Being up front about the new tax challenges

As Accelerated Payment Notices start putting the brakes on tax avoidance schemes, we look at the complex implications for accountants, as well as their clients.

One of the key planks of the Revenue’s attempts to crack down on tax avoidance is the new regime of Accelerated Payment Notices (APNs). In a nutshell, if a particular DOTAS (tax avoidance scheme) is under enquiry, HMRC can issue an APN to an individual or company requiring them to pay the tax up front that would have been owed if the DOTAS weren’t in operation. There’s a penalty of 5% if the payment isn’t made within 90 days. The figure then rises to a hefty 10%.   If you receive such a notice and cannot pay it’s vital that you speak to HMRC, as they will seek to enforce the debt and collect the payment.

The good news is that if your scheme is ultimately found to be legal by the courts, HMRC must repay the money paid to them and no penalties apply. The process can, however, take a long time. Critically, the system also throws up some difficult issues for professional advisers working with corporate clients.  How exactly do we provide for the APNs in the accounts?

Although the new arrangements clearly differ from the previous tax enquiry issues accountants have tackled, the broad principles will be the same. There is a dispute between two parties that could give rise to a potential liability for the company.

There are three criteria set out in current accounting standard FRS 12 which have to be met before recognising a provision at the balance sheet date:

• there is a present obligation as a result of a past event;
• it’s probable that a ‘transfer of economic benefits’ will be required to settle the obligation; and
• it’s possible to make a reliable estimate of the amount involved.

Once the APN has been issued, then it is a reasonable view that as this is an enforceable debt, it will need to be reflected as a liability in the accounts. If recognised as a liability – or if you have made a payment – then there’s a deduction which needs to be accounted for. There are two possible places for this to hit the accounts; it can be shown as a tax charge or as an asset.  However, the conditions for recognising a contingent asset are strict – there has to be a reasonable degree of certainty – and therefore once the APN has been received, there is a higher threshold to avoid it impacting on the tax charge. If there is not a reasonable degree of certainty, then the standards do allow disclosure in the accounts of a ‘probable contingent asset’.

With disputes of this type, there is always going to be a fine balancing act. It is actually increasingly difficult to know with any degree of certainty the outcome of a specific case. This is particularly true in an environment where it might be argued the emphasis is now on sending signals about tax avoidance rather than deciding each case on its individual merits.

On receiving an APN, you will need to then consider how this is reflected in the accounts and the signal this may send about your perceived view of the strength of your case. On the other hand, there are clearly dangers to being too bullish and failing to accept that there is any obligation (not least dealing with HMRC officers seeking to collect the tax due under the APN).  Your accountants are there to hold your hand through the process, but remember a lot of this is new territory and there won’t necessarily be a black and white answer.

Converting to limited company status? The choices just got harder.

Following changes to the rules around partnership and LLP structures, many businesses have been looking to convert to limited company status.  But the announcement in the Chancellor’s Autumn Statement on goodwill has now left people scratching their heads.

When the Chancellor announced changes to entrepreneurs’ relief in the Autumn Statement, it came as something of a bolt out of the blue. With more and more clients in partnerships and LLPs looking to convert to limited company status, the news that relief would no longer be granted on the sale of goodwill caused many owners to revisit their strategy.

The context, of course, is a series of moves which have made partnership status less attractive. For many businesses, a partnership structure has the flexibility needed to bring new people in to an equity stake.  Recent changes mean that ‘salaried members’ have to go on to the payroll and the use of ‘corporate partners’ is, in many cases, prohibited, leading to potentially very high tax rates being suffered irrespective of whether profits are available to be drawn out.

As a result, many accountants and advisers have been helping clients to make the transition to a limited company. Although this structure is more rigid, one of the clear benefits of the change of status has – until now – been the ability to pay only 10% tax on a profit from the sale of goodwill to the limited company.

When the Chancellor announced that this would no longer be possible, it was mentioned within the general context of closing loopholes on tax avoidance. The decision has, however, caused a great deal of concern – particularly to businesses which were in the middle of the conversion process.  For some it’s a “double whammy”, because as well as removing the availability of entrepreneur’s relief, any deduction within the company for amortisation relief has also been removed.

With a little time to reflect, it’s clear that the decision to convert to limited company status is now much more finely balanced, but many clients may still decide to make the change. There’s always the option of gifting goodwill on incorporation rather than selling it. It’s also important to look at the question of whether you have ‘base cost’ in your goodwill, in circumstances when it might have been bought from previous retiring partners. If so, there may be a small tax advantage still, although it’s fairly marginal.

Ultimately, the circumstances which were provoking LLPs and partnerships to change their company structures haven’t gone away. It’s just that the Chancellor has removed one of the attractive carrots that was previously dangling in front of business owners. Your accountant will be able to look closely at your circumstances and give you appropriate advice in light of all the recent changes.

Thinking ahead on VAT compliance

Before the inspectors come calling, it pays to give your business a VAT healthcheck.

An annual VAT healthcheck is essentially a review of the VAT practices of a business – something akin to a mock VAT inspection but with added benefits.  It is a reassurance that your VAT affairs are in order, which will give you peace of mind – and additional credibility – if an inspection is called. Of course, in the current climate, there is a lot of pressure for the taxman to bring in more money, so scrutiny is only likely to increase. In addition, a healthcheck is an opportunity for a friendly VAT expert to look at ways in which the business could improve its VAT position – something the VATman won’t necessarily tell you!

A starting position will be looking at fundamentals such as where VAT should and shouldn’t be charged.  A common area here is cross-border compliance.  Although the regime was simplified in 2010, it’s still a confusing world which many of our clients find problematic.  There’s also the issue of expenditure and whether a client has claimed back VAT in areas they shouldn’t, specifically of expenses such as business entertainment, which is a common target of the VATman. 

After the healthcheck, it’s normal to write a report outlining findings, quantifying errors and suggesting ways of dealing with them.  Our recommendation would always be to disclose any mistakes, as this openness with HMRC will be a mitigating factor when it comes to deciding on penalties. However, if you’ve been prompted to make a disclosure by, say, the threat of an inspection, it’s more likely that a penalty will be imposed. The fine can be up to 30%, but can often be mitigated down or sometimes be waived altogether.

It’s a mistake to think that all VAT issues will be uncovered by regular accountancy work unless it’s been specifically agreed as part the terms of engagement with your accountant. This is one of the things that makes the VAT healthcheck so essential. But how much work is actually involved? Well, it will probably depend on whether you’re asking your adviser to look at a specific issue or simply asking for them to take an overview and highlight any identified areas of concern. It may also be that you’re able to do some of the groundwork yourself, which would reduce the time commitment and fees of your accountant.

A typical scenario might lead to uncovering an underpayment of VAT.   A client might then choose to engage us to handle that issue, manage the process and get things sorted out with HMRC. On the plus side, it may be that the healthcheck identifies efficiency savings which can then reduce the debt.

Overall, if the Revenue can see that a VAT healthcheck has been undertaken, they may well take comfort that you are acting responsibly and doing your best to comply with regulations. This will ultimately make your life easier so it is good sense to think ahead and to work proactively with your accountant in this complex area.