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HMRC negligence?

29 November 2006 / Peter Arrowsmith
Issue: 4086 / Categories: Comment & Analysis , Admin
As a National Insurance consultant, PETER ARROWSMITH does little general tax work and prepares only his own accounts. Perhaps he should therefore appreciate free advice from HMRC?

AT THE END of the summer I received an unexpected letter from HMRC. I thought it was an intervention letter but it was, in fact, an enabling letter not requiring a reply. Unfortunately for HMRC, it got a reply! I am aware of at least two other firms of accountants who have received such letters, no doubt there are many more. Obviously, dealing as it does with the treatment of various items in the accounts of self-employed people, HMRC thinks it knows more about how to prepare accounts than do qualified accountants. Furthermore, I imagine that, as an unrepresented taxpayer, I am more likely to receive such a letter than others. In fact I am now represented, as I appointed myself as my agent: that way I can look at my own statement of account and my one self-assessment client's statement online with only one set of credentials.
While I myself suffered no professional hurt at the implications of a qualified accountant being sent advice on how to prepare accounts, what did concern me was the inaccurate instructions supplied to what may be a largely uninitiated audience. Many recipients will perhaps not have agents and, those that do, may now wonder why their agent is preparing accounts for them properly rather then in accordance with HMRC instructions. This presents yet more scope for deterioration of relations between tax agents and HMRC. It is not just that following the instructions might, although not quite always, result in excessive tax being paid, in at least two cases the advice in the wrong hands could well cause later problems between the taxpayer and HMRC.
The full text of HMRC's letter (one page) and the appendix (three and a half pages headed 'Frequently asked questions for the self employed') are included in the version of this article that is on the Taxation website. Those sections that are of particular concern to me are set out below, together with the observations I made in my complaint to HMRC.

Potentially error inducing

The covering letter says 'You can avoid interest and penalties by … making sure you claim only actual business expenses'.
Fundamentally, this appears an unobjectionable statement, yet motor expenses can, in some cases, be claimed on the same approved mileage allowance payment basis as applies to employees. In fairness, this is subliminally mentioned in the centre of the attachment to the letter, though it might well be the case that many recipients will have given up way before they reach that point and the damage is then done. In that section of the attachment, there is a reference given to HMRC's tax manuals. As I pointed out, the manuals were written for HMRC internal use and were made available to agents and advisers as a bonus, but they are not written with the general public in mind and do not really constitute appropriate guidance for unrepresented taxpayers.
Furthermore, if someone already using the approved mileage allowance takes the opening part of the letter to mean that they are not allowed to use it any more, he will soon be in trouble, as switching back and forth from actual expense to the approved mileage allowance is only allowed when the vehicle changes. As the advice in the enabling letter is silent on this issue, some recipients who do in fact use the approved payments system quite legitimately might feel compelled by the letter to change to actual expenditure at impermissible times.

Insurance muddle

In the attachment, the first set of bullets says that 'insurance proceeds, for example for loss or damage to stock, or loss of profits' should be included in turnover.
While that is possibly true of the two specific examples stated by way of example, the initial part of the bullet in question in no way restricts the type of insurance proceeds that are alleged should be included in turnover. Proceeds for the destruction of an asset will be dealt with, correctly and legally, through the fixed assets section of the balance sheet and, unless we have a 'nothing', through the capital allowances claim. Such proceeds should most definitely NOT be included in turnover as HMRC surely know, so why did it not say so? Equally, the proceeds which I received a year ago on my tax-exempt friendly society bond (premiums £25 a month or less) are neither taxable at all, nor relevant to inclusion in a set of business accounts. In fairness, after several readings of the same sentence it does become clear that non-business insurance need not be included in, to use HMRC's word, turnover.
The other thing is that even if such proceeds are to be included correctly in the profit and loss account, it does not follow that 'turnover' is the correct place to include it. If a claim for damaged stock is settled at replacement (wholesale) price, then the correct treatment is surely to credit purchases rather than to credit turnover. If such a credit is made to turnover then the gross profit percentage will be skewed and add to the likelihood of an enquiry. Do HMRC have enough staff available to carry out extra but unnecessary enquiries?

Fundamental ignorance

Further comment on turnover correctly states that business start up allowance should be excluded, but then goes on to say 'exclude any of your own (non-business) money that you introduce into the business'.
The comment I made in my response was that this section would appear to have been written by someone who does not know anything about accounts, as such money goes into the balance sheet (if there is one) in capital account and cannot appear anywhere that warrants any special action to exclude it. That is, other than a complete error in accounts preparation, on the same scale as, for instance, putting a new car or van in motor expenses!

Subjective allowance?

