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HOLD YOUR OWN AGAINST THE REVENUE

Six simple rules for avoiding an investigation

HMRC inquiries are never a pleasant experience, and it's amazing how often an inquiry, which turns out in the event to be protracted, traumatic and expensive, could have been avoided. To help you keep out of the taxman's sights, therefore, we've formulated six simple rules that, if followed, will significantly reduce your chances of being investigated.
  1. Get your returns in on time
    One way you can virtually ask to be inquired into is by getting your tax returns, or accounts, in late, particularly if you're late repeatedly and particularly if you're very late. The reason this is an inquiry trigger is obvious: the Revenue reasons, surely rightly, that those who are cavalier about complying with the deadlines are likely to include a high proportion of those who are also cavalier about declaring all of their income, and about claiming only valid business expenses.

    Sometimes, of course, accounts and tax returns that go in late are correct in every respect. Sometimes also, it's not the taxpayer's fault, but the fault of his accountant for taking on too much work, or not employing enough assistants. But, once the deadline has been missed, which is 31st January after the tax year for individual returns, and 12 months after the end of the accounting period (normally speaking) for companies, the damage has been done.
      
  2. Make sure the returns and accounts are correct
    We don't mean anything particularly high flown, here. Subtle questions of stock and 'work in progress' valuation, for example, or interpretation of the latest international accounting standard are no doubt important, but more often the trigger for investigations is some simple and obvious blunder in the accounts, like the figures not tying up correctly with each other, or even the balance sheet not balancing! Avoid the sort of simple and obvious error that leaps out at the reader on a casual inspection, and you will significantly decrease your chances of being picked out for inquiry.
      
  3. Make sure your accounts are consistent
    Most accounts sent to the Revenue include last year's figures as comparatives. This makes it easy for the taxman to compare this year's figures, on an item-by-item basis, with last year's. If there is a big difference in your profit percentages, for example, or if repairs and renewals, or legal and professional, or any one of a host of other categories is significantly greater this year than last, then he is likely to want to know the reason why.

    As well as differences between this year and last year, the taxman is also likely to have a reasonably well-defined view as to what is a reasonable level of profitability given the turnover of the business. For individual (non-business) returns, he is also likely to ask question if there is a major reduction in an individual's personal income.

    Of course, we're not advocating falsifying the figures to make them consistent with last year or with generally accepted norms, because sometimes the position really does change significantly from one year to the next. What we're thinking of, more, is differences which arise from inconsistent treatment of the same items. One year, for example, you might show some staff wages as part of your cost of sales, the next year you might show the same individuals' earnings as an overhead, thus throwing out the profit percentages. Or one year you might net off two figures that you don't net off the following year, and so on. A quick scan down the figures before you sign the account or return, and a request for explanation of any discrepancies, can remove problems that might otherwise have attracted the attention of the tax inspector.
     
  4. Explain unusual items
    One of the trickiest areas of judgement, in preparing the information you are going to send to the Revenue, is how much use, if any, to make of the 'white box' on the personal and company tax return form. This is an area where you are able, but usually not compelled, to provide further information explaining the entries on the return. The dilemma is: if you put some narrative information here, it might attract the taxman's attention where he would otherwise have simply accepted the return without question. On the other hand, it is possible that an explanation may forestall his questions. Our own view is that you should use the white box where the explanation of an apparently puzzling figure in the return can be dealt with briefly and in a self-contained way. If your white box narrative simply invites further questions, you are likely to have shot yourself in the foot.

    One thing the white box explanation never does, in practice, incidentally, is protect against Revenue 'discovery' in the future... but that's another a subject.
      
  5. Present a sensible picture on the return
    This point isn't so much about return disclosure as about the whole way you run your tax planning. It's particularly pertinent for individuals who are resident but not domiciled in the UK, and who are therefore not taxable on offshore income that isn't remitted here. But the same basic principle applies to everyone. If you so arrange your affairs that you appear to have no income, or a wholly inadequate income, you are pressing one of the surest tax inquiry buttons that exist. There are inquiry officers in the Revenue who love playing the private detective, looking around to see indications of the level of your business and the scale of your living expenses, in order to check up on you. So there can be a strong argument, even where you have sufficient access to capital to live without declared income, for arranging your affairs such that you receive an income nevertheless. A sensible amount of income, for your lifestyle, might save an inquiry while not, in the event, giving rise to an intolerable income tax burden. It's all a question of looking right as well as being right.
  6. Don't boast
    There's no getting away from the fact that a high proportion of Revenue investigations are triggered by malicious informers. Probably the majority of these are disgruntled spouses or other halves who have found out all about your finances during the time you were friendly, and have correctly realised that a very good way of taking revenge, following a fallout, is to tell the taxman all about it. Even if you are squeaky clean (and not everyone is, of course), the task of explaining everything, especially if your affairs are complicated, is an expensive and traumatic one. The obvious moral is: keep your financial affairs to yourself. Don't yield to the temptation to let everyone else know how rich and successful you are. If this is true of those who are (currently) your nearest and dearest, it's obviously even more pertinent in the case of showing off before more casual acquaintances.

Prevention or cure?

While we're on the subject of planning against the risk of Revenue inquiries generally, do think carefully about whether you should have insurance against this happening. If you have your accounts and tax returns done for you by a professional accountant, check with him whether he has Revenue Investigation insurance - not all of them do. Also, if your affairs are at all complex, make sure, if possible, that they have insurance not just against the 'full inquiry', where the taxman pulls all your financial affairs apart, but also against the 'aspect inquiry', where he is simply looking at one part of the return or accounts. A major part of the trauma of an investigation is the bills that the accountant or tax specialist sends you, which are generally out of all proportion to your normal accountancy costs. At least insurance can take away some of the pain.