HMRC’s ‘Default’ Position On Penalties Criticised By Tribunal

A recent tribunal hearing in respect of a research and development tax relief claim submitted on behalf of a scaffolding business opened a can of worms for HMRC, highlighting that the approach to penalties is not in line with its own guidance. While HMRC is not getting the assessment of the penalty position correct in all instances, could there be an ulterior motive to charging penalties?

In a recent case, H&H Contract Scaffolding Limited (H&H) engaged with advisers to prepare a research and development (R&D) tax relief claim for the company. HMRC disputed the validity of the claim and after several rounds of correspondence, the taxpayer accepted the claim as invalid.

The detail of the claim was not discussed within the tribunal process as it was no longer disputed by H&H. Instead, the tribunal sought to determine whether the issue of a £6,632.01 penalty for ‘careless behaviour’ was appropriate, as H&H believed it acted with reasonable care by employing who it believed was a competent professional adviser with suitable experience of submitting R&D tax relief claims in the same industry.

In HMRC’s Statement of Reasons, it argued that as the taxpayer could not show that it qualified for the R&D tax relief in the claim, the taxpayer had by default been careless. In the proceedings, the judge was very critical of this summation, twice pointing out that the mere existence of an inaccuracy cannot determine that the inaccuracy was careless.

The judge went on to state that the Statement of Reasons was in fact a ‘confused document’ and that HMRC had failed to understand its own guidance that the burden to prove that H&H acted carelessly laid with them. On the basis H&H relied upon a firm that it believed to be a competent and professional adviser, the judge found that the taxpayer had in fact taken reasonable care when the claim had been prepared and submitted on its behalf.

It is not unusual to see HMRC adopting this blanket approach to penalties. For example, if there is an adjustment, HMRC assumes there must be a penalty, as opposed to properly considering the circumstances of the case.

This has been particularly evident in HMRC’s current campaign in relation to its approach to R&D enquiries. This was highlighted in the Chartered Institute of Taxation’s open letter to HMRC in July 2023 regarding its current approach to R&D tax relief claims and associated penalties. In HMRC’s response dated 29 August 2023, it states that HMRC will always consider charging a penalty if a return or other document provided to HMRC contains an inaccuracy. Noting that ‘HMRC officers gather evidence to support their conclusions on the behavioural penalty charged’, but this case suggests otherwise.

It is also worth considering what is happening practically – an HMRC enquiry could run for 12 months (often longer). If an inaccuracy is identified which results in additional tax, the application of a penalty can increase HMRC’s “take” for a careless penalty by up to 30%, with relatively minimal additional effort. In some situations, this can cost the taxpayer significant time and money to contest, resulting in many simply accepting the penalty to bring the matter to a close. The question is does this lead to HMRC being overzealous and applying penalties where not appropriate?

An additional consideration when looking at behaviour is the potential for HMRC to seek additional tax from earlier years. If it had been accepted that a penalty applied, another consequence could have been the ability to extend the normal assessment window of four years to six years for careless behaviour and twenty years for deliberate behaviour. Could this be another reason why the default position from HMRC is to seek penalties in relation to all adjustments?

The tribunal ruling in favour of the taxpayer was that it had not seen enough evidence to suggest that H&H had acted carelessly. This was even more interesting given this was a ruling on an R&D enquiry. It is well documented that claims for R&D tax relief is a challenging environment at present with HMRC’s aggressive approach to enquiries resulting in collateral damage that affects genuine claimants. We do not dispute that as part of a robust R&D regime, genuine claims will be enquired into. However, well prepared genuine claims are being poorly selected for review, concluding in adverse decisions and typically a binary ‘all or nothing’ rejection of the claim. For businesses involved in this process, HMRC’s inappropriate pursuit of penalties can often result in additional uncertainty and costs for clients. This can directly impact on the operation, development, and viability of legitimate businesses.

There has been an acknowledgement by HMRC that it has not been getting the assessment of penalties right in these cases. It is understood that HMRC is undertaking further training with its staff to ensure the assessment of penalties is correct. However, the standard approach to push for penalties in most is still evident.

The current penalty regime has been in place since changes were introduced in the Finance Act 2007, and there is no dispute that penalties should be applied in appropriate cases at appropriate levels. However, there is often a blinkered default application by HMRC, as evidenced in this case. So, is it a misunderstanding on the back of insufficient training, an overzealous approach, or is it targeted revenue raising that is leading to this default position?


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