ARE YOU RESPONSIBLE FOR THE TAX GAP?

BLOG 190

ARE YOU RESPONSIBLE FOR THE TAX GAP?

Pre Gordon Brown, HMRC press releases tended to be primarily factual and probably not of much interest to those with no interest in tax, Gordon, or rather his acolyte Dawn Primorola, spiced them up (some say politicised them).  From mixing with us common people they seem to have formed the impression that everyone is desparate to learn about tax.  Much of the impetus for digital tax is expressed as intended to feed this insatiable quest to build one’s life around one’s tax position.

I don’t know what pub the Treasury mandarins use.  Tax has never been a strong topic of conversation in the many that I have visited over the years.  I have rarely felt an urge to check my tax position and I doubt that many of the non-tax people that I know are eager for more tax knowledge.  No one at a party has ever begged me to tell them about tax.  So I think that government efforts to publicise tax are a complete waste of taxpayers’ money, but I would be happy to be proved wrong.

Tax gap figures are fun even without the spice (or politicisation).  They are fun because they are guesses dressed up as fact.  Of course HMRC will call them educated estimates but that simply means guesses informed by knowledge.  However that is not true in this case.  No one has sufficient knowledge to enable them to measure the tax gap.

HMRC tell us that “the tax gap measures the difference between tax due and tax paid to HMRC”.  But even that is not right.  They attribute 0.9% of the tax gap, or £5.3billion, to what they call “legal interpretation”.  This is “where the customer’s and HMRC’s interpretation of the law and how it applies to the facts in a particular case, result in a different tax outcome”.  This might occur for example because the Supreme Court upholds the taxpayer’s position.  In HMRC’s world, “legal interpretation” is a type of “customer behaviour”.  In other words, the government were deprived of £5.6billion of taxpayer money in 2016/17 because people challenged HMRC’s interpretations and the Supreme Court (and the lower Courts and Tribunals) decided that HMRC did not properly understand the law.  I am not a statistician but, in my naivety, I regard that as an HMRC error in measuring the “tax due”; not a result of the HMRC measure being correct and the Supreme Court undermining the tax system by letting people off tax that is legally due when such people engage in what HMRC no doubt regard as the socially unacceptable behaviour of challenging HMRC’s interpretation.

But there is a more fundamental problem with measuring the tax gap.

This is that it is impossible to measure.  All that one can do is what HMRC do; start with the estimated yield from a tax measure, deduct the tax that they have received, and allocate the shortfall by reference to the tax collected as a result of HMRC interventions (i.e. enquiries and investigations) and taxpayer’s post tax return disclosures.  I do not have time to read HMRC’s 94-page detailed explanation (although I have read one of the earlier ones), but estimating the yield itself has a number of variablers.  Firstly, it depends on profits (or in some cases turnover) for the year concerned, so any error in the estimate of undisclosed profits leads to the yield being wrong too.  Secondly, measurement depends on having the full information on compliant taxpayers.  Bearing in mind that it can take a good 10 years before the Supreme Court decides whether tax is due or is not due, such disputed amounts are bound to distort estimates that have to be made in year 2.  Thirdly, there are an awful lot of disputes over what tax is due in a particular case and many of these will not have been resolved by the time the estimate needs to be made (although, on reflection, on the HMRC basis that HMRC are always right and it is the Courts that get the interpretation wrong, whilst that makes measuring the actual tax gap difficult it does not impede measuring HMRC’s fantasy tax gap).

The HMRC detailed tables only start from 2011/12 (they show 2005/06, but not intermediate years).  It is interesting to look at what has happened.  They analyse the tax gap in several ways.  I will take two.

Types of taxpayer                  2005/06                      2011/12                      2016/17

Small businesses                     2.6%    11.2bn             2.4%    14.0bn             2.3%    13.7bn

Large businesses                     1.8%    7.7bn               1.2%    6.0bn               1.2%    7.0bn

Criminals                                 1.7%    7.4bn               0.9%    4.8bn               0.9%    5.4bn

Mid-sized businesses              0.8%    3.4bn               0.6%    3.7bn               0.7%    3.9bn

Individuals                               0.5%    2.2bn               0.5%    3.1bn               0.6%    3.4bn

                                                7.4%    31.9bn             5.6%    31.6bn             5.7%    34.3bn

Less criminals                         1.7%    7.4bn               0.9%    4.8bn               0.9%    5.4bn

                                                5.7%    24.5bn             4.7%    26.8bn             4.8%    28.9bn

I have taken out criminal (which in HMRC speech is organised crime and does not include tax evasion (can you have a criminal offence perpetrated by a non-criminal?)) because I think this distorts the figures.

