officer's attention has not been drawn to it by the taxpayer or taxpayer's representative.

10. HMRC recognises that a taxpayer, unless acting fraudulently or negligently, will consider his return to be correct and complete with no insufficiency. Most figures entered on a return will be absolute, however some will be open to interpretation or uncertain. In these circumstances, the taxpayer will have made a judgement as to the correct figure to enter. HMRC may regard this figure as insufficient. Where the taxpayer has fully alerted HMRC to the full circumstances of such an entry on the return, then the HMRC officer is in a position to determine whether or not there is an insufficiency, the conditions set by the Court of Appeal in Langham v Veltema have been met and the assessment will not be open to discovery on that point.

6.2. The following examples illustrate common situations.

6.2.1. Examples of Common Situations

6.2.1.1 Valuation Cases

11. Some entries on tax returns depend on the valuation of an asset. For example, if a company transfers a property to a director at less than market value, both the company and the director will need to use the market value in calculating the capital gain and benefit respectively. There is no obligation on the director to do any more than enter the resulting benefit in the relevant box on his return. However, the Court of Appeal decided in Langham v Veltema that the figure on the return does not give HMRC the level of information that is necessary to prevent a later discovery assessment.

12. Most taxpayers who state that a valuation has been used, by whom it has been carried out, and that it was carried out by a named independent and suitably qualified valuer if that was the case, on the appropriate basis, will be able, for all practical purposes, to rely on protection from a later discovery assessment, provided those statements are true.

13. The main exception will be where, as in the example of a property transferred to a director, the same transaction is the subject of an agreed valuation in a related tax return, that of the company. It may then come to light that the director's return was insufficient and a discovery assessment raised. It is also likely that the insufficiency can be quantified without further enquiry. For this purpose, a related tax return is that of another party to the same transaction, rather than another transaction involving a similar or identical asset. The returns of several parties disposing of a jointly owned asset or shareholders disposing of all the shares in the same company in a single transaction, for example, may be related for this purpose.

Where taxpayers' interests in an asset or assets are similar, but not the same, any valuations agreed would not necessarily bind other taxpayers.

14. Information about the valuation may be provided in the Additional Information space (ITSA) or in accompanying documents (ITSA and CTSA). The return of capital gains for ITSA purposes requires an entry to indicate that a valuation has been used and asks for a copy of any valuation received. If these provide the information mentioned above the taxpayer can rely on protection from a later discovery assessment.

6.2.1.2 Other Judgemental Issues

15. There are many items such as reserves, provisions and stock valuation that are routinely included in accounts, as well as some exceptional items such as capital/revenue expenditure in repairs, which require an element of judgement on the part of the taxpayer or representative. Prior to the introduction of self assessment it was customary to provide details of such items in the accounts or computations and many taxpayers have continued to do so.

16. It is difficult to see how HMRC might come to the conclusion that an assessment is insufficient because of one of these items without making an enquiry. There will be instances in which it becomes clear from an inyear enquiry that previous years figures were incorrect. The decision in the Veltema case does not alter that situation.

17. It may be possible to gain finality with the more exceptional items. An example might be a deduction in the accounts under Repairs. If an entry in the Additional Information space or accompanying documentation points out that a programme of work has been carried out that included repairs, improvements and new building work and that the total cost has been allocated to revenue and capital on a particular basis, the HMRC officer will not use discovery powers after the closure of the enquiry period unless he becomes aware that the statement was patently untrue or the basis of allocation was so unreasonable as to be negligent.

6.2.1.3 Taking a Different View

18. It is open to a taxpayer properly informed or advised to adopt a different view of the law from that published as HMRC's view. To protect against a discovery assessment after the enquiry period, the return or accompanying documents would have to indicate that a different view had been adopted. This might be done by comments to the effect that the taxpayer has not followed HMRC guidance on the issue or that no adjustment has been made to take account of it. This would offer an opportunity to HMRC to take up the return for enquiry. It is not necessary to provide all the documentation that HMRC might need to quantify that insufficiency if an enquiry into the Return is made.

19. Provided the point at issue is clearly identified and the stance adopted is not wholly unreasonable, the existence of an under-assessment or insufficiency is demonstrated by the statement that a different view of the law has been followed. In these circumstances the taxpayer achieves finality if no enquiry is opened within the statutory time limit.

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.