The fourth section concludes by saying 'Capital allowances give you a tax allowance spread over a period of years for the cost of buying equipment that is of lasting use in your business. For example, if you are a plumber you can claim capital allowances on the cost of your van'.'
This read oddly to me and seemed to suggest that whether or not capital allowances can be claimed on a van is in some way consequent upon HMRC's subjective discretion. It is the use of the van, not the nature of the trade that determines whether the requirements of the capital allowances legislation are met. In fact I know of a firm of accountants that has a van: it offers a collection and delivery service for clients' books and records in a big, busy, hard to park in town centre. Just because this is unusual — innovative, in fact, I would suggest — does this mean that HMRC thinks there should be no claim for capital allowances on that van?

On the bright side …

A section about mixed business and private expenses states in respect of home telephone 'For example you can separate a telephone bill between business and private calls, and the proportion of the costs including line rentals relating to business calls is an allowable expense'.
This was a new one on me as when I was last handling accounts for other self-employed people, the predecessors of HMRC always used to allege that the employee expenses rules applied also to the self-employed so that no part of the line rental was allowable. We always went along with that in the office, although I did not agree with it. I therefore noted and welcomed what was to me a new approach even though, as it happens, it does not affect me.

Keep it in the family

With regard to own consumption it is stated '… treat all goods that you take for your own use (or for family and friends) as sold at the normal selling price'.
That is also not free from doubt as if, say, a grocer purchases goods from the cash and carry with the specific intention at that time of them being for private use and they never go on the store's shelves, the debit to drawings is at the price paid not retail, as the goods were never part of stock. He might even buy goods for own use from the cash and carry of a kind that the shop does not sell in any event. Furthermore, the whole Sharkey v Wernher principle has been discredited in previous Taxation articles. See for instance, 'Sharkey revisited' by Keith Gordon, 24 July 2003, pages 443, his subsequent 'Loose end' on the subject, 9 September 2004, page 610 and 'Meeting points', 1 April 2004, page16). The subject also cropped up again in the Readers' forum query 'Variable value' (see Taxation, 2 November 2006, page 123).
A section about family wages says (emphasis added) 'If your spouse is an employee (not a partner) in your business, you can deduct her salary. You will need to operate PAYE, and account for the tax and National Insurance contributions'.
As all readers of this article will appreciate, there will be no need to operate PAYE if the salary is below a specified level, and the spouse has no other source(s) of employment or pension income; indeed if that is the state of affairs for the only employee, a P35 is NOT permitted to be made. Saying as it does 'will' rather than 'may', the letter could again be interpreted by the less well informed but, nonetheless well-intentioned, as meaning that relief is only granted if a PAYE scheme is operated, even if not needed. If the business were then to file the P35 electronically (and it would be encouraged to do so in the 'joining' pack) then there would be trouble as HMRC would be looking at 'efiling incentive abuse', merely for seemingly following the unsolicited advice and submitting the consequent nil return.

Trojan horse

When I first received the letter I could not work out whether it was specifically written with the intent to confuse the unrepresented taxpayer, create unnecessary work, e.g., unneeded PAYE schemes, stop using approved mileage allowance payments when not necessary — and indeed not permitted — to do that, and result in them paying more tax than the law requires. In fact, I am still unable to decide whether it is that which is occurring or whether it is just, to use what some might consider a technical phrase, negligence.
Perhaps fellow professionals will feel that some of my own reading of the letter is unfair, but read the frequently asked questions again in the mindset of someone who knows nothing about tax. How might you read it then?
I was also well aware that in the case of the intervention letters, HMRC had refused to receive comments offered by the Tax Faculty and the Chartered Institute of Taxation. I wonder whether this was because these bodies would inevitably identify and seek to correct shortcomings and misleading assertions? Why else would there not be any consultation in this, the 21st century? Not that this approach stopped the CIOT producing an excellent critique on 21 July 2006.
But to go back to my enabling letter, the only reason that I was not confused by it is because I have been specialising in various branches of tax full time since 1985. I went on in my complaint to say that I hoped that HMRC would now cease issuing this letter to others until the words have been changed to reflect what is really meant and what the law actually says. I invited them to send me a revised copy when it had been corrected.

No response

Needless to say, I received neither a revised and more accurate letter nor even the simple courtesy of acknowledgement of receipt. So I wrote to the (acting) chairman and, while I have also had no acknowledgement from him, I have received, on the very day I submitted this article to Taxation, an acknowledgement from a different office of my own region and am promised a reply within a fortnight.
I also later received a phone call from the original office (from which the enabling letter had been sent) requesting a copy of my complaint as the fax machine attached to the number on its letterhead had been broken for a number of weeks before being repaired or replaced. In fact, even that was not admitted until I challenged the statement made 'that it had not been received' since I had sent it by fax. She had the first page of three copied from the chairman via Peterborough, but not the remainder. Despite this being a complaint, note that it did not occur to the officer to seek the missing pages from Peterborough or the chairman, but instead to hassle the taxpayer again.