Behaviours

Failure to take

  reasonable care                    1.0%    4.6bn               0.8%    4.0bn               1.0%    5.9bn

Criminal attacks                      1.7%    7.4bn               0.9%    4.6bn               0.9%    5.4bn

Evasion                                    0.9%    4.0bn               0.8%    3.9bn               0.9%    5.3bn

Legal interpretation                0.9%    4.1bn               0.7%    3.5bn               0.9%    5.3bn

Non-payment                          0.5%    2.1bn               0.9%    4.5bn               0.6%    3.4bn

Error                                        0.6%    2.8bn               0.5%    2.3bn               0.5%    3.2bn

Hidden economy                     0.5%    2.0bn               0.5%    2.5bn               0.5%    3.2bn  

Avoidance                               1.1%    4.9bn               0.5%    2.7bn               0.3%    1.7bn

                                                7.2%    31.9bn             5.6%    28.0bn             5.6%    33.4bn

I am fascinated at some of the HMRC explanations of their analysis.  Non-payment is tax debts that are written off by HMRC – mainly as a result of insolvency.  I would myself describe insolvency as misfortune – often as an unavoidable result of entrepreneurship – rather than a taxpayer behaviour.  Avoidance is exploiting the tax rules to gain a tax advantage that Parliament never intended, so HMRC  believe (I will resist the temptation to question how anyone knows what our 630 representatives intend when waving through, largely without debate, a 665-page Finance Bill).  However “it does not include international tax arrangements like base erosion and profit shifting”.  So it’s nice to have an official acknowledgement that, in HMRC’s view at least, Amazon and Google are not avoiding UK tax; they never owed any UK tax under current international tax rules.  There is also an odd distinction between the hidden economy “where an entire source of income is not declared”, and tax evasion “where a declared source of income is deliberately understated”.  I have specialised in tax for over 50 years and have always believed that not declaring income is as much tax evasion as under-declaring it.  Indeed I would myself regard under-declaring as less egregious than not declaring at all, as it at least gives HMRC a sporting chance to challenge the figure.  I am puzzled how under-declaring is apparently criminal, while hiding the existence of the income completely seems to be acceptable behaviour to HMRC.

There is also a potential problem with failure to take reasonable care and errors.  I would expect HMRC to investigate cases where something looks wrong, in which case those that they do not enquire into must be those where it is less likely that something is wrong.  If so, using the results from enquiries to predict the result what would have transpired if HMRC had investigated cases where nothing looks wrong, seems somewhat flawed.

HMRC tell me that “since 2010 the government has invested more than £2billion in HMRC to tackle evasion, avoidance and non-compliance”.  So has this been value for money?  You decide!

                                                                        2011/12                      2016/17

Evasion:  criminal attacks                   0.9%                            0.9%

            Evasion                                    0.8%                            0.9%

            Hidden economy                     0.5%    2.2%                0.5%    2.3%

Avoidance                                                       0.5%                            0.3%

Non-compliance: reasonable care     0.8%                            1.0%

                             errors                      0.5%    1.3%                0.5%    1.5%   

                                                                        4.0%                            4.1%

I have adopted my view that the hidden economy is evasion, rather than HMRC’s apparent view that it is OK.  I have excluded legal interpretation and non-payment as these do not seem to me to be attributable to taxpayer behaviour at all. They are certainly not affected by the extra money the government has given HMRC.

Whilst nothing to do with the tax gap, HMRC throw into their press release a section headed “Support and help for businesses”.  This tells me that “HMRC aims to ensure that the tax system is not a barrier to setting up, running and growing a business.  We are working hard to ensure that businesses, small or large, can access the information and support they need, at every stage of their lifecycle and whatever their ambition”.  Sadly clients, and my many friends who act for small businesses, are not endorsing this HMRC perception of how helpful they find HMRC to be!

ROBERT MAAS