In our first article dated 22nd August 2019, we considered the increase in the issue of nudge letters by HMRC which seek to challenge the accuracy of UK taxpayers’ self-assessment returns. Such challenges can arise where HMRC receives information from overseas tax authorities under one of the Automatic Exchange of Information Agreements (“AEIA”), regarding overseas income and gains received but not declared by UK residents. HMRC then write to the taxpayer saying that they have information that the individual may have offshore income and gains which is taxable in the UK.
Where the taxpayer’s situation is more complex than some, it may be helpful to ensure that sensible steps have been taken to make it clear to HMRC why certain offshore income and gains are not shown on his tax return.
Is it clear to HMRC that the remittance basis is claimed?
An individual who receives such a letter may be well aware that their circumstances mean that not all offshore income or gains arising to them is taxable.
Perhaps the most straightforward example of this is where a non-UK domiciled but UK resident person does not return overseas income in the UK because he or she has elected to be taxed on the remittance basis, and no taxable remittances have occurred.
Such a person would be expected to tick box 23 of the Residence, Remittance Basis etc. section of their return to indicate their non-UK domiciled status. Then, an explanation of why their domicile is relevant to their income tax or capital gains tax liability should be included at box 40 (for example, the transfer of clean capital to the UK is not a taxable remittance).
In our previous article, we discussed whether a taxpayer may choose to respond in letter form rather than by ticking one of the boxes provided. It might be appropriate to send a letter explaining the remittance position. To reinforce this, it might be helpful to amend the 2017/8 return now if the boxes have not been ticked, and to refer to this in the letter. When HMRC decide whether to enquire into the 2017/8 return before the end of the window on 31st January 2020, a clear explanation supported by a return may prevent an enquiry.
It is also sensible to confirm that, where it is due, the remittance basis charge has actually been paid for the relevant tax years, and if not paid, to pay it promptly, although interest on late paid tax would then be due.
Is it clear to HMRC why anti-avoidance legislation has not been applied?
Conversely, an individual may be aware that offshore income or gains arising to a trust or company could be taxable on them, despite the income not arising to them, as a consequence of the application of anti-avoidance legislation. If they have received a nudge letter, it may be because reports have been made to HMRC in relation to such offshore trusts and companies, linked to their name. The statement that they are asked to sign to in the reply to the nudge letter is broader than just confirming that they have disclosed their own taxable offshore income, it requires them to say “My tax affairs do not need updating. I do not have any additional tax to pay”.
Taxpayers may then want to ensure that their returns do not omit any tax due as a consequence of these provisions, and that they have provided information to HMRC to pre-empt any enquiries in this area as a follow up to the nudge letter.
We have helped a number of clients, many with complex tax structures, to correspond with trustees and financial institutions alike, so as to obtain clarity on what information they have provided / or will have to provide, in accordance with their legal obligations. Third parties have, in our experience, been very willing to cooperate with us, on behalf of clients.
Armed with full information regarding what has been disclosed (for example under the Common Reporting Standard), we have then been able to review our clients’ tax returns to ensure that what should have been declared has been. It is worth noting that, in our experience, determining whether offshore entities have received income or have realised gains can require some detective work. Also information obtained by HMRC under an information exchange agreement, is presented by reference to calendar years rather than by fiscal years. Accordingly, it is necessary to check the two tax returns that are covered by the calendar year in question.
The Transfer of Assets Abroad rules are a longstanding piece of anti-avoidance legislation introduced to prevent UK residents using foreign transfers to mitigate their UK tax liabilities. This applies by taxing an individual on income of an offshore company or trust. Since such an arrangement could be purely commercial, a “motive defence” can be used to dis-apply such an income tax charge for the transferor where the transaction has been undertaken for genuine commercial reasons and was not for the avoidance of UK tax. Similar provisions exist for capital gains.
So an individual with a “motive defence” would not be required to treat such income as taxable on their return. There is a box on the tax return which requires the taxpayer to enter the amount of income for which he is claiming the defence. There is no statutory obligation to complete this box, and taxpayers may have chosen not to.
Given HMRC’s current approach, taxpayers may decide that it is worth explicitly claiming the defence so that it is clear why certain offshore income and gains are not shown on their returns. It may, for example, be worth amending the 2017/8 return to complete this box and to give information on which income, of companies etc, the defence is claimed. So again, on a review of the 2017/8 return at the end of the enquiry window, an amended return and a clear explanation may prevent an unnecessary enquiry.
However, in our experience, HMRC will normally open an enquiry where this entry is made on a return. If the motive defence is to be claimed, the position should be fully reviewed to ensure that any challenge can be robustly defended. For example, if the taxpayer has agreed with HMRC in the past that the motive defence is available in respect of a particular entity, it would be necessary to check that there have been no subsequent “associated operations” which have caused the protection to be lost.
For a taxpayer with more complex affairs, considerable care should be taken to review returns if a nudge letter is received. In our previous article, we outlined the points to consider before signing the “certificate of tax position”, and the warnings are more significant here. If the conclusion is that there are no omissions from the returns, it may still be worthwhile to amend the 2017/8 return to provide supporting information to HMRC. If there is any doubt about whether the “motive defence” is applicable, the position should be carefully reviewed. If there are omissions, then care is needed to ensure that all irregularities are dealt with in the disclosure.