Are HMRC advisers?

More generally, this is not the first year that enabling letters have been issued. Last year there was quite a furore over them, but this year's issue seems to have been overshadowed by the pernicious intervention letters. All the same, does not the question arise as to whether being advisers is a proper role for HMRC? Are they any better fitted to be advisers, than they are to be payers of state benefits (I speak of tax credits) or should they stick to their main and proper role of collecting money from us, which to give them their due, and we may not always like it, they do carry out pretty effectively most of the time?

Changing my return?

My return was completed and ready to send in before the enabling letter arrived. The contents do not disturb me on a purely personal basis as, and you would expect nothing less, everything is in order. So has the enabling letter not changed my behaviour in any way at all, then? Well, yes it has in fact. As HMRC has given me notice that I am on the 'hit list' for an enquiry, my return, which I have always submitted around 29 September since self assessment was introduced, will not now be going in until January.
Peter Arrowsmith FCA specialises in the provision of National Insurance consultancy services to professional firms, He is also consulting editor to Tolley's National Insurance Contributions and chairman of the ICAEW Employment Taxes and National Insurance Committee.


Copy of HMRC's enabling letter and frequently asked questions sent to Peter Arrowsmith

2006 self assessment tax return

We have recently sent you a 2006 return, or a notice to file, to be submitted please, before 31 January 2007.
It is part of our job to check the tax returns you send us are complete and correct. Sometimes we make enquiries to check if a return is accurate.
Currently, most of our enquiries result in extra tax being payable, because we find that people have understated their business turnover, or claimed expenses that are not allowable. When this happens, we may charge interest and penalties on the extra tax for the year of the enquiry and in some cases for earlier years too.
If the information on your return is not complete and correct this could happen to you. I am enclosing a help sheet to help you avoid common errors.
This letter is not an enquiry, but we want to stress the importance of your taking special care in completing the self-employment pages of the tax return.
You can avoid interest and penalties by:

  • reading the enclosed guidance before you complete your 2006 return;
  • making sure you include all your business income;
  • making sure you claim only actual business expenses;
  • being sure you have sufficient records to support both income and expenses;
  • ensuring you submit your return by 31 January 2007 and paying any tax due on time.

Our Internet service at also has information on completing and sending in your tax return.
There is space on your return to explain any unusual figures. If you filed your return over the Internet, we have already checked, before we sent you this letter, any extra information you have given us there. We also check this kind of information in every case, including returns sent in on paper, before we open an enquiry - so it is always helpful to include the information.
If you would like more information about any item of business income or expenditure, please talk to your professional adviser if you have one, or call us on the number shown and we will be pleased to help you.

Yours sincerely
Compliance Unit



Frequently asked questions for the self employed

What is my business 'turnover'?
'Turnover' is the amount your business earns before deducting business expenses. It includes receipts of any kind for goods you have sold, or work you have done. These include:

  • commission;
  • tips;
  • payments in kind;
  • fees receivable;
  • insurance proceeds, for example for loss or damage to stock, or loss of profits.

Please remember to include in your turnover amounts your business earned from all sources, even if you do not receive the money until after the end of your accounting year. Some traders (for example, sub-contractors in the construction industry) receive their business income after tax has been taken off. Their turnover is the full amount before the tax is deducted. Enter the tax deducted at

box 3.97
of your tax return, or
box 3.13
of the short tax return.

Should I include all the money my business has received?
In general, yes. But there are some exceptions. For example:

  • Business start up allowance should be excluded (this is sometimes called enterprise allowance) and entered in box 3.91 of your tax return, or box 3.6 of the short tax return.
  • Exclude any of your own (non-business) money that you introduce into the business.

What business expenses are allowable?
You may deduct the running costs you incur solely for the purpose of your business. These include the cost of:

  • goods bought for resale;
  • employee wages;
  • rent and overheads of the premises you use for the business;
  • stationery;
  • running vehicles used for the business.

You can also claim interest on a loan or overdraft used for business purposes, but not the repayment of the amount borrowed.

