Tax Disputes and Investigations -October 2024

Alternative Dispute Resolution (‘ADR’)

By Jon Preshaw

ADR is an increasingly important part of the toolkit available to practitioners and HMRC to resolve disputes. 

Our recent experience is that HMRC are keen to engage through ADR in most circumstances.  In particular, we have seen recent examples where HMRC have been willing to engage via ADR despite their position seeming at first glance to be absolutely fixed.  However, it is important for those engaging in ADR to ensure that the process is properly managed. 

A recent decision of the First Tier Tribunal (Andrew Quay Hull v HMRC [2024] UKFTT 842) is illustrative of some of the issues.  The case involved an application by HMRC to enforce an agreement made with Mr Hull through an ADR process (known as an ‘exit agreement’).  Mr Hull had mistakenly understood that the agreement involved HMRC withdrawing any penalties in connection with a VAT liability and the exit agreement recorded that Mr Hull agreed to withdraw his appeal against the penalty.  Unfortunately, the effect of the withdrawal of Mr Hull’s appeal was to bring the penalty (of £472,500) into charge.  By the time of the application, Mr Hull was unable to resile from the agreement and the tribunal found that Mr Hull’s mistake did not impact the validity of his agreement with HMRC.  The case illustrates in particular the need to ensure that any exit agreement is carefully drafted and that both parties are content with it.   

The issue here appears to have arisen at least in part because of the way that the ADR discussions were conducted, with limited interaction between Mr Hull and the HMRC team and most of the discussions being relayed between the parties by the mediator.  This led to a lack of clarity on the nature of the agreement reached.  Additionally, and unhelpfully, it appears that the notes of the ADR meeting were not retained.

Some time ago, it was typical for ADR meeting notes to be destroyed after the meeting concluded on the basis that ADR discussions took place ‘without prejudice’.  However, it is apparent that ADR discussions are not held on a ‘without prejudice’ basis as it would be understood by a lawyer (and despite what HMRC’s ADR Manual says).  This is principally because HMRC take the view that any information given to them during an ADR meeting which they regard as a ‘tax fact’ can be recorded and relied on subsequently.  According to HMRC, a  ‘tax fact is a fact which has legal and technical implications for a taxpayer’s liability’.  This is another area which requires careful management both before and during any ADR process.  

Trust Taxation: Navigating Historic and Emerging Issues

By Jon Pitkin

Much of the current focus on trust taxation, both onshore and offshore, centres on the impact of changes to be introduced in Labour’s first budget. While there is significant uncertainty about what the future might hold, longstanding complexities continue to pose challenges for trustees, settlors, and beneficiaries alike. Below are some recurring themes we are addressing time and again.
 
Uncertainty around Residence and Domicile
Regardless of the new domicile rules’ potential impact, historical residence and domicile status will continue to play a crucial role in the taxation of trusts. We frequently encounter situations where the settlor’s domicile was not clearly understood, leading to unexpected Inheritance Tax (IHT) liabilities on distributions and potential 10-year anniversary charges.
 
Changes to a settlor’s or beneficiary’s residence status can also bring them into the scope of complex Income Tax and Capital Gains Tax anti-avoidance rules. Again, these are issues that were often not anticipated when the trust was created.
 
UK-Sited Property – NRCGT & ATED
Another pressing issue involves the ownership of UK property by trusts and their underlying companies. The Non-Resident Capital Gains Tax (NRCGT) rules, which affect transactions involving UK residential property from 6 April 2015 and all UK land and property from 6 April 2019, have introduced tax liabilities and reporting requirements that were not originally anticipated when many trusts were established.
 
While the Annual Tax on Enveloped Dwellings (ATED) does not apply to property held directly by a trust, it does affect company-owned property structures. The ATED rules require periodic monitoring, and we have encountered challenges with the timing of revaluations and the application of certain exemptions, which can be complex. Additionally, cash flow issues can arise around funding the ‘dry’ ATED charge, which must be managed with HMRC. 
 
Remuneration trusts –  EBTs, and EFRBs
Although many companies have settled the PAYE and NIC liabilities arising from these structures, numerous structures remain in place, requiring ongoing administration and with the potential for further tax charges. We have been assisting clients who wish to collapse these structures and manage their exposure to further disguised remuneration and IHT charges.
 
Regular Review of Trust Structures
Budgets will always spark discussions about the future of trust structures. However, as tax rules continue to evolve, it is crucial not to lose sight of existing regulations. Regularly reviewing trust structures is essential to stay on top of the tax rules, as well as the status of the individuals and entities involved, and to manage any exposure to unexpected tax liabilities.

Research and Development (‘R&D’)

By Ben Proctor

Last week a judgement of the First-Tier Tribunal (“FTT”) in Collins Construction Limited v HMRC [2024] UKFTT 951 provided further support to the view that HMRC’s stance on the definitions of subsidised and subcontracted R&D activity is seriously flawed.
 
The 2021 FTT decision in Quinn (London) Ltd v HMRC [2021] TC 08321 appeared to have fundamentally undermined HMRC’s approach. In Quinn, the FTT said that R&D work undertaken in the course of providing a product or service for a client, the costs of which are subsumed within the overall fee charged for that product or service, was not disqualified as subsidised expenditure. Indeed, the FTT went further, observing that if HMRC’s approach was correct then “the circumstances in which an SME could claim enhanced R&D relief would seem to be confined to those where it has no prospect of exploiting the R&D for commercial gain”.
 
However, since Quinn HMRC has continued to pursue the same highly controversial line. It was arguably primarily HMRC’s own failure to appeal Quinn to the Upper Tribunal (“UT” – the decisions of which set legal precedent unlike the FTT) which allowed them to maintain this stance. The position was maintained even when the Quinn judgement was expressly endorsed by the UT in HMRC v Perenco UK Limited [2023] UKUT 00169. 
 
Now Collins has again endorsed Quinn on subsidised expenditure and has decisively rejected HMRC’s alternative argument that Collins’ R&D activities were in fact the R&D activities of their clients contracted-out to Collins. The ball is now surely firmly in HMRC’s court to either fundamentally revise its approach or to appeal Collins to the UT so that the relevant legal points can be properly clarified.
 
As a final thought, we note that while genuine issues of technical interpretation have been a pronounced issue of many protracted R&D enquiries in recent years, this is not the whole story and in many cases not the principal reason enquiries have proved so difficult to resolve. Unless years of argument followed by litigation are the desired outcome, a different and complimentary skillset and experience in managing enquiries efficiently and forming a productive and constructive working relationship with HMRC to map out and deliver a route to a solution is essential. If in dispute with HMRC, always consider whether a tax dispute resolution expert, rather than an expert in the particular legislation in dispute, may be the key to unlocking the problem and finding a solution.