31 January is the Groundhog Day of the Self-Assessment system for income tax and CGT.
31 January 2006 was the last possible date for:
- Taxpayers to submit their returns for 2004/05
- Taxpayers to “repair” – that is, amend – their returns for 2003/04
- Tax Inspectors to open an Enquiry into tax returns for 2003/04
Unfortunately, the last of these is only partially true.
For one year after the 31 January filing date for a return, the taxman can “enquire” into it without giving any reason.If he wants to do so at a later date, he has to make a “discovery” that there is a mistake in the return.
The law says that if an inspector “discovers” that a return is incorrect, he has five years from the 31 January filing date to look into it. The filing date for the 1998/99 return was 31 January 2000, so now we are past 31 January 2005, it is too late for the taxman to look into it – or is it?
If the taxman “discovers” that the return is incorrect as a result of “fraudulent or negligent conduct” he has twenty years – so that 1998/99 return will not be completely safe before 31 January 2020.
This article is not about “fraudulent or negligent” returns – broadly, those where the taxpayer either knew the return was wrong, or didn’t care if it was or not. For most taxpayers, the important question is under what circumstances an inspector can “discover” that a return submitted in good faith is wrong, so that he can revise the tax bill within the five year “discovery” period referred to above.
What is a “Discovery”?
There have been many tax cases on this important subject, and there are bound to be more in future. Provided that the return (and any documents that are submitted with it) contains enough information for the inspector to understand how the taxpayer has dealt with any difficult issues or matters of judgement, then he cannot “discover” he disagrees with him after the one year “enquiry period” following the filing date.
Common situations where a “discovery” could be made are:
It is sometimes necessary to value an asset – for example, the “cost” for CGT purposes of assets owned before 1982 is usually their market value on 31 March 1982, rather than whatever was actually paid for them. If an asset is given as a gift, it is usually deemed to have been sold at its market value for CGT purposes.
In a recent court case won by the Revenue, even though it was obvious from the return that a valuation must have been used (a house had been transferred by a company to one of its directors), the Court of Appeal decided that the Inspector could “discover” that the valuation was too low even after the end of the one year deadline, because there was not enough information about the valuation in the return.
There are two ways to protect yourself against this sort of “discovery”:
- Make sure that the return includes a statement that a valuation has been used (for capital gains tax, there is a box to tick), say who did the valuation, and enclose a copy of the valuation report. If you estimated the value yourself, say so, and explain how you arrived at your estimate.
- Alternatively, you can ask the Revenue to agree the valuation before you submit your return – ask for a Form CG 34 from your local tax office, or download it from HMRC’s website. Note that you can only do this after the transaction has taken place, and before the filing date for your return. It can take some time – HMRC recommend allowing at least eight weeks before your return is due on 31 January.
A set of accounts will contain a number of items that are a matter of judgement – for example, repairs to premises are allowed as a deduction, but improvements are not. If you include a note in the return describing what work has been done on the premises, and how you have allocated the cost between repairs and improvements, this should protect you from a later “discovery”.
The same applies to such matters as stock valuations, reserves, and provisions for bad debts.
Interpretation of the Law
In some cases, HMRC have published their opinion of what the law means – currently, the hottest topic is the “settlements” legislation (see my article on the Arctic Systems Case in Tax Insider #1).
You may wish to take a different view of how to interpret the law (I often do!). If so, you can only protect yourself from a “discovery” if you disclose this in your return. The disclosure must be clear, but it need not be very detailed – for example, in the case of the “settlements” legislation, you could include in the “white space” on the return; “HMRC guidance indicates that section 660A ICTA 1988 (for 2005/06 onwards, say “section 624 ITTOIA 2005” instead) may apply – no adjustment has been made”. Don’t forget to put the same note in any other returns that are affected – in this example, both husband and wife would need to include this to protect themselves.
How is Information “Made Available” to the Taxman?
One last point – you must include the information described above with your return. Do not rely on the fact that it is available to the inspector elsewhere – such as in a return made by your employer. The Courts have decided that information of this kind is only “made available” to the inspector if it is actually in the return, or submitted with the return.