I use plant and machinery in my business. Can I claim the costs of buying and repairing it?
The cost of repairing equipment used in your business is an allowable expense. However, the cost of buying, altering, improving or replacing plant and machinery is not allowable, though you may be able to claim capital allowances.
Capital allowances give you a tax allowance spread over a period of years for the cost of buying equipment that is of lasting use in your business. For example, if you are a plumber you can claim capital allowances on the cost of your van.
If you think you may be entitled to capital allowances more information is available at or in help sheet IR222 available online at
Can I deduct an expense serving both a business and a private purpose?
If the personal and the business purpose are inseparable then we cannot allow any deduction. But where a definite part of an expense is incurred solely for your business, the cost of that part is allowable. For example you can separate a telephone bill between business and private calls, and the proportion of the costs including line rentals relating to business calls is an allowable expense.
However, if you spend money partly for a personal purpose (such as the cost of health related medical treatment) you may not deduct it for tax. For example, a photographer requires an operation to remove cataracts from their eyes. To avoid having to wait they pay for a private operation. No deduction is due for any part of the cost. None of the expenditure is solely for the purposes of the photographer's work. The operation affects the functioning of the photographer's eyes in their normal social and domestic life as well as in their business life.
Can I deduct the cost of my motor vehicle when I also use it for private purposes?
You may deduct motor expenses (running costs and standing charges) that are solely for business use. The cost of travel between your home and your work is not business use, and is not allowable. For example, if your total motor expenses are £1,500 but only one-third of your mileage is business, you can only claim one-third of that total (£500). Capital allowances are calculated in the same way.
You cannot deduct the cost of fines for illegal parking, speeding or any other motoring offence.
If motoring costs meet the conditions described in the Inland Revenue Business Income Manual, many small businesses find a fixed rate allowance easier - available online at

Can I deduct the cost of a business trip?
If you have to stay away overnight from your home on a business trip, you may deduct the reasonable costs of subsistence including lunches. Except when you are away overnight on business, the cost of lunches is not normally allowable, but if you habitually travel on business (for example as a commercial traveller), or make occasional business trips outside your normal pattern of travel, you can deduct modest lunch expenses.
If your family accompanies you on a business trip, their costs are not allowable.
However, not all trips are business trips. For example, whilst on a family holiday a trader takes the opportunity to visit a supplier in a nearby town to discuss business matters. The trader cannot deduct any part of the cost of their or their family's holiday, including any part of the flight to and from the holiday resort. This is because no part of that cost was incurred solely for the business; the expenditure had more than one purpose, and one of those purposes (the family holiday) is a non-business purpose. Apart from the cost of the local journey travelling to and from the supplier, none of the trader's expenditure is allowable.

Can I deduct part of my property running costs if I use my home as an office?
If you use part of your home solely for business (for example you use a room or an identifiable part of a room solely as an office), a proportion of the running costs of the home are allowable. These might include a proportion of insurance, heat and light and mortgage interest. If you use that part of the property for business purposes for only part of the time, you can claim part of the running costs. Calculate the amount by reference to the time you use that part of the property for business purposes, and the power-consuming equipment used in the business. The deduction should reflect the underlying facts. For example, a potter who uses an electric kiln every day will use far more electricity than a jobbing builder writing up their records in the spare bedroom once a week. If you use part of your home exclusively for business purposes, you may be liable to capital gains tax on that part when you come to sell it.

What adjustment must I make for tax if I take goods from stock for my own use?
To record your sales properly for tax purposes, treat all goods that you take for your own use (or for family and friends) as sold at the normal selling price. If you (or the other person who gets the goods) pay nothing into the business for the goods, enter the selling price. In other cases enter the difference between the selling price and the amount paid. The cost of providing any business services to yourself, family or friends is not allowable as a deduction.
For example if you operate a hotel, guesthouse, pub, restaurant etc. the cost of meals taken by you or your family is also not allowable.

I pay myself a salary for my business. Can I deduct this?
You cannot deduct this because own wages or personal drawings are withdrawals of profit from your business, not allowable expenses.

Can I deduct the salary I pay my spouse?
If your spouse is an employee (not a partner) in your business, you can deduct their salary. You will need to operate pay as you earn, and account for the tax and National Insurance contributions. We may ask you for evidence that you paid the wages to your spouse, and that the amount is reasonable for the work they do.

Is my profit affected if I claim tax credits?
No. You do not have to include any child tax credit or working tax credit you receive when working out your business profits.

I am claiming tax credits. Will you use the profit from my tax return to work out my tax credit award?
We will ask you separately to tell us your profits for tax credit purposes, but we do check that you give us the same information on your tax return and your tax credit forms. You should use the profit figure in

box 3.83
of your tax return, or
box 3.1
0 of the short tax return, less the amount you pay (if any) into a private pension plan. If you have more than one business, or you are in a partnership, or you are unsure what figure to use, call the Tax Credit Helpline for advice on: 0845 300 3900 in England, Scotland, Wales or Northern Ireland.

What are the advantages of using the Internet service for filing my self assessment tax return?
Some of the advantages which you or your agent should obtain are:

  • Automatic calculation of your tax as you complete the return.
  • We process Internet returns faster.
  • Any money we owe you is repaid sooner.
  • You get an online acknowledgement when we receive your return.
  • It's safe, secure and more convenient; you can use the service day or night.

Further information
If you would like more information about any item of business income or expenditure, please talk to your professional adviser if you have one, or call us during normal office hours on the number shown in the letter sent with these frequently asked questions.


Issue: 4086 / Categories: Comment & Analysis , Admin
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