To File Or Not To File?

CHRIS JOWETT and JEFF KELLETT advise on filing returns where a case is under enquiry.

SELF ASSESSMENT HAS imposed strict timetables for the submission of tax returns by individuals, partnerships and companies. If these deadlines are not met, then penalties become chargeable. Initially the penalties are fixed, but if the return is sufficiently long outstanding then they become tax geared. Once the filing date has passed, the Revenue may seek daily penalties for outstanding returns by application to the General or Special Commissioners. This is not considered within this article, but if the Revenue indicates that it is proposing action to seek daily penalties, the balance of the equation may shift dramatically.

Inevitable dilemma

Most practitioners will have had more than a passing involvement in tax investigation work. It is therefore almost inevitable that practitioners will have faced the dilemma of whether to file or not to file, especially where a client's affairs are the subject of a protracted Inland Revenue enquiry or investigation.

Despite the best of intentions to deal with correspondence promptly and to bring the investigation to an early conclusion, delays can and do occur. Often the delays are by third parties and are not within the direct control of the client or the adviser. As the Revenue becomes more proficient in its selection of cases through risk analysis, investigations are likely to contain more complex issues, making the filing dilemma even more of an issue in the future.

It is very important that dates for submission of returns are not overlooked. This is particularly so in a company investigation, where each case has its own filing time limit. Where it is apparent that an enquiry is unlikely to be settled quickly, it is good practice to consider the dates by which future returns should be made and to list these, with the dates by which further penalties will be chargeable in default. Keep this list in a prominent place in the file so that the position can be reviewed a few weeks before the return is due.

Revenue stance

So, back to the original question, to submit or not to submit: one source of advice lies in the Revenue's own Codes of Practice. Code of Practice 11 states: 'You should not let our enquiries into one year's return delay the submission of a return for any other year'.

Although the code is only a guide, it provides a useful insight into how the Revenue is likely to interpret the non-submission of a return at the filing date.

Consider the case of a business that has been under enquiry for several months and the next filing date is approaching. It is clear from work carried out to date that the return under enquiry understates profits. The accounts have been prepared for the subsequent period on the same basis as for earlier years and it is now apparent that they understate the true level of profits. Should the return be submitted or held?

Each case depends on its own merits. If the return is not submitted, a penalty will be incurred. If, however, it is decided that the return should be submitted, what factors should be considered before that return is filed?

Ruling out the option of submitting the return to include amounts shown in the unadjusted accounts, estimated figures must be used. Where this happens, it should be made very clear on the face of the return that the figures are estimates and that the final amounts will depend on the outcome of the investigation.

Code of Practice 11 gives further help, stating: 'You may be unable to provide final figures because you think these might be affected in some way by the enquiries which are under way. If so, include your best estimates in the return and indicate which figures may be affected by the outcome of the existing enquiries'.

Accuracy matters

Best estimates appear to be the solution to the dilemma, but care must be taken to get the estimates as accurate as possible. If the estimate is clearly too low, a penalty could be incurred for negligence. The situation could be made worse if the estimated figures are too high. In an extreme case the Inspector may argue that the higher figures should be the starting point for recalculating the true profits. Once again, good practice is to make a written note of the factors you have taken into account in reaching the estimates, and to write out the calculations. This will not only usually lead to a more accurate figure, but it may assist in later negotiations if the Revenue challenges the estimate.

The need to get the estimate as accurate as possible is brought into greater focus where Code of Practice 9 is issued. This is also known as 'Hansard', and is only used by Special Compliance Office in cases of suspected serious fraud. It states: 'The fact that your affairs are already the subject of an investigation under this code does not release you from your responsibility to file complete and accurate tax returns as they become due. You should still file your tax returns but a serious view will be taken if, when you do so, you know it to be wrong'. The warning could not be much clearer.

Automatic penalty

The non-submission of a return by the filing date will automatically generate a penalty. For missing the first deadline this will be £100 for individuals, partnerships and companies. There is a further penalty of £100 where the delay stretches beyond six months after the filing date for individuals and partnerships. For companies, the period is reduced to three months and the fixed penalty is £200 (the penalties are increased for companies where there has been a failure for a third successive accounting period).

Penalties then become tax geared if the failure to submit the return is delayed as follows.

Individuals: Twelve months or more after the filing date based on the amount of tax due subject to mitigation.

Partnerships: No tax geared penalty, as the return does not generate liability to tax.

Companies: At least 18 months but less than 24 months after the end of the accounting period; ten per cent of the tax unpaid at 18 months after the end of the return period. If the return is submitted more than 24 months after the end of the return period, a further penalty amounting to 20 per cent of the tax unpaid at 18 months after the end of the return period. These penalties are not mitigable.

The tax-geared penalties therefore commence earlier for a limited company and can be illustrated as shown in the Table.

Table

In deciding whether or not to file a return, it should be noted that the tax-geared penalty for a company is based on the tax outstanding 18 months after the filing date. For individuals, the tax-geared penalty is based on amounts shown on the return. The answer is in fact a lemon, because in a company case, the tax outstanding must be estimated to include tax on likely additional income while a similar calculation must be made in the case of an individual.

Submit payment rather than return?

During an investigation, the next filing date can easily be reached and consideration concerning the submission of that 'new' return will have to be given. Companies will, however, be able to give serious thought to making a payment on account rather than submitting the return. Individuals and partnerships, however, do not have this luxury and must consider the possibility of an estimated return to avoid the potential tax-geared penalty.

An added consideration for a company is the requirement to deliver accounts to Companies House. The deadline for a private company is ten months after the company year end.

If the deadline is not met, late filing penalties are automatically imposed. The penalty is £100 where the delivery is up to three months late, £250 up to six months late, £500 up to twelve months late and £1,000 where the delivery is more than twelve months late. The deadlines and penalties are different for public companies. In extreme cases the individual directors may be prosecuted for non compliance.

If it is decided to file accounts, where a reasonable estimate of the additional liabilities cannot be made, it may be necessary to include a contingent liability note to disclose that an additional tax liability is likely to arise, but that it cannot be quantified. The admission that the company is under investigation by the Revenue may be commercially sensitive, but on the other hand the fact that the accounts have not been filed might also send out the wrong signals, particularly to creditors and credit reference agencies.

Rapid review

In conclusion, there is no definitive answer to the question and each case must be treated on its own merits. What is essential is that filing dates are not overlooked and that cases are reviewed before each potential penalty date is reached.

Chris Jowitt and Jeff Kellett are directors in Baker Tilly's tax investigation group, and are based in the Bradford office. They can be contacted on 01274 750250. The views expressed are their own and may not reflect those of Baker Tilly